The sound of a paradigm shifting: Yesterday, Alan Greenspan—chair of the Federal Reserve Board for 18 years, the world’s most-respected seer of financial markets, arguably the Pope of free market economics—said markets aren’t as trustworthy as he had believed.
Greenspan said he had made a “mistake” in believing that banks in operating in their self-interest would be sufficient to protect their shareholders and the equity in their institutions.
Greenspan called this “a flaw in the model that I perceived is the critical functioning structure that defines how the world works.”
[I]n a tense exchange with Representative Henry A. Waxman, the California Democrat who is chairman of the committee, Mr. Greenspan conceded a more serious flaw in his own philosophy that unfettered free markets sit at the root of a superior economy.
Referring to his free-market ideology, Mr. Greenspan added: “I have found a flaw. I don’t know how significant or permanent it is. But I have been very distressed by that fact.”
Mr. Waxman pressed the former Fed chair to clarify his words. “In other words, you found that your view of the world, your ideology, was not right, it was not working,” Mr. Waxman said.
“Absolutely, precisely,” Mr. Greenspan replied. “You know, that’s precisely the reason I was shocked, because I have been going for 40 years or more with very considerable evidence that it was working exceptionally well.”
In other words, “Oops!”
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Major economic changes can fundamentally realign politics, not only at the level of party control but at the level of public beliefs. The Great Depression so discredited the unregulated market that it made possible the New Deal, which rewrote the social contract between American citizens, American business, and American government. The New Deal, in turn, rebuilt a shattered economy, created jobs, invested in strong communities, and revived the nation.
Our current crisis is poking holes in the prevailing ideology that private markets are always efficient and reliable, while the public sector is inefficient and unreliable. Greenspan’s admission is a strong signal that conventional wisdom is reverting to the older philosophy, or worldview, that the public sector is the necessary corrective to the private sector—that we need our democratic government to control and channel markets if everybody is to benefit from their productive powers without suffering from their destructive ones.
This news is very, very good for attempts to solve giant, systemic problems like climate change and the absence of economic opportunity for working families. Such problems can only be solved, ultimately, by public action—though that action is most effective when it is sensitive to market incentives and the benefits of healthy competition.
The ideological upside of this crisis is the death of market fundamentalism. And the death of this reflexive, inflexible ideology opens the opportunity to make prices tell the truth about social and environmental consequences. It improves the chances of winning a number of market-correcting solutions, such as cap and trade, compact communities, along with other forms of smart regulation that help everybody thrive—families, businesses, and communities.