"The present distress stems from both a lack of regulation and too much regulation."

David Merkel with an interesting take on an article that I read in Bloomberg:

"Waiting for the Death of the Chicago School, and the Keynesian School also December 24th, 2008

Bloomberg wrote a piece over the puzzlement that many in the Chicago School of Economics feel at the present time with all of the distress in the markets. After all, don’t markets self-correct? Sadly, no, not all the time, or, at least not with high speed during credit crunches. (All of the econometric studies I have done note a weak tendency to mean reversion in financial markets, even excluding periods where there are credit difficulties.)

For markets to self-correct, it requires that economic agents have enough access to capital( TRUE ) in order to make the investments necessary to arbitrage the differences between the markets that are in disarray( TRUE ). It should be no surprise that during a time where credit is hard to come by, that there are potentially profitable arbitrages that are going begging( I THINK THAT THIS IS IMPORTANT ).

Barry did a post today off of the Bloomberg piece, suggesting the death of the Chicago School. I think that prediction is too early.

I am not a Chicago School economist. I don’t like the neoclassical synthesis. It posits human rationality in ways that make us robots, both individually and collectively( I CALL IT MECHANISTIC ). I have been a critic of their methods through both behavioral economics and nonlinear dynamics, a la the Santa Fe Institute. We need a new paradigm to replace the neoclassical synthesis. It does not adequately describe how mankind behaves( VERY TRUE. WE NEED A HUMAN AGENCY EXPLANATION ) (and we have known that for 25 years — the models don’t predict well, either in micro or macro).

But the answer is not Keynesian policy, in my opinion. Just because markets are unstable, that doesn’t mean that government action can stabilize them over the long run( I AGREE ). In the short-run, while credit is still easily available, yes, government action can work, whether through the Fed, subsidies, or tax incentives( I APPROVE OF THEM ). But Keynesian remedies don’t work when the government can’t easily tax or borrow in order to provide the stimulus. We will face borrowing problems soon enough( TRUE. INFLATION ).

The answers are not to be found by asking the Chicago School or the Keynesians( THEY PROVIDE SOME HELP ). We need an economic theory that accepts the neccessity of moderate booms and busts, where the government does little to try to correct the imbalances( I AGREE ). Moderate imbalances are normal, and if we try to eliminate the moderate busts, wew get a series of small busts, followed by one humongous one. We experienced easy money( I DON'T SEE THIS AS THE CAUSE ) in the 20s, and in the 1990-2000s. Easy money cured the moderate busts, but at a price.

A quick excursus: I agree that tight regulation of financial institutions is necessary if there is fiat money. Controlling the money supply means controlling credit. I don’t like fiat money, and would rather have a gold standard( IT WON'T WORK ), but if we must have fiat money, then make life tough for the banks. Restrict what they can invest in. Regulate lending practices.( I AGREE IF THEY WANT GOVERNMENT GUARANTEES )

The present distress stems from both a lack of regulation and too much regulation( I AGREE ).

Lack of regulation:

• Lack of enforcement on bad lending( THE MOST IMPORTANT CAUSE HERE )
  
• Leverage limits on commercial and investment banks were too loose. ( TRUE ABOUT GUARANTEED BUSINESSES )
  
• Modest limits on the banks dealings with the non-regulated financials. ( MAY BE STRICTER )
  
• Regulatory arbitrage allowed depositary financial to choose weak regulators. ( I CALL IT SHOPPING )
  
• Failure to disallow investment in areas the regulators did not fully understand( I CONSIDER THIS THE REGULATOR'S FAULT ).

Too much regulation:

• Lack of limits on Fed stimulus action (our “independent” central bank was/is compromised) ( DON'T AGREE:SPIGOT THEORY:MECHANISTIC )
  
• Tax deductions for residential real estate, including the home sale capital gains exclusion( THERE SHOULD BE ANY INCENTIVES OR DISINCENTIVES ON HOME BUYING AT ALL ).
• Limiting the number of rating agencies( HUGE PROBLEM: CONFLICT OF INTEREST ON A MASSIVE SCALE ).

My view is that we eventually have to give our currency some backing and get the government out of the money business( THERE WILL ALWAYS BE A LOLR ). Until we get there the ride will be bumpy. We need to transist back to an economy where credit is not easy, but not non-existent, and where total leverage declines( TRUE ). Saving has to become a virtue again( TRUE ), which our present monetary policies will not encourage( SAVING IS A VIRTUE ).

It is too early to declare the demise of the Chicago School, much as it should disappear( DON'T AGREE ). But now we will get the test of the Keynesian School and I predict failure there( TRUE ); they will not solve our crisis. The crisis will end when enough bad debts have been liquidated, and the financial system can begin lending normally again( TRUE ). Call it unrealistic; call it the Austrian School if you like( IT'S USEFUL ) (I have not read and von Mises or Hayek), but it is what restores the financial sector, which cannot live with too much leverage once assets are deflating.

PS — The Bible says that the borrower is servant to the lender. True enough, but if the lender is himself a borrower, like most of our banks, the proverb does not hold. The only lenders that are truly soverign are those that control their own destinies, because they have no debt."

I quote Dr. Johnson again:


"Those who made the laws have apparently supposed, that every deficiency of payment is the crime of the debtor. But the truth is, that the creditor always shares the act, and often more than shares the guilt, of improper trust. It seldom happens that any man imprisons another but for debts which he suffered to be contracted in hope of advantage to himself, and for bargains in which proportioned his own profit to his own opinion of the hazard; and there is no reason, why one should punish the other for a contract in which both concurred."
Johnson: Idler #22 (September 16, 1758)"

For me, Theories are merely more or less useful, not true or false. The Context and Presuppositions of the time cannot be separated from theories dealing with Human Agency. All Three Schools mentioned might supply us with useful suggestions at any point in time. The cannot, however, supply us with the truth. As Yeats says:

"Man can embody truth but he cannot know it. W.B. Yeats"

"Maybe our memory is in our body as well as in our cranium. "

Here's one of my favorite quotes, which is on my blog:

Man can embody truth but he cannot know it. W.B. Yeats

Now, from a wonderful post on The Times:

"How do actors memorise their lines?
Are their brains bigger than ours? In a public discussion held at New York’s Columbia University this month, the RSC’s Michael Boyd and Dr Oliver Sacks compared notes:

( I'm going to simply note my favorite quotes. Anyone who's interested should read and listen to the whole thing:)

MB:" And there was a further improvement when they were not only together on stage, but also together with an audience. Then they became absolutely pitch-perfect and word-perfect, with an urgent need to communicate. I think that says something about where we keep our memory. Maybe our memory is in our body as well as in our cranium."

MB: "It goes side by side with something I just came across. I was invited to the Royal Academy to talk about space, on a panel that included a neurologist. I was galvanised by his account of some research he’d done on London taxi drivers that examined their hippocampi - the part of the brain associated with memory. Not only were their hippocampi unusually enlarged after taking the Knowledge, and further enlarged after a year or so of actually doing it, it was again clear that these taxi drivers remembered places and destinations through the physical sense of turning left and turning right.

They could not remember where a street was unless they “physicalised” mentally the journey to that street. So this neurologist was interested in our sense of space being an important part of the process of how we remember."

OS: "I have written about a striking example of this with a musician and musicologist, Clive Wearing, who had his hippocampus systems wiped out by an encephalitis 20 years ago. He can’t remember anything much for more than seven seconds. But this man is able to conduct a choir, conduct an orchestra, play the piano or sing long, complex pieces of music. His abilities to perform musically are entirely spared. If you ask him in terms of knowledge, “Do you know such and such a Bach prelude and fugue?”, he will look blank or say no. But put his hands on the piano, sing the first note and he’s off.

And this sort of preservation of procedural memory may apply not only to music. I know an eminent actor who has also had damage to his hippocampi and has lost the memory of much of his past. But all of his acting skills, all his enormous repertoire, from Euripides to Beckett, is all there. So the sort of memory that is involved in acting involves much more of the brain than just the hippocampi."

MB: "There is definitely a moment for every creative artist when there is loss of self. It’s not even just creative artists. I think everyone can remember those moments when you are “in the zone”, when you’re not aware of what you’re doing, when you’re not consciously trying to recall what you should be doing, you are simply in the act of doing it."

MB: "There’s a valve in a brilliant actor that is “deficient”. They’re good at embodying emotion, but they’re not very good at shutting it out. I think that’s why there is something inherently unstable about the condition of being an actor that’s also creative. Brilliant actors who survive to have a career manage that “deficiency” extremely well and lead perfectly normal lives."

OS: "Let’s connect this with embodiment. I watched De Niro and Robin Williams when they were taking on characters from Awakenings [the 1990 film about his work]. In particular with De Niro, sometimes when we had dinner after a day’s filming, I would observe that his foot was turned inwards, or that he had some postures which belonged to Leonard L, the character he’d been portraying and embodying, and these fragments were still in him. I actually got a little frightened of the literalness of embodiment with him. Somehow he seemed to be becoming too much like Leonard L, and I feared Leonard L might be taking over.

On one occasion he asked me to advise him a little bit on how people with Parkinsonism might fall if they had no postural reflexes. And in the middle of my explanation, just as I said that such people might fall heavily backwards without warning, he fell heavily backwards - on me. And at that moment I thought: he’s not acting, he’s got it. He’s actually become Parkinsonian through acting it so well."

"Audience Q: You gave the example of when you sat around with your actors and tried to get them to remember their lines first, versus physically going through the motions. What’s the difference between a speech act and a physical embodied act?

MB: Speech is the most physically intimate act possible. It comes from the wet bits inside you. The air I’m using is coming from way down inside, even though I’ve got bad posture, and just the pure boring business of retrieving these lines is hard to do when you are not engaged in the entire act. I would say they are best unseparated.

OS: I imagine it’s similar with music in a way - although you have to learn the notes first, you then have to forget the notes to play the music. Otherwise you remain a virtuoso, and not a musician."