Sunday, March 28, 2010

'Free' Markets = Corrupt Markets?

An economy — whether local, national or global — is just a system, as are all other multi-component, cohesive processes we know of. As such economies are subject to internal and external forces acting upon them, affecting their behaviours, shaping the manner of their operations. The discipline of economics studies economic systems, but, sadly, comes to the task with a raft of core assumptions about the ground rules governing economic operations — such as rational buyers and sellers, unlimited wants and scarce resources (though, strangely, energy is assumed to be infinite in some regards!) — all of which are, at least in the mainstream, out of bounds when it comes to what may be discussed. These assumptions shape socioeconomic policy generally, which shapes our lives. I refer the reader to Steve Keen’s “Debunking Economics” for a forensic analysis of the internal inconsistencies and logical contradictions of the dismal science (it really is not a science), my focus here is on the discipline’s blinkered attitude to corruption, an observation I first heard made by William K Black. Generally speaking, according to the professor, economics fails to consider corruption at all.

For me the best sentence I have read so far highlighting the systemic pressure to corruption inherent in economic systems was written by Jacque Fresco (from “The Best That Money Can’t Buy”):

“In a monetary system there is an inherent reason for corruption and that is to gain a competitive advantage over someone else.”


A core assumption that arises from the perception of unlimited desires having to deal with limited resources is eternal competition. In economic theory rational market participants are also “law-abiding” market participants (though laws are not really considered), so this endless competition should produce efficiency everywhere it is allowed full scope. The real world, that messy, recalcitrant thing, makes this assumption laughable. Here some quotes from a recent discussion at Financial Armageddon:

“Don’t forget the Dow is fake also. They took out GM and Citibank from the Dow. Those are two zeros and they put in Travelers and Cisco…that’s 640 Dow points that were added because they swapped GM and Citi for Travelers and Cisco.”


and

“Those trades [in Citi, Bank of America, AIG and Wells Fargo] are 80% of all trades in the market and the total market volume is less than half of what it was back then [2007]. In other words, you’ve got half the market participation of what it was and of that half, 80% of it is concentrated in less than half a dozen financial firms.”


Some observers are resolutely opposed to the idea that the markets are manipulated by powerful market players, but we need only recall that economic systems have built in to them a constant and unending pressure to corruption, for the idea of corruption to become more than predictable. We then see corruption as inevitable. There is crime (of which some 90% is economic), humans are capable of a great variety of behaviours — that is, they are not the robotic, homogenous, mechanical components of economic engines economics theory needs them to be — consequently it is silly to assume all who are motivated to become ever richer are nice human beings. If they were we would need no laws in this scarcity-based system. That we have laws, and that laws cannot be perfect, says enough.

And of course the world is vastly more complex than a ragtag of markets efficiently distributing scarce goods and services via the price mechanism. We poor saps watch the voodoo of stock markets in hushed awe, feeling good when it rises, and concerned when it drops. In Ellen Brown’s “The Web of Debt” I came across a wonderful analogy for the importance of stock market performance; the Dow is a dead military dictator propped up in the castle window, his arm moved reassuringly up and down by some mechanical device to pacify the troubled crowds outside. So not only do we have internal, get-rich-quick motivations to corruption, we have external, socioeconomic and political pressures to corruption. Economic systems experience constant internal and external pressure towards corruption, and yet in the mainstream the idea that markets are even manipulatable is a virtual heresy. ‘Free’ markets are the panacea for all ills. Just leave markets alone to work their magic and all will be fine.

But at last there are the beginnings of a serious attempt to address this woeful shortcoming of economic theory, and the fallout of this on socioeconomic practices. From the abstract of a recent paper at www.voxeu.org (hat tip nakedcapitalism):

“How does economic theory need to adjust in light of the global financial crisis? This column presents a new insight on how innovation leads to rent capture, which in turn is a sign of a potential crisis. This stems from asymmetric information in the financial sector. To avoid a repeat of the crisis, policymakers need to increase transparency.”


Asymmetric information is anathema to perfect (and free) markets, in which all participants need to be perfectly informed about what’s going on, for price to be fair and distribution to be efficient. Of course, to the untrained eye, such a market is impossible right from the get-go, but here, in the rarefied air of economics academia, we must look at particular instances of a particular sector of the economy (finance), rather than at the very foundations. Such is change of established institutions; a painfully slow nibbling at the edges.

The article looks at the arcane complexities of CDSs, asserting the sellers are privy to more information than the buyers, and as such possess too much power in the transaction, favouring them greatly over the buyer. The authors extrapolate from CDSs to the financial market as a whole, arguing that the entire sector benefits the sellers with asymmetric information advantages that destabilise the entire economy over time.

What is important about this is that the holders of the keys of current orthodoxy, that elite shouting loudest about the beauties of ‘free’ markets, are suddenly under the microscope being exposed as the least ‘free’ sector. A small beginning it may be, but it has the potential to weaken considerably the paradigm-controlling power of financial institutions. Hopefully the debate about the ongoing crisis will widen as a consequence of this, and other, research.

Meanwhile, it must still be only at the extreme fringes that scarcity itself is viewed as an outdated assumption. Once momentum builds around open and unbiased discussions of scarcity and its fallout, then the idea of a resource-based economy might take hold in the public’s imagination. So much of what we ‘know’ about life on Earth arises from this key assumption. Tackling it will prove, I feel, to be humanity's greatest challenge to date.

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