Daniel Gross of Slate has a piece up, Dumb Money: The villains of the financial catastrophe aren’t criminals. They’re morons. I just love the use of the term “morons.” As Gross notes though there was plenty of g to go around, but that didn’t prevent moronic behavior. But, I do think it is worth considering whether the behavior was really that stupid. After all it isn’t as if wizards of high finance are going to go through the same sort of crash toward subsistence or penury of middle class borrowers who recklessly increased consumption during the bubble years. Remember that the individuals at the heart of the colossal f**k-up that was Long Term Capital Management not only avoided personal bankruptcy and remained safely in the upper middle class, but most of them are back working in the financial sector. If you’re a finance type who burns out and drops out of the industry you are likely to have a relatively soft-landing compared to an autoworker who is laid off. Not only do you likely have greater innate intelligence, but you can liquidate assets you’ve accumulated and move far down the consumption ladder without really affecting first-order pleasures proportionality.*
In hindsight it’s obvious that some of the assumptions in the late great bubble era were stupid. Some people saw through the stupidity, and have profited handsomely. Back in the year 2000 a rather wealthy individual went on a rant to me in a private conversation that debt-driven consumption was going come back to bite us in the ass. It seemed plausible to me, so I repeated it now and then that there would come a day when the mailboxes would no longer be “stuffed with credit card offers” (that’s a specific phrase I stole from my original interlocutor). Common sense suggested that you couldn’t keep borrowing indefinitely without increasing productivity. That being said, there were plenty of people who were skeptical of this simple model, and I did wonder if they just had a much more precise grasp on the counter-intuitive nuances of reality. After all, the natural sciences emerged in large part as an extension and contradiction of simple common sense. As someone with respect for intelligence I suspected and hoped that financial and economic trends which seemed to go against common sense were indicative of dynamics which I simply wasn’t able to grokk.
Well, that was then. In any case, the quants et. al. in finance are shining stars in the cognitive firmament. Instead of taking a methodological individualist stance, I think a more accurate description is that there was a systematic idiocy based into the incentive structures which leveraged heuristics and biases which even the intelligent are highly subject to. Obviously we can’t just killer traders & their friends & family when they lose an X amount of money, but we’re currently trying to figure out how to appropriately integrate abstract financial technologies, prefab human cognitive hardware and organically evolved institutional structures, so that rational individuals don’t turn into replicative cancers who bring down the whole system.
* A $200 wine is probably not 10% the pleasure of a $2,000 wine. So you can reduce costs radically if you’re high up on the totem pole without changing hedonic utility to the same extent.