Monday, February 23, 2009

The Economy of Illusions

With house prices falling, share prices plummeting and the world economy facing its sharpest slowdown since the Great Depression it is not without irony that we have seen the comeuppance of Maddoff and Stanford in the space of a few months. Both have been charged with embezzling funds and offering false / illusory investment schemes. These investment schemes promise much on the outside, but underneath reveal an emptiness - a mere illusion of false hopes. - perhaps an appropriate allegory for the wider economy.

Some will suggest that these false investment schemes are just a more blatant form of illusory economics that has spread throughout the financial system in recent years. We have bankers borrowing to be able to lend high risk mortgages, banks running down their deposits, and house prices rising to unsustainable levels.

Yet, whilst it is easy to criticise the bankers and government, they couldn't have done it without customers willing to take out loans, sub-prime mortgages and run up big credit card debts. If there was no shortage of dodgy investment schemes, there were also no shortage of people looking for get rich schemes, even if it meant flipping your own home.
In the nineties and naughties there has been an unprecedented fall in the savings rate in the UK and US. There has been a desire to live on credit and spend beyond our means.

We can argue that banks should have known better, they should have regulated themselves and ensured a long term sustainable business plan. This is very true - some of our top bankers have appeared like naughty children gambling with sums as if they were playing a game of monopoly with their 6 year old niece. But, we can't absolve ourselves of all blame. If we run up large credit card debts and take out mortgages we have no chance of repaying (mostly a problem in US) we can plead financial ignorance, but, ultimately we have to share a responsibility for our financial plight.

We need far better, and tighter regulation of the financial system, but, we also need better financial education of ourselves. People borrow, and spend thousands of pounds every year, without knowing the basics of real interest rates, compound interest rates and the impact of credit ratings. Maybe we should introduce a new topic onto the National curriculum - how to spot a Ponzi investment scheme.

At the same time, there is only so much we should engage in a perpetual blame game. The mistakes of the banks need to be carefully analysed. But, we need to do our part in understanding an increasingly complex financial world.

1 comment:

supernova said...

I agree that all of us have to exercise to the best of our abilities some responsability for getting involved into sometimes dubious financial schemes.

That being said, it is important to recall that specialization is a key element of the modern economic world.

As a private consumer, saver/investor, I am not expected to be say a scientist, a chemist, an engineer or a food specialist in order to buy product or services. I expect to be charged a premium for products and services managed and controlled by specialists. They should be expected of sorting it out for each consumer, investor etc.

The fact of the matter is that the financial industry has miserably failed in its mission of providing financial products with controlled level of risk. They have taken us for granted while we have been paying all along for their specialist knowledge.