The complexity problem
Earlier in the crisis, the line was that "too big to fail" was too big to exist. I'm coming around to an altogether more radical view: What if "too complex to understand" is too complex to exist?
Listen to Robert Rubin -- the former co-chairman of Goldman Sachs, celebrated secretary of the treasury and director of Citibank -- tell the Financial Crisis Inquiry Commission that "All of us in the industry failed to see the potential for this serious crisis. We failed to see the multiple factors at work.” Listen to Alan Greenspan -- former Federal Reserve chairman, holder of the nickname "The Oracle" -- say that we need regulations that kick in "without relying on the ability of a fallible human regulator to predict a coming crisis."
If you're an investment bank, the stock market has become a bit of a bummer. It's so transparent and user-friendly that there's really no place for a middleman to make major profits. That's normal: Efficient markets reduce margins. To put it another way: It's hard to make money doing simple things in a competitive market unless you have a monopoly. But Wall Street has leveraged incredible levels of complexity into something that's more like a monopoly than a market.
The really neat trick was that this worked even after the market crashed. Because no one could understand it, the people who crashed the place were also given a major role in the rescue effort. And that wasn't just true at the top level. Think back to the AIG employees threatening to quit and make it (theoretically) impossible to unwind the company's financial products division if they didn't get their retention bonuses. Their retention bonuses!
It would be one thing if this complexity had done great things for the country. But not so much, as we all know. Some innovations (pdf) have been good. But the opaque complexity that gave rise to credit default swaps and collateralized debt obligations and risk profiles that no one understood turned out to be almost unimaginably bad. Complexity helped bankers bully ratings agencies and regulators into signing off on products they didn't understand, it helped mortgage lenders entice consumers into contracts that they couldn't fulfill, and it's now helping Wall Street beat back necessary regulations because Congress is nervous about mucking with an industry they don't really grasp. And beyond all that, the complexity that allowed Wall Street to become a more profitable and significant segment of the economy also sucked talent away from other sectors.
How does this translate into regulation? I'm not really sure. It's not like there's a standard measure of unnecessary complexity or useless opacity. But watching these Wall Street titans tell the FCIC that they didn't understand what the banks were doing is making me a lot less sympathetic when their lobbyists tell Congress that Washington simply doesn't understand what the banks are doing.
Photo credit: J. Scott Applewhite/AP.
Posted by: zosima | April 8, 2010 5:35 PM | Report abuse
Posted by: AD1971 | April 8, 2010 5:48 PM | Report abuse
Posted by: Mimikatz | April 8, 2010 6:05 PM | Report abuse
Posted by: JimPortlandOR | April 8, 2010 7:01 PM | Report abuse
Posted by: bakho | April 8, 2010 8:01 PM | Report abuse
Posted by: JasonFromSeattle | April 8, 2010 8:20 PM | Report abuse
Posted by: pj_camp | April 8, 2010 8:56 PM | Report abuse
Posted by: franklynch2 | April 9, 2010 7:45 AM | Report abuse
Posted by: paul314 | April 9, 2010 10:07 AM | Report abuse
Posted by: Brvtvs | April 9, 2010 12:21 PM | Report abuse
Posted by: bruiserND | April 9, 2010 1:29 PM | Report abuse
Posted by: rjw88 | April 9, 2010 4:18 PM | Report abuse
Posted by: jimb-5 | April 10, 2010 1:39 PM | Report abuse
Posted by: davidlongshanks | April 13, 2010 7:59 PM | Report abuse
The comments to this entry are closed.