I recently read Robert Shiller’s book, “The Subprime Solution.” I wasn’t disappointed, even if I took issue with some of his arguments.
Shiller’s prognosis of the crisis is that no one expected to see home prices decline, which led to a massive bubble in home prices. This led to people doing all sorts of silly things, like taking out mortgages that they couldn’t pay off or creating financial products that were riskier than they appeared.
So far, so good, but let’s get to the rest of the book…
As important as the “bubble mentality” is when explaining the current situation, I think he spends too little time analyzing the microeconomic conditions that formed this mentality to begin with. He seems a bit too taken by his own work in behavioral finance, and I was surprised to see no discussion of the perverse incentives faced by ratings agencies or the political pressure on organizations like Fannie Mae and Freddie Mac.
Moving on to part two, Shiller’s solutions center around a.) providing short run bailouts to prevent a panic in the near/intermediate term and b.) a “democratization” of finance to guard against speculative bubbles in the future.
I'm skeptical about just applicable many of his ideas for democratizing finance really are. Some of them, such as making financial advice tax deductible, seem patently unrealistic. 3rd party financial advice will never be completely free of bias, and it’s not difficult to imagine financial planners taking advantage of a newfound market of uneducated people. Some of the other ideas, such as a liquid futures market for housing market indices and “livelihood insurance” indexed to a people active in a certain occupation over a given area seem more sound, though the cynical libertarian in me wonders why these products have not been able to get off the ground by now.
This book is well worth reading, even if Shiller is a bit too in love with his own work in behavioral finance to look at some of the other causes of the bubble. Not all of his diagnoses seemed realistic, though his analysis cogent and it was all certainly good food for thought.
Monkeys, have you read this book? What do you think?
Idk if the bubble led to people doing all sorts of silly things as much as people doing all sorts of silly things led to the bubble. The securitization machine needed more mortgages -> start feeding them to everyone and anyone -> demand for houses increases -> increased demand causes increased prices. Of course these ppl have no hope of paying back the mortgage -> foreclose -> increased supply -> increased supply causes decreased prices -> decreased prices further increased supply as people walk from their negative equity mortgages -> bubble bursts.
It's easy for us to sit here and say that the crisis was unpredictable, but we also didnt know about the fraudulent and predatory underwritings that were eventually needed to continue fueling the securitization machine (at least I didn't). I dont really see how the ensuing implosion could have surprised anyone who was aware that all that was occuring (and a lot of ppl who did know WEREN'T surprised).
Solutions imho: 1) bring back Glass-Steagall 2) make the rating agencies government run so they're not profit driven 3) disallow corporate political contributions 4) and for God's sake, don't allow any bank to be too big to fail. Just my $.02
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