Monday, June 4, 2012

Many societies do well for a while until the powerful get out of hand

Simon Johnson warns that it's time to wake up. Giant banks have too much power and endanger our society.

Jamie Dimon is CEO of JPMorgan Chase, a global bank that quickly and inexplicably lost $2 billion last month -- and possibly lots more. Dimon also sits on the board of the New York Federal Reserve, which (theoretically) regulates JPMorgan Chase.

Johnson, a world-renowned economist, says Dimon should quit the New York Fed as one step toward curbing the power of too-big-to-fail banks.

We share here Johnson's argument from The Baseline Scenario:
...when elites are held in check, typically by effective legal mechanisms, everyone else in society does much better and sustained economic growth becomes possible. But powerful people – kings, barons, industrialists, bankers – work long and hard to relax the constraints on their actions. And when they succeed, the effects are not just redistribution toward themselves but also an undermining of economic growth and often a tearing at the fabric of society... 
The historical evidence is overwhelming. Many societies have done well for a while – until powerful people get out of hand. This is an easy pattern to see at a distance and in other cultures. It is typically much harder to recognize when your own society now has an elite less subject to effective constraints and more able to exert power in an abusive fashion. And given the long history of strong institutions in the United States, it appears particularly difficult for some people to acknowledge that we have serious governance issues that need to be addressed.
Here's Johnson's take on what U.S. elites have wrought:
“Persuade the government to let you build a big bank; take a great deal of risk in that bank (particularly by increasing leverage, i.e., debt relative to equity); pay yourself based on the return on equity, unadjusted for risk; get cash payouts while times are good; and when events turn against you, the central bank can bail you out – and keep you in place because you are regarded as indispensable. This is the history of modern America. 
We had strong institutions for a long time in this country – including effective checks on the power of bankers. Many people remember that history and still hold its image in their mind’s eye as they look at modern Wall Street. It’s time to wake up. In recent decades we abandoned the governance mechanisms that previously served us well. Global megabanks have obtained excessive and inappropriate power – the power to take a great deal of risk, with cash for their executives on the upside and huge damage for the rest of us on the downside.