William K. Black was a federal regulator during the Savings and Loan crisis and appears in Michael Moore's 'Capitalism: A Love Story'
1. The financial sector harms the real economy.
The financial sector, even when it is not in crisis, harms the real economy. First, it is vastly too large. The finance sector is an intermediary (a “middleman”) and like all middlemen it should be as small as possible while still being capable of accomplishing its mission. If it larger than that minimum size it is inherently parasitical. Unfortunately, it is vastly larger than necessary. The finance sector dwarves the real economy that it is supposed to serve. Forty-years ago, our real economy grew better with a financial sector that received one-twentieth as large a percentage of total profits (2%) than does the current financial sector (40%). The minimum measure of how much damage the bloated, grossly over-compensated finance sector causes to the real economy is this massive increase in the share of total national income wasted through the finance sector’s parasitism.
Second, the finance sector is worse than parasitic. James Galbraith’s recent book, The Predator State, aptly names the problem. The finance sector functions as the sharp canines that the predator state uses to rend the nation. In addition to siphoning off capital for its own benefit, the finance sector misallocates the remaining capital in ways that harm the real economy in order to reward already rich financial elites harming the nation.
2. The financial sector produces recurrent, intensifying economic crises here and abroad.
The current crisis is only the latest in a long list of economic crises caused by the financial sector. When it is not regulated and policed effectively the financial sector produces and hyper inflates bubbles that cause severe economic crises. The current crisis, absent massive, global governmental bailouts, would have caused the catastrophic failure of the global economy. The financial sector has become far more instable since this crisis began as they used their lobbying power to convince Congress to gimmick the accounting rules to hide their massive losses and Secretary Geithner has declared that the largest financial institutions are exempt from receivership regardless of their insolvency. These factors greatly increase the likelihood that these systemically dangerous institutions (SDIs) will cause a global financial crisis.
3. The financial sector’s parasitism is so extraordinary that the finance sector now drives the upper one percent of our nation’s income distribution and has driven much of the increase in our grotesque income inequality.
4. The financial sector’s parasitism and its leading role in committing and aiding and abetting accounting control fraud combine to:
Accounting control frauds suborn accountants, attorneys, and appraisers and create a “Gresham’s dynamic” that drives honest professionals out – cheaters’ prosper. Executive compensation has become so massive, so divorced from performance, and so perverse that it too creates a Gresham’s dynamic that encourages widespread accounting fraud by both financial firms and firms in the real economy.
As financial sector elites became obscenely wealthy through parasitism and fraud their psychological incentives to embrace Social Darwinism surged. While they were by any objective measure the worst elements of the public, their sycophants in the media and the recipients of their political and charitable contributions worshiped them as heroic. Finance CEOs adopted and spread this myth – they were smarter, harder working, and innovative. They rose to the top entirely through their own brilliance and willingness to embrace risk. All of their employees weren’t simply above average – they were exceptional. They hated collectivism and adored Ayn Rand.
5. The CEO’s of the largest financial firms are so powerful that they pose a critical risk to the financial sector, the real economy, and our democracy.
The CEOs can directly, through the firm, and by “bundling” contributions of its officers and employees, easily make enormous political contributions and use their PR firms and lobbyists to manipulate the media and public officials. The ability of the financial sector to block meaningful reform after bringing the world to the brink of a second great depression proves how exceptional its powers are to corrupt nearly every critical sector of American public and economic life. The five largest U.S. banks control roughly half of all bank assets. The largest banks use their political and financial power to provide them with competitive advantages that allow them to dominate smaller banks.
This excessive power was a major contributor to the ongoing crisis. Effective financial and securities regulation was anathema to their CEO’s ideology (and the greatest danger to their frauds, wealth, and power) and they successfully set out to destroy it. That produced a “criminogenic environment” that prompted the epidemic of accounting control fraud that hyper inflated the housing bubble.
The financial industry’s power and progressive corruption combined to produce the perfect white-collar crimes. They successfully lobbied politicians to legalize the obscenity of “dead peasants’ insurance” that Michael Moore exposes in chilling detail. State legislatures changed the law to allow a pure tax scam to subsidize large corporations at the expense of their taxpayers.
Caution: Never Forget the Need to Fix the Real Economy
Economic reform efforts are focused almost entirely on fixing finance because the finance sector is so badly broken that it produces recurrent, intensifying crises. The latest crisis brought us to the point of global catastrophe, so the focus on finance is obviously rational. The focus on finance carries a grave risk. The sole purpose of finance is to aid the real economy. The real economy is what creates the goods and services, our jobs, and our incomes. Our ultimate focus needs to be on the real economy. The real economy came off the rails at least three decades ago for the great majority of Americans. We need to commit to fixing the real economy by guaranteeing that everyone willing to work can work and making the real economy sustainable rather than recurrently causing global environmental crises. We must not spend virtually all of our reform efforts on the finance sector and assume that if we solve its defects we will have solved the other fundamental reasons why the real economy has remained so dysfunctional for decades. We need to be work simultaneously to fix finance and the real economy.
William K. Black is an Associate Professor of Economics and Law at the University of Missouri-Kansas City. He is a white-collar criminologist and was a senior financial regulator. He is the author of 'The Best Way to Rob a Bank is to Own One.'
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