The Real Problem?

Let me preface this by stating that I am an unabashed capitalist.  I believe in the free markets and the entrepreneurial spirit that makes our economy the most robust in the world.  I am confident that these forces will lead us to recovery in due time.

But let’s be clear about the root cause of the current crisis. We are in the current economic crisis because the banks are publicly traded.  Before you burn me at the stake, listen to my argument.

The public markets offer wonderful benefits to our economy and are an asset to us all.  But, they do pressure management teams to constantly grow the bottom line on a quarterly basis.

This is true of all publicly traded companies.  Companies are established based on a new product offering, service model, cost structure, distribution mechanism, etc.  Companies grow and compete based on this sort of innovation.  It fuels our economy and has delivered us the highest standard of living in the world.

But, the financial services market is completely saturated.  Over the recent past, the only way to continue to grow the bottom line at the pace required by the public markets was via questionable financial engineering.   We’ve seen what this sort of financial innovation has brought us: no-doc mortgages, credit-default swaps, unregulated hedge funds, etc.

The bottom line is that demand for growth from the public markets, and the personal financial reward that growth can impart, is the root impetus for the risk-taking we have seen over the recent past.   De-regulation, outrageous compensation packages, and the like are part of the mix, but they are secondary forces.

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2 responses to “The Real Problem?

  1. I have to disagree. Government interference caused a systemic failure by distorting price signals and creating perverse incentives.

    I completely agree that credit default swaps and other complicated financial instruments definitely cause problems, but I don’t think they would have caused what is happening now.

    No burning at the stake, just minor disagreement.

  2. Pingback: The Future of Capitalism « The Durable Investor

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