Thursday, August 29, 2013

Economic Darwinism and the Next Financial Crisis

Our financial-political system has selected leaders and policies that will necessarily fail in the next financial crisis.


Correspondent Brenton Smith (no relation) recently identified a key driver of the next financial crisis: Economic Darwinism. Just as natural selection selects for traits that improve the odds of success/survival in the natural world, Economic Darwinism advances people and policies that boost profits and power within the dominant environment.

As Brenton explains in his essay The One Phrase That Explains the Great Recession"The Federal Reserve's 20-year policy of easy money created an environment virtually assured to select bankers, bureaucrats, educators, and elected officials who least understood the consequences of a credit crisis."

In other words, a hyper-financialized environment of near-zero interest and abundant credit rewarded those people and policies that succeed in that environment. Once the environment changes from "risk-on" to "risk-off," the people and policies in charge are the worst possible choices for leadership, as the traits that enable successful management of credit crises have been selected out of the leadership pool.

This has political as well as financial consequences. As Brenton noted in an email exchange, Economic Darwinism creates an "incestuous relationship between Wall Street and Washington D.C., where success on Wall Street leads to a career in D.C." This is a self-reinforcing process, as all those who are unwilling to keep dancing during the risk-on speculative orgy are weeded out of both the financial and political sectors, while those who dance the hardest gain political power, which they use to keep the music playing regardless of the increasing risks or consequences to the nation.

Here is an excerpt of Brenton's insightful essay:

Have we seriously forgotten 2008?

Today the Federal Reserve has an economic policy that not only fosters crisis, but introduces a Darwinian process that selects leaders who are uniquely unfit to deal with it.

Let’s step back to 2008, when the investment bank Bear Stearns failed with leverage of 35 to 1, the danger of which should be obvious to anyone who's taken fifth-grade math. Wall Street embraced these dangers to the point where it nearly went extinct. Not only did our government miss the risk, but the head of the Federal Reserve described derivatives, the centerpiece of the crisis, as "a useful risk management tool" held in the hands of the well-capitalized hands of sophisticated investors. Six months later, virtually every government employee would describe the financial crisis as a fast-moving event.

How does this happen? Economic Darwinism. (Emphasis added: CHS) Whether it is getting elected or getting promoted, Economic Darwinism selects people by success. The Federal Reserve's 20-year policy of easy money created an environment virtually assured to select bankers, bureaucrats, educators, and elected officials who least understood the consequences of a credit crisis.

When the Federal Reserve forced interest rates lower, it altered the balance and outcome of risk in favor of risk-takers. That step led to greater earnings streams, or sales, or some measure of profitability. Stupid transactions seemed wise, and foolish risks were rewarded.

The most important thing to understand about booms and Economic Darwinism is that when it happens, the statistical likelihood of any system promoting someone with a sensible risk perspective becomes lower and lower. Capitalism acts as a steroid, drawing cash into successful companies. This process encourages other companies to emulate the practices that made certain companies successful.

By 2008, Darwinism had selected bankers and regulators who never considered that a credit crunch was even possible. Decision makers were oblivious to the cost of capital. The head of Bear Stearns appeared on CNBC to assure his investors days before the company was to be forced into bankruptcy. Lehman Brothers had a secondary offering to raise money only months before its bankruptcy, yet it sold only $3 billion in preferred stock. The survivors of 20 years of success were simply unable to grasp the idea that they could finally start to lose their bets.

The boom times enabled animals called bankers grow to massive size. Nature selected those who were the fittest for that environment. When the environment changed, these animals were like dinosaurs staring at the glaciers. The interest rate policy of the Federal Reserve today is designed to keep those dinosaurs warm and well fed.

The people who run our country were largely selected by Economic Darwinism from a pool of people who owe their success to cheap interest. It is no surprise that these people see cheap interest as the only solution to our economic woes. This policy is about rebuilding their past rather than improving your future.

Thank you, Brenton, for your incisive and prescient analysis. Economic Darwinism doesn't just select people; it also selects policies, mindsets and institutions that are incapable of succeeding when the current serial speculative-bubble blowing policies implode.


New Podcast: Marty Nemko of KALW-FM and CHS on the future of work: scroll down the list of KALW programs to Work with Marty Nemko and click Use iTunes. Then select the August 25 show to download.



Things are falling apart--that is obvious. But why are they falling apart? The reasons are complex and global. Our economy and society have structural problems that cannot be solved by adding debt to debt. We are becoming poorer, not just from financial over-reach, but from fundamental forces that are not easy to identify or understand. We will cover the five core reasons why things are falling apart:

go to print edition1. Debt and financialization
2. Crony capitalism and the elimination of accountability
3. Diminishing returns
4. Centralization
5. Technological, financial and demographic changes in our economy

Complex systems weakened by diminishing returns collapse under their own weight and are replaced by systems that are simpler, faster and affordable. If we cling to the old ways, our system will disintegrate. If we want sustainable prosperity rather than collapse, we must embrace a new model that is Decentralized, Adaptive, Transparent and Accountable (DATA).

We are not powerless. Not accepting responsibility and being powerless are two sides of the same coin: once we accept responsibility, we become powerful.

Kindle edition: $9.95       print edition: $24 on Amazon.com
To receive a 20% discount on the print edition: $19.20 (retail $24), follow the link, open a Createspace account and enter discount code SJRGPLAB. (This is the only way I can offer a discount.)



Thank you, Matthew T. ($10), for your most-welcome generous contribution to this site-- I am greatly honored by your support and readership.

Terms of Service

All content on this blog is provided by Trewe LLC for informational purposes only. The owner of this blog makes no representations as to the accuracy or completeness of any information on this site or found by following any link on this site. The owner will not be liable for any errors or omissions in this information nor for the availability of this information. The owner will not be liable for any losses, injuries, or damages from the display or use of this information. These terms and conditions of use are subject to change at anytime and without notice.


Our Privacy Policy:
Correspondents' email is strictly confidential. The third-party advertising placed by Adsense, Investing Channel and/or other ad networks may collect information for ad targeting. Links for commercial sites are paid advertisements. Blog links on the site are posted at my discretion.


Our Commission Policy:
Though I earn a small commission on Amazon.com books and gift certificates purchased via links on my site, I receive no fees or compensation for any other non-advertising links or content posted on my site.

  © Blogger templates Newspaper III by Ourblogtemplates.com 2008

Back to TOP