In 2001, The Economist published a reasoned, by-the-numbers analysis of AIG which concluded that it was greatly overvalued. The firm to which The Economist contracted this work was then on the receiving end of brute pressure from AIG to rescind its findings, all of which were well-argued. A free market ruled by rational men would have ingested this revelation and corrected downward the price of AIG’s stock; instead, mainstream analysts were incredulous and offended, and AIG continued to soar. Oops.
Examples of this abound. Ratings agencies (Standard and Poor, Moody’s, etc.) are another example of the failure of the market. Banks want to give up their cheap government capital for more expensive private capital; in a normal market, an institution would be punished for pursuing high cost debt. Interest groups make sure our diet runs on high fructose corn syrup.
I am not starting an argument that says the free market is a failure; rather, the belief that we live in a free market that is self-correcting and needs not be protected from itself is antiquated. The free market is not an abstract deity (our stance towards it does more often resemble that of a tribe and its pagan religion than that of rational people) but actually a collection of people. And people have cognitive traps, intellectual biases, and feelings, all of which need to be moderated so that we do not individually do collectively what is bad for us as a society. There are only people beign mortal, not an omniscient market, and the sooner we realize this, the sooner we will escape this crisis.
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