The chairman of the Australian government’s Financial Sector Advisory Council, Paul Binsted, believes that bankers who have experienced financial crises are more cautious about taking risks.
However, short of inducing a financial crisis to teach bankers a lesson, Binsted thinks that teaching bankers a history of financial crises will (hopefully) influence them to exercise self-restrain, consider the impact of their private actions on the public good and act more prudently.
On some level, the idealist in me would agree with both these propositions, certainly the first. The cynical me is, however, unpersuaded by the second claim.
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While it is probably more true than not that those who have once been bitten would subsequently act more shyly, I find it hard to see how studying historical financial crises would improve the stability of our financial systems. After all, we have had a series of financial crises since the 1990s (one might argue even earlier) in countries all over the world – these were presumably recent enough to be in the memories of those working in the financial sectors of New York and London in 2007 – and yet knowing about these other crises did not seemingly influence those bankers to take fewer risks and consider the impact of their actions on the broader economy and community.
Furthermore, while there are factors in common across the historical range of financial crises, there are also significant differences. Although the excessive growth of debt is a prelude to a crisis, how each crisis subsequently pans out differ. It is not trivial that at different junctures, different types of actors, institutions, financial products, and dynamics are implicated. Market actors may well learn from each crisis. They may even address weaknesses that were identified in previous crises. But they also learn to work with the market as it evolves to maximise their respective goals within the incentive structures that may be in place.
“This Time is Different”, a large historical survey of financial crises by Carmen Reinhart and Kenneth Rogoff, is not so much a criticism of bankers’ inability to learn from history, but rather of their penchant for hubris. This time is different not because we do not know history, but because we think ourselves better than those who came before us.
What we need, in my view, is to address the incentive structures that are in place. Unless individuals are compelled to not just consider the impact of their actions on the wider economic system and community, but also share the burden of any pain that may be inflicted, it is unlikely that they would rein in their impulse to advance their own self-interests. The alternative is to limit the range of activities that bankers and financial institutions can undertake in order to limit their potential (negative) impact. Despite the GFC, neither change appears to be palatable on the policy-making front.