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An anti-capitalism poster from 1911, published in the Industrial Worker, a socialist-anarchist newspaper
Fire, the wheel, the printing press...and the capitalist economic system.

When listing all the numerous inventions that improve our lives, one of the most important is usually ignored: the capitalist economic system.  With recent market turmoil causing some observers to claim capitalism itself has failed, it's apropos to take a closer look at the technology behind it.

Capitalism is an invention, no different than the transistor or the automobile. Like those others, it's comprised of many smaller inventions: the corporation, the bank, the stock market, commodities, securities, futures, etc. All together, they are a group of technologies invaluable for efficiently converting labor and resources into goods and services. Nothing we've devised has ever worked so well.  Most of our prosperity and standard of living derives from it.

Take Russia. By far the world's largest country and the richest in natural resources, it has a highly educated and hard-working populace. Yet when Putin took over, their GDP was barely larger than the tiny island of Hong Kong's, and despite quintupling in the last few years, it's still a tenth of the US economy. Or consider China which, after allowing a small bit of capitalist endeavor to penetrate its system, transformed into the world's fourth-largest economy nearly overnight.

One of the reasons so many people (including some misguided economists) have trouble accepting capitalism is its apparent simplicity. It just seems impossible that a system so seeming chaotic can outperform something intelligently planned by trained economists. But that assumption is itself incorrect. Where a planned economy is like a single-core processor, capitalism is a neural-net processor with millions of nodes. A socialist economy is run by a few government-appointed individuals. But in a free market, every time you buy or sell a product, you're adding a calculation to the system. Whether you buy a car, rent a movie, or get a haircut, you're contributing to the price and quantity of goods and services. Cut a trip to the mall because gas went up another 5 cents, and you've input data to force down the price. Go anyway and you've voted to raise the price further.

The system appears simple, but in reality it's an enormously complex, self-regulating, highly adaptive mechanism. And like most mechanisms, it works best when no one pours sand in the gears.

There's a strong theoretical basis that any intervention in a market reduces its efficiency. But still governments keep trying to tinker under the hood. Their shade-tree efforts invariably do great damage. Our current fiscal mess is a marvelous case in point. It's been cast as something too difficult for average people to understand, but it’s really very simple.

Consider.  A couple applies for a loan. They make $60K a year, and need to borrow $700K. Their credit history is poor or nonexistent. The house has doubled in value in recent years-- only because all the other homes around it have as well. And the only reason they can afford the payments is because interest rates are so low and they're being offered a balloon mortgage that, if rates climb or their house depreciates will surely bankrupt them.

Does it really take a rocket scientist to know how risky this is? And that a bank with a large portion of its portfolio in such loans is also in peril?

So why did so many banks take such risks for so long? Here's the key to the whole problem: government intervention. In a free market, interest rates will rise in step with rising risks. They didn't -- thanks to the Fed. And government-sponsored enterprises (GSEs) such as Fanny Mae, Freddy Mac, and the Federal Home Loan banks kept the music playing. With most of the risk ultimately guaranteed by the federal government, no one really cared.

The bailout will ultimately cost a trillion dollars. It's also left us an industry that's effectively been nationalized, and a precedent that will encourage future industries to take more inappropriate risks. But worst of all, we have people on both sides of the political aisle calling for still more government involvement. Capitalism hasn't failed here-- government intervention has.

What goes up must come down. When a market rises too fast, it must eventually decline. The longer one prevents that, the harder that fall will be. Very simple. It's a shame our politicians can't understand that.

But the technology itself is still sound. And if we just leave the machine alone, very quickly it will start working again.

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By Proteusza on 9/26/2008 5:38:41 AM , Rating: 2
Being against regulation assumes a perfect economy, with companies that never cooperate with each other, and are guided by competition (Adam Smith's invisible hand as it were) to act honourably.

The reality, as we've seen time and time again, is that because corporations are made of people, and people are greedy, they will break the law, influence the law for their own good, and cooperate with each other to fix prices. All of these things affect corporations positively and consumers negatively. They have all happened many times before, and will continue to happen as long as the beings who make decisions in corporations are human. Regulation, at the moment, is the only answer, although I feel a better one would be to send any corporate price fixers, fraudsters, creative accountants to jail. What happened when supermarkets in the UK conspired to fix the price of milk? Nothing, they got a small fine after making millions. Someone should have gone to jail for that. What happens when a CEO reports the company's finance incorrectly, thus affecting the stock market? He has to resign if he is found out - he should go to prison!

We either need regulation, or criminal punishment, or both.

RE: Regulation
By arazok on 9/26/2008 2:55:44 PM , Rating: 2
Clearly, you are not familiar with Adam Smith’s theories, or the current economic crisis.

Adam Smith’s was all about free markets revolving around individuals making self interested decisions, and the invisible hand’s ability to self regulate (it’s much deeper then competition).

I have seen a wealth of evidence (much of it quoted by others in this very blog) to suggest that the current crisis is the result of regulation, not a lack of it. Regulation is a result of human nature and our desire to control things. This is not the time to tighten our grip on a system that is to complex to control.

RE: Regulation
By jtemplin on 10/8/2008 1:47:32 PM , Rating: 2
This is not the time to tighten our grip on a system that is to complex to control.
Good thing you aren't making the big shots. They have plenty of regulations so they damn well better try to control this beast--no matter how complex it may be.

I'm not talking shoulds or ifs, regulation exists. And not all regulation is created equal. We need regulations that work, regulations that reward and punish their intended targets. If we agree that the current crisis is a result of a government economic intervention (GSEs) we most certainly won't agree that those interventions are necessarily representative of all market regulation. You would have us believe that all regulation is bad and will always lead to the Fannies and Freddies.

Sounds like a case of the chicken little complex... If regulation must exist, then it must exist only to positively benefit main street and wall street alike.

"We don't know how to make a $500 computer that's not a piece of junk." -- Apple CEO Steve Jobs

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