George Soros, The Crisis of Global Capitalism[1].
Chapter 1: Fallibility
and Reflexivity
Soros: “Fallibility means that our
understanding of the world in which we live is inherently imperfect.
Reflexivity means that our thinking actively influences the events in which we
participate and about which we think. Because there is always a divergence
between reality and our understanding of it, the gap between the two, which I
call the participants’ bias, is an important element in shaping the course of
history. The concept of open society is based on the recognition of our
fallibility. Nobody is in possession of the ultimate truth.” 4
Brian: Ok, fair enough so far.
Chapter 2: A Critique
of Economics
Soros: “There is a prevailing belief that
economic affairs are subject to irresistible natural laws comparable to the
laws of physics. This belief is false.” 28
Brian: True, economic laws are nothing like
the laws of physics. Most importantly, there are no constant, quantitative
relations in economic affairs, while there are in physics. But qualitative
economic laws that are almost certainly going to be true in every realistic
scenario are valuable tools of cognition and should not be ignored. For
instance, free-market economists say that if a maximum price control is set on
a product that exceeds what the free-market price of that product would have
been, shortages of that good will be created and its production will be
discouraged. Shortages will be created because at the government-mandated price
that is lower than the free-market price would have been; the quantity of the
product demanded at that price will exceed the quantity of that product
supplied at that price. Not everyone with a demand at that price will be
satisfied; this being the definition of a shortage in economic terms. In
addition, the production of that product will be discouraged by the imposition
of the maximum price, other things equal. This is because at the mandated
price, production of that good will most likely not be as profitable as the production
of other goods whose prices have not been controlled by the government.
Producers will most likely shift to the production of these other goods in
their search for profits, and production of the price-controlled good will
consequently be discouraged, thus exacerbating the initial shortage problem.
This economic law is a qualitative law. It does not say how
severe of a shortage will be created, or how much production of the product
will be discouraged by a maximum price control of a specified magnitude. It is
thus unlike a physical law in this respect.
In addition, it is theoretically possible, though highly
unlikely, for the predicted effect to fail to appear, due to countervailing,
subjective forces. For instance, if enough consumers suddenly reduced their
demand for the price controlled good as soon as the control was imposed,
perhaps because they are ultra-loyal to their government or because they wanted
to try to prove the economists wrong, than shortages might not develop.
Similarly, if producers kept on producing the good in the same quantity even
after the control was imposed, because they value the psychic satisfaction of
pleasing their government or trying to prove the economists wrong more than the
monetary profits that they will have to forego, than the production of the
price-controlled good would not be discouraged. However, it is scarcely
necessary to even finish describing such scenarios before dismissing them as
near impossibilities, based on what we know about human nature and motivation
in general.
Thus, while economic laws are not quantitatively-precise or
absolute laws, they should not be ignored by policy makers lightly. A
government that dismissed the reasoning of the economists and the millennia of
negative experiences regarding maximum price controls could certainly try once again
to impose a maximum price control without harmful effects, but they should not
be surprised when their attempt fails dismally.
Soros: “Economic and social events, unlike
the events that preoccupy physicists and chemists, involve thinking
participants. And thinking participants can change the rules of economic and
social systems by virtue of their own ideas about these rules. The claims of
economic theory to universal validity become untenable once this principle is
properly understood. This is not just an intellectual curiosity. For if
economic forces are not irresistible and if economic theories are not
scientifically valid – and never can be – the entire ideology of market
fundamentalism is undermined.” 29
Brian: Right, and as explained above, it is
theoretically conceivable that a change in the thinking of the consumers could
frustrate the predictions of the economists regarding the effects of imposing a
maximum price control above the free-market price. But given what we know about
humanity, in many cases this is just an ‘intellectual curiosity’. Would you
really maintain that the theoretical teachings of free-market economics
regarding the effects of imposing maximum price controls are worthless because
of the incredibly slim possibility of a radical and unprecedented shift in
consumer thinking preventing these effects from occurring? This would be a very
impractical and pedantic attitude to take. Just because something isn’t
absolutely, universally valid beyond a shadow of a doubt, doesn’t make it
worthless. Quantum physicists have challenged the universal validity of
Newtonian physics, but surely no one would describe Newtonian physics as
worthless. Knowledge of ‘imperfect’ Newtonian physics is what enabled the
construction of the machines and vehicles that have radically improved our
lives over the past few centuries.
Soros: “When sellers know how much they are
willing to supply at each price and buyers know how much they are willing to
buy, all that needs to happen to achieve equilibrium is for the market to find
the unique price that matches demand and supply. But what if price movements
themselves change the willingness of buyers and sellers to trade their goods at
given prices, for example, because they expect the price to rise further in the
near future?” 37
Brian: Then the constellation of supply and
demand will change and the equilibrium point will change? I don’t see what the
problem here is. In Austrian economist Murray Rothbard’s explanation of the
pricing process, he explicitly includes speculative factors as determinants of
supply and demand. Just because supply and demand schedules are determined by
complicated factors does not mean that the theory of pricing based on supply
and demand considerations is flawed.
Chapter 3: Reflexivity
in Financial Markets
Soros: “In the initial stage, the trend is
not yet recognized. Then comes the period of acceleration when the trend is
recognized and reinforced by the prevailing bias. A period of testing may
intervene when prices suffer a setback. If the bias and trend are maintained,
both emerge stronger than ever. Then comes the moment of truth when reality can
no longer sustain the exaggerated expectations, followed by a twilight period
when people continue to play the game although they no longer believe in it.
Eventually a crossover point is reached when the trend turns down and the bias
is reversed, which leads to a catastrophic acceleration in the opposite
direction, commonly known as the crash.” 52
Soros: “Economic theory has actually
promoted the tendency toward equilibrium by ignoring reflexivity and
emphasizing the importance of fundamentals. By contrast, my argument leads to
the conclusion that markets cannot be left to their own devices. Awareness of
reflexivity only serves to increase instability unless the authorities are
equally aware and intervene when the instability threatens to get out of hand.”
58
Brian: Your argument is overly simplistic.
It blames herd-like investors for creating boom-bust financial cycles and looks
to the government to act as a stabilizing force. This ignores the fact that
government monetary and banking policies have been the prime contributors,
throughout history, to financial instability and boom-bust cycles. Often,
credit expansion, encouraged by the government, is what leads to the unrealistic
expectations of investors in the first place. Credit expansion makes one
investment sector artificially profitable through funnelling easy money heavily
to it, thus creating a bubble. When credit expansion slows or is redirected,
this bubble will burst as reality reasserts itself. Does the herd mentality of
many investors exacerbate this kind of instability? Absolutely. But to downplay
the government’s role in creating financial instability and to leave it the
task of ‘stabilizing’ the financial markets is misleading and somewhat naïve.
Why should politicians care about financial stability? All
they are interested in is having seemingly good economic conditions prevail during
their short term in office. If they must create a bubble or a boom to
accomplish this, at the expense of creating the conditions for a bust during
the term of their successor, then so be it. Besides, even if government
officials were interested in financial stability, how are they supposed to know
if a given financial trend is an irrational speculative mania, or a beneficial
adjustment to changed market conditions? You rightly pointed out that the
assumption of perfect knowledge amongst market participants is incredibly
unrealistic. So why should we assume that government officials have the perfect
knowledge that they would need to ‘correct’ the market instead? How is that any
more realistic?
Chapter 4: Reflexivity
in History
Soros: “A transactional society undermines
social values and loosens moral constraints. Social values express a concern
for others. They imply that the individual belongs to a community, be it a
family, a tribe, a nation, or humankind, whose interests must take precedence
over the individual’s self-interests. But a transactional market economy is
anything but a community. Everybody must look out for his or her own interests
and moral scruples can become an encumbrance in a dog-eat-dog world. In a
purely transactional society, people who are not weighed down by any
consideration for others can move around more easily and are likely to come out
ahead.” 75
Brian: One does not have to be a
collectivist in order to be concerned about others. One can care about the
interests of fellow family members, tribesmen, nationals, or other humans,
without becoming a subordinate pawn of The Family, The Tribe, The Nation, or Humankind.
In fact, often the supposed ‘interests’ of these collective entities are simply
the selfish interests of the collective’s leaders in disguise.
Soros says that people who don’t care about others are ‘likely to come out ahead’ in a purely transactional society (ie. a free-market society). Come out ahead, in terms of what? In what sense can we say that the person who only cares directly about himself is ‘ahead’ of the person who also cares about others in a free-market society? These people have different preferences, and in a free-market society they are free to pursue these different preferences, more or less successfully depending on how competent they are. The first person can spend his earned money directly on himself and attain gratification in that way, the second person can spend some of his earned money on others and attain some of his gratification in that manner. It is impossible for us to say which of these people will end up with a higher sense of psychic well-being, because one cannot compare psychic well-being interpersonally.
Perhaps Soros meant to say that selfish people will be able
to accumulate more money, in their capacity as producers in a free-market
society, than unselfish people. The trouble is that it is hard to judge which
producer is being more ‘selfish’ than others in their market conduct. For
instance, is it selfish of an efficient producer to set his prices lower than that
of his less efficient competitors? One could say that the efficient producer’s
actions show that he doesn’t care about the well-being of his competitors, but
one could also say that the efficient producer’s actions show that he does care
about the well-being of his customers, whom he is offering his goods at lower
prices to. We can only really say that a producer is acting selfishly when he
seeks an advantage for himself at the expense of both his competitors and the
consumers. And yet, in a free-market economy, opportunities for doing so are
relatively rare. It is in an interventionist economy where producers have all
kinds of chances to seek special governmental privileges for themselves at the
expense of their competitors and consumers. Seekers of government subsidies, seekers of
laws restricting entry into the industry or profession to one’s competitors,
seekers of tariff protection, seekers of monopolistic franchises, etc… are all
producers who can be said to be acting pretty selfishly, more so than producers
acting on a purely free-market. In this light, it is the economy hampered by
all kinds of government interventions that is more of a ‘dog-eat-dog-world’
than the pure free-market economy.
Can’t free-market producers attempt to sell their customers
shoddy products at over-inflated prices, and thus act selfishly in that regard?
They can certainly try, but as any leader of an established business firm will
tell you, the firm’s reputation for honesty and quality is one of its most
important business assets, an asset that it is not wise to impair for the sake
of fleeting short-term gains.
Thus, the common complaint that a free-market society will
necessarily dominated by ‘selfishness’ and a ‘dog-eat-dog mentality’ is in many
respects faulty.
Chapter 6: The Global
Capitalist System
Soros: “A key feature of fundamentalist
beliefs is that they rely on either/or judgments. If a proposition is wrong,
its opposite is claimed to be right. This logical incoherence lies at the heart
of market fundamentalism. State intervention in the economy has always produced
some negative results. This has been true not only of central planning but also
of the welfare state and of Keynesian demand management. From this banal
observation, market fundamentalists jump to a totally illogical conclusion: If
state intervention is faulty, free markets must be perfect. Therefore the state
must not be allowed to intervene in the economy. It hardly needs pointing out
that the logic of this argument is faulty.” 127-128
Soros: “Market fundamentalism plays a
crucial role in the global capitalist system. It provides the ideology that not
only motivates many of the most successful participants but also drives policy.
In its absence, we would not be justified in talking about a capitalist regime.
Market fundamentalism came to dominate policy around 1980, when Ronald Reagan
and Margaret Thatcher came to power more or less simultaneously.” 128
Brian: I can’t think of even one thinker who has ever said
that the free-market is ‘perfect’. Even anarcho-capitalist thinkers, who
believe that the State shouldn’t exist at all and that the free-market is better
than state intervention in all areas, don’t claim that the free-market is ‘perfect’.
They just argue that the costs of government intervention always exceed the
benefits, not that the free-market is ‘perfect’ by some mysterious standard of
perfection. As for the neoclassical economists whom Soros is referring to, they
tend to advocate for government control of the monetary and banking system and for
heavy government involvement in the education system and in the provision of
so-called ‘public goods’. These hardly seem like the political positions of
people who think that ‘free markets must be perfect’ in all areas and that the
state should never intervene in the economy.
The fact is that, in order to take a complete political
position, one must specify how much government intervention, of what nature,
one is willing to support in each area of the economy. If one comes to the
conclusion that in most areas of the economy, government intervention is counterproductive,
and thus that only very limited government interventions in specified sectors
should be supported, this is not a mark of being a ‘market fundamentalist’. As I
wrote in an earlier post:
“If someone thinks and can persuade others that the science
of economics demonstrates that measure A leads to ends B and C, while measure B
leads to ends D and E, and this person values ends B and C higher than he
values ends D and E, then it doesn’t matter how many times these judgements
favour the free-market, while shunning government economic intervention. To
simply proclaim that someone’s scientific and value judgements cannot be
correct because taken together, they constitute an ‘extreme’ position on the
free-market versus government economic control spectrum, is to abdicate all
responsibility for actually analyzing these scientific and value judgements
yourself. In fact, who is more ‘extreme’, the person who makes a separate
scientific and value judgement on each issue as they come up, or the person who
dismisses the need for such judgements by proclaiming that the ‘moderate’
position must be right? The latter would seem to be the attitude closer to
religious dogma, and the former closer to the attitudes of science.”[2]
This idea of ‘market fundamentalists’ ruling the modern world
is an indefensible interpretation of history. Government’s role in the US economy
did not shrink significantly under Reagan, and has not shrunk since. Government
spending as a percent of GDP in the US now and in the 1980s was significantly
higher than it was in the 1960s. This is hardly a sign of a shift in policy
orientation towards ‘market fundamentalism’. This pervasive myth impedes
clarity of thought on modern political issues, and thus should be discarded
forthwith.
Chapter 8: How to
Prevent Collapse
Soros: “Whatever currency regime prevails,
it is bound to be flawed. Freely fluctuating currency rates are inherently
unstable because of trend-following speculation; moreover the instability is
cumulative because trend-following speculation tends to grow in importance over
time. On the other hand, fixed exchange rate regimes are dangerous because break-downs
can be catastrophic. The Asian crisis is a case in point. I often compare
currency arrangements with matrimonial arrangements: Whatever regime prevails,
its opposite looks more attractive.” 184
Soros: “A major experiment is currently
under way in Europe: the creation of a single currency. It is based on the
belief, which I share, that in the long run you cannot have a common market
without a common currency. I believe, however, that the design of the euro is
flawed because in the long run you cannot have a common currency without a
common fiscal policy, including some kind of centralized tax collection or tax
redistribution.” 184-185
Brian: How about an international gold
standard? Currencies wouldn’t be unstable with regards to one another because
there would only be one currency for the whole world: gold. This would facilitate
international trade and international financial transactions and would
eliminate the pervasive risk of currency fluctuations that will always exist under
a national paper money system. With one currency for the whole world, one
immune to hyperinflationary destruction, there would be no question of ‘catastrophic’
currency break-downs. Thus, an international gold standard would avoid the
problems that Soros identifies with floating rate and fixed rate national paper
money systems, while providing all kinds of other important monetary benefits
as well.
If we want the world to be a common market, than a common
currency would greatly help, as Soros himself recognizes. Gold served as just
such a currency during the 19th and early 20th centuries.
Why could it not do so again? Soros thinks that countries with a common
currency must have a common fiscal policy. This is only true if central banks
are empowered to print units of the currency in order to facilitate the
excessive deficit spending of profligate governments within the currency zone,
as the European Central Bank does. In that case, a common monetary policy
results in resources being redistributed from countries with more responsible
governments to governments with more profligate governments. This is clearly an
unsustainable arrangement, replete with perverse incentives. Under a real
international gold standard, there would be no central bank with the power to ‘print’
gold and use it to help fund the activities of profligate governments. Thus,
there is really no need for the countries using gold as their currency to adopt
a common fiscal policy.
Brian’s General
Comments: While Soros’ book does present some
interesting ideas and interpretations, it is frustratingly vague on its
concrete policy recommendations. Soros champions the idea of an ‘Open Society’,
but his main definition of such a society is one based on the idea of human fallibility.
This nebulous definition is never really fleshed out in the form of concrete
policy recommendations, with the exception of some tentative suggestions for
how to better regulate international financial markets.
Soros, armed with his concept of fallibility, argues that
both the market mechanism and the democratic political process are flawed.
Well, of course they are, nothing created by imperfect humans is going to be
perfect, and what is perfection anyway? But the pressing political question is:
how much should the government intervene in each area of the economy? Evasive
answers about human fallibility and institutional imperfection will not do. The
question must be answered in a straightforward manner, using all of our relevant
social scientific knowledge, and in light of all of our personal value
judgements.
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