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There is an old phrase that people have applied to everything from love to sports: scared to lose. That describes the current approaches of the President, Congress and both political parties to the current economic crisis. In sports, playing scared to lose the notes a player or team that is afraid to fail so they rely too much on safe plays and strategies such as football’s prevent defense. Everyone has seen too many games where a football team goes into a scheme designed to prevent long touchdown passes only to have the other team pick them apart with short sideline passes. Then there is the basketball team goes into a slow-down offense when they get the lead only to lose its rhythm because they run the clock down so far they end up taking bad shots.
A recent research paper affirmed that “scared to lose” is real. Benedetto DeMartinoa, Colin F. Camerer and Ralph Adolphs found:
Laboratory and field evidence suggests that people often avoid risks with losses even when they might earn a substantially larger gain,a behavioral preference termed “loss aversion.”
For instance, people will avoid gambles in which they are equally likely to either lose $10 or win $15, even though the expected value of the gamble is positive ($2.50).
Herbert Hoover
Public policy is no different. When the situation becomes dire, policymakers almost instinctively fall into an afraid to lose mentality. Like the prevent defense or the slow down, the hallmark of an afraid to lose policy is fear of making things worse, so they fall back on the conventional wisdom. That way no one can accuse them of doing the wrong thing. The classic case of this is Herbert Hoover.
Hoover still ranks as one of the most intelligent and well-prepared presidents to ever occupy the White House. He certainly far exceeded his predecessor, Calvin Coolidge, who seemed to more enjoy trout fishing than he did governing the country. Hoover’s intellect and policy skills were so respected that even after he lost to Franklin Roosevelt none other than Harry Truman called on him in 1946 to assess the situation in post-war Germany.
There have been few presidents with Hoover’s combination of organizational skills and economic knowledge. Hoover still is the only president in the last hundred plus years to move to the White House not through politics but through what today is derisively dismissed as the bureaucracy. But Hoover was no ordinary bureaucrat.
Herbert Hoover first made a name for himself by organizing relief for Belgium during the First World War. As his recent biographer William Leuchtenberg notes, Hoover was a force of his own, taking over railways, factories and warehouses and even seizing 500 canal boats. In order to get the aid to those who needed it, Hoover conducted negotiations with the warring nations which caused Henry Cabot Lodge to threaten to prosecute him under the Logan Act.
After the war, Hoover became head of the American Relief Administration, a massive effort that still ranks as one of the most remarkable in world history. It is safe to say that without Hoover postwar Europe would have collapsed. The failures that did lead to the Second World War had little to do with Hoover and much to do with the Treaty of Versailles and America’s refusal to join the League of Nations.
Hoover supervised the delivery of food, clothing and medicine to twenty-one countries, saving countless lives. After government funds ran out Hoover set up the ARA as a private charity raising over $30 milli0n with “relief dinners” in which guests were served a meal on tin plates that was the usual fare of Europe’s underfed. Leuchtenburg points out the Finns added a new word to their vocabulary: to Hoover means to help [p. 42].
Hoover and the Great Depression
By the time Herbert Hoover occupied the White House he seemed the one person in the country born to deal with the growing economic crisis. But Hoover exhibited a fateful afraid to fail approach that ultimately cost him the Presidency. From the perspective of his times, it is as difficult to blame the Hoover as it is to blame Barack Obama or Congress for the present crisis. Hoover stuck with what had passed as the economic wisdom of his generation. That wisdom cautioned against letting government become too involved in the markets and second against running negative deficits.
John Maynard Keynes was a largely unknown English economist when Hoover entered the White House. It is doubtful someone even of Hoover’s vast knowledge knew much about him. In addition, with the country at stake the conventional wisdom seemed the best and safest approach.
Few people realize it, but many of Hoover’s reactions to the Stock Market Crash have a remarkably contemporary ring to them. He greatly expanded public works programs and urged states to do the same (call it Hoover’s stimulus package). He asked Congress for a $160 million tax cut, following the trickle down wisdom that we still hear today.
Hoover’s Treasury Secretary, Andrew Mellon, felt it was best to do what previous Presidents had done in the face of economic crises: nothing.
It will purge the rottenness out of the system. High costs of living…will come down. People will work harder, live a moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people.
Hoover’s 1932 Nomination Speech
Hoover didn’t buy that. On the other hand, his 1932 speech accepting the Republican Presidential nomination is a monument to afraid to fail. You can sense that in remarks like the following:
If we look back over the disasters of these 3 years, we find that three-quarters of the population of the globe has suffered from the flames of revolution. Many nations have been subject to constant change and vacillation of government. Others have resorted to dictatorship or tyranny in desperate attempts to preserve some kind of social order.
You can read in those words the fears of a man who had seen the consequences of bad economic decisions in Russia and post-war Germany. At the root of these fears was what can only be described as a fear of government, for Hoover and many others believed that by involving government too deeply in resolving the Great Depression they would open the door to fascism or Bolshevism.
Those fears become more apparent later in the speech when Hoover outlines his own philosophy for dealing with the crisis in phrases that still haunt him today.
It is not the function of the Government to relieve individuals of their responsibilities to their neighbors, or to relieve private institutions of their responsibilities to the public, or the local government to the States, or the responsibilities of State governments to the Federal Government. In giving that protection and that aid the Federal Government must insist that all of them exert their responsibilities in full.
In short, Herbert Hoover, the man famous for “feeding Europe” after the First World War, did not believe in using the resources of the federal government for relief. Hoover, however, was no fan of Wall Street speculators and although he did not name them explicitly, he directed some of his strongest rhetoric against them.
Equality of opportunity contains no conception of exploitation by any selfish, ruthless, class-minded men or groups. They have no place in the American system. As against these stand the guiding ideals and the concepts of our Nation. I propose to maintain them.
Then come the fear of failure phrases.
The solution of our many problems which arise from the shifting scene of national life is not to be found in haphazard experimentation or by revolution. It must be through organic development of our national life under these ideals.
Ofttimes the tendency of democracy in the presence of national danger is to strike blindly, to listen to demagogues and to slogans, all of which destroy and do not save. We have refused to be stampeded into such courses.
Finally, there are some words that sound uncannily like positions being taken by the GOP today.
The first necessity of the Nation, the wealth and income of whose citizens has been reduced, is to reduce the expenditures on government-national, State, and local. It is in the relief of taxes from the backs of men through which we liberate their powers. It is through lower expenditures that we get lower taxes. This must be done.
The Current Picture
As the debate continues on the current Financial Regulatory Reform Bill, too much of the rhetoric from both parties has the odor of afraid to fail. The chief institution to recognize this is, ironically, the Roosevelt Institute.
Its report Make Markets Be Markets should be required reading for anyone who wants to really understand what is happening. While the complete report is over a hundred pages, a seven-page press kit is available online along with video from a panel discussion of the report. Quotes below come from the full report. The report begins with Franklin Roosevelt’s acceptance address whose words do not betray a fear of failure.
This is no time for fear, for reaction or for timidity.
Roosevelt’s diagnosis of the situation sounds like it could have been written yesterday:
Let us look a little at the recent history and the simple economics, the kind of economics that you and I and the average man and woman talk. . . Enormous corporate surpluses piled up – the most stupendous in history. Where, under the spell of delirious speculation, did those surpluses go?. . . They went chiefly into the call-money market of Wall Street, either directly by the corporations, or indirectly through the banks.
I will not go into the details of the report at this time, but will add them from time to time to essays on the current situation. Suffice it to say that the Institute is no fan of what has come through the Administration, Congress or either political party.
The United States has not yet enacted the financial reforms necessary to repair the broken financial system.
All legislative proposals offered by the Administration, House, and Senate fall far short of what is needed for proper reform. Independent experts across the political spectrum have clearly identified the dangers of large complex financial institutions that are intertwined through the proliferation of derivative instruments.
In the context of the current situation, to be afraid to fail is to worry that if the big banks and other offenders are taken to task, it might make things worse rather than better. Take the Riegle-Neak Act, I have mentioned probably too much that forbids financial institutions from controlling more than ten percent of the market. Right now six banks control an astounding 60% of the market, but regulators are afraid that if they order the breakup of these banks it could make the crisis worse. This also goes for the regulation of derivatives. This speculation has become so entangled with financial institutions that many fear regulating derivatives trading will also cause a melt-down.
Abraham Lincoln used to tell a story about a nest of hornets. I don’t know if you have ever dealt with white-faced hornets before, but they live in nests that look like cartoon beehives, only these hornets are big and aggressive. If you even approach the nest they will attack and unlike bees they can sting multiple times with far more force.
Lincoln’s story told of a person who tried all sorts of strategies to get rid of a hornet nest including using smoke, only to come away with dozens of painful stings. Finally Lincoln told the man he would get rid of the nest if the man gave him a prized horse. Lincoln realized that the time to deal with the hornets was at night when they were asleep. He dropped the nest into a sack and that was the end of the hornets.
Our financial regulators are like that man and the hornet nest. They are afraid to deal with the crisis for fear of getting stung. What strategies they have used (the Bush bailouts) have resulted in some painful stings. Nobody has the imagination–and the good sense–that Lincoln had when dealing with the hornets.
The Roosevelt report shows that kind of imagination. It believes we need to get rid of the hornets but do so in a rational way. Its parallel to the Lincoln’s h0rnet story is equally rational–we have been afraid to let financial institutions fail.
But the discipline of bankruptcy and restructuring has not been applied to the large complex financial institutions (LCFIs) in the recent financial crisis. The inability to apply market discipline to LCF is not only unsound; it has forced the citizens of the United States to support them with a great deal of money via bailouts and guarantees. When LCFIs are not penalized for failure, it sets a terrible precedent for their future behavior— creating an unhealthy dynamic in which bailouts are assumed and risky behavior is underwriten. Worse still, when society perceives a distance between how individuals and businesses are disciplined, anger and demoralization flourish. The resulting distrust in government makes it even more difficult to fix a broken regulatory system.
BTW, for those of you who have followed my four-year crusade about Glass-Steagall here is what the report said:
By focusing on the deregulation of banks, instead of managing the already growing systemic risk of shadow banks, the late 20th Century financial reforms may well have enabled the crisis.
The report advocates a twenty-first century version of Glass-Steagall.
In short the lesson is: to be too afraid to fail is as much an enemy as too big to fail.
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