Goodbye to neo-liberal financial systems?

Gordon Brown, receiving a flea in his ear from John Humphries on the Today Programme today, intimated that by the time the FSA’s temporary ban on short selling was lifted in January (at the latest) there would be regulation in place to prevent us going bust in that particular way* again.

On Project Syndicate, Robert Skidelsky (peer, academic economist and biographer of Keynes) takes a long view, and predicts that big changes are on the way. He points out that crises have always triggered changes in the way we organise our economies:

“Each cycle of regulation and de-regulation is triggered by economic crisis. The last liberal cycle, associated with President Franklin Roosevelt’s New Deal and the economist John Maynard Keynes, was triggered by the Great Depression, though it took World War II’s massive government spending to get it properly going. During the three-decade-long Keynesian era, governments in the capitalist world managed and regulated their economies to maintain full employment and moderate business fluctuations.

The new conservative cycle was triggered by the inflation of the 1970’s, which seemed to be a product of Keynesian policies. The economic guru of that era, Milton Friedman, claimed that the deliberate pursuit of full employment was bound to fuel inflation. Governments should concentrate on keeping money “sound” and leave the economy to look after itself. The “new classical economics,” as it became known, taught that, in the absence of egregious government interference, economies would gravitate naturally to full employment, greater innovation, and higher growth rates.

The current crisis of the conservative cycle reflects the massive build-up of bad debt that became apparent with the sub-prime crisis, which started in June 2007 and has now spread to the whole credit market, sinking Lehman Brothers. “Think of an inverted pyramid,” writes investment banker Charles Morris. “The more claims are piled on top of real output, the more wobbly the pyramid becomes.”

When the pyramid starts crumbling, government – that is, taxpayers – must step in to refinance the banking system, revive mortgage markets, and prevent economic collapse. But once government intervenes on this scale, it usually stays for a long time.”

* I feel like I should, but I still don’t understand why short selling is a problem. As far as I can gather the problem isn’t short selling (which in itself can’t cause a dive in value because value is set by the price the buyer is willing to pay) but rather it’s the the incentive that short selling creates to start rumours calculated to send the value of a company’s stocks tumbling. It’s the rumours which constitute the feared manipulation of the markets rather than the short selling. And where are the share owners in all this? Why don’t they stipulate with the stock brokers that they don’t want their shares to be lent out for short positions?  Is it because they have borrowed to invest in the shares in the first place and are therefore tempted to exploit opportunities to profit from them any way they can? Laissez faire economics isn’t all its cracked up to be.

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