The validity of the main argument in Freefall, Stiglitz blames the financial market industry "Wall Street" for causing the financial crisis.
As a Nobel Prize and World Bank chief economist, Stiglitz is at a position of correctly observing issues that affected and is still affecting the economic market. For example, he correctly observes that the crisis pointed out a deep seated problem in our economic mainstream. Our banking and financial institutions are over relying on mathematical models and untested postulations about rationality. Wall Street is majorly criticised for lack of accountability in its excessive risk taking acts and impairing objectivity of rating agencies through conflicting interests. His observation shows how Summers Geithner's strategy in both economics and politics failed. He analyses reasons behind the collapse of banking institution and goes much further to plant the wrongdoing on national faith in the power of free markets.
Even though the nation gives and believes that free market is able to regulate and provide wealth to all, Stiglitz experience in teaching, gives the reader a clear account of how banks, unregulated trading institutions, shoddy mortgage industries and predatory lending institutions contributed to the meltdown. He points out plainly that a formidable grasp of economic policies and blunders were made with respect to bailouts that were given by banks. Since markets are at the heart of a successful economy, they do not work well under government regulations. Flowed perspectives and incentives were the main issues that lead to the 2008 Great Recession and brought with it mistakes that will lengthen the downturn of our economy.
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It is true that America used over $2 trillion between the year 1996 and 2006 in home equity to pay for medical bills, cars, and home improvements because the people's real income had been stagnant for a period since 1990. This posed major drawback to the economy. Recovery from the Great Recession was hampered by less progressive tasks, continued automation and globalisation, new accounting regulations that are discouraging mortgage renegotiation and concomitant shift from manufacturing to services. Free Wall therefore failed to stop recession because of its size which collected 41% of corporate profits in 2007. American market maximized repeated high fee generated revenues by homeowners wanting to refinance adjustable mortgages that were repeatedly reset. The market was ignorant of its sophistication in that it used complex computer models to assess risks that could not easily account for correlation within housing markets. In the process, it failed to eliminate risks through buying credit default exchange from AIG that could not make good its housing downturn.
He also excellently refutes the simple explanations with regards to recession. For example Greenspan expresses that there was nothing he could do during the recession. Stiglitz explains that during the recession, higher down payments or increased interest rates could have been meaningful in solving the occasion. On the other hand to those who are blaming Community Reinvestment Act that was required to increase mortgages for law income earners, he says that default rates on loans should have been observed to be less than in other areas. He observes that ill-conceived rescue plans stopped the free fall but failed to fight off the more fundamental issues.
The flaws in the ideals (deregulation, market fundamentalism, etc.) and actions (predatory lending, derivatives, ballooning debt, derivatives, etc.) that led to disaster. Financial institutions requested for more tax cuts and rebates. These actions imposed an impact on consumers who were burdened with debts and anxiety. But unless there is excess capacity, business institutions will be reluctant to invest. He faults Laffer's supply curve and tax curve as irrelevant tax theories pointing out that George Bush's tax cuts in 2001 to stimulate the economy also influenced Greenspan's idea to hold back the publics interest rates for so long. Stiglitz also says that giving the Federal Reserve more regulative power was not a solution since it did not use what it had before the 2008 Great Recession.
Growing inequality within the citizens shifted money from those who would have spent it to those who would not want to spend it. This weakened the entire consumer demand. On the other hand, high oil prices also affected law income earners thereby encouraging Greenspan to hold down interest rates in order to counter the negative impact of the recession. The financial market bailouts also increased chances of the recession. Money used for the bailouts should have been channelled to capitalize new banking institutions at 12:1 leverage. He points out that the treasury's act of putting up most of the money also led to the Recession because it got short changed on benefits that accrued. The implementation of the treasury was therefore inconsistent since some stockholders and institutions were secured while others were not.
What should be done today to lower the risk for future similar crises? Joseph Stiglitz wrote down some practical ideas that would help eased the pain of Great Recession or another financial recession process that might happen again. In his last chapter, Stiglitz says that our economic life should be organised in a way that economic and political rights are taken seriously. Everybody should be aware that matters of rights are not given by God but by social constructs. They are constructs that govern our lives together in our community. To stop the crisis and lower future risks for similar cases, Stiglitz proposes a massive expansion in regulations. He says the expansion would be shaped by financial experts in Universities, Unions and nongovernmental institutions. He proposes that there is need for a global system to effectively undertake management of financial demands for the entire global economy.
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During the crisis, banks that were too big to fail, should have paid high rates of deposits on insurance covers, and should have also incurred restrains on executive enticement. Removing Paul Volcker as chairman of Federal Reserve Board was a mistake done by the then president Reagan. He removed Paul and replaced him with Alan Greenspan not knowing that Volcker had decreased the level of inflation from 11% to a level under 4 percent. Volcker also believed that financial markets needed to be regulated but the President wanted someone who could not regulate the market. This act of unregulated practise also increased chances of recession. Regulation should be enforced and mandated by a neutral force and not politics. Incentives should also be given since it provided short sellers to notice fraud committed and reckless lending by financial institution that would have played an important role in curbing bad bank actions. This is important in the financial market and would stop future recessions from going extreme since government regulators have not. Stiglitz wants government to re-regulate and deeply get involve with the economy.