Yes - it's an ownership crisis

For what it’s worth - which is pitifully little - Alistair Darling agrees with me, that the financial crisis is a crisis of ownership, a failure of shareholders to control their companies. He says (about 3’30” in):

[The FSA must] make sure you don’t inadvertently - or even by foolishness - have a system than encourages people through a bonus system to be taking risks that subsequently can prove disastrous for the institution….

But of course, there has always been a group that has a strong interest in avoiding this - shareholders. They don’t want people taking money - their own money - out of a company whilst taking risks that jeopardize its survival.
It’s only because shareholders were unable to exercise this preference that there can possibly be a role for the FSA. What Darling is saying, therefore, is that our existing ownership structures failed.
(Though the FSA will probably fail too - but that’s another story.)
Whilst I’m on the subject, some people have objected to my theory by pointing out that Long-Term Capital Management managed to go bust without any outside shareholders. This is not refutation of my thesis at all:
1. The cause of LTCM’s trouble was a conjunction of rare, unforeseeable events. First Russia defaulted upon its debt. Then spreads between off-the-run and on-the-run Treasuries widened, and liquidity dried up. The upshot was that LTCM lost money on two bets it thought was uncorrelated, and was unable to get refinancing.
Of course, we know now that rare events happen, that low correlations subsequently rise, and that liquidity risk is important. But we know all this precisely because we‘ve learned from LTCM‘s experience. It was less appreciated at the time.
There’s a massive contrast with our present troubles, which are the result of a wholly foreseeable event - a fall in house prices.
2. The LTCM collapse was quite easily solved by a massive injection of central bank cash, and was one-off and short-lived; within a few weeks, stock markets were back to pre-collapse levels. By contrast, this crisis has lasted over a year, involved many more institutions, and has required much more policy intervention.
 3. I never said that owner-controlled businesses are 100% safe. They cannot be. As I said, men have countless ways of losing money. My point is merely that a separation of ownership and control reduces one constrain upon folly and hubris. Nor am I saying it is the only cause of our troubles - merely one of them. I stress it because it has been overlooked.

Comments

[dearieme]

Your point seems good to me: if you leave ownership with the capitalists (e.g. our pension funds) but control with the workers, the workers loot the joint (e.g. British Leyland, investment banks, etc). On the other hand, it's risky having your career and your savings in the same business, which is what partnerships do. But at the very least company law needs to be critically scrutinised.

[Paulie]

He's away on holiday, but this post would be music to Tom P's ears:

http://labourandcapital.blogspot.com/

It's his most recurring theme, kids! Check it out!

[Bob B]

Of course, concerns about the implications of the separation of control from ownership in modern corporations aren't exactly new:

"The Modern Corporation and Private Property is a book written by Adolf Berle and Gardiner Means and published in 1932. It explores the evolution of big business through a legal and economic lens, and argues that in the modern world those who legally have ownership over companies have been separated from their control."
http://en.wikipedia.org/wiki/The_Modern_Corporation_and_Private_Property

"More important, capitalism was disappearing, yet socialism would not replace it; neither, for that matter, would democracy ever be ascendant. A new, managerial class, rather than the working class, was replacing the old capitalist class as society's dominant power élite. The managerial class includes business executives, technicians, bureaucrats, and soldiers; example societies are Nazi Germany and the Soviet Union. This theory of Burnham's is thought influenced by the book La Bureaucratisation du Monde (1939). . . It is important to note that Burnham defined capitalism as the individual ownership and control of the means of production, which is distinct from the modern corporation, a legally established shareholders association with no direct control over the means of production."
http://en.wikipedia.org/wiki/James_Burnham

All of which only goes to show that politicians are slow learners.

[passer by]

Or we can just get rid of the pseudo science out of the financial systems? FFS at the wall street capitalist theme park they even had a big glitzy entrance at lehman Bros.

Its does not matter what ownership you have or what system you have, if we cant address the fault line running through Western schools of thought about the nature of the unknown none will work or will not work as efficiently as it should, or even work for a time before the error is so big you cannot ignore it, causing havoc for everyone else.

I was walking in the park yesterday when I came across a little girl of about 4 or 5 on a a bike with stabilizers, her parents at both sides of the bike, and she had a cycle helmet on, that my friends is the problem, risk aversion.

Maybe a solution is to pay the managerial class their bonuses in the far future rather in the present, the money goes into a bonding system and is collected 10 or 15 years later with interest unless of course a case can be made against you that you in reality cocked up.

[anotherplanet]

I don't think it's possible to get away with the idea that Long Term Capital Management's collapse was due to a bit of bad luck. Their initial success lead to arrogance and a resort to higher and higher rates of leverage and a departure from their own self-imposed rules as pickings got slimmer. It was an accident waiting to happen. The idea that 'we know now that rare events happen' because of LTCM's example is comical.

[dsquared]

How would you provide insurance on this basis? Presumably through a succession of small syndicates with unlimited liability, each of them raising capital from a small number of outside parties and setting their pricing and underwriting criteria by dealing with each other on a market.

In other words, Lloyd's of London before R&R.

[Term paper]

It’s great to see good information being shared and also to see fresh, creative ideas that have never been done before.

[Michael]

nice post