Does anyone remember the 1990s? Does anyone remember the deafening drone coming out of almost every mainstream think tank from the OECD to the CD Howe about how governments are necessarily inefficient because the goods and services they produce are not marked to market prices and incentives are misaligned; and about how capitalists markets are a superior mechanism for everything from the supply of water to old age pensions because by definition everything is marked to market and incentives are properly aligned?
In the FT today Bernake is quoted as saying that the wretched state of affairs in the credit market was caused by:
the failure of investors to provide adequate oversight of originators and to ensure that originators incentives were properly aligned.
Translation: The credit market failed to generate the right prices for its goods and services because incentives were misaligned.
This odd because the one place orthodox price theory should really perform well is in large, diverse, and liquid markets. Large they were, products quite diversified and thanks to the internationalisation of global savings, liquid they were. All of which was aided and abetted by lots of deficit spending in the big economies and a couple of very supplicant central banks.
It is clearly too early to engage in a massive bout of Schadenfreude but it is fun watching the complex interplay of system maintenance, bravado in the face of a wavering confidence, and sneaky manoeuvres. Bernake has a real problem on his hands. Perhaps Greenspan is having the best laugh of all.
The joke, however—should we get to the penultimate punch line—is going to be on us because we spent a good fifteen years or more trucking even the most basic necessities of life to market only discover that just because you are in the market does not mean that your investments are marked to market or that incentives are properly aligned.