Freefall: America Free Markets And The Sinking Of The World Economy Hardcover – Dec 22 2009
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“Mr. Stiglitz uses his experience teaching to give the lay reader a lucid account of how overleveraged banks, a shoddy mortgage industry, predatory lending and unregulated trading contributed to the meltdown, and how, in his opinion, ill-conceived rescue efforts may have halted the freefall but have failed to grapple with more fundamental problems…. His prescience lends credibility to his trenchant analysis of the causes of the fiscal meltdown.” — Michiko Kakutani (The New York Times)
“[W]hat brings this book to life is his formidable grasp of economic policy and strong sense of conviction about the blunders that have been made, especially with respect to the bank bailouts.” — Jim Zarroli, NPR business reporter (NPR)
“Asks some basic and provocative questions… is a must-read for anyone seeking to understand the roots of the financial crisis. Stiglitz brilliantly analyzes the economic reasons behind the banking collapse, but he goes much further, digging down to the wrongheaded national faith in the power of free markets to regulate themselves and provide wealth for all.” — Chuck Leddy (Boston Globe)
“As a Nobel Prize winner, member of the cabinet under former President Bill Clinton and chairman of his Council of Economic Advisers, Joseph E. Stiglitz has some practical ideas on how to ease the pain of the Great Recession and maybe help prevent the next one.” — Carl Hartman (Associated Press)
“ is a spirited attack on Wall Street, the free market and the Washington consensus.” — David Smith (The Times [London])
About the Author
Joseph E. Stiglitz is a Nobel Prize-winning economist and the best-selling author of The Price of Inequality, Freefall, and Globalization and Its Discontents. He is a columnist for the New York Times and Project Syndicate and has written for Vanity Fair, Politico, The Atlantic, and Harper's. He teaches at Columbia University and lives in New York City.
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Top Customer Reviews
Stiglitz's tenure as World Bank chief economist during the 1997 Asian crisis gave him particular insight into the causes and the global response, and he draws on this experience and others in supporting some of his arguments about the current crisis. He also references many other past crises and bubbles, occasionally dragging economic theory into his explanations, but in plain english and only to provide context or to illustrate how the economic assumptions were flawed. The historical references, when combined with his critique of the past few decades of deregulation and of the Chicago school economists, make a compelling case.
Only two people suffer Stiglitz's unrelenting criticism: Alan Greenspan and Milton Friedman. For example, Stiglitz is very critical of Greenspan's low interest rate policies, and takes him to task for his comment that over the past decade homeowners might have saved tens of thousands of dollars had they held adjustable-rate mortgages. While this is obviously true in any declining interest rate environment, Stiglitz asks how good this advice could possibly be when current rates were at all time lows.Read more ›
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Between 1996-2006, Americans used over $2 trillion in home equity (HELOC) to pay for home improvements, cars, medical bills, etc., largely because real income had been stagnant since the early 1990s. Economic recovery requires that we repay the remainder of these amounts, overcome stock market losses (10% between 2000-2009), the loss of some 10 million jobs, and reductions in credit card balances, and find an equivalent amount to the former home-equity sourced financing ($975 billion in 2006 alone - about 7% of GDP) to finance another consumer-driven GDP upturn - without the prior boom in housing and commercial building. Stiglitz also points out that the Great Depression coincided with the decline of U.S. agriculture (crop prices were falling before the 1929 crash), and economic growth resumed only after the New Deal and WWII. Similarly, today's recovery from the Great Recession is also hampered by the concomitant shift from manufacturing to services, continued automation and globalization, taxes that have become less progressive (shifting money from those who would spend to those who haven't), and new accounting regulations that discourage mortgage renegotiation.
Stiglitz is particularly critical of the U.S. finance industry - its size (41% of corporate profits in 2007), avarice (maximizing revenues through repeated high fees generated by over-eager and over-sold homeowners needing to refinance adjustable-rate mortgages that repeatedly reset), and 'sophisticated ignorance' (using complex computer models to evaluate risk that failed to account for high correlation within and between housing markets; 'eliminating risk' through buying credit default swaps from AIG - blind to the likelihood AIG could not make good in a housing downturn), and excessive risk (banks leveraged up to 40:1 with increasingly risky mortgage assets - 'liar's loans,' 2nd mortgages, ARMs, no-down-payments; taking advantage of the 'too-big-to-fail' and 'Greenspan/Bernanke put' phenomena). Much of this behavior was driven by lopsided personal financial incentives (bonuses) - if bankers win, they walk off with the proceeds, and if they lose, taxpayers pick up the tab. However, to be fair, any firm that failed to take advantage of every opportunity to boost its earnings and stock price faced the threat of a hostile takeover.
The impact of mortgage defaults is greater than one would otherwise expect because financial wizards found that the highest tranches of securitized mortgages would still earn a AAA rating if some income was provided to the lowest tranches in the 'highly unlikely' event of eg. a 50% overall default, thus boosting the ratings and saleability of lower tranches. (Fortunately for the U.S., many of these mortgages ended up overseas, spreading the disaster.) Another problem is that mortgage speculators make more profit from foreclosure than partial settlements. Meanwhile, investors worried that mortgage servicers might be too soft on borrowers required restrictions that make renegotiation more difficult and lead to more foreclosures. Similarly, those with 2nd-mortgages often found that those holding the second were unwilling to accept a principal write-down as their share of assets would be wiped out. Finally, new government regulations aimed at making banks seem healthier than otherwise allowed changing from 'mark-to-market' valuation of mortgages to long-term 'mark-to-hope' valuation - thus, writing down assets in a renegotiation would generate the very mortgage write-downs the new regulations avoided, and thus increased bank reluctance to do so.
"Freefall" also does an excellent job refuting many of the simple explanations, alibis, and remedies for the 2008 Great Recession. For example, Greenspan's 'nothing he could do' alibi is countered by Stiglitz's 'require higher down payments or margin requirements' (or increase interest rates). To those blaming Community Reinvestment Act requirements for increased mortgages to those with low incomes, Stiglitz says the default rates on those loans was less than in other areas; as for Fannie and Freddie being responsible, they came late into the sub-prime game. Responding to claims that increased regulation would stifle innovation and its role in economic growth, Stiglitz asserts that it is impossible to trace any sustained economic growth to those 'innovative' mortgages. (A 'real' contribution could have been made by less profitable innovative mortgages that helped homeowners stay in their homes.) On the other hand, he also admits that just giving more regulatory power to the Federal Reserve is not a solution - the Federal Reserve didn't use what it did have prior to late 2008; similarly, the SEC boosted leverage limits from 12:1 to 30:1 and higher in 2004 - exactly the wrong move. Banks suggest banning short sales in the future as a preventive measure - Stiglitz, however, points out that the incentive provided short-sellers to discover fraud and reckless lending may actually play a more important role in curbing bad bank behavior than government regulators have.
Other factors, especially government actions, also receive attention from the author. Overall, global supply exceeds demand - thus, the recovery focus needs to be on boosting demand. Stiglitz points out that growing inequality shifts money from those who would have spent it to those who didn't - weakening overall consumer demand. High oil prices have also impacted most those with low incomes, and probably encouraged Greenspan to hold down interest rates to counteract the negative impact. On a broader level, Stiglitz contends that IMF encouragement of national self-discipline and 'rainy-day' funds also weaken consumer demand. As for recommendations for more tax cuts and rebates, Stiglitz says these won't have much impact on consumers saddled with debt and anxiety, and as long as there's excess capacity, businesses will be reluctant to invest (Laffer's supply-curve tax-curve is an irrelevant theory, at best). Stiglitz even suggests elsewhere that the failure of Bush's 2001 tax cuts to stimulate the economy may have also influenced Greenspan to hold down interest rates for too long.
AIG, once bailed out, paid off billions to Goldman Sachs at 100% (Secretary Paulson's former firm), while defunct credit-default-swaps elsewhere were settled at only 13 cents on the dollar, says Stiglitz. Overall, he is very negative on the financial-sector bailout (TARP), believing that the money would much better have been used to capitalize new banks at 12:1 leverage, or not spent at all. The resulting bank subsidies were unfair to taxpayers (Treasury put up most of the money and got short-changed on potential benefits), and implementation was inconsistent - some institutions and stockholders were bailed out, others were not. (The reason lending 'froze up' is that banks didn't know whether they or their peers ere underwater.) The stimulus package, on the other hand, was too small (aimed at 3.6 million jobs, vs. 10 million lost plus 1.5 million new workers/year needing jobs), and was delegated to Congress without clear guidance. The result was a failure to provide mortgage insurance for those losing jobs, while instead creating the 'cash-for-clunkers' (mostly just moved sales from one period to another - [...] estimated only 18% were added sales, costing taxpayers $24,000 apiece; eight of the top ten purchases came from Asian manufacturers), ineffectual tax cuts, putting money into a failing auto industry, and increased road construction (greater global warming) instead of giving even more money to high-speed rail. The stimulus emphasis should have been on fast implementation, high-multiplier impact, and addressing long-term problems (eg. global warming). The employment situation now is worse than just the unemployment rate suggests - there are a record 6 applicants for every opening, the average work week is at 34 hours - the lowest since data was first collected in 1964, many have turned to disability instead of unemployment and are not counted.
Overall, Stiglitz believes there is far too much short-term thinking driving decision-makers, that business lobbies are too strong, and that markets are not naturally efficient. (Other inefficient market areas besides finance include health care, energy, manufacturing.) Meanwhile, we have done nothing to correct the underlying problems (big banks are even bigger) and Stiglitz also fears (reported elsewhere) the U.S. economy faces a "significant chance" of contracting again.
Interesting side-notes: 1)Stiglitz suggests that banks 'too-big-to-fail' should pay higher rates of deposit insurance, and incur restraints on executive incentives. In 1995 our five largest banks' market share was 11%, 40% now. Regardless, the world's largest three banks are now Chinese - #5 is American. (Not to worry - scale economics are no longer a factor for any of those banks, says Stiglitz.) 2)President Reagan made a major mistake in removing Paul Volcker as Chairman of the Federal Reserve Board and appointing Alan Greenspan in his place. Volcker had brought down inflation from more than 11 percent to under 4 percent, which should have assured his reappointment. But Volcker believed financial markets need to be regulated, and Reagan wanted someone who did not. Thus, Stiglitz believes regulations must be mandated, and enforced by a neutral, not political, source. 3)Repealing the Glass-Steagall Act in 1999 changed the culture of banking from conservative to high-risk, and also encouraged even larger institutions. 4)It is ironic that the Bush/Greenspan efforts to minimize government involvement in the economy resulted in our becoming de facto owners of the world's largest auto and insurance companies, and some of the largest banks. 5)Stock options are doubly damaging - they undermine stockholder wealth while remaining largely hidden from stockholders, and they encourage maximum short-term accounting manipulation to move stock prices up. 6)The U.S. national debt will reach 70% of GDP by 2019, and when it hits 90%, paying 5% interest on that debt will consume one-fifth of federal taxes.
Bottom-Line: Most books on current economic issues written for the public are superficial, or even worse, mere demagoguery. Stiglitz's qualifications - Nobel prize-winner in economics (2001), former Chairman of the President's Council of Economic Advisors (1995-97), and former World Bank Chief Economist help provide an important, interesting and credible alternative. "Freefall" was a pleasure to read.
"Freefall" doesn't give us all the answers, and again I admit that I still have questions, but for a basic understanding of the markets as they played out in the past couple of years and how deregulation merely increased the problems for most of Main sreet this is a very good place to start. Some critics have already panned this book as a call to socialism, but those critics obviously lack even a basic understanding of what socialism really is and are only looking for a buzz word to sustain the belief that a totally "Free Market" system is the only good thing, when in fact it increases the chances of boom and bust cycles coming even closer together in the future. To begin, modest regulations are all that might be needed, and if bankers once again act trustworthy and preform ethically it could be enough. If greed continues unabated, then the middle class will disappear and only the wealthiest will profit.
Many of the 1-star reviews harp on about Mr Stiglitz's wanting to give the government more power when the Fed and others were culpable in the Great Recession. At best that interpretation does a disservice to what Mr Stiglitz advocates. Yes, he calls for a balanced role for government involvement to keep markets in line (as, he argues, they have clearly demonstrated they cannot do it themselves), but he also takes regulators and the Fed to the mat for their poor oversight, and the Obama administration for poor choices of remedy (basically just continuing the failed policies of GW Bush). Mr Stiglitz goes further, though, in calling for a restructuring of the financial sector - from the ashes, a phoenix - saying that today's incentives produce bad behavior, and need to be rethought with "right" outcomes in mind. It's an admirable goal, but where the political will for this comes from is anybody's guess. If Obama couldn't part ways with GW Bush on this matter, how will he restructure finance? One reviewer laments the lack of moral outrage expressed by the author - did he read the book? It's full of moral outrage and condemnation of a system which has failed everyone except the heads of the financial sector.
I agree with a few thoughts from the 1-star reviews: Freefall tends to wander from topic to topic, and gets very repetitious. The final chapter is like reading a sermon - demanding we be, perhaps, unrealistically moral. Also, 1-star reviewers unfairly complain there are no remedies shared in the book - there are plenty (e.g., implementing a Global Reserve Currency at one end of "the possible" and Reinventing Economics at the other), but they are a) thinly distributed throughout the book (so easy to forget they're there), and b) sometimes so grand in scope and vision as to be almost meaningless in today's political reality.
At the end of the day, I found Freefall to be harshly (yet fairly) illuminating in the origins of the Great Recession, the shortcomings of the system and its actors in the market and in the government, and the fact that something good can emerge from this mess. It is clear that major changes are needed, and equally clear that there is good reason to be skeptical that necessary change is achievable. We live in a different, more interconnected global economy than when the current rules were created; Mr Stiglitz convincingly argues that a new way of managing this economy - even a new way for how we think about the economy - is mandatory. How we get from here to there, however, is anything but clear.
The first part of the book is really a description of the causes of the crisis. It describes some of the specific actions taken by bankers, the incentives to take fees irrespective of the value add of the underlying contracts, and how that evolved into model "arbitrage" abuse in mortgage repackaging. It discusses the change in the distribution of wealth in the country and the stagnation of wages for most of the country despite general GDP growth that hides that fact, in particular the transfer of wealth from "main street to wall street". It discusses the failure of central bankers to address the bubbles of the economy and how their economic principles were too often based on faulty neo-classical principles. It then goes into how the crisis was used as an opportunity to hold the taxpayer "hostage" in the same way that one can price gouge a pedestrian for a ride in a hurricane. This part of the book prepares the unfamiliar reader with the much needed backdrop to understand most of the crisis.
The second part of the book starts off where the current events end and tries to set the scene for the steps we need to take for the future. This was the best part of the book for me. Stiglitz outlines many of the important principles that are violated in the neo-classical world that makes it apparant, desire for incremental benefit does not imply an aggregate improvement for the economy. Stiglitz makes a strong effort to show market failures are rife, the cost of a crisis as an example far exceeded the profit generated by fees, and as a result leaning on - "the market is better than regulators in forming solutions", clearly needs to be re-thought. It is hard to disagree... Stiglitz also discusses less in depthly but importantly nonetheless, the ecological economic principles that we are missing today- in particular the true "cost" of consumption as a tax on the future with resource scarcity as well as environmental damage. I dont think these are particularly contentious but they are often forgotten. Aspects of behavioural finance are brought up and the cognitive dissonance of financiers responses are described. Stiglitz ends with a call to action society at large to take the recent failure as an opportunity to ammend our social contracts and revitalize our trust and institutional arrangements. The need for better regulation he believes is truly clear and the recent crisis needs to be taken as a reason to fundamentally change the way our economy is structured, from capital/labour distribution to consumption investment balance (investment in both fixed assets as well as human capital).
This book is so far one of the most insightful I have read. I agree with a lot of the commentary but let me quickly go into why I dont think its quite five stars. The author is often a bit unbalanced in the criticism, of both central bankers as well as those in finance. Most of the book goes on about the almost inherent total disregard for any other people's interests by the bankers involved, but then later it contextualises their actions and describes their actions as a function of their environment and incentive set- making them more a time and place phenomenon than the bad people they are painted as elsewhere. Central bankers too are berated, but they arent incentivised by the pay. Hindsight is 20/20 and although some were very impressive with their foresight of the problems, it is hard to uniformly make out as though central bankers are all fools. The end goal of this book is to try to argue for a change in social architecture and institutional arrangement. Currently incentives are misaligned, the markets fail and we deal with things after rather than pre-emptively. If this is the goal then this book should have been written inclusively for all readers. I find it quite exclusionary for most in finance and many in politics. That is not that sensible given the goal is to convince. That being said, some scolding is in order, but the magnitude and the one-sidedness is a bit frustrating, predatory lending was a real phenomenon, but assuming away the responsibility by the many individuals speculating on property is not a fair evaluation. All in all the economics of the crisis are evaluated excellently, the conclusions can be debated, but in my opinion they are extremely valuable and provide an important framework to consider for the future. Alot is accomplished in this book and most of it is convincingly argued, this book is a very valuable addition to our recent crises's literature.
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