Jeb Hensarling and the Allure of Economism

By James Kwak

The Wall Street Journal has a profile up on Mike Crapo and Jeb Hensarling, the key committee chairs (likely in Crapo’s case) who will repeal or rewrite the Dodd-Frank Wall Street Reform and Consumer Protection Act. It’s clear that both are planning to roll back or dilute many of the provisions of Dodd-Frank, particularly those that protect consumers from toxic financial products and those that impose restrictions on banks (which, together, make up most of the act).

Hensarling is about as clear a proponent of economism—the belief that the world operates exactly as described in Economics 101 models—as you’re likely to find. He majored in economics at Texas A&M, where one of his professors was none other than Phil Gramm. Hensarling described his college exposure to economics this way:

“Even though I had grown up as a Republican, I didn’t know why I was a Republican until I studied economics. I suddenly saw how free-market economics provided the maximum good to the maximum number, and I became convinced that if I had an opportunity, I’d like to serve in public office and further the cause of the free market.”

This is not a unique story. Robert Bork, who took economics at the University of Chicago Law School, recalled the experience as a “religious conversion” that “changed our view of the whole world” (quoted in Sidney Blumenthal, The Rise of the Counter-establishment, p. 303).

Introductory economics, and particularly the competitive market model, can be seductive that way. The models are so simple, logical, and compelling that they seem to unlock a whole new way of seeing the world. And, arguably, they do: there are real insights you can gain from a working understanding of supply and demand curves.

The problem, however, is that the people who are most captivated by the first theorem of welfare economics (the one that says that competitive markets produce optimal outcomes) are often the least good at remembering the assumptions that don’t apply and the caveats that do apply in the real world. They forget that the power of a theory in the abstract bears no relationship to its accuracy in practice.* As Paul Samuelson said in one of my two favorite passages of the original edition of his textbook (p. 36):

“Even [Adam Smith] was so thrilled by the recognition of an order in the economic system that he proclaimed the mystical principle of the ‘invisible hand’: that each individual in pursuing only his own selfish good was led, as if by an invisible hand, to achieve the best good of all, so that any interference with free competition by government was almost certain to be injurious. This unguarded conclusion has done almost as much harm as good in the past century and a half, especially since too often it is all that some of our leading citizens remember, 30 years later, of their college course in economics.”

Hensarling, who likes to quote market principles in the abstract, doesn’t appear to have moved on much from Economics 101. The Dodd-Frank Act, he has said, “is gradually turning America’s largest financial institutions into functional utilities and taking the power to allocate capital—the lifeblood of the U.S. economy—away from the free market and delivering it to political actors in Washington.” The alternative he proposes is to “restore market discipline, end taxpayer bailouts and protect consumers with innovative, competitive markets policed for fraud and deception.” This ritual invocation of markets ignores the fact that there is no way to design a contemporary financial system that even remotely resembles the textbook competitive market: perfect information, no barriers to entry, a large number of suppliers such that no supplier can affect the market price, etc.

As Samuelson continued, our economy “is neither black nor white, but gray and polka-dotted.” Regulatory policy that presumes well-functioning markets that don’t exist is unlikely to work well in the real world. Actually, Bill Clinton and George W. Bush tried that already, and we got the financial crisis. But to people who believe in economism, theory can never be disproved by experience. Hensarling is “always willing to compromise policies to advance principles,” he actually said to the Journal. That’s a useful trait in an ideologue. It’s frightening in the man who will write the rules for our financial system.

* Actually, one could argue that, because of competition among theories, those that are more powerful in the abstract are less likely to be accurate in practice.

9 responses to “Jeb Hensarling and the Allure of Economism

  1. Economics is a road less traveled once a fiat system of monetary policy is followed without a truth in design, manufacturing and advertising.

    Had the nation defaulted on its obligations after 1964, and the chance again in 1971, rather than increase interest rates and the cost of living on its citizens, (sure there would have been an economic hangover, yet once the pain of the debt hangover was over with) the healing could have begun.
    Instead we extended the debt hangover and tapped the citizens to continue the political drunken spending spree. The chance to default on the 30 year high interest E-bonds was another opportunity to heal the economic middle class pain, instead we got a fabricated crisis in 08 to extend the middle class debt hangover and the end result was more debt and a raise in the cost of living. At no time was a truth in design considered as a solution to the political problem. Why? Because our gvt and citizens are not that good and could never follow up and achieve this necessary nutrient of life.
    Economism would work if proper laws were enacted to make it work. A default on debt, pensions, and a fair tax only at the cash register, along with a truth in design, manufacturing, and advertising are required to achieve this simple task.
    Auditing the Fed, then an economic bankruptcy, and a return to the gold standard will force politicians to rethink their failed policy’s and bring the cost of living back down to Earth, and Trump has the experience and ba_ _s? to do it. If not now, when?

  2. You quote and question Hensarling saying” The Dodd-Frank Act is gradually turning America’s largest financial institutions into functional utilities and taking the power to allocate capital—the lifeblood of the U.S. economy—away from the free market and delivering it to political actors in Washington.”

    And of course Hensarling is right in that. The risk weighted capital requirements for banks distort completely the allocation of bank credit to the real economy. And nowhere is that so clear as with the assigned risk weights of 100% for We the People and 0% for the Sovereign.

    Try to get an answer from any regulator on the following questions and then come back and illuminate us.

  3. Economism seems like another good example of thinking on the surface.

  4. This is HILARIOUS!!! A supposedly smart man is basing policy on a perfectly competitive model that bears an absurd at best and zero at worst relationship to capitalist reality!!!

    This clearly supports the position that the purpose of neoclassical economics isn’t scientific (How could it be?), but ideological. Neoclassical economics presents capitalism as the best of all possible worlds. Therefore, why would anyone want anything else. Mike Crapo and Jeb Hensarling have swallowed this ideology, not science, hook, line and sinker!

    If the implications of their policies for the working class, poor and elderly weren’t so pernicious, then they could just be ridiculed. Unfortunately real people will suffer if their ideologically loaded propositions ever become policy.

    Oh, and by the way, if anyone would like to provide a reference for empirical evidence of the foundational neoclassical assertion that equilibrium prices are determined by supply and demand curves, it would be greatly appreciated. And if there isn’t any, why do you hold this theory?

  5. The flesh-eating bacteria created by the theories of “fraudclosure” marches on….can’t wait to see what all these real estate moguls will do to provide “empirical” evidence that “…not everyone DESERVES to own a home….” when the real fact of “policy” is “….everyone deserves protection against predators….”.

    “Economists” – just another word for “protected predators”.

  6. Economics 101 teaches you that the market will pursue the highest profits.

    That’s why if regulators tell banks you can leverage more with what is safe than what is risky; so banks earn higher risk adjusted returns on equity on what’s perceived as safe than on what’s perceived as risky; then banks will lend too much to what’s perceived as safe and too little to what is perceived as risky; and then the regulators have de facto decreed inequality.

  7. Well Per, thats because there is a law for unins(the sovereigns), and a law for weins(the people), and they aint the same law.

    My take is, if there is a law that needs to be changed, and you can not change it, you must BREAK it.

    And oh yeah, we had to destroy the human race, in order to save it, everyone, prepare yourselves to be thrown under the stinkin BUS! As it’s moving.

    Annie, nobody professes their innocence so loudly, as the GUILTY!

  8. The Federal Reserve Board has got to go….they have broken every one of their own “laws” for existing and have made that law breaking LEGAL.

    The deeper you go into FRB-speak, the clearer this TRUTH becomes:

    And lo and behold, a miracle hath occurred at Saturnalia – the most censored book on the planet – The Urantia Book – was patiently kept under lock and key until it could emerge as a corporation “person” trading in “refined oil products” – the “less risky”…

  9. Annie, I question the sanity of people who have far greater importance than the FRB, you cant reason with insanity, and that’s all the FRB has left in the tool box, too many democrats having sex in the basement and then spreading their ideologies in public. The human race is suddenly a disaster and only getting worse from here on out. Should it last I ask myself, a resounding no is the answer. Can it last, yes, but the consequences go beyond outer orbit, these are those who’s sanity I question.