Let's start with the Keynote Speech: "The Possible Misdiagnosis of a Crisis" by Richard Roll,Japan Chair of Finance, UCLA & 2009 IAFE/SunGard Financial Engineer of the Year Winner
* The recent global financial crisis has been blamed on several factors
* Elementary principles of finance suggest that none of these explanations are likely
* There is an alternative diagnosis consistent with financial principles
* The current treatment may be exacerbating the symptoms
In his talk he used 3 hypotheses to conclude that the current crisis is due to the government's increased share of national wealth in the US economy at the expense of the private sector:
H1. The some of all assets equals the sum of liabilities on a balance sheet.
H2. Merkets are forward looking
H3. Total wealth in an economy decreases as the share of government ownership increases. As a way of benchmark he put forward the statistic that a 20% increase in total wealth by the government results in a 50% decrease in aggregate wealth.
H1 is axiomatic; H2 is reasonable. H3??? Well...
From these hypotheses he reasoned that the total loss of wealth in the US Economy caused by the real estate bust was due to an increase ownership of the government in the US economy.He stated that this was a fact that had been observed in many other countries including China India, Brazil. The more government retreated from the economy the more aggregate wealth increased.
First of all I have to tip my hat to him for sticking his neck out there and saying something that stirred strong emotions.
However, I was really surprised that such an eminent and seasoned scholar would make such an extraordinary dubious claim as in H3 and back it with such little evidence in a keynote speech.
The most compelling evidence to disprove this argument is a comparison of loss of wealth in the US during the dot com bust and the real estate bust. The dot com bust occurred in an environment where more laiseez faire, welfare reform arguments were the dominant philosophy with the repeal of the Glass–Steagall Act, the incoming republican administration and all that.The real estate bust in 2007 triggered a more aggressive government interventionist posture in the real economy. For a comparison, I turn to Jeffrey D. Benson of the blog American MacroEconomic Dynamism:
"How much wealth has actually been destroyed in the current housing decline versus the 2001 tech burst? According to the Case Shiller Indices (the most accurate housing guage available) In 2006, the value of U.S. residential real estate totaled US$ 22.4 trillion. Since this recording the national pricing indices (based on 20 metropolitan areas) has decline 19.87%. This is a loss of asset valuation equal to $4.5 Trillion. To put this loss into perspective, according to the International Monetary Fund the U.S. Gross Domestic Product in 2007 was 13.8 Trillion. So is this decline in value a direct hit to the Net Worth of the United States. Absolutely. If the value of liabilities declined proportionally to asset price then the answer would be no, but they clearly do not. The United States has significantly overstated it's wealth. Sound familiar?
In 2001 the Dot.com bubble was another significant overstatement of wealth. The Nasdaq Composite Index is a market capitalization weighted index of more than 5000 stocks. Comprising all Nasdaq-listed common stocks, it is the most commonly used index for tracking the Nasdaq. The Dow Jones Wilshire 5000 Total Market Index represents the broadest index for the U.S. equity market, measuring the performance of all U.S. equity securities with readily available price data. No other index comes close to offering its comprehensiveness. For comparison, the NASDAQ listed securities compose 19% of the 5000 Total Market Index. The Market Capitalization of the Dow Jones Wilshire 5000 Full Cap was $16.7 Trillion as of April 30, 2008. Comparatively, the market cap at the end of Q1 in 2000 was approximately $16 trillion (only slightly smaller). However, between 2000 Q1 and Q1 2003 the index lost a stunning 43% of its valuation. In other words, $7.1 Trillion of wealth was lost."
In order to make a statement on China, the proxy by which a comparison would be made is India. Here again In China, we have state capitalism and a government controlled economy. India has a more liberal democratic tradition. So far China has outperformed India year after year for the past 3 decades.
In Russia, the failure of liberalization policies of the early 1990s led to the strong state reassertion and state capitalism under Putin with popular support.
In Africa in the late 80s and 1990s, the IMF liberal orthodoxy led to the crumbling of national welfare in so many economies...
And on and on and on....
How could such a respected scholar and from all appearances a nice and sound minded person make such a claim, I am still scratching my head...
As I have made the case many times before in my BICs book and Knol collection and blogs, the role of government is bound to increase as population density increase, and this is due to what I have called the holistic theorem.
References:
The 2010 IAFE Annual Conference
Housing Bubble vs. Tech Bubble Loss of Wealth in Dollars denominated terms by Jeffrey D. Benson of the blog American MacroEconomic Dynamism
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