February 2, 2010

The Popular Thing to Do

Posted in Macroeconomics at 12:45 am by Eamon Aghdasi

It’s rare that the right thing to do economically is also the popular thing in the eyes of the general populace. But that’s exactly what seems to be the case with some of the proposed banking reforms. So why isn’t reform easier?

The proposed financial reforms announced by President Obama — including new rules  to limit the size of “too big to fail” banks that create moral hazard — has been casually referred to by commentators in TV and print as “populist”. The most common argument is that now that the Democrats lost the special senate election in Massachusetts, they’ve got to pander to the American public by demonizing the easy-target banks. But now there are a handful of people challenging this, arguing that just because something is popular, that doesn’t make it populist.

One of those people is Simon Johnson, former chief economist at the International Monetary Fund who’s now at MIT Sloan (where else). He wrote in Baseline Scenario recently:

“The fact that dramatic banking reforms would be popular does not make them populist.  It merely means that a broad cross-section of our population has woken up to part of our appalling reality.  Sure, they are angry – but with good reason, and the remedies they seek are entirely appropriate.” (Full entry here.)

I don’t want to make this blog a political forum, but I have to unequivocally side with Simon Johnson 100% on this one. He’s been right on this issue for months. The president is now experiencing a policy that has that rare combination of overwhelming popular support  and actual policy integrity. People are angry at the near-fatal financial collapse and the enormous bail-out and stimulus funds needed to avoid an economic cataclysm. Now we have nearly every famous economist making the case that without serious financial reform, we’re bound to face a “doom loop” of collapse and bailout until the problem is fixed.

So don’t call this particular popular policy “populist”. There are plenty of policy ideas floating around — even in this country — that deserve that tag.

The only question is: If financial reform is both politically and economically smart, why isn’t it a sure thing? To understand this one, consider that by some estimates the biggest four American banks now hold about half of the nation’s deposits and two-thirds of credit card balances. Then read my last entry.