Luigi Zingales wrote an excellent article for City Journal, called “Who Killed Horatio Alger?” He lays out very clearly how a meritocratic society works, and the diversions that can take us off that track. He says this is what’s happened with the bubbles and bailouts, and that they risk ending our belief in a meritocracy. He identifies a crucial agenda to reasserting it, which he calls, I think aptly, “pro-market.” It is neither anti-business nor pro-business. Rather it asserts that the rules of a market should rule in the economy: When you succeed, the reward you receive from the market should not be pillaged. You get to keep the lion’s share of it. When you fail, it’s all on you. Do not expect the government to back you up. He points out that a “pro-market” agenda does not have a lot of political allies right now. Pro-business, particularly big business interests, and anti-business interests are on the same page: Neither of them like the market approach.
Zingales does a great job of describing what’s different about the political realm vs. the market, and how culturally similar business monopolies are to political institutions.
I think he puts forward a legitimate warning that if we don’t stop doing the bailouts when future market crashes happen (and they will happen), the free market principles this country has used since its founding will go away, and may never come back, because people will see that using free market assumptions in their own lives don’t pay off when society doesn’t believe in them.
The alternative in such a scenario is to see success as purely a matter of luck, not merit, and that there is nothing fair about it. This provides a rationale to redistribute income to the less lucky, and for government to pick winners and losers in the economy, favoring some businesses or industries over others. The position of industries in the market would be seen as purely arbitrary, a matter of luck. He points out that redistribution leads to economic stagnation, because there is no incentive to create new wealth in that scenario.
Here are some salient quotes from the article:
[T]his rosy picture obscures a hard fact: meritocracy is a difficult principle to sustain in a democracy. Any system that allocates rewards on the basis of merit inevitably gives higher compensation to the few, leaving the majority potentially envious. In a democracy, the majority generally rules. Why should that majority agree to grant a minority disproportionate power and rewards?
America … encouraged meritocracy from its inception. In the eighteenth century, the social order throughout the world was based on birthrights: nobles ruled Europe and Japan, the caste system prevailed in India, and even in England, where merchants were gaining economic and political strength, the aristocracy wielded most of the political power. The American Revolution was a revolt against aristocracy and the immobility of European society, but unlike the French Revolution, which emphasized the principle of equality, it championed the freedom to pursue happiness. In other words, America was founded on equality of opportunities, not of outcomes.
When the difference between a comfortable retirement and an indigent one is determined not by hard work or by a frugal lifestyle but by lucky timing in buying or selling your house, people start questioning the fairness of the market system. The fact that the real-estate bubble was the second large bubble to pop in less than a decade further undermined trust in markets as a good indicator of where to invest resources.
Though he doesn’t get into this, in my mind the third quote relates to monetary policy. The Fed kept interest rates low in the 1990s for an extended period of time. Fed Chairman Alan Greenspan said that there was no fear of inflation, due to increases in productivity from the computer/internet revolutions. The Fed’s easy money policy likely was a major contributor to the dot-com and telecom bubbles that burst in 2000. The Fed returned to an easy money policy in 2001, which fueled the housing bubble, and led to its subsequent collapse. It continues to implement an easy money policy to this day. That needs to change if Zingales’s pro-market agenda is going to work. All this policy has done is led us to ruin.