A Critical Review of The Stiglitz Report
Is the World's Financial System on the Verge of Collapse?
Edward J. Dodson, Moderator
GroundSwell, January 2012]
The following write-up by GroundSwell editor Nadine
Stoner is from a panel presented at the Aug. 5, 2011, Council of
Georgist Organizations conference held in Bloomington, MN. Moderator
Edward Dodson is a retired financial analyst for Fannie Mae, and
also the Director of the School of Cooperative Individualism. Dr.
Mary (Polly) Cleveland is adjunct professor at Columbia University
School of International and Public Affairs, and also Executive
Director of the Association for Georgist Studies. Dr. Nicolaus
Tideman is a Professor of Economics at Virginia Polytechnic
Institute [NT1], and author of numerous articles. Fred Harrison is
an author (most recent book The Predator Culture, and also Boom
Bust) and journalist. Not present for the panel but who submitted
papers about the Stiglitz Report were Dr. Fred Foldvary and Adele
Wick, whose papers are posted on the website of the School of
Cooperative Individualism, www.cooperative-individualism.org.
The Stiglitz Report is posted on the web at
www.stiglitz-sen-fitoussi.fr/documents/report_anglais.pdf. Titled Report
by the Commission on the Measurement of Economic Performance and
Social Progress, the Commission was instigated in 2008 by French
President Nicholas Sarkozy, who asked Joseph Stiglitz, Economics
Professor at Columbia University (president of the Commission), Jean
Paul Fitoussi (coordinator) and Amartya Sen (advisor) to create the
international commission of distinguished professors, economists, and
financial specialists. The Report is addressed to political leaders,
policy makers, the academic community and statisticians, and also to
civil society organizations.
Moderator Ed Dodson opened the panel discussion with the comments
that there is almost no consensus in the Georgist community about what
ought to be done about reforming the global monetary system. We argue
about the definition of money, about the role of banks, whether banks
should be owned by the government and the money supply created by
government or privatized. At the same time of our global crisis, the
Stiglitz Report was published in 2010 analyzing the causes of the
global meltdown and providing recommendations of what ought to be
Major conclusions reached by the Stiglitz Commissions were as
- The financial and economic crisis was caused by a combination
of private sector activities and flawed public policies.
- Changes in law and policy were driven by an ideological bias
that markets are self correcting.
- Movement to market-oriented economics systems benefited many in
some countries but worsened life for many in others where the
primary economic activities are natural recourse exploitation.
- In many developing countries environmental degradation has been
a serious consequence of the global financial structure.
- Globalization has been accompanied by high levels of
instability, particularly in developing countries.
- Massive rescue packages have so far staved off global
depression, to a certain degree positively by stimulating spending
to address long-term environmental problems.
- Global discussions have been taken over by the G-20 nations,
but too many nations remain excluded from such discussions.
- The need for financial reform is broadly recognized, but there
is yet no consensus over needed changes in laws and regulation
affecting corporate governance, competition and bankruptcy.
- There remains significant concerns over protectionist steps
adopted by some governments.
- Reforms must reflect a broad view of social justice, poverty
reduction and protection of the environment.
- Current institutional arrangements must be greatly
strengthened, reformed and made independent of political
considerations to be effective.
- The need for a new global reserve system is critical to resolve
problems of shrinking aggregate demand.
For the CGO conference Ed had recruited the panel to review the
Report and posed a number of questions for discussion.
Question 1. Is the Stiglitz team correct that financial markets are
Nic Tideman: Sometimes. Fred Harrison: It is self-evident they are
not self-correcting at the point where some fundamental problem arises
where people of their own volition are unable to overcome the
obstacles that prevented the market from functioning. Is that the
fault of markets or because of some other consideration is the
question Stiglitz didnt address.
Economists like the term market failure because it gets them off them
off a lot of hooks. They tend to blame the market if something goes
wrong and they dont know why it went wrong or dont know
what to do about it. So it is a market failure and it apparently it
does self correct at times. They actually should be recognizing that
what we have is a failure of governance, and if we want the market to
continue functioning in the way it would if there were no prior risks
then we need to attend to the problems of governance. The problems of
governance are almost totally ignored except as addressed in a
fundamental way by Stiglitz.
Polly Cleveland: Financial markets are not self correcting in any
kind of market where there is a long time on the horizon and where
there is uncertainty. They are not self correcting, and it requires
some kind of regulatory involvement to insure against fraud and to
make sure there is good information. That is the financial, insurance,
and real estate markets. None of these are self correcting because of
long time expanse involved.
Q 2. There is no mention of a need to return to a distinct separation
between commercial banks and investment hanks. Is this a serious
oversight by the Stiglitz Team?
Polly C: Yes. On the other hand they may be realizing we have got the
shadow banking sector which is very hard to control anyway. There are
the investment banks and commercial banks but there is also the shady
side that is very hard to regulate, like derivatives.
Fred H: It is called oversight. In the report we see both the
Stiglitz team and rest of the world and media talk about banks that
are now too big to fail, because they merge a variety of functions
into single institutions that put us over a barrel. We need to start
breaking up those financial institutions, but that then enters into
dangerous territorial waters for economists and policy makers because
they dont like the idea of too big to fail, or they dont
want the risks of the political cost of discussing breaking up banks.
It wasnt about oversight. Intuitively they couldnt
actually enter into that discussion. I dont believe bankers
actually embarked on activities leading to the credit crunch thinking
if we take too much risk, it doesnt matter because the taxpayers
will bail us out. It is just the way it worked out. Politicians are
not actually willing to address these issues of financial institutions
the structure, the density of the financial institutions
because of what they perceive to be political risk.
Nic T: I would fault the Stiglitz Commission for a slightly different
The fundamental problem is fractional reserve banking, which we
should get rid of entirely. There is a recent book by a professor of
economics at Boston University, Laurence Kotlikoff, with the unusual
title, Jimmy Stewart is Dead, referring to the film, Its a
Wonderful Life, which tells a story of a crisis at a savings and loan
association. There is something fundamentally fraudulent about taking
peoples money, promising they can have it back whenever they
want, and then investing it. Kotlikoffs suggestion is to tell
people: Either you put your money in a bank, it stays in a vault and
you pay a small storage fee. Or you invest it in a mutual fund. But
dont have institutions that take peoples money for
investments and then create systemic risk by telling them they can
have it back whenever they want it.
Fred H: The Stiglitz Commission was asked to examine the present
institutions and what to do about them. If there is going to be a move
into alternative models they first of all have to deconstruct the
current financial system to explain why it is not functioning properly
and therefore the need to do something about it. Economists and
politicians complain about the world financiers taking risks. They can
afford to do so because the taxpayers will bail them out. The
politicians and economists complain about others failing in their
moral duty to address reform in a way that would allow voters to
decide if we want to take action to break up banks that are too big to
fail. There was a serious lapse of responsibility in my view by this
commission that didnt push issues in a way they should have. I
do think they ought to have examined the issue of the structure of
banks. Was it an oversight or was that a deliberate sidestepping of
Nic T: I think there is a tendency of people with responsibility for
international financial affairs to limit their purview to commonly
considered possibilities. The Stiglitz Commission was a bit
adventuresome in the range of reforms considered. I wouldnt have
expected them to take into account something like fractional reserve
banking because it is too far off the beaten path to be expected of
them. I think such ideas have to come from farther afield.
Polly C: The separation between commercial and investment banks is a
U.S. policy but not a worldwide policy and this was a worldwide
Commission of experts in finance.
Q 3. The Stiglitz Team has nothing to say about the responsibility of
the bond rating agencies for the proliferation of private placement
mortgage-backed securities collateralized by no doc
subprime mortgage loans. What should be done about the rating
Nic T: I dont know enough about rating agencies to know the
answer. It was a terrible way for the rating agencies to behave, but I
am not aware of any reform that we could implement that would do
anything about it. The rating agencies clearly did a terrible job. The
market will bring about some reforms and the rating agencies, at least
for a year or two, will have to be more careful about how they make
Fred H: Those of you who saw the documentary Inside Job understand it
was all a game, a charade, and the credit rating agencies were part of
that game to milk the system as best they can by pretending they are
behaving responsibly and even behaving responsibly at times. But when
temptations get great that is when they get into their devious tricks.
The rating agencies participated in this scam by according ratings
that suggested the risks were low but it got out of hand. They were in
this cozy circle of institutions and individuals who were drawing fat
fees out of their activities involving the subprime mortgages. It is
impossible for us to expect individuals or institutions exposed to
temptations to behave any other way than they did. Rating agencies
underestimated risk when they should have been warning people. There
were clear incentives to mislead people. Their clients were requiring
ratings of the kind that enabled them to earn the fees they were
receiving. There is not much we can do about the rating agencies at
the present time under the existing value system and institutional
arrangements. The only way to address problems with any one element in
the whole framework is to change the whole system itself
fundamentally. Otherwise, you cant expect the rating agencies to
behave like angels when the people they are relating to are behaving
like devils. They are all in the same game. We cant expect
rating agencies to behave anything other than according to what they
are allowed to do which is determined by the incentive built into
system. We cant do anything about it and that is why Stiglitz
said nothing. Fundamentally they dont address what is driving
the system. Polly C: There are three rating agencies: Moodys, S&P,
and Fitch. Whats wrong with them is they have a monopoly.
Legally for government agencies or corporations or that kind of thing
you have to get ratings from one of them. They have a legal monopoly
because there is no competition. They are paid by the people whose
bonds they are rating. They are not paid by people who are consumers
of the ratings. How that might be arranged for ratings to be paid for
by consumer, I dont know. Two things are wrong with the rating
agencies: monopoly and they are paid by the providers.
Ed Dodson commented. I spent 20 years at Fannie Mae. We were the
nations largest issuer of mortgage backed securities. The reason
the subprime market exploded on Wall Street was that our credit risk
people refused to accept those loans as collateral for mortgage backed
securities. When our credit risk management people ran them through
credit risk models, the charge that would have had to be made to
lenders, called a guarantee fee, was 50 times greater than basis fees
charged on a conventional mortgage loan. Our Fannie Mae credit people
knew this was toxic and doomed for failure, and Fannie Mae didnt
participate. As a result, bond rating agencies took over the
responsibility which they were not prepared to do. To the extent they
had any people in their operation who had the technical ability to
underwrite mortgage risks they ignored them. The outcome was
inevitable. I think most of people I knew in the industry knew what
was going to happen.
Fred H: Polly rightly points out there are only three rating
agencies. But they dont have a monopoly on the rating risk. This
was a collective failure. If the rating agencies who were saying this
is low risk, where were the market analysts saying they are wrong.
Where was the media saying risks are rising way above what originally
was suggested? What was stock market doing? There was a collective
engagement in same attitude and the rating agencies participated in
that psychology. It is too easy for the rest of us to get off hook
for us by blaming them.
Q 4. Is there anything in the report that would seriously restrict
the ability of the United States government to continue accumulate
Nic T: There is a warning in the report, but the report also points
out that the debt of the U.S. operates to provide reserves for other
countries, and other countries want reserves. So we have a conundrum:
The system is likely to be ineffective somewhere. If other countries
get all the reserves they want, then the U.S. is likely to have
accumulated too much debt. The report suggests that we need a system
of international reserves that doesnt depend on the U.S. running
a deficit. But once we install this improved reserve system, people
will not have as much interest in holding American debt, so there
might be a collapse in the market for American debt once we get the
international reserve system.
Polly C: I agree with Nic. There was at least a hint that they could
get an international system running and then people would leave
American treasuries to go to this international reserve system. I dont
think an international system is likely to work or get off the ground.
Fred H: Debt is to our kind of economy what heroin is to the addict.
There is no way in which the U.S. government could be allowed to yield
up its right to create debt because the system would cease
functioning. Whatever Stiglitz might have suggested, the pressures
from other countries and pressures for domestic needs of the people in
the U.S., etc. are such that given current awareness of acceptance of
the economic system as we have it there is no way of getting around
this problem of continually increasing indebtedness of the U.S.
Q 5. Do you concur with the Stiglitz teams conclusion that the
subprime mortgage crisis was an outgrowth of a dramatic increase in
the supply of credit generated by the global capital markets,
a widespread failure of central banks to dampen the speculative
increases in housing and other asset prices, and lax
financial regulation in the United States and several other
Polly C: I agree. The only thing missing from statement is that there
was outright criminal activity which is not getting prosecuted. The
Attorney General of New York, Eric Schneiderman, is trying to stop a
sweetheart settlement between the Bank of America and the Bank of New
York. There has been massive criminal activity.
Fred H: Why was this happening? What was driving it? Were governments
in hock to financiers so they felt they had to lighten up the
regulatory system, because they did. Even if we had a tough regulatory
system would it have made any difference ultimately? The sheer force
driving activities that led to such subprime problems was such that I
dont believe a tougher regulatory system would have prevented
what actually happened. Global markets would have continued to swirl
around dumping money where the biggest wind fall profit could be made.
No one was interested in dampening the speculative increases in the
housing market anyway. Something fundamental was missing in this
analysis. Policy makers today are supposed to be looking for
solutions, and they werent finding any in the regulatory system
as defined now. I am talking about central bankers having to control
credit. They were not willing to get to the heart of the problem.
Nic T: The problem was greed, stupidity, and fraud. There were some
people who understood that these mortgages were garbage but the
issuers were always able to find buyers because the mortgage-backed
securities were guaranteed by large financial corporations. For a long
time the main culprit was AIG who didnt know what they were
doing at the time. The new head of corporation didnt understand
the financial market and was more of a marketing person. The people
running the mortgages were more mathematicians than economists. They
didnt think it could possibly happen that housing prices all
around the U.S. would fall at the same time. They thought that by
mixing mortgages from different places they were adequately insured.
They were not properly trained for what they were doing. AIG finally
did figure it out. But by that time they were too deeply involved to
get out. There were other people at Wall Street banks who were envious
of all money AIG making, and they replaced AIG after AIG refused to
guarantee any more mortgage-backed securities. There was a lot of
stupid copy-cat behavior and thats how Wall Street got into it
as well. By the time the banks figured it out, they were in so deep
that they couldnt get out.
Polly C: Something not mentioned here was the growing inequality of
wealth and income. The greater the inequity the more you have a small
elite controlling a great deal of the wealth of the economy, and the
small elite were looking for a higher return on investments. So part
of the scramble to create collateralized debt obligations and then
insure them with the credit watchdogs was to continually provide
supposedly AAA safe investments for this wealthy elite. The growing
inequality played a big role in this bubble and why this bubble was so
much worse than the one 18 years ago and the one 18 years before that.
Fred H: Nic described the situation, the states and AIGs role.
We cant put the burden on one institution. AIG didnt
operate in Ireland or the UK or Spain where we have the same events.
Our guys were reasonably honest in the UK. It is a mistake to look at
what happened in terms of collective stupidly. I think they knew what
they were doing and were required to do it that way. If we dont
like it, there is no good in blaming the individual or institution for
a systemic process that nurtures that kind of activity. When the
Stiglitz Commission turns the focus on individuals, it is great for
the system because the good guy shoots the bad guy and the system goes
on repeating the same mistakes. Dont let the system off the hook
by allowing politicians and worthy commissions to focus too sharply on
a few crooks. Some of them were crooks but most of them werent.
We, like most homeowners, didnt complain about what we were
pocketing so why complain about what they were pocketing. It is the
system that needs to be attended to.
Ed Dodson: I have a follow up observation. The argument for
deregulating banks in the Reagan era was that the global economy was
growing fast and required financial institutions to be able to respond
to global financial needs. Deregulation allowed them to do business
not only across states in the U.S. but to engage in acquisitions and
mergers internationally that would diversify business loans
geographically. Therefore, they would be immune to regional economic
downturns. Is this systemic or is this simply a logical outgrowth of a
series of mistaken policies based on inappropriate assessment of where
the global economy was?
Fred H: Economics operates in two hemispheres two parallel
universes. The authorized discourse of the free markets, and Reagan
was expressing wisdom as far as the market is concerned, as practiced
in capitalistic economy was rational. The culmination was the sub
prime mortgage. The other reality in a parallel universe was what
Reagan was saying, while it ought to be sensible, would be if the
system was operating efficiently as he was told by economists it was.
If all the assumptions were true, what he was prescribing would have
made sense. The underlying realities of the economy contradict that
wisdom but nobody was around to suggest that to Reagan and Thatcher at
the time, and they are not doing it now despite all the study by
commissions such as Stiglitz.
Polly C: AIG was operating internationally. The little shop within
AIG that caused all the damage the one that created and sold
credit to foreign shops all over the world was located in the
UK. This was a sort of a rogue shop. They didnt know what they
were doing. Goldman Sachs took advantage of them and Goldman Sachs
took advantage of the Fed to force AIG to cough up the entire value of
the credit default shops that had been bought. The Feds paid by
bailing out AIG. Talk about mega corrupt maneuvers. The book by Dani
Rodrick, The Globalization Paradox, points out that within a country
you can have a certain amount of regulatory control over your
institutions but internationally there is no global institution that
can control an internationally operating corporation. In the same way
you cant claim multinationals are engaged in free trade because
they are engaged in trade free of the restraints that they would be
operating under in a sovereign nation in the same way you can control
corporations within your own country.
Nic T: I dont have much faith in regulation. It seems to me
ineffective to focus on the problem of regulatory capture. I would
focus instead on the problem of being too big to fail. There is
something tragic about having organizations that are too big to fail
and then heaping the cost of rescuing them onto taxpayers. If they are
too big to fail, that seems to me to be reason to break them up. If we
have to rescue institutions because they are too big to fail, then it
is important to rescue them in ways that are as painful as possible to
the equity holders and bond holders that got us there.
Ed Dodson: when I started at Fannie Mae in 1984 , we got 80% of our
business from about 150 lenders. When I retired in 2005, 80% of
business was from 10 lenders.
Fred H: It is too easy to blame the crooks. We had a collective
failure of paradigm. An example is in 2005 when Boom Bust was
published. Merrill Lynch in London said come in and talk to some of
our most favored clients. They invited me to their board room and gave
me the freedom to address their clients. I described what would happen
in 2-3 years. Merrill Lynch in London couldnt actually respond
in a way that would have protected that institutions investors
and their money because they were operating under the influence of
their headquarters in New York. They didnt have the wisdom to go
to the people within Merrill Lunch, the decision makers in New York,
to ask is Harrison correct. They didnt make any constructive
responses. They went down like everybody else. It wasnt because
they were crooks and it wasnt because they were conspiring to
make super profits by duping their clients. It was a lack of
imagination or understanding. They were behaving rationally. I had to
be deviant one. They couldnt fit what I was saying into the
consciousness of that institution or how the market works. We need a
commission to examine the system itself it as opposed to individual
failures. Until then, we wont make progress in reaching that
collective unconsciousness that protects the system commissions
like Stiglitz with their paradigm conclusions that dont actually
challenge the fundamental powers.
Q 6. Is there any merit in the Stiglitz teams called for a
new bank or banks operating without the bad debts of the failed
institutions but without a competitive advantage over
Nic T: A distressed bank is sometimes divided into a good bank
and a bad bank. The bad loans are put into the bad bank,
which gets bailed out, while the rest of the institution is
restructured in such a way that it can operate without being dragged
down by its past mistakes. This is socialism for the rich, facilitated
by high barriers to entry into banking. I think it would be more
effective when banks get in trouble to kick out the bankers, let
investors to lose their stakes, and bring in someone else. The
difficulty of starting new banks makes people reluctant to endure a
transition period before new banks emerge, so they come up with rescue
plans. I dont know if that is the best available option.
Polly C: This refers to proposals in the process but not tied down
that we need to charter brand new banks but not so gigantic they are
too big to fail that could engage in commercial lending because they
would have a clean balance sheet. The problem with the too big to fail
banks that are sitting on bad assets is they dont want to write
them down because they would be insolvent. They get 0% interest money
from the Fed and play in the derivatives market and that way they are
rebuilding their real balance sheets. Meanwhile, nobody is doing any
productive lending for real investment. There is a severe credit
rationing going on. The idea banks arent lending because
businesses are not borrowing, because everybody is waiting to see what
happens, is not so for small businesses.
Fred H: I find it pathetic that commissions with people like Stiglitz
should be concerned about not giving a competitive advantage to any
new institution. Ireland has attempted to rescue some part of the
system by hiving off all bad debts onto taxpayers with a new
institution holding them, trying to clean up operations of the
remaining banks. Why should we be concerned about competitiveness when
people being rendered uncompetitive are people who are ultimately
having to carry the cost for this kind of behavior, which is the
people of Ireland who have been made unemployed, who will be losing
entitlements they need to receive because of the need for government
to cut spending programs. It is a competitive advantage. When did the
system worry about competition right up to point where we are today?
We want competition but in the end they will reconstitute the system
so that people will end making super profits and politicians will
derive benefits from that process.
Polly C: The way I understand what they mean by competitive advantage
is that these banks would not have special government guarantees or
favors because too big to fail banks can get money cheaper and get
better investors because they have this government guarantee. I think
it means not having a competitive advantage without government
guarantee that would give them an advantage over ordinary banks
Q 7. The Stiglitz team writes that environmental resources must be
appropriately priced in order to lessen global warming. The report is
silent on specifics. Is charging market rents the right policy choice,
or the only effective policy choice?
Polly C: If you charge market rents, if you charge for emissions of
carbon dioxide, for the public you certainly are charging for use of
the atmosphere as a dump. If we assume air belongs to everybody we
ought to be charging polluters for their emission of pollutants into
commonly owned air and water. Peter Barnes thesis,
capanddividend.org, is a good proposal for how to charge. If thats
what is meant, they are on the right track but they are too vague
Nic T: The use of the word rent here is atypical, but
reasonable. Pollution taxes are like rent in that they represent a
charge for use of common resources. Charging such rent isnt the
only available policy. One could only determine the appropriate number
of permits and auction them off. The cap-and-auction system requires
that you know what the right quantity is. If it happens instead there
is some social cost that prevails over a considerable range of
quantities, then it makes sense to set the price rather than the
quantity. I think it is better not to set either the price or the
quantity but rather to seek to identify the price-quantity combination
that represents the intersection of supply and demand. Any efficient
way of managing the problem requires people to pay for the harm they
Fred H: Now we are beginning to touch on Stiglitzs personal
problem. He understands Henry George economics and will say so
publicly and did as recently as last December in a speech in
Washington. He said what we have got to do is to return to Georges
idea of charging rent for natural opportunities. Yet when he gets the
opportunity to expound on and document what we are discussing, there
is no reference to this at all. He has the problem that he cant
say it because he is chairing a group of people who would not have
shared his view, so he couldnt intrude on the outcome of this
report. Two years ago I spent an hour interviewing Stiglitz in a
filmed interview. I put questions in such a way that he could have
commented about land and Henry George and he didnt.
In the end, I had to ask leading questions on the land component of
housing and the subprime issue. After the interview I gave him a copy
of Boom Bust and Ricardos Law. He flipped through it and said,
now I know why you asked me about land. He could not voluntarily up
come up with what he already knows to be correct, that it is the
incentives generated in land market that led to people behaving like
they do in mortgage markets.