From heads of the state to the humblest of commentators, one word has been on everyone’s lips of late: regulation. There is something pernicious about such
an abrupt turnaround, which in its unanimity recalls the financial sector’s
own logic, namely its propensity to encourage agreement by stifling
conflicting opinion. “Worldly wisdom teaches that
it is better for the reputation to fail conventionally than to succeed
unconventionally”, said Keynes of the excessive influence of market
In other words, contrary to the received wisdom, stock markets do not
produce conflicting opinions. They unduly favour mimicry among investors,
not for obscure reasons of crowd psychology, but because that is what good sense
dictates. Going against long-term market developments is too risky.
Everyone wanted the exorbitant profits procured through the sub-prime
market and its derivatives. If they hadn’t, they should have been in another
line of work. When everything is going well, conformity creates periods of
euphoria and speculative bubbles; when everything is going badly, it creates
widespread suspicion and a refusal to invest in anything except the safest assets.
One can observe in both cases the same inability to think outside the box dictated by the market. The intellectual consequences of mimicry are no less perverse
than the financial consequences. Media-friendly reasoning squashes debate and, as has been seen on numerous occasions, intellectual independence is its first victim.
A unanimous demand for regulation
Take deregulation. Much has been said about it, yet very rarely does anyone ever
bother to explain precisely what regulatory principles should be applied. “Regulation” in itself is absolutely meaningless. It serves only to expunge opposing positions taken in the past.
To understand this, one obvious fact should be recalled first: the deregulated
financial system is the result of a policy, i.e. a prescriptive model for society.
That policy was competition. In Naissance de la biopolitique [The Birth
of Biopolitics], a discussion of liberal thought, Michel Foucault wrote:
Pure competition can only be the result of a long effort and, in reality,
pure competition will never be achieved. Pure competition must and can
only be a goal, a goal which therefore supposes an indefinitely active politics.
Competition is thus one of the traditional aims of government. It is not a
natural phenomenon to be respected.1
Financially speaking, market efficiency lies at the heart of this politics of competition. The efficiency theory argues that stock markets always produce the
best possible valuation of securities, in other words valuations which integrate all the
available information. The accounting standards being criticised so harshly today,
which require the valuation of balances be carried out in conformity
with market prices, are a direct consequence of the efficiency argument.
Since the market provides the real value, it is logical that accounting
procedures take their lead from it.
It is wrong to believe that deregulation is synonymous with a comprehensive
laisser-faire attitude. Just consider the stock markets themselves. They are
the result of a complex set of rules specifying the stakeholders and the
conditions governing their involvement, such as the rationale behind the
formation of prices and many other parameters. These rules are entirely
determined on the basis of a particular analysis of the competition. Let us
remember too that liberalization was actively encouraged in France under
the Bérégovoy Government. Liberalization was the response
to an explicit strategy to abolish the restrictions limiting separations between
markets, precisely so they could allocate capital efficiently. The explicit
strategy was to create a single financial market where all stakeholders (banks,
funds, companies, individuals, states) could share in all maturities
(short-term, medium-term and long-term) using all the instruments available
(stocks, bonds, derivatives and currencies). It was a world of universal
interconnection and perfect, unhindered liquidity.
This utopia is perfectly logical. It is the product of theoretical, highly mathematical work which
has been supported for decades by hundreds of economists at the most
prestigious universities. It is known as “neoclassical finance”. In other
words, the norm of efficiency has a power that is simultaneously political,
economic and intellectual. This is important because the deregulation issue
cannot avoid it. It is at the heart of the debate. Depending on whether the idea
of efficiency is supported or criticized, profoundly different regulatory
policies will be promoted. Take speculation: clearly it is viewed positively
by this conceptual approach, since it is due to speculation that information
is transmitted to value. Speculation cannot be banned in this kind of
theoretical context. To do so would be completely incoherent. In this view, speculation
is judged to be perfectly stabilising, an idea staunchly defended by Milton
What are markets for?
Personally, I hold a different position, inspired by Keynes. Note that,
although Keynes has been quoted a great deal recently, there is nothing like a Keynesian finance
comparable to the neoclassical finance taught and studied in universities. Rather, a few researchers and professionals have taken a personal stance. The specificity of the Keynesian approach is to view the
financial markets with suspicion. Keynes definitely did not believe in
Following his line of argument, I would even say that such a concept had
no meaning for him. Keynes’s basic position was that, if the future is entirely
unknown, the idea of a correct valuation disappears. There are only subjective
valuations. Moreover, for him the purpose of the markets was not to
provide correct valuations, which do not exist, but to make investments
liquid; in other words, to ensure that the securities they represent can be traded from stable foundations. Liquidity is very useful because
the immobilization of capital is a certain obstacle to investment.
By making investments liquid, in other words negotiable, investment is encouraged.
Nonetheless, liquidity is also dangerous because it is a transgression,
insofar as capital itself remains immobilised in the form of factories
and machines. Moreover, liquidity can easily become separated and disconnected
from the real economy. Liquidity is at the root of peaks and troughs,
creating what Keynes calls the “liquidity dilemma”: some liquidity is required,
but not too much and only under certain circumstances. The primary outcome of
such a conceptual framework is prudence. Unlike neoclassical finance, Keynes
continually repeats that the financial markets cannot be trusted entirely.
One issue provides a good illustration of the difference between the neoclassical
and Keynesian approaches: transparency. For supporters of the efficiency
paradigm, crisis is above all about opacity. The securitization of credit fails
because it produces opaque securities whose risks cannot be assessed.
To resolve a crisis there must be a return to transparency, they argue, and this is
what regulation must impose on those involved. In other words, it is not
the financial mechanisms themselves that are intrinsically at fault but
securities, which were badly designed at the outset. This analysis
does not question markets’ efficient allocation of capital. The rationale
behind universal interconnection allowing totally free movement of capital
in all forms is not disputed.
Today, despite the current crisis, the same schema is being proposed with a little more control (so
they tell us), partly because the intellectual tools needed to
consider an alternative policy are sorely lacking. But this idea is arguable.
Transparency is not sufficient to ensure financial stability, because it is the
financial mechanism itself that produces instability. Bubbles can form with
absolutely transparent securities. The Internet bubble was a good example
of this. During that episode, we witnessed the formation of an entirely
transparent speculative bubble. Investors were well aware that they
were buying securities from companies that had high deficits, but these
deficits were interpreted by the markets as proof of their dynamism.
Similarly, perfectly transparent sub-prime securities allegedly created a bullish bubble.
Staying with this analysis, an alternative way emerges to combat the excessive
stranglehold of liquidity on financing and investment decisions: separate
channels and players in order to limit contamination, in the manner of the
Glass Steagall Act of 1933, which prohibited commercial banks from
participating in the financial markets in order to protect them from market
booms. It is universal interconnection that has turned a crash with
restricted reach (the sub-primes) into a major crisis, through the spread of
the property market into the securitised debt markets, the stock markets and
finally the interbank market.
On the other hand, the effectiveness of regulatory separations in impeding financial crises
is well known. No banking crises were triggered by the
separations introduced following the Great Depression during the period
from 1945 until the start of the 1970s. Neither did they have any impact
on growth, which had never been so strong. This principle must
be applied in a manner appropriate to the current conditions. However this will require
a real intellectual revolution, the foundations for which
are not visible at the moment since the liquidity model is wholly dominant.
Clearly, these measures will create inflexibility, which will have an impact
on financial profits. However, if the uninterrupted series of crises produced by
unregulated markets for the last twenty years is to be halted, there is no choice but to open up this debate and be truly innovative.