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Tool Big To Fail Companies and Guilt Slicing


I have read several books on the financial crisis and recently saw one interesting television show as well. It seems that there is a pattern to a lot of things that went wrong. Perhaps the term to use would be “Guilt slicing”.

Imagine a financial transaction of getting mortgage. In the past only two parties were involved. Local bank and the home owner. Since the bank knew that it is their neck on the line if the person does not pay back, they had every reason to do due diligence. They would demand 20% down payment, they would check credit history, they would do background check, employment check etc.

But when the same transaction becomes multi-party, every party has opportunities to take short cuts that serve their own interest. Since they are playing a small role in transaction, they also feel a very small responsibility to make sure the whole transaction is done right. The guilt they would feel if everything went badly is small slice of overall guilt and tolerable. At that moment, the greed takes over.

This is how most of the things happened. Many people in every layer of the multi-layer home mortgage transaction were aware that this whole thing is going in wrong direction. Just that they did not feel enough responsibility to make things right at the cost of their own self interest.

It seems a natural tendency of human mind to color our own perspective to reduce the cognitive dissonance. The fact that something strongly in my interest but it is against the interests of society is a big such dissonance. A common way to resolve that dissonance is to blind myself to the consequences of my own action. We all do this. We all tend to find justifications for the things that serve our purpose. The pain seems less painful if it is in distant future.

And sometimes the institutional structures help in masking this dissonance. The financial big players are classic example of this one. Too many layers, too many players, too many steps. Not enough guilt at every step to stop recklessness, but enough rewards at every step to encourage recklessness. The meltdown was bound to happen.

The saddest part of the story was the financial bailout using taxpayers money. There is no more irony than the fact that the country that was shining example of the capitalism chose to rescue the purely for profit industries at the expense of taxpayers.

The biggest cry of the financial companies was the imminent “collapse of the world financial system”. But one factor was overlooked. In that moment there was a choice to make. The choice to choose between a risk of collapse of the world financial system or an risk of collapse of trust in capitalism and free market. There was no third choice. They chose to let the trust in capitalism, fair market, collapse.

The seeds of distrust are sown. Something fundamental is shaken. There is a good chance that in 100 years from now, USA will see a revolution against capitalism and the historians will trace the root cause to all those who were too big to fail a century back.

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