Morality and free markets

It has been variously argued that greed and avarice, recklessness, and downright dishonesty have been the driving factors behind the ongoing economic turmoil. Richard Posner and Gary Becker have interesting posts elaborating on the virtues and vices of the free market culture.

Gary Becker makes an excellent point that if customers are able to detect when they are being cheated or misled and they buy frequently enough (repeat purchases) for them to have a greater probability of detecting and then punishing the sellers, then honesty will prevail. But then these are conditions not always available, and more so in the financial markets.

Posner draws the distinction between honor based societies, anchored around hierarchy and group loyalty, and commercial cultures, which are democratic, individual-centric and self-interest driven. Without being value judgemental, Posner argues that "commercial cultures creates incentives and constraints that, provided that economic activity is effectively regulated, (an important qualification) maximizes the values that are important to most people".

Drawing the distinction between public and private morality, Max Weber had argued that anyone in a public position - and this includes business and academic leaders as well as politicians - cannot indulge a taste for candor or altruism and expect to be successful at his job. Posner writes, "It is for the same reason that good business leaders drive hard bargains with their suppliers, ignore negative externalities, play off subordinates against one another, lay off workers by the thousands, receive huge compensation packages, and often relocate plants overseas when foreign wages and taxes are lower."

It is by now widely accepted on all sides of the spectrum that some form of regulation is essential. But the distinction should be made between "bad" regulation (with its possibility of regulatory capture and distortion of incentives) and "good" regulation (with the difficulty of identifying them). Differentiating between the two would require government officials and regulators to first bridge the information assymetry and access adequate information about intentions and actions of market participants, then identify appropriate regulatory alternatives, and finally make the most relevant choice in an objective and transparent manner.

Any regulation while formally intended at controlling an activity or transaction, ultimately is aimed at the motives and intentions driving the particular transaction. And finally there remains the question of "quis custodiet ipsos custodes?" or "who will regulate the regulators?" Even at the best of times, these are difficult challenges, giving grist for opponents of any regulation.

Martin Wolf outlined seven attributes of regulation of financial markets. Nouriel Roubini has ten fundamenal issues in reforming financial regulation and supervision. William Buiter has these ideas about the new regulatory architecture.