I read maybe a weird amount about finance and economics. I’m not entirely sure why: it’s not as if I have the means, educational or otherwise, to evaluate the truth of what I’m reading. Felix Salmon is one of my favorite writers in this area. He and others have been talking up this post by Steve Waldman as uniquely informative and thought-provoking. I read it and I felt that this was fair, and then I started thinking (as I will so-painfully-predictably do) about its applications to writing. You should read the whole thing, but I’ve put together a short version (with most of the assertions and very little of the evidence-by-example, the gold standard of persuasion!).
I’ll summarize in advance: finance in general, and banks in particular, are hopelessly complex and opaque, but this is basically a good thing. It allows us to trick ourselves into investing despite our naturally risk-averse nature by hiding the risk inherent to investment. Economic development requires us to solve a classic collective action problem: nobody wants to be the first to invest, but we need broad investment and many failed enterprises in order to generate returns–and benefits in terms of human welfare. Banks help us to move past this problem by lying to us (though they themselves believe the fiction). They can’t eliminate risk, but they can and do hide it. This opacity allows them to commit fraud and other shady activities, but it’s probably necessary to develop something like modern civilization. My edited-down version of Waldman’s argument, and some attempts to link this to writing and reading, are after the fold:
Finance has always been complex. More precisely it has always been opaque, and complexity is a means of rationalizing opacity in societies that pretend to transparency. Opacity is absolutely essential to modern finance. It is a feature not a bug until we radically change the way we mobilize economic risk-bearing. The core purpose of status quo finance is to coax people into accepting risks that they would not, if fully informed, consent to bear.
Financial systems help us overcome a collective action problem. In a world of investment projects whose costs and risks are perfectly transparent, most individuals would be frightened. Real enterprise is very risky. . . . One purpose of a financial system is to ensure that we are, in general, in a high-investment dynamic rather than a low-investment stasis. In the context of an investment boom, individuals can be persuaded to take direct stakes in transparently risky projects. But absent such a boom, risk-averse individuals will rationally abstain. Each project in isolation will be deemed risky and unlikely to succeed. Savers will prefer low risk projects with modest but certain returns, like storing goods and commodities. . . . If only everyone would invest, there’s a pretty good chance that we’d all be better off, on average our investments would succeed. But if an individual invests while the rest of the world does not, the expected outcome is a loss. . . . If everyone is pessimistic, we can get stuck in the bad equilibrium. Animal spirits are game theory.
This is a core problem that finance in general and banks in particular have evolved to solve. A banking system is a superposition of fraud and genius that interposes itself between investors and entrepreneurs. It offers an alternative to risky direct investment and low return hoarding. Banks guarantee all investors a return better than hoarding, and they offer this return unconditionally, with certainty, without regard to whether other investors buy in or not. Basically, the bankers promise everyone a return of 2 if they invest, so everyone invests in the banks. Since everyone has invested, the bankers can invest in real projects at sufficient scale to generate the good expected payoff of 3. The bankers keep 1 for themselves, pay their investors the promised 2, and everyone is made better off than if the bad equilibrium had obtained. Bankers make the world a more prosperous place precisely by making promises they may be unable to keep. . . .
Like so many good con-men, bankers make themselves believed by persuading each and every investor individually that, although someone might lose if stuff happens, it will be someone else. You’re in on the con. If something goes wrong, each and every investor is assured, there will be a bagholder, but it won’t be you. . . . If the trail of tears were truly clear, if it were as obvious as it is in textbooks who takes what losses, banking systems would simply fail in their core task of attracting risk-averse investment to deploy in risky projects. . . . This is the business of banking. Opacity is not something that can be reformed away, because it is essential to banks’ economic function of mobilizing the risk-bearing capacity of people who, if fully informed, wouldn’t bear the risk. Societies that lack opaque, faintly fraudulent, financial systems fail to develop and prosper. Insufficient economic risks are taken to sustain growth and development. You can have opacity and an industrial economy, or you can have transparency and herd goats.
A lamentable side effect of opacity, of course, is that it enables a great deal of theft by those placed at the center of the shell game. But surely that is a small price to pay for civilization itself. No?
In a postscript, Waldman says that “there are alternatives to goat-herding and kleptocratically opaque semi-fraudulent banking. But adopting those would require not ‘reform’ but a wholesale reimagining of status quo finance.” And this idea is where I began to see more clearly how this might be connected to writing. (I apologize in advance to Mr. Waldman, who might well be horrified by what I’ve written in this post thus far and by how I plan to apply it.)
If we were to name literature’s most important use and/or historical effect (keeping in mind that I find the idea of writers as “the unacknowledged legislators of the world” basically laughable), we might consider the gradually widening circle of humanity. More people acknowledge more other people as valid human beings now than have ever done so in the past, and this trend will hopefully continue — and with it, a correlated decline in violence and warfare. One of the most important books in American history is easily Uncle Tom’s Cabin, not because it is very well-written or even especially humane, but because it was an effective persuasive tool for advancing the abolitionist cause. This is, aside from producing pleasure, what literature does best: it persuades us that other people exist, that they are valid and real, that they are worthy of our esteem.
This often takes the form of a sort of mystification. The story or poem describes the internal, subjective, and/or spiritual dimensions of a given character or speaker in a way that builds him or her up into a sort of “three-dimensional” construct: in religious traditions, this construct is ennobled by something like a soul, and in secular humanist traditions it will be something like dignity or innate value. By persuading us that our neighbors are nearly as valuable as we are, literature persuades us to invest energy in ourselves and each other by guaranteeing returns on our investments. (Civilization, fellow-feeling, spiritual fulfillment, moral goodness, etc.) We are persuaded to participate in the collective fiction of humanity, and we benefit from that fiction. There are any number of dubious claims at the heart of this fiction, some of which allow abuses like various essentially theocratic measures, but it’s a small price to pay for civilization, no?
Like Waldman, I suspect there are alternatives to misleading our readers and ourselves, though I do not believe we will generally pursue them. The risks in writing are small (a collapse of faith in literature would mean very little, and a new literature would arise to replace it seamlessly, or television would take over completely, which would be no great tragedy — whereas a collapse of faith in finance has unthinkable consequences for human welfare and so should not be risked lightly) but the psychological need for the comfort of collective fictions is more powerful still than the broader social need: as straightforward religion becomes less and less viable, would-be believers take solace in stories. Still, the case for investment in human welfare is strong, and while I am severely skeptical that any individual human being is invested with the slightest scrap of inherent anything, dignity or otherwise, we really do share dignity and beauty as a collective (as groups, as families, as friends, as communities). This is all to say that I think it is rational to behave as if we have individual rights and individual value, even if this is not strictly true — but that by blinding ourselves to what we are doing, by mystifying each other rather than honestly describing what we are choosing to do and why we are choosing to do it, we allow dire thefts and frauds both material and immaterial. (Consider the way the “great chain of being” both positions the entire human race in relationship to God [thus collectively ennobling humanity] and in relationship to the king [thus licensing the king to extract hideous rents from his subjects.]) (Consider the way that our collective fiction of the soul allows the bosses to promise us fulfillment in another world.)
What I love best in literature is writing that tries to grapple more honestly with these questions of value (what about humanity is worthy of our collective investment, and to what end?). These are both the most pleasurable words for me and the most useful. I am thinking here of Beckett, of Pynchon, of DeWitt, of Vonnegut, of (why not say it?) Shakespeare, of McCarthy, of many writers we talk about here every day. This post feels, especially now that I’ve dropped some names, hopelessly pretentious and too big for my particular britches, but hell, why not, we are here, this is something to think and to talk about.
I suspect there is some pretty basic lit theory addressing some of what I’m talking about here, and I fear on the other hand that what seems clear and obvious to me is hopelessly confused and confusing from an outside perspective, but at any rate I’m really curious to see what people think of these things, or adjacent issues. I am soliciting your response. Alone I am nothing. Together we are something beautiful.