Financial crisis about fear, not greed
Published 10:55 pm Saturday, October 4, 2008
As the financial industry slips further into despair and drags the economy down with it, I can’t help wondering how the brightest minds in the financial world failed to see this coming. The only answer I get in return from our esteemed presidential candidates, the talking heads on TV and virtually everyone else I’ve asked is one word: greed. The bankers’ greed has screwed us all so the story goes. That answer appeals to my sense of outrage just as I imagine it appeals to yours. There is just one small problem—-that answer directly contradicts one of the most stable findings in the history of psychological research.
Greed is all about a ravenous appetite for personal gain. It’s about stopping at nothing and risking anything, to get ahead. However, we know for a fact that most people simply will not take risks merely to get ahead. My research confirms decades of decision making research before it revealing time and again that 75 percent of people are cautious and only 25 percent are risky and impulsive. Most people worry far more about falling behind than they worry about getting ahead. That is why courage is so rare and fear is so common.
This phenomenon is especially true in the banking industry. In fact, Goldman Sachs is consistently lauded by analysts for embracing a culture of risk-taking instead of discouraging risk. For most banks, risk is to be avoided like a plague-infested rat. It’s worth noting that at the present, the risky Goldman Sachs is one of the only banks who did not over-invest in mortgages and remains relatively healthy now because of it.
In the beginning of the housing bubble, a small number of impulsive hedge fund managers and mortgage brokers certainly led the sub-prime charge. Indeed, they sought to get ahead by exploiting loopholes in lending laws. But they alone could not cause a bubble. There simply aren’t enough impulsive buyers or lenders to impact the market this dramatically. The real problems began when everyone else got involved. As the housing bubble built, the cautious majority of home-buyers and bankers alike decided that the real risk was not getting in on the housing market. That’s when things spiraled out of control.
We ignored the downright silly loan terms. We talked ourselves into buying (and underwriting) with little quips of rationalization like “if we don’t get in now, we’ll never get in!” The implication of such a suggestion is that everyone else is already “in” and will continue driving prices up for eternity, and I will be left behind penniless and homeless. Homebuyers feared falling behind their neighbors. Banks feared falling behind their competitors and mortgage business upstarts. Just like in the greatest of classical tragedies, trying to outrun our fears is the very thing responsible for making those fears a reality.
It is true that what is done is done. So why waste our time making esoteric arguments about the psychology of what went wrong? Whether it’s greed or fear, who cares?
We are not out of the woods yet. What went wrong is still going wrong. The most dangerous part of a bursting bubble is the impulsive aftermath. As the housing bubble bursts, dysfunctional impulsive behavior climaxes because the fear of losing compounds. Typically cautious people make mad dashes for the exits and trample good judgment on the way out. Until we address the root of the problem – fear and not greed – we’ll continue shooting ourselves in the collective foot wondering why poor impulsive choices persist long after greed has disappeared from the equation. Like our superstitious ancestors, we’ll continue trying to end a drought with the modern equivalent of human sacrifices and rain dances. We will try to cure a problem caused by fearful impulsivity by invoking a frightfully impulsive bailout, or some other knee-jerk reaction.
If we are going to get out of this mess, we must stop digressing into the same old game of pin-the-blame-on-greed. It is time for cooler heads to prevail. It is time that all of us –Congress, bankers, Americans –start addressing the real problem, and stop letting fearful impulses guide our decisions.
Research and Development