The Cost of Capitalism

Two books have recently been published addressing issues of fairness and economics.  One, Priceless: The Myth of Fair Value (and How to Take Advantage of It), is from the economists’ point of view. The other, I.O.U.: Why Everyone Owes Everyone and No One Can Pay was written by a novelist who only began researching global finance in 2008, just before the meltdown.  Predictably, the books vary in approach. One makes clear, rational arguments, explaining economic theory and practice in an admirably understandable fashion. The other reads, at times, like a study by aliens with wildly strange ideas of how day-to-day economic decisions happen, startlingly counterintuitive assumptions, and more startlingly common-sense revelations. Less predictably, it’s the novelist with the lucid explanations, and the expert who seems like he’s from outer space.

To be fair, Priceless is not about global economics, at least not exactly, and the author, William Poundstone, is not an economist, though he’s written several books about economics, and several more accessible explanations of research in different scientific fields. Priceless is, primarily, an explanation of psychological inquiry on 20th century economic science, proving beyond a shadow of a doubt that people don’t—can’t, in many ways—act rationally when making purchasing decisions. Anyone who’s done damage to their credit card balance watching infomercials late at night, or gone to the supermarket hungry and come back with three times what they meant to get can tell you that our basic purchasing decisions are often impulsive, irrational, or based on nothing more than what we think we need or want at the time.

And yet, it turns out, that two basic assumptions of economists until about twenty years ago have been that 1) everyone walks around with a price list in their head of what they are willing to pay for everything, and 2) every economic decision we make is based on a careful cost-benefit analysis. Both of these ideas are silly, but it took a Nobel-prize winning pair of psychologists named Amos Tversky and Daniel Khaneman (among others) many years and tests to convince economists of this.

Poundstone spends the first half of the book explaining these tests, their import, and their impact on economic science. One test, for instance, showed that people place a higher value on not losing money than they do on earning it (it’s called “loss aversion”)—an idea that seems unsurprising, though it’s apparently astounding to economists. The rest of the book is focused on the more disturbing impact of these studies on business: how marketers use psychology to manipulate pricing and confuse shoppers into spending more. Poundstone looks, for instance, at food producers’ custom of subtly manipulating the size and shape of peanut-butter jars to make comparison shopping more difficult, or Louis Vuitton’s custom of selling one outrageously expensive product—a watch at $149,000—to make their $7,000 watches look reasonable—a pricing practice called “anchoring.” 

I.O.U., on the other hand, approaches economics from a very different point of view. British author John Lanchester began researching the global banking system more than two years ago, in preparation for a novel. Because he hadn’t attended a top MBA program or spent time trading stocks, I.O.U. comes out of his layman’s questions concerning what the financial markets are, how they work, and why they affect us. Lanchester, therefore, is uniquely positioned to explain complex economic maneuvers of the sort that nearly caused a second Great Depression to those of us who know little more about economics than our credit card interest rates and Ben Bernanke’s name.

What’s surprising is how well he’s able to do it. Lanchester is a brilliant and astute researcher, who, in 2008, quickly saw the cracks in the financial facade and realized, as he wrote in the London Review of Books, that a very imminent banking collapse would  “one day cause a financial disaster of global-systemic proportions.”

Lanchester walks the reader through the deliberately complicated world of Credit Default Options (CDOs), bundled risk, bank balance sheets, bond ratings and over-the-counter derivatives, making sense of each new term to paint a disturbingly clear picture of where all the money came from, where it went, who’s at fault (the “banksters” as he coins it, of course, but all of us who’ve been living high on cheap and easy credit, as well), and what will probably have to happen for us to recover.

The book abounds with insights. In one of the best passages, Lanchester addresses a factor that, for many years, reigned in the worst of capitalism’s eat-or-be-eaten outcomes: communism.

The socialist bloc countries had grave, irredeemable flaws; the Western liberal democracies are the most admirable societies that have ever existed. There is no “moral equivalence,” as it used to be called, between them. However—and this is the uncomfortable move in the argument, the one which outrages both the old Right and the old Left—the population of the West benefited from the existence, the policies, and the example of the socialist bloc. For decades there was the equivalent of an ideological beauty contest between the capitalist West and the Communist East, both of them vying to look as if they offered their citizens the better, fairer way of life.  The result in the East was oppression; the result in the West was free schooling, universal health care, weeks of paid holiday and a consistent, across-the-board rise in opportunities and rights.

Priceless is a fascinating book, primarily for its economist-eyed world view. It’s a view that sees earning money as a game, with the goal always and only to get as much as possible. There’s little sense that $100 might be an entirely different sum to a teacher, say, than it is to a banker. Or a gambler. But the book contains few insights as provocative or interesting as Lanchester’s. And while Poundstone’s explanation of the tricks of the marketing industry are curious, there’s strangely little extrapolation about the effect these practices have on consumer trust, societal well-being, or even how to resist or take advantage of them.

This may be the biggest difference between the two books.  I.O.U. focuses on the social effects of economic misbehavior, and treats the topic as a problem to be addressed. Priceless on the other hand, looks at the effects of economic manipulation on the individual consumer, from the point of view of an economic scientist—that is to say, with abstract fascination. Both books, however, offer important insights into the minds of economists, and the economic system at the heart of modern society. Both books are shocking, scary reads, but for widely contrasting reasons.