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The subprime crisis along with its associated financial and economic problems is due, in good measure, to some failures of democracy -- financial democracy, that is. Many working-class people and first-time home buyers who took out high loan-to-value mortgages with adjustable rates did not have ready access to information about what they were doing -- the kind of information easily available to wealthier people -- and so made serious mistakes. By the same token, many people who bought securitized mortgages had little access to financial advice that might have warned them how risky these instruments really were.
Fortunately, this country has a history of financial democratizers who have made the financial system work for the people as well as it does, and who have made the U.S. financial system, despite its flaws, the envy of the world. Now, deep into a financial crisis and awash in a newfound culture of financial complexity from 401K plans through reverse mortgages, it is worth reflecting on their past achievements, and considering what lessons they carry for the resolution of the current crisis.
John Moody, along with John M. Bradstreet and Henry Varnum Poor, democratized finance by inventing credit ratings to be made available to the general public. When Moody published a statistical manual in 1900, followed by a system of rating securities with categories Aaa, Baa etc, and a series of investor-advice books, he provided reams of information to everyone, for just the price of a few books. These beginnings led to the development of Moody's Investor Services and other rating agencies. The securities rating system has now spread from the United States to the whole world, and helped make possible the capitalist explosion of growth and prosperity.
Moody left behind an autobiography, "The Long Road Home," 1933, and so we can glean some of his motivations.
Though Moody was a democratizer, he was not acting out of populist philanthropic motives when he launched Moody's. As he makes very clear in his autobiography, he did it to make money. But there were other things he cared about besides making money. People asked him around 1900, why give away all this information so cheaply? They told him he might expect to make a lot more money as an underwriter, middleman or bond salesman. But he recognized that was not his personality, and that "there was that 'literary' or writing bent of mine. To bring out a book -- even a mere compilation -- fired my imagination far more than could any dreams of becoming a successful banker."
He called it a "writing bent" but as is plain from his autobiography, it might be considered an impulse to speak perspicaciously and openly to the people. A "writing bent," connotes an impulse to consider the interests of a broad reading public, and publishing tables of statistics and ratings, as well as the various investing advice books Moody wrote for retail investors, is just that.
Moody was not selfless but he cared about people, and he cared about ethics. His autobiography was filled with admonitions about speculative bubbles that draw in unsuspecting investors (as he himself had personally experienced). He wanted to provide the careful information that would prevent financial misfortune for the average family. He was obsessed with ethical behavior and musings about his traditional Roman Catholic religion. He wrote about moral dilemmas, and his refusal to accept money under terms that would bias his ratings.
It is ironic that the rating agencies today are sometimes blamed for the subprime crisis. We have come to expect perfect behavior from them, and do not give them credit for the multitudes of other crises that never happened because they disseminated the information to prevent them.
Another great financial democratizer, and one with great resonance for today's generation, is the popular personal financial adviser Suze Orman. Her 2005 book is entitled "The Money Book for the Young, Fabulous & Broke." This is a great title. But more than that, Ms. Orman is a success because she knows how to reach many people, and shows some sympathetic understanding of their concrete problems.
Her readers know they are fabulous, as the title of her book implies. Each of them has a unique talent and genius. But they have made mistakes that have gotten them into trouble financially. They need to get the information in synch with their emotions. They do not want to be told blandly to diversify their portfolio, for they have higher aspirations and needs than that. Maybe not everything she says is on target, but on the whole she tells them what they find they really need.
She was not the first to warn of the housing crisis. In fact, in her 2005 book, published at the height of the housing boom, she says "a home is flat-out the best big-ticket purchase you will ever make" and she gives no warning of the housing debacle we have since observed. But to give credit where it is due, she did warn in that book that adjustable rate mortgages "can become a nightmare soon after" when rates reset upwards. She warned readers not to accept lenders' judgments about how much is OK to borrow. Moreover, she provided detailed advice about the total cost of owning a home with advice to "set your own budget."
Ms. Orman has spawned a legion of emulators -- popular financial advisers to the masses. None of these writers or media personalities is perfect. They can get caught up in a boom psychology just as anyone. But, these media figures represent a new hope for preventing further crises by arming the average family with the information they need to protect them from the tantalizing but ultimately dangerous elements of too-good-to-be-true bubble psychology.
The subprime crisis is evidence that, despite significant progress, we still have a long way to go in developing financial democracy. This nation needs to consider how it can help the great mass of investors better handle financial affairs -- not only their homes, but credit, loans, medical, and retirement planning. We need to think more about how investment professionals with a bent to communicate good and honest information can make a decent living serving the broad public doing absolutely what feels right to them, not just in book publishing or in business television, but in all aspects of the financial system.
Mr. Shiller, a professor at Yale and chief economist at MacroMarkets LLC, is the author of "The Subprime Solution: How Today's Global Financial Crisis Happened and What to Do about It" (Princeton, 2008). He is also a member of the committee that oversees the monthly Standard & Poor's/Case-Shiller home-price indices.
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