Tagged: financial crisis


The Quest for Better Bankers, Better Banks Requires Better Economists, by William K. Black

In Better Bankers, Better Banks, Claire Hill and Richard Painter of the University of Minnesota Law School signal their approach in the subtitle:  “Promoting Good Business through Contractual Commitment.”  This review explains why their thesis is so timely in terms of the most important theoretical debates boiling in economics and banking regulatory policy and the severe degradation of bankers and banks over the last 30 years.  Contractual commitment was, of course, the heart of Dr. Oliver Williamson’s approach to explaining modern capitalism.  Williamson, in work that led to being made a Nobel Laureate in Economics, argued that corporations were not simply a “nexus of contracts,” but also that these contracts had evolved to suppress the enormous danger to commerce posed by the powerful incentive of profit-maximizing actors to engage in “opportunistic behavior” whenever “information” was “asymmetrical.”  In The Economics Institutions of Capitalism, Williamson defined opportunistic behavior broadly and starkly as “self-interest seeking with guile.”

“This includes but is scarcely limited to more blatant forms, such as lying, stealing, and cheating…More generally, opportunism refers to the incomplete or distorted disclosure of information, especially to calculated efforts to mislead, distort, disguise, obfuscate, or otherwise confuse” (Williamson, 1985, p. 47)

“Opportunism” is obviously a severe problem for a neoclassical microeconomist, but neoclassical macroeconomists, particularly from the so-called “freshwater” school of thought (of which the University of Minnesota is one of the principal leaders) are now writing that fraud (though they refuse to use the “f” word) is the key to the failure of their models to explain or predict finance – precisely the field that Hill and Painter also identify as a field in which things have gone horribly wrong.  Kartik Athreya, the Richmond Fed’s Research Director, makes the point for a general audience in Big Ideas in Macroeconomis: A Nontechnical View (2013).  Artheya says finance has fewer “spot” transactions and more transactions that involve performance over long time periods.  He argues that spot markets are far less vulnerable to abuse, so finance is the area where we would expect the neoclassical assumptions of general equilibrium and Pareto efficiency to go wrong.

Athreya says that the two key conceptual problems in finance are “moral hazard” and “commitment” problems.  Commitment problems prevent “complete markets” and can produce severe inefficiency.  Commitment problems occur when contracting is a poor solution, typically because no cost-effective enforcement can be assured.  Commitment problems and moral hazard interact in finance because one or more of the parties to the transaction have what can be powerful incentives to breach in precisely the circumstances where contract formation and enforcement is most expensive and least reliable.  In sum, motive and opportunity to breach are both present in many finance transactions.  The subtitle of Hill and Painter’s book shows that they have knowingly and correctly situated their work at the heart of the most troubling issue for the prevailing neoclassical models.

Athreya begins his book by explaining how neoclassical macroeconomists approach their field.

“In sum, if there’s one rule we play by, it is this: it takes a model to beat a model.  One measure of the difficulty of achieving this can be seen in the high payoff to succeeding; it is what essentially all of the profession’s biggest names, such as Paul Krugman, Edward Prescott, and George Akerlof, each did at some point.”

Athreya returns later to explain the significance of Akerlof’s model and why it “beat” the prior neoclassical model.

“[A]symmetric information could throw a wrench into the efficiency of decentralized trade.  In fact, the seminal paper of Akerlof (1970) first helped economists recognize the potential effects of what we have come to call adverse selection, whereby the quality of goods available for sale falls with price it is expected by sellers to fetch—sometimes to the point of driving all sellers of high-quality goods out of the market.  Akerlof’s work suggested this possibility in the context of the spot market for used cars.  Akerlof’s work showed that economists that linear prices could not be presumed to work efficiently.”

Note that Akerlof’s work was so troubling to neo-classical economists, particularly those hostile to government “interference” in the market because it showed that even in the “spot” context where contracting is often feasible, fraud could flourish.  Indeed, Akerlof showed that fraud, unless blocked, could create a “Gresham’s” dynamic in which market forces became so perverse that bad ethics would drive good ethics from the markets.

“[D]ishonest dealings tend to drive honest dealings out of the market. The cost of dishonesty, therefore, lies not only in the amount by which the purchaser is cheated; the cost also must include the loss incurred from driving legitimate business out of existence.”

Akerlof’s 1970 article also emphasized that such a perverse dynamic was by no means certain.  Akerlof explained how a number of practices used in real markets could be viewed as institutional, contractual, and signaling means to avoid a Gresham’s dynamic.  Specifically, the honest merchant needed to find a way to signal to consumers that the merchant had made a reliable commitment to providing high quality goods when the consumer paid for high quality goods.  Again, Hill and Painter are focused on what the leading theorist in the field (Akerlof) has identified as the key means of preventing a Gresham’s dynamic.  Preventing future fraud epidemics led by financial elites is among the greatest of challenges that the world faces, and Hill and Painter offer their take on a key change to attempt to restrain such epidemics.

Akerlof was made a Nobel Laureate for his work on asymmetric information and his 1970 article on “lemons” – the fraudulent sale of poor quality used automobiles – was his most famous theoretical contribution.  Akerlof has returned to this subject many times, including his famous article entitled “Looting: The Economic Underworld of Bankruptcy for Profit” in 1993 with Paul Romer.  Their 1993 article explored the role of elite insider fraud as a fundamental cause of the second phase of the savings and loan debacle (“evidence of looting abounds”).  Their article rejected the conventional neoclassical story about the debacle – honest, but unlucky “gambling for resurrection.”  Their model showed that the CEO had an incentive to cause the bank to deliberately make enormous amounts of bad loans that would create the “sure thing” of huge reported (albeit fictional) accounting income in the early years but would actually produce massive losses that would only be recognized years later.  Akerlof and Romer stressed that the loans typically had a negative expected value at the time they were made.  This was a radical departure from normal neoclassical models, which almost always assume profit maximization.  “Agency” problems concerning CEO were discussed, but as Williamson noted, this was almost always limited to “shirking.”  Athreya’s book shows that macroeconomists continue to assume profit maximization.

The conventional wisdom of neoclassical economists about the S&L debacle was that it was simply “moral hazard,” or as the phrase went purportedly honest “gambling for resurrection.”  Akerlof and Romer’s model rejected that claim (as did we the regulators, the courts and juries, and the criminologists).  They first pointed out that fraud was a vastly superior strategy to gambling.

“[M]any economists still seem not to understand that a combination of circumstances in the 1980s made it very easy to loot a financial institution with little risk of prosecution. Once this is clear, it becomes obvious that high-risk strategies that would pay off only in some states of the world were only for the timid. Why abuse the system to pursue a gamble that might pay off when you can exploit a sure thing with little risk of prosecution?” (Akerlof & Romer 1993: 4-5).

They then added that the pattern of conduct at the S&Ls made no sense for honest gamblers, but was optimal for insider “looting” through accounting fraud.

“[S]omeone who is gambling that his thrift might actually make a profit would never operate the way many thrifts did, with total disregard for even the most basic principles of lending: maintaining reasonable documentation about loans … verifying information on loan applications…. applications”5

5Black (1993b) forcefully makes this point.

(Akerlof & Romer 1993: 4-5 & n. 5).

Akerlof and Romer emphasized how weakly developed economic theory was when it came to understanding elite frauds by financial elites, particularly when aided and abetted by “independent professionals.”  Their concluding paragraph, obviously addressed to economists, ended on an optimistic note.

“Neither the public nor economists foresaw that the [S&L deregulations] of the 1980s were bound to produce looting.  Nor, unaware of the concept, could they have known how serious it would be.  Thus the regulators in the field who understood what was happening from the beginning found lukewarm support, at best, for their cause. Now we know better.  If we learn from experience, history need not repeat itself” (1993: 60).

As Hill and Painter document and explain, we did not “learn from experience” and history repeated itself in increasingly nasty reruns – the Enron-era frauds and the three most destructive epidemics of financial fraud in history that hyper-inflated the U.S. real estate bubble, caused the financial crisis, and triggered the Great Recession.  Those three epidemics, the fraudulent origination of loans through appraisal fraud and “liar’s” loans and the fraudulent sale of those loans to the secondary market through fraudulent “reps and warranties,” created intense Gresham’s dynamics.  Hill and Painter give many useful details on the nature of this third fraud epidemic and even more useful descriptions of how the secondary market and mortgage derivative markets made the “sausage” of toxic mortgages that opportunistic behavior by credit rating agencies, deliberately induced by the sausage-makers transmuted into “AAA” gold.

One of the strengths of Hill and Painter’s book is repeatedly providing evidence on the exceptional income generated by purportedly independent professionals that “blessed” the creation and sale of mortgages and financial derivatives where the “underlying” was actual or “synthetic” mortgages.  None of this was possible without massively overstating the value of the mortgages.  Akerlof and Romer explained the point.

“We begin with a point about accounting rules that is so obvious that it would not be worth stating had it not been so widely neglected in discussions of the crisis in the savings and loan industry. If net worth is inflated by an artificial accounting entry for goodwill, incentives for looting will be created. [E]ach additional dollar of artificial net worth translates into an additional dollar of net worth that can be extracted from the thrift” (Akerlof & Romer 1993: 13).

The heart of Hill and Painter’s reform proposals are premised on their accurate description of how we have run an uncontrolled experiment for 30 years in which we have – without the benefit of any cost-benefit analysis – systematically removed or rendered illusory the historic sources of private and public discipline of elite market participants.  Hill and Painter make a convincing case that one of the most destructive changes was to ownership form.  By virtually eliminating true partnerships in which the general partners bore “joint and several” liability we encouraged the leadership of former true partnerships to make people senior managers who would have been rejected for partnership in a true partnership because of their lack of integrity and dramatically reduced the incentive of senior managers to engage in the costly process of monitoring their peers.

At the same time as we rendered nugatory the private and public barriers to opportunism, we dramatically increased the potential gains from opportunism through radical changes to executive and professional compensation.  The result, as Williamson and Akerlof predicted (as did white-collar criminologists and real financial regulators) was an epidemic of purposeful “opportunism” by elites.  Hill and Painter explain why finance was the “canary” – it is inherently easier to cheat (as the macroeconomists now stress), the rewards to elites cheating are now vastly greater, the ability of elite bankers to cheat through “accounting control fraud” makes fraud a “sure thing” and means that the frauds will frequently never be discovered, and banking more than any other industry counted on independent professionals in true partnerships (particularly attorneys, auditors, investment bankers, and credit rating agencies) to restrain such fraud opportunities.  Financial deregulation, desupervision, and de facto decriminalization (the three “de’s”) has also been far more radical than deregulation in other fields because of the power of finance and the deliberate instigation of the international “regulatory race to the bottom”) in which the largest banks threaten to move to other nations with even weaker public controls.  The apex of this problem of lost controls is occupied by the systemically dangerous institutions (SDIs) that are treated as “too big to fail.”  These firms hold the global economy hostage.  When Lehman was allowed to collapse it triggered (not “caused”) the acute phase of the global financial crisis.  The independent professionals lost their independence when they ceased to be true partnerships.  It became easy for financial CEOs engaged in opportunism to suborn auditors at the top tier firms into becoming their most valuable fraud allies.

Hill and Painter’s thesis is that we broke the most fundamental rule adults should live by in the financial sphere – “if it ain’t broke; don’t fix it.”  They show that rather than fixing the problem, our radical abandonment of institutional and contractual forms that had been developed over the course of centuries as essential means of reducing opportunism by CEOs made the CEOs’ already perverse incentives far nastier.  Hill and Painter correctly urge that part of the solution is to go back to what works.

As I hope I have explained, this places their work dead center of where micro and macroeconomists are struggling to figure out how to explain what has gone so calamitously wrong with finance – because what has gone wrong is automatically excluded as a possibility by their neoclassical models of general equilibrium.  Hill and Painter, in essence, have confirmed that Akerlof, Romer, and Williamson (and the criminologists and real regulators) have made “a better model” that beats the existing models and explains why they fail.  Falsified paradigms die ugly, after lengthy rearguard actions to protect their intellectual retreats.  Hill and Painter have added another barrage on that failed conventional wisdom and have proposed a real world answer that could be part of a realistic solution to the pathologies of modern finance.


Review by Dr. William K. Black.

Black is an Associate Professor of Economics and Law at the University of Missouri at Kansas City and the Distinguished Scholar in Residence for Financial Regulation at the University of Minnesota’s Law School.  Black is also a former financial regulator and a white-collar criminologist.  His research focus is on financial regulation, financial crises, and elite white-collar crimes.


Thanks and Some Additional Comments

I wanted to thank Frank Pasquale for organizing and hosting this symposium and all of the participants for the time they took reading The Economic Dynamics of Law and providing their thoughts. I wanted to say a little about the most recent posts, even though it’s possible that something more might appear before the weekend is out.

I’m happy to accept Livermore’s suggestion that systemic risk avoidance and keeping open a robust set of economic opportunities can be thought of as an incompletely theorized agreement about goals. He may be right that in fact avoiding systemic risk is efficient, but I doubt that all climate disruption cost-benefit analysis (CBA) would necessarily reveal that. Showing that most current CBA would call for some action on climate disruption does not suffice to show the congruence between CBA and avoidance of systemic risk taking into account collateral negative consequences (which is narrower than taking into account all costs under my normative framework). First, there is a historical problem. Prominent early CBA and much of the CBA from a few years ago would not invite vigorous measures to address climate disruption (although some CBA did early on). Even today, there may be a discrepancy between what scientists tell us we need to minimize significant risk, a phase-out of fossil fuels, and what some of the CBA is telling us. CBA is basically guesswork, and does not yield a reasonably specific answer when substantial uncertainties exist. Read More


Now What? Applying the Economic Dynamic Approach to Financial Reform

Echoing the earlier commentators, I commend Professor David Driesen on his important contribution to legal scholarship and public policy with The Economic Dynamics of Law. I am hopeful that the economic dynamic approach can be used in the academy and on the front lines of financial reform.

As Driesen observes, the centerpiece of financial reform in the U.S., the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank) “mandates only minimal structural reform.” Moreover, efforts persist to rollback, dilute and delay the modest improvements accomplished through Dodd-Frank. The result has been to emphasize bank-collapse intervention tools without sufficient focus on prevention. Consider that this modest reform effort began while the 2008 crisis was still fresh in mind. As memories fade and passions cool, the ability to enact structural reform diminishes.

And, this is exactly where use of an economic dynamic analysis is needed. Let me present just one real-life fact pattern. This coming Tuesday morning, the U.S. House of Representatives Committee on Financial Services has scheduled a hearing entitled, “Who’s In Your Wallet: Examining How Washington Red Tape Impairs Economic Freedom.” The invited witnesses are the general counsels of five federal financial agencies, including the Consumer Financial Protection Bureau, the Federal Deposit Insurance Corporation, the Federal Reserve Board, the National Credit Union Association, and the Office of the Comptroller of the Currency. In the memo announcing the hearing the following agenda is described:

“Among other things, the hearing will examine how federal financial regulatory agencies evaluate the costs and benefits to consumers of their regulatory, enforcement, and supervisory actions. The Committee will explore whether products or services are no longer being offered to consumers because of agency actions and the steps federal regulators take to measure the impact on consumers if they no longer have access to specific products or services as a result of regulatory action. The Committee will also consider the procedures or standards agencies follow in determining whether to engage in formal rulemaking under the Administrative Procedures Act.”

The intent appears to be to treat as a cost the potential failure to satisfy individual preferences in the present without considering broader costs and harms that particular financial products can create for individuals and the system at large. As Driesen describes in Chapter 2, by emphasizing allocative efficiency, “the law of financial regulation ceases to function as a means of avoiding a depression, and instead becomes thought of as a product of balancing a proposed regulation’s benefits against its costs.”

Consumers may have had preferences for very low-money-down, negatively amortizing mortgages for which there would or could be a payment shock upon recast.  And many did show those preferences (even when the bank in-house marketing studies showed the product had to be pushed on them with minimal disclosure). However such toxic products and others led to millions of foreclosures and bank safety and soundness problems, and ultimately a global financial meltdown.

It will be interesting to see whether the witnesses on Tuesday reject the assumptions underlying how the hearing has been framed and instead apply an economic dynamics approach to their testimony and answers.





On Norms and Analysis

            Michael Livermore views my book as either challenging the normative foundations of law and economics or as offering a set of proposals to improve cost-benefit analysis (CBA). The book advocates goals, namely systemic risk avoidance and opportunity creation, and a focus on the shape over change over time that challenge the normative foundations of law and economics, i.e. static allocative efficiency. It also commends an analytical technique, economic dynamic analysis, to improve the economic analysis of law, but intends this technique to improve all economic analysis of law, not primarily CBA. By conflating analytical and normative questions and reducing all economic analysis to CBA, Michael makes it hard to properly understand either the normative or the analytical debate.

The question of whether avoidance of systemic risk and keeping open a reasonably robust set of economic opportunities constitutes a more important goal for society than allocative efficiency requires a normative discussion not focused on questions of technique. (See Martha McCluskey’s post in this symposium). The only glimmer of normative discussion that Michael offers casts doubt on his apparent preference for efficiency as a goal. He agrees with me that government should not be viewed as a master allocator of resources. But the goal of achieving allocative efficiency flows from viewing government as a master allocator of resources. And it is this goal that motivates proposals for use of CBA as an analytical technique. This is, reducing all costs and benefits to dollar terms in order to compare them on a single metric, however morally dubious and technically difficult, does serve the goal of optimal resource allocation. It’s a lot of wasted effort for many other kinds of goals. Read More


Where Have All of the Storefronts Gone?

Have you noticed the number of empty storefronts around? (For a list of recent store closings, see here.) Business failure unfortunately is part of an economic recession, but it also follows changes in consumer patterns and market demands. Although studies debate the advantages of online versus brick and mortar stores (see herehere and here), consumers are increasingly more comfortable shopping online. Increased security and user-friendly return policies (not to mention all of those free shipping deals) appear to be fostering that trend.

Online or virtual stores also have a very different business model and cost structure (see, e.g., here). A small workforce in one location can service all of a company’s online customers. Compare that model with the brick and mortar model where a company operating in more than one location needs, at a minimum, to own or lease property in each location, pay maintenance and taxes for each facility, retain employees at each facility and comply with the law of each jurisdiction.  (For interesting comparisons, see here, here and here.) Accordingly, brick and mortar stores are relying to some extent on certain intangibles—e.g., consumers wanting to touch and see what they are buying, wanting personal service, etc.—to offset these additional costs.

So is it the economy, the changing market or (as is likely) some combination of factors causing companies like Blockbuster, Borders and Harry and David’s to struggle? (For my prior post related to Borders’ financial challenges, see here.) And if it is the latter, will traditional brick and mortar retail stores make a strong comeback when the economy recovers? I am not so sure. I think we may see more retail bankruptcies end like Circuit City’s case—i.e., Circuit City’s core business continues, as does the use of its name, but only in an online form (and under new ownership; see here). Although I appreciate the efficiencies of this model for both the company and the consumer, I do not think it is necessarily the best trend for us as communities and neighbors. As the commercial says, having a face-to-face conversation with a salesperson about your product questions: “priceless.”


Gearing Up for a Let Down?

There currently is a lot of activity surrounding implementation of the Dodd-Frank Act. The various agencies are proposing rules, numerous organizations are filing responsive comments and many rules have become final. (For useful resources to help track rulemaking and developments, see here and here.) Major portions of the Act are taking shape (see, e.g., here, here and here); the new Consumer Financial Protection Bureau even has its website up and running.

But there are problems. Although progress is being made, agencies are behind schedule in meeting certain benchmarks, with the first anniversary of the Act quickly approaching. Opposition lobbies continue to form and are gaining strength (see, e.g., here and here), and funding for the Act’s initiatives remains in question (see here, here and here). I can’t help but wonder about the endgame. Can our already understaffed and underfunded agencies enforce these new rules? Are rules on the books without any meaningful enforcement mechanisms effective? If the answer to both of these questions is no, where exactly are we headed?

I am not the first, and certainly will not be the last, to raise these types of questions. Nevertheless, I raise them to consider the alternatives. If the risk management, corporate governance and consumer protection issues highlighted by the recent recession can’t be fixed effectively through the regulatory process, what might work? The obvious alternatives—market discipline and industry self-regulation—have their own problems, which might be as challenging to overcome as the resource issues facing the government.  (For interesting perspectives on these alternatives, see, e.g., here and here.) But I think we should continue to try; we should consider innovative ways to enhance the efficiency of these and other monitoring/disciplining tools that could complement whatever comes out of the regulatory initiatives. The economic problems we face are too big for us to fail.


Volunteering in a Recession

I heard an interview today with a representative of a nonprofit organization that matches volunteers with organizations in need—a sort of match-maker in the volunteer context. Interestingly, the representative reported an increase in the number of available volunteers during the recession (see also here and here). She attributed this trend to two things: people who had lost their jobs wanting to keep up their skills while searching for new employment and people generally wanting to help others in need.

The report piqued my interest regarding whether the recession was having a similar, positive effect on the provision of pro bono legal services. I suspected that more people were in greater need of legal assistance as a result of the recession, which in fact turns out to be the case (see here and here). I did not know, however, whether lawyers were meeting this increased demand. I like to think we are, but the profession’s record on this point is not necessarily encouraging (see, e.g., here).

The results appear mixed. Some reports suggest that the level of pro bono activity has remained the same or increased slightly in the past few years (but see here). (For interesting perspectives on the recession and the legal profession, including pro bono legal services, see here and here.) Nevertheless, even these increased activity levels fall woefully short of the reported need. So, given high lawyer unemployment rates and the desire to better train new lawyers, why does this gap exist?

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Perhaps a Sign of Things to Come

A Federal Reserve staffer suggested this week that the Fed will defer a key consumer decision to the newly-created Consumer Financial Protection Bureau (CFPB). That decision concerns homeowners’ rights of rescission. The rescission right gives a homeowner a certain period of time (in some cases up to three years) to challenge a mortgage on the grounds of misrepresentation or inadequate disclosure and requires the mortgagor to release its lien on the subject property. As you might guess, the rescission remedy has been invoked extensively in the recent economic downturn.

The mortgage industry has been encouraging the Federal Reserve to address the rescission issue with a sense of urgency, perhaps fearing what might happen to the rule after July 21, 2011—the date that authority on such issues is transferred to the CFPB. The Federal Reserve looked poised to make a move, having proposed a rule in September 2010 that would significantly restrict the circumstances under which a homeowner could seek to rescind a mortgage. The comment period for the proposed rule closed on December 23rd, and, despite opposition by consumer groups, many thought the Federal Reserve would continue to pursue the proposal. 

A decision by the Federal Reserve to defer this particular issue to the CFPB would be consistent with the CFPB’s objective to consolidate the oversight and implementation of consumer protection regulations in a single agency. It may not, however, produce a result consistent with the intent of the Federal Reserve’s proposed rule and the desires of many in the mortgage industry. One of the CFPB’s charges is to oversee the mortgage and credit card industries, including the language and substance of consumer disclosures. Given the CFPB’s preemption provisions (which favor enforcing state consumer protection laws), the CFPB’s proposed partnership with state attorneys general and the robo-signing and related concerns swirling around the mortgage industry, I doubt that weakening consumers’ rescission rights is high on the priority list.

I look forward to seeing how this and other pressing consumer issues play out, particularly after July 21st. The CFPB is starting to take shape (see here and here), and it appears that it will hit the ground running. (For interesting Q&A with Elizabeth Warren on the CFPB, see here and here.) In any event, the agency certainly has its work cut out for it.


Are You a Winner?

Two lucky people woke up this morning mega millionaires. After yesterday’s lottery ticket buying frenzy, one winning ticket was sold in Idaho and the other in Washington (see here). The winners will share equally the $355 million jackpot.

Sounds like a dream coming true, right? Unfortunately, for many lottery winners, winning the lottery eventually leads to bankruptcy (see here, here and here). Statistics tend to show that a good portion of lottery winners file chapter 7 or chapter 13 personal bankruptcy cases within five years of receiving their jackpots (see here and here). In one sense, the tale of doom attached to big lottery winnings seems similar to the ploy of telling a bride that rain on her wedding day signals good luck—it makes those of us who didn’t win feel a little better. In another sense, however, it highlights a real problem in our approach to financial education.

Yesterday, the American Bankruptcy Institute reported a significant increase in overall personal bankruptcy filings. Undoubtedly, some of those filings are the direct result of the recession, and some filings stem from similar unforeseen changes in circumstances, such as divorce and serious health problems. But many personal bankruptcies involve honest, unsophisticated individuals who simply do not understand or have the skill set to manage their personal finances. Yes, these individuals should take responsibility for their finances, but they also need training and resources to be successful in that endeavor. Studies suggest that many high school graduates do not understand how credit cards and other basic financial instruments work (see herehere and here), yet most carry credit and debit cards in their wallets.

I appreciate the enormous challenges facing the U.S. education system. As we evaluate these challenges, however, we need to consider financial education as part of the core curriculum. We also need to continue working to provide meaningful financial education to adults (for an interesting study concerning financial education and bankruptcy, see here). Although the 2005 amendments to the U.S. Bankruptcy Code incorporate a consumer education component, that requirement has become little more than the potential debtor sitting in front of a computer screen and answering a few questions in order to be able to file her bankruptcy petition (for other perspectives, see here, here and here; for an excellent study regarding the impact of the 2005 amendments on consumer debtors, see here). I hope that as the economy recovers, so too do our financial education initiatives  (see here and here) so that more individuals have a real chance at sustainable financial health.


Creative Reconstruction

In my opening post, I referenced the slow pace of change and how it can be exceedingly painful for individual consumers. I want to follow up on that concept in the business context, where slow change—or the failure to change at all—can be fatal.

Consider, for example, Borders, which recently announced that it was suspending payments to vendors and trying to refinance its debt obligations (see here and here). Borders, like its competitor Barnes & Noble, is struggling to compete with big box retailers that offer steep discounts on traditional books and the growing popularity of e-Books (see here, here and here). Also like many retailers, Borders was hit hard by the economic recession (see here).

Some may say that Borders is a victim of the recession and creative destruction. And that may, in part, be accurate. (For interesting perspectives on the utility of recessions and creative destruction, see here and here.) But anyone who follows the retail industry or is an avid reader had some sense that this was coming (see here, here and here). So why didn’t Borders’ management? Or rather, why didn’t they react more quickly to the changing market and economy?

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