Getting It Wrong summary

Understanding the Root Causes of the Financial Crisis

In Getting It Wrong, William A. Barnett, an esteemed economist, delves into the root causes of the 2008 financial crisis. He begins by challenging the widespread belief that the crisis was the result of greedy bankers, lax regulation, and a failure of mainstream economics. Instead, Barnett argues, the crisis was precipitated by the failure of the economic measurement system.

Barnett contends that the financial crisis was a result of a series of errors in economic measurement. He points out that the monetary data used by central banks, including the U.S. Federal Reserve, were constructed without reference to economic theory, leading to incorrect assessments of systemic risk. As a result, households, firms, and governments made decisions based on flawed information, leading to increased leverage and risk-taking activities.

The Role of Economic Measurement

According to Barnett, the root cause of the financial crisis was the failure to use relevant economics, particularly in the area of economic measurement. He argues that as financial instruments became more complex, the simple-sum monetary aggregation formulas used by central banks became obsolete. Instead, a major increase in public availability of best-practice data was needed. Households, firms, and governments, lacking the requisite information, incorrectly assessed systemic risk and significantly increased their leverage and risk-taking activities.

Furthermore, Barnett suggests that better financial data could have signaled the misperceptions and prevented the erroneous systemic-risk assessments. He emphasizes the importance of accurate economic measurement in preventing financial crises and calls for a shift towards more accurate and relevant economic data.

The Role of Regulation and Deregulation

Barnett also examines the role of regulation in the lead-up to the financial crisis. He argues that when extensive, best-practice information is not available from the central bank, increased regulation can constrain the adverse consequences of ill-informed decisions. However, instead of increased regulation, there was a trend towards deregulation in the financial industry.

According to Barnett, this deregulation, combined with increasing complexity of financial instruments and inadequate and poor-quality data, created a 'toxic mix' that contributed to the financial crisis. He suggests that more effective regulation, based on accurate economic measurement, could have mitigated the impact of the crisis.

Concluding Thoughts

In conclusion, Getting It Wrong presents a thought-provoking analysis of the 2008 financial crisis, challenging the prevailing narrative and attributing the crisis to the failure of economic measurement rather than greed or regulatory failure. Barnett's argument underscores the critical role of accurate economic data and the need for a more informed and measured approach to economic policy and regulation. The book ends with technical appendices containing the mathematical analysis supporting Barnett's arguments, providing a thorough and rigorous exploration of his thesis.