“The private enterprise economic system is often described as a profit system,” Milton Friedman once wrote. “That is a misnomer. It is a profit and loss system. If anything, the loss part is even more vital than the profit part.”
This notion is relevant today, the tenth anniversary of the collapse of Lehman Brothers. Sept. 15, 2008, is the customary marker of the beginning of the financial crisis that rocked the U.S. economy. When financial and political elites comment on this anniversary, they often commit one of the oldest logical fallacies on Earth: post hoc, ergo propter hoc. They believe and assert that the collapse of Lehman caused the crisis.
The argument behind this assertion is often a self-serving one: The Federal Reserve and the Treasury Department, it implies, erred grossly by not bailing out the mega-bank.
But Lehman’s collapse didn’t cause the crisis. It exposed the crisis. The crisis had been caused by years of horrible decisions by too-intertwined, too-big-to-fail financial institutions who apparently believed that home prices would never go down.
Could the six-month-long stock market tumble have been postponed by a bailout of Lehman? Maybe. But the stock market still would have tumbled, and probably just as far, and all the bailout money would have been burnt for nothing. Could housing prices have been propped up? Maybe for a little bit longer, but not forever.
The reason is that home prices and the stock market’s value on Sept. 14 were both lies. Lehman’s collapse merely helped the world realize it.
This is a lesson our policymakers and financial wizards need to remember. The free market works, but only when failure is an option.
Without the risk of failure, businesses have less motivation to innovate and less incentive to deliver better goods in a better manner at a better price. Without actual failures, there’s little room for new entrants.
It’s obviously not the government’s job to make companies fail — that’s the market’s job. Nor is it the government’s job to keep companies from failing.
Too many politicians, Left and Right, think they’re supposed to help businesses. The Trump administration has repeatedly promised bailouts, whether for aging and uncompetitive factories or for increasingly redundant commodities such as coal.
Failure of the coal industry or of an air conditioner factory is a big deal, and it has negative repercussions. A safety net to protect the unemployed is one thing. But a safety net to protect the failed companies is quite another.
When capitalists think about capitalism, they often think of the success stories. We can’t forget that capitalism, if it is to bring about the goods it can bring about, also requires failures.
