This highlights one of the reasons we need government to keep an eye on the financial sector and do a vigorous job of adapting and enforcing the rules. This is, of course, quite different from attempting to plan the economy in any way. The problem with the Republican party of the past twenty or so years is that any rules were to be avoided and the market should be left entirely to its own devices -- of course, even Adam Smith himself never advocated such a system, and indeed, thought that the state was an important part of the market.What we are discovering is that all the complex securities, combined with ever-greater international investment flows, have created a global financial system "so arcane that few people can understand its workings," David Smick writes in "The World Is Curved: Hidden Dangers to the Global Economy." The difference between now and two years ago is that financial managers then thought they understood the system; now they know they don't. Ignorance breeds risk-aversion and fear.
One thing I find odd about the various bailout proposals is that none of them (as far as I can tell, correct me if I'm wrong) seek to eliminate mortgage-backed securities as an investment tool. If one believes that they really are the root cause of this crisis, then shouldn't we just say, huh, I guess they are a bad financial instrument, we should eliminate them and just go back to the way mortages were handled thirty years ago? It is not like people weren't buying homes thirty years ago. I have no idea how one would go about eliminating them, and they might be so entrenched into the system that they really couldn't be abolished, in the same way that the QWERTY keyboard is a horribly inefficient layout but we're now pretty much stuck with it, or the way our eyes have a blindspot because the optic nerve passes in front of the light receptors.
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