Personal Finance

Over at Interfluidity, Steven Waldman replies to my original post on indefensible deadbeats with a longish post that Felix Salmon describes as a "slap down".  I don't think I'd describe the revelation that corporations don't act just like people people a "slapdown"; it seems more like a restatement of the obvious.  Though to be sure, almost everyone who replied to me seemed to think that this discovery, along with the point that many banks stupidly lent people money they couldn't hope to repay, constituted a complete rebuttal to the simple observation that people who default on their home loans while buying cruises and expensive furniture are kind of jerks.

To start with, Waldman completely mangles Milton Friedman. He interprets Friedman's argument that the responsibility of a firm was to maximize profits for its shareholders to mean that there are no standards of ethical conduct for corporations.  This is triple-distilled balderdash.  Friedman was responding to a completely different question about the extent of corporate social responsibility to, say, turn themselves into a sort of third rate social work agency--he was not discussing whether or not there are standards by which businesses should conduct their business operations.  Had you suggested to Milton Friedman that a corporation might happily breach its contracts or, say, dump poison into the water supply, if doing so happened to maximize short-term profits for shareholders . . . well, you would have quickly and deeply regretted it, that's all.

Indeed, I think in part that Felix et al. on one side, and I on another, are arguing about slightly different things.  Salmon et al. are trying to enforce some global system of justice that either forces corporations to act like people, or people to act like corporations.  I am not in search of cosmic justice, which is not covered by most areas of law.  I'm more interested in local justice.  The reason that the woman in California is wrong for walking away is not that this violates ancient standards of justice laid down by the Creator at the beginning of time.  It violates the standards that we happen to live by in this place and time.

An anecdote may illustrate the point I'm trying to make.  When I was Cambodia, I went into a shop to buy gifts for my family.  Now, Cambodians, like most other Southeast Asians (or so I'm told), don't really queue unless they are forced to it.  Their idea of the right way to manage a crowd is a rugby scrum.  In the shop were also a bunch of Europeans, who don't queue the same way that Americans/Brits/Australians do--they are waiting for the chance to catch the eye of the clerk.  I meanwhile, was queuing the way an American would--that is, looking at all the stuff on the shelves near me, stepping a foot or so out of line to inspect things, and generally expecting the people around me to do what an American would do, which is tap me on the shoulder and notify me that it was my turn to go up to the register.

Needless to say about twenty minutes passed before I noticed that I was still standing in line, and five Belgians and a couple of Asians had cut in front of me.

I was outraged.  Which is moronic.  There is no moral content to how one stands in line.  Any of the three ways of handling the problem are morally equivalent--i might argue that the British/American system is actually more efficient, but it's not morally superior.  It's just the way we all do it.  In Cambodia, my sense of moral outrage was entirely misplaced.

But in line at the CVS at 10th and U, an equivalent sense of moral outrage would be entirely justified (assuming the person who cut had not just stepped off the boat).  Someone who cuts in line is deliberately privileging himself at the expense of everyone else who plays by the rules.  They're jerks.

You can dance around it all you want, but someone who borrowed money to buy a house in 2006 was borrowing money under the tacit moral norms of the time.  And in that normative system, it is customary and expected that people who borrow money to buy a home, will attempt to pay it back to the best of their ability, and not just walk away because they no longer feel like paying the mortgage.  This is not a matter of justice--it would have been just as well if they had borrowed the money under an alternative system under which it was understood that anyone whose home value dropped below the value of the mortgage would hand over the keys and walk away.  But this just is not what actually happened.

Why does this matter?  Morally, because our institutions are built around that tacit understanding.  I do not jump queues, because queues operate on a system of mutual trust that is permitted precisely because we have internalized a morally arbitrary norm to have moral force.  If people did not get angry at those who do it, and themselves feel shame at the behavior, the system would break down.  And people who do not feel bound by moral norms are corrosive to the social fabric.

So the behavior is outrageous because, first, the woman I was discussing is clearly violating the moral norms that have held sway in America for several centuries, at least:  good people do not stiff their creditors in order to go on cruises or buy expensive new furniture.  But also, because the system we have works quite well (no, really), and it would be entirely untenable if we accepted her behavior as a new normative standard.

If people attached no moral force to debt repayment--if our credit markets were less like an Anglo-American queue, and more like a rugby scrum--she would probably not have been able to get the loan she is now defaulting on.  Lending standards would be vastly tighter, and much more dependent on personal relationships with bankers, which sounds all twee and sweet and community oriented but also used to quite firmly restrict access to capital to more affluent citizens who had longstanding relationships with a bank (or had cosigners who did).  It is doubtful that non-recourse mortgages could continue to exist long term--either the law would change, or the mortgage market would shrink dramatically.  Bankruptcy laws would probably become tighter, because unlike the (mostly) dreadful 2005 reform, bankers would have a valid case that loose bankruptcy was curtailing credit access too much.  Trivial blemishes on your credit score would mean that you probably couldn't get a mortgage.  The federally guaranteed mortgage debt business would probably get the same treatment that we have given tax debts and federally guaranteed student loans, which is to say that if the losses became too high, Congress would probably pass a law making it impossible to discharge those debts in bankruptcy.

Yes, if we happened to be in a housing/credit bubble, these conditions would probably be substantially loosened.  But credit bubbles are not the steady state of the American debt markets.  In a world in which people normally walked away from debts the moment they found them personally inconvenient, the average level of credit access over time--including access to housing credit--would be much, much lower, and the laws surrounding insolvency and foreclosure would be much, much more punitive.

I don't think that's a better world.  I think America's system of easy bankruptcy is one of the jewels of our economic and political institutions, because it allows people who genuinely cannot repay their bills to get a fresh start as quickly as possible.  I think non-recourse mortgages are an excellent idea, which I would like to expand, not destroy.  I think that America's incredibly deep credit markets indisputably do a lot of harm to the minority of people who simply cannot control their spending as long as they have access to credit, or who ignorantly rely on high-cost credit to smooth their cash flows--but they are also the reason for our mobile labor markets and the dynamism of our entrepreneurial system, and on balance do much more good than harm.

The norm that you pay if you can means we can go easier on people who really can't.  Yes, there is always abuse on the margins.  But almost everyone who racks up a mountain of debt makes a good faith effort to repay it.  That means that we can make it relatively easy to get out from under that mountain, if you've exhausted all avenues.

Indeed, I think that a lot of the outrage at the credit card companies is not that high interest rates, sudden rate changes, and so forth are intrinsically morally wrong, but rather, that there were no common norms about taking on revolving debt.  Norms take a long time to evolve, and revolving debt is a fairly new phenomenon, especially at the mass level, and so consumers have one set of assumptions, while banks have another.  (Unsurprisingly, both sets of assumptions are the ones most favorable to the party who holds them.)

Now, as to why I am mad at people who violate these norms and not businesses, the answer is that I am mad at businesses when they violate the implicit understandings that businesses operate under.  If Dell disingenuously accuses me of violating the warranty in order to get out of servicing some crappy product they sold me, I am outraged, as I should be--I can and should punish them by refusing to buy their product, and encouraging others to do same.  If Morgan Stanley walks away from five office towers because the loans are too expensive, this is outrageous if it was understood on all sides that common practice involves sticking with commercial real estate as long as you can afford to, and perfectly acceptable if everyone knew what they were getting into from the start.

But it doesn't have much reference to what people do.  We hold businesses to different standards in all sorts of ways.  We regulate businesses in ways that we would consider outrageous if those intrusions were stuck into our personal lives--who among those demanding that we apply exactly the same standards to Morgan Stanley as to people would cheerfully submit to a government bureaucrat telling them not to climb the attic stairs without fall protection, or having their finances audited and the results stuck on the internet for the neighbors to look at?

The bigger the company, the more our expectations for it differ from what we expect from individuals--and the more we feel entitled to meddle in ways that would be outrageous violations of liberty if directed at individuals.  These two phenomena are not unrelated.

But even at the level of individuals, we treat business behavior as different from personal behavior.  We expect people to pay their credit card debts as long as they have enough assets or income to do so without reducing themselves to penury.  But if that same person is the owner of a business that is losing money, no one expects him to pour all of his savings into paying off its debts before closing up shop.  Owners may well do so, trying to save the business, or the relationship.  But no one thinks badly of an entrepreneur who decides to cut his losses.  Which is, in fact, why new businesses find it very hard to get loans, and entrepreneurs usually have to personally guarantee any debt that they take on.  It is also why so many investors lied and claimed they were taking out a loan for their primary residence; commercial loans are harder to get.

Are the norms surrounding business transactions efficient in their context?  That's an interesting question to which I don't know the answer, though I'd certainly be interested in discussing it.

But I'm pretty sure that changing the norms surrounding personal debt in the ways in which my critics suggest would result in a less efficient equilibrium, one more reliant on legalism and less reliant on trust--and one that hurts, rather than benefits, that ordinary, semi-mythical, hard workin' American for whom we are supposed to be doing all this. Waldman closes by saying that he'd like to live in a world where he could agree with me--one where the profit maximizing corporation doesn't set the values.  But we've lived in a world where profit-maximizing corporations operate by different normative rules from individuals for 150 years.  It may be that the norms to which we hold corporations aren't the right ones--indeed, in the case of things like overdraft fees and credit card rate games, I think it's very clear that they're not, and the banks have only themselves to blame when we decide to handle the problem legally instead.  But that doesn't mean that we should therefore abrogate the norms by which our personal lives are conducted.

Update:  A commenter says that Cambodians do sometimes queue in cities.  I never saw it, and it's irrelevant to the point, but a fact should be loved for its own sake, and I assume that the commenter has witnessed it, and I am therefore mistaken.