After the Great Recession, finance has gotten a bad rap as a professional calling: A survey last December found that nearly half of Americans think that the financial system hurts the economy. Even among readers of The Economist—where bankers presumably have home-field advantage—a poll found that 57 percent disagreed with the statement that “financial innovation boosts economic growth.”
Luigi Zingales, a professor of finance at the University of Chicago’s Booth School of Business, has been studying the public’s post-recession loss of faith in the financial sector. In a speech delivered in early January at the annual meeting of the American Finance Association, Zingales argued that academic economists' views on the financial sector are too rosy in comparison to the public's mistrust.
In a National Bureau of Economics working paper published earlier this week, he expanded on how economists might try to bridge this gap between their views and public opinion. I spoke with Zingales about his paper, and, among other things, we talked about the press's diminishing role in shaping how economists and the public converse with each other and about whether skepticism toward bankers is a uniquely American phenomenon. The interview that follows has been edited and condensed for the sake of clarity.
Joe Pinsker: You write that, to an economist, the question "Does finance benefit society?" has an obvious answer. I was wondering if you could start by saying what you think are the social benefits of finance that first come to mind.
Luigi Zingales: The biggest benefit of finance, in my view, is to provide opportunities to people, in the sense that in a world where there is no finance, the only way to start a company is to be born rich or to have saved for a long time. In a world where finance works well, the people with talent can actually start firms and reach their dreams without waiting to either have saved the money, or be lucky and receive it from their parents.
Pinsker: It's also about how that then impacts economic growth, right?
Zingales: Of course. Once you create this opportunity, you will have the most talented people take advantage of those opportunities, which favors growth, which favors a good allocation of resources and, ultimately, innovation.
Pinsker: You write that because that argument is so basic to economists, it's very easy for them to dismiss public opinion as "ignorant populism" and to "refuse to engage."
Zingales: I think it's sort of a general attitude that is present among all educated groups, that "we know better." It's called groupthink. To be fair, we do know more—that's the reason why we are experts, we are academics, we have studied more, we know the details. But that doesn't mean necessarily that we're always right.
Pinsker: Is this dismissive culture something you've witnessed firsthand?
Zingales: I definitely witness this. I see it in the way that, in particular, women who are different from the mainstream are treated, in informal conversations among colleagues. Think about Sheila Bair [the chairman of the FDIC from 2006 to 2011], or Senator Elizabeth Warren. I don't necessarily agree with everything they say, but I think that both of them, from different points of view, they were very instrumental in providing alternative viewpoints in the debate. And they were in general, in closed circles, they were dismissed as people who don't understand finance, who aren't knowledgeable.
Pinsker: This is going to ask you to compress your 35-page paper down into a short answer, but I was wondering if you could say what you think economists can do to convince the public that finance isn't so bad.
Zingales: I think that there a number of things. First of all, they need engage more in the public debate. I think that while several economists tend to speak publicly and write publicly, finance people tend to do less of that. And I think it's important to do that.
But the most important thing is they should also understand that maybe we have a too-inflated or too-rosy picture of finance itself. While it's not nice to point out or study what goes wrong, I think that we owe it to the public, but we owe it to ourselves too. If we are true researchers, we should also investigate what goes wrong, not necessarily only the things that go well.
Pinsker: Can you think of any good examples of economists who have really taken advantage of this new ability to communicate directly with the public? What's good about the way they're communicating with the world?
Pinsker: Historically, one major thing standing between economists and the public has been the media, which is known to be drawn to really negative stories, especially if they're unflattering to bankers. What do you think financial journalists currently do well, and what could they do better?
Zingales: First of all, I think that the media world today is squeezed quite a bit, in the sense that it was, in the past, as you said, a big intermediary. Now, with webpages, blogs, Twitter, interviews, even what you're doing now, I think that this is filtered much less. So, we can't blame journalists if our message doesn't get across. I think that we can to some extent do that ourselves. As much as I would want to blame somebody else, I don't think that that's the case.
In terms of what journalists do well or do poorly, I think that journalists are very good at giving the details of scandals once a scandal emerges. In some cases, they've been instrumental also in pinpointing the scandals. What they're not particularly good at, but this is because it's not their job, is to look more broadly at what the regularities are, or even identifying problems that are not maybe so acute in one case, but are pervasive. Journalists, in this day and age of the business, like big stories with big companies going in one direction or the other. Sometimes, for the functioning of capital markets, what is more important is how the average company does, and whether the problem is pervasive or not.
One of the positive examples I cite in my paper is this case of this researcher who identified the practice of post-dating stock options. This is something that is not gigantic in terms of the amount that's appropriated, but is indicative of a pretty lax culture and can only be identified with good data analysis—and that's exactly what the researcher did.
Pinsker: In your paper, you talk about how there's a vicious cycle that arises when public opinion is really negative, and as a result, all the financial sector can do to sustain itself is to dump money into political lobbying. Can you expand on that cycle and how it promotes what you call "bad" finance?
Zingales: I think this is a very important point that I would like as many people as possible to appreciate. For a market system to work well, in particular for a financial system to work well, we need to have rule of law, not only today, but also in the future. People should expect that the law is respected, that there is no arbitrariness, that regulation is done in a proper, unbiased way.
When this expectation is defused, people take it for granted and they work within the system. My best example is when you go to a place that is orderly. You see a line. You see everybody queuing in the line, and you follow the rules and get in line. The moment you see people cutting the line, the temptation for you to jump the line becomes big for two reasons. One, there's a social reason: If everybody does it, why not you? But also there is, if you want an economic reason, if you're the only one not cutting the line, you're going to wait much, much longer than in a normal situation. And so, the incentive to deviate starts to be pretty big.
The same is true in the market system. If everybody follows the rules, you feel like you can thrive following the rules. You don't feel compelled to try to modify the rules to your own advantage.
So, the example I always bring up is, in March 2009, Congress voted with an overwhelming majority to impose a retroactive tax on bank bonuses at a rate of 90 percent. This never became law because the Senate did not approve it, but the fact that an overwhelming majority of the House was in favor of that indicates that when there's outrage, when there is a populist pressure to do something, you can go in the direction of expropriation. A retroactive tax is as much of a violation of the rules as you can imagine.
Now, what is interesting is this retroactive tax is a reaction to populist outrage, but it's also a precondition for more violations to come. Because now, the investors will feel entitled to say, "Wait a minute. I'm not going to invest if I fear being expropriated. I need some guarantee from the government that I either will not be expropriated or else I get some subsidy." So they will start lobbying very heavily to get some privileges, which of course will generate even more outrage, and this is a vicious circle that we see playing out in a lot of countries.
If you go to Latin America and you see how there is at the same time a very populist pressure and a huge amount of privilege for a small elite, you say, "How is it possible that the two things coexist?" And yes, to some extent, they support each other—at the very opposite ends of the distribution—but they support each other. That's exactly the direction we don't want to go in.
Pinsker: How have economists reacted to your paper so far?
Zingales: I think that overall the impression was positive. I think that there is a substantial portion of the profession that is uncomfortable with some of the things we see, and I think that what I'm trying to do, and trying to suggest, is not bashing our profession—because I am a proud member of it, and I think that it provides a lot of contributions—but we can do better. I think that what I chose to do was say, "Look, we shouldn't preach what others should do." I said, "This is what we academics should do."
Pinsker: You've been thinking for at least a decade now about questions of how culture affects economists and economics. What first drew you to this topic?
Zingales: What brought me to this topic is a combination of my origin and a book that one of my professors here gave me 25 years ago. The book is a book by [Edward] Banfeld called The Moral Basis of a Backward Society. It is a fascinating book by a Harvard political scientist who, in the mid-50s, spent a year in a small village in southern Italy, documenting, in the way that anthropologists used to document tribes in Papua New Guinea, how these people live. His conclusion was that the underpinning of the "backward"-ness of that place was an obsessive desire to maximize the wealth of your family at the expense of everybody else.
As an economist, this is quite shocking, because we think that maximizing utility is what you're presumed to do, so what's wrong with that? It took me a while to understand the tension, but the reality is that the market economy needs a legal but also moral infrastructure. Paradoxically, as economists, we don't see it, and we tend to sometimes undermine it with our teaching—maybe not directly, but indirectly. So we undermine the very things we love. That's the paradox.
Pinsker: And you said that it also had to do with where you're from?
Zingales: Yeah, I'm Italian, so this resonated a lot when I read this book about the southern part of Italy. I grew up in the north of Italy, but still, I could relate to this. So one of the first papers I wrote on this topic was on trust and values in transactions, and one of my co-authors is from southern Italy, so we started talking about our recollection of growing up in Italy: What were the differences between north and south? Why were they dealing with the same situation in very different ways?
A lot of it had to do with what we economists call our "priors"—stuff that we generally take for granted, but they were very different. If you start from the presumption that everybody around you is there to take advantage of you, you're going to behave in a completely different way than if you are more optimistic about people around you.
Pinsker: Your paper focuses mainly on the U.S. Is public opinion different in Italy, where you're from? Or do Americans have a unique disdain for bankers?
Zingales: Oh no, I think that it's even worse in other countries. I think that the surprising thing is that the opinion in the United States has deteriorated so much. When I wrote my book [Saving Capitalism from the Capitalists] with Raghuram Rajan in 2003, we were looking mostly at why other countries were not accepting of free markets as much as the United States. When I wrote my book [A Capitalism for the People] in 2012, this problem had moved to the United States. It's not just outside. It's also here.
Pinsker: Are there any countries or cultures in which bankers are actually revered for their honor?
Zingales: That's a very good question. None come to mind.
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