http://www.nybooks.com/articles/21352
Volume 55, Number 8 · May 15, 2008
The Financial Crisis: An Interview with George Soros
By George Soros, Judy Woodruff
The following is an edited and expanded version of an interview with
George Soros, Chairman, Soros Fund Management, by Judy Woodruff on
Bloomberg TV on April 4.
Judy Woodruff: You write in your new book, The New Paradigm for
Financial Markets,[1] that "we are in the midst of a financial crisis
the likes of which we haven't seen since the Great Depression." Was
this crisis avoidable?
George Soros: I think it was, but it would have required recognition
that the system, as it currently operates, is built on false
premises. Unfortunately, we have an idea of market fundamentalism,
which is now the dominant ideology, holding that markets are
self-correcting; and this is false because it's generally the
intervention of the authorities that saves the markets when they get
into trouble. Since 1980, we have had about five or six crises: the
international banking crisis in 1982, the bankruptcy of Continental
Illinois in 1984, and the failure of Long-Term Capital Management in
1998, to name only three.
Each time, it's the authorities that bail out the market, or organize
companies to do so. So the regulators have precedents they should be
aware of. But somehow this idea that markets tend to equilibrium and
that deviations are random has gained acceptance and all of these
fancy instruments for investment have been built on them.
There are now, for example, complex forms of investment such as
credit-default swaps that make it possible for investors to bet on
the possibility that companies will default on repaying loans. Such
bets on credit defaults now make up a $45 trillion market that is
entirely unregulated. It amounts to more than five times the total of
the US government bond market. The large potential risks of such
investments are not being acknowledged.
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Woodruff: How can so many smart people not realize this?
Soros: In my new book I put forward a general theory of reflexivity,
emphasizing how important misconceptions are in shaping history. So
it's not really unusual; it's just that we don't recognize the misconceptions.
Woodruff: Who could have? You said it would have been avoidable if
people had understood what's wrong with the current system. Who
should have recognized that?
Soros: The authorities, the regulatorsthe Federal Reserve and the
Treasuryreally failed to see what was happening. One Fed governor,
Edward Gramlich, warned of a coming crisis in subprime mortgages in a
speech published in 2004 and a book published in 2007, among other
statements. So a number of people could see it coming. And somehow,
the authorities didn't want to see it coming. So it came as a surprise.
Woodruff: The chairman of the Fed, Mr. Bernanke? His predecessor, Mr.
Greenspan?
Soros: All of the above. But I don't hold them personally responsible
because you have a whole establishment involved. The economics
profession has developed theories of "random walks" and "rational
expectations" that are supposed to account for market movements.
That's what you learn in college. Now, when you come into the market,
you tend to forget it because you realize that that's not how the
markets work. But nevertheless, it's in some way the basis of your thinking.
Woodruff: How much worse do you anticipate things will get?
Soros: Well, you see, as my theory argues, you can't make any
unconditional predictions because it very much depends on how the
authorities are going to respond now to the situation. But the
situation is definitely much worse than is currently recognized. You
have had a general disruption of the financial markets, much more
pervasive than any we have had so far. And on top of it, you have the
housing crisis, which is likely to get a lot worse than currently
anticipated because markets do overshoot. They overshot on the upside
and now they are going to overshoot on the downside.
(clip)
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