We don't rely solely on government to alleviate poverty. We don't rely solely on government to provide public goods. Altruistic individual responses can help too. Perhaps we shouldn't rely solely on government policies to help solve the financial crisis either.
At the very least, asking what individuals could do to help alleviate the problem might help us better understand the nature of the problem. In what ways does individuals' acting in their own rational self-interest cause an undesirable outcome? What sorts of changes in individuals' behaviour could improve things?
Here are my recommendations. They reflect my own understanding of the nature of the problem.
1. Try to avoid defaulting on your debts. Easier said than done, of course, but if you were otherwise on the margin of indifference between paying your debts and defaulting, then pay your debts. It is good for your creditor, and will also reduce the overall perceived riskiness of debts, which will help restore confidence in credit markets.
2. If you are a debtor, and your debt is perceived to be risky (people fear that you, and people like you, are likely to default), then try to save more to pay down your debts and reduce your risk of default. Yes, I know that we don't want to encourage a general increased desire to save, but this brings me to:
3. If you are a creditor, or a debtor with a low debt/income ratio, or low debt/asset ratio, so your debt is not perceived to be risky (people do not fear that you, and people like you, are likely to default), then try to save less, to reduce your assets, or increase your debt.
(The combined direct effect of 2 and 3 would be to leave the aggregate desire to save roughly unchanged. But indirectly, through reducing risk, and reducing interest rates on private borrowing, the desire to save would be reduced.)
(I have thought about whether or not employed individuals should reduce their supply of labour to help reduce unemployment. I think that we can consider the labour supply choice as one particular aspect of 2 and 3. For example, if people with high levels of debt need to save more, they can save more either by consuming less or by working more, which means consuming less leisure. And if people with assets need to save less, they can save less either by consuming more or by working less, which means consuming more leisure.)
4. Try to sell money and government debt (and other assets which are the most liquid and the most safe), and use the proceeds to buy more risky and illiquid assets (commercial stocks and bonds). The proximate cause of the crisis is that everybody wants to hold the most liquid and safe assets, and does not want to hold anything else. Interest rates on liquid safe assets are very low, and on risky illiquid assets very high.
I am not recommending that anyone make large changes in their behaviour, like going on a big spending spree, or investing their whole pension in the riskiest assets. I am talking about small changes in behaviour relative to how you would behave if you considered only your own interest.
I take it for granted that individuals would otherwise act in their own self-interest, which they perceive correctly (or, at least as well as I can perceive it for them). If they are currently at a utility-maximising choice, small (first order) moves away from that choice will normally cause a very small (second order) change in their own utility, but a small (first order) change in overall welfare, if the equilibrium is not socially optimal.
Worthwhile Canadian Initiative 
dude, you’re 3 weeks and 3 days early for these ideas.
Nick,
surely this blows the whole concept of the “invisible hand” out of the water. And isn’t it a bit like with global warming – individuals acting along may have no effect, but they just subsidize other individuals acting more selfishly.
oops
… individuals acting alone …
reason: of course. If you believe the invisible hand works in all times and markets, you don’t need the govt. to buy and sell stuff, or tax and subsidise stuff. But if you are calling for government policy in some area to deal with some problem, you are implicitly saying that the invisible hand is not working as it should. And you ought to be able to say what it is that the government is trying to get individuals to do differently.
So, even if you believe that moral suasion is a waste of time, you ought to be able to answer the hypothetical thought-experiment: “What would you like individuals to do differently?”
If they ever catch the person who has been flooding Toronto with those counterfeit $20 bills lately, they should give him a medal for public service.
bob: why? Is it:
1. Because he has increased the supply of money?
2. Because he has reduced the demand for money, by making money less liquid (more of a “lemon”, in the sense of “market for lemons”)?
well, I’m just joking really, because the small scale of his cottage-industry “quantitative easing” wouldn’t have much of a macro effect. If there were a stimulating effect, I think it would be transitory.
He increases the money supply, so it would have a localized stimulating effect, but this gets neutralized whenever a retailer brings the money in to a bank and the bill is taken out of circulation. If the government was willing to reimburse banks and businesses that got duped, by giving them a real bill and taking the fake one out of circulation, then there would be a stimulating effect. If people knew this (that the government was honoring counterfeits) this would generate an expectation of inflation because people will be scared that these shadowy unaccountable figures will run their presses non-stop, destroying the value of regular currency. they have no interest in avoiding inflation, so the threat would be very credible.
2. If he did it on a big enough scale, maybe people would start discounting the value of all the legitimate dollars, because they know some are fake. So retailers would raise prices to compensate for an expectation that a percentage of all the bills are fake. Again though, the stimulative effect is neutralized any time bills are identified as counterfeit and taken out of circulation.
Counterfeiting probably does stimulate the cash-only black market though, although that might not be the type of stimulus we want.
actually, I shouldn’t say that the stimulus gets neutralized, because it would have a spending multiplier that would stimulate the general economy, depending on how long the bill circulates before being taken out of circulation. I guess Mr. Counterfeiter might actually deserve a medal.
Nick Rowe
what do you mean by the invisible hand working at all times in all markets? I don’t believe any such thing – but it has a role in its place, and the idea that icentives matter is fairly central in economics. If the world is so aligned that icentives are perverse I would rather try and fix the incentives, rather than get individuals to punish themselves and reward free-riders for the collective good.
reason: so would I. But sometimes we are not sure how to fix the incentives, or we can’t observe the behaviour to reward it. And in any case, sometimes it’s good for economists to try to think directly about the behaviours they would want to change by changing incentives, then figure out the incentives afterward.
Hmm…my post had short duration following “oops”, I hope I did not offend anyone.
Twas maybe “strangulating” that was over-the-top (and around the neck, a bowline…and that comment disappeared), but I thought that overall Nick’s approach was “str…..ly conventional” and would not breach the gap intended: those of us who may or may not be accurately characterized as individual maximizers of satisfaction, but who spend surprisingly largely on others. Family.
And what did I expect from Nick, a seance? Ok, maybe something less conventional…esp since Nick is so young (jimminey crickets, how many of you still visit your grandfather?…ok, could be gf = godfather. I feel better already.)
re 1. (restore confidence in the credit markets) So don’t walk away from that house obligation (a CR post from 2007? pretty early)…support your local banks who are tryin their best, support your real estate agents who were only tryin to make their own house payments, the brokers, the investors…
If you are a mortgage broker or anyone else who profited handsomely in the run up, definitely you should hang in there and continue to make payments until the demo team comes by to level it.
The rest should hang out and work together avoiding banks as far as possible. The famous “comparative advantage” might work on this local scale and people who have real tradable talents can barter. This will be a very useful social structure in the event that the currency is no longer recognized.
restore confidence in yourself…by working with and, not so much, for, wealthier patrons…the big players in the credit market who just deserve their profit margins.
Re 1.1 (calmo loather of enumerated points, expresses self) Get thrifty and adjust to the reality that your damn house is as fine as the damn rice and beans you will now be eating. Restaurants are not worth it and bicycling is good for your overall health. Defaultin on your mortgage is a sin. You will perish in a tent…don’t kid yourself. Ask the banker for a trial use of his camping gear to see if this is not true…how can he refuse this offer?
Same as for 1. restore confidence in yourself…
Re 3. (which seems different enough from 1 & 2, but is about a very small segment: (people with money to lend) 1%?
Why should I advise them? I need $ up front for my talents all of a sudden, you?
Re 4. Invest in agency debt…be a contrarian…like you (again, this is the small slice) had no trouble (apparently) with the “economic adjustment” so far, you can afford to splurge. You are too big too fail.
Somehow Nick, I think these few are not going to be amused about what I think they should do. Stay in the Caymans. Don’t come back.
Ok, sorry to have ignored the other comments. That’s next.
Interesting ideas Nick, even if over half the colleagues are cringing.
Warren Buffett’s investment decisions since last summer strike me as those of a patriotic, altruistic investor.
It is interesting how big an impact a small difference in initial assessment makes.
You start from the premise that our economic problems are due to an unwillingness to borrow, and therefore recommend we sacrifice our remaining capacity to borrow in a bid to bolster our willingness.
I start from a premise that our economic problems are due to our lack of capacity for further borrowing and therefore recommend the opposite course where we sacrifice our willingness to borrow in order to restore our capacity (i.e. default or inflate).
Generally, I think your advice that we consider mechanisms to reinforce/support cooperative (altruistic) behaviour in the non state-controlled sphere is wise, but I’m not sure it applies in this case, where to me, the selfish and social incentives are reasonably aligned (if people feel they have too much debt/balance sheet risk they are probably right and both they and society would benefit from repair of their balance sheet/personal debt situation).
Declan: I’m not sure we disagree that much. Suppose I accept your premise (which I do) that some people have borrowed too much, and should therefore reduce their spending. Don’t other people have to increase their spending to compensate?
Nick is right that individuals voluntarily provide public goods. But voluntary provision works best in certain conditions – e.g. provision of an outdoor hockey rink in a small town. People flood the ice because they want to play hockey. If you play and leave just as it’s time to scrape the ice, people remember – and impose social sanctions.
Interestingly, the Grameen Bank model of microfinance uses exactly these types of social sanctions to get people to behave exactly as Nick suggests – not default on their debts, invest etc. People are collectively responsible for loan payments, and if you don’t repay then you’ll be shunned.
Then the question becomes – how do we create a society where people will voluntarily want to repay their loans. Do we all have to live in some kind of “It’s a Wonderful Life” world? Publicly shame defaulters? (I’m thinking an internet equivalent of the stocks where people can throw electronic rotten tomatoes at people).
Or is there some way of creating the atmosphere of a neighbourhood hockey rink on a global scale… (no, Nick, global cooling is not the answer I’m looking for).
On the other hand, Frances, maybe the global cooling idea is (close to) the idea we’re looking for. Think of environmentalist strategies: they often shun people/firms who cause pollution, even if the local effects are negligible.
Or, if you learn that your neighbour has defaulted on his mortgage (when he could have kept paying it without too much personal cost) would you lend him your lawnmower? (Example doesn’t work, since he’s probably moved out anyway, but you get my meaning).
Perhaps if it was easier to find out if my neighbour – or another worthwhile Canadian blogger or a colleague halfway across the country or someone I don’t know at all – had defaulted on his mortgage then social sanctions would be stronger and there would be fewer defaults? So privacy is a bad thing?
Uh oh! Probably not.
Spend, spend, spend — on hand-crank two-way radios, food in tins, warm winter clothing, emergency preparedness kits, water purification tablets, kerosine lanterns, solar ovens, etc. Stimulate the economy and improve your future surviability.
“Suppose I accept your premise (which I do) that some people have borrowed too much, and should therefore reduce their spending.”
No, the people who have borrowed too much should default (or have their debts inflated away (although default would be fairer as it would place the cost on those to blame), rather than cutting their spending, that is where we differ.
Trying to create stronger moral sanctions to enforce debt repayment is exactly the wrong thing to do, we should be loosening bankruptcy rules and trying to reduce the amount of debt repayment. Money borrowed and spent unproductively is not recoverable or repayable with interest, someone must pay, the only question is whether the person who pays is the debtor, the creditor or the taxpayer. Hardly seems fair to make the taxpayer pay, and the debtor can’t really pay, so that just leaves the creditors.
Alternatively, per Reason’s suggestion, a helicopter drop on a per capita basis to all citizens might allow debtors to repay a fair bit without disadvantaging non-debtor taxpayers. This would also have the advantage of reducing the leverage in our money system and preventing deflation by substituting in some non-debt bearing currency for the current imploding debt/credit loads.
Nick
Suppose I accept your premise (which I do) that some people have borrowed too much, and should therefore reduce their spending. Don’t other people have to increase their spending to compensate?
But these people could be foreigners.