Executive Interviews: Interview with Alan R Beckenstein on Government and Business
December 2009 - By Dr. Nagendra V Chowdary

Alan R Beckenstein
Prof. of Business Administration Darden Graduate Business School, University of Virginia

• What were the prime reasons for the US Financial crisis that has engulfed global economy forcing everyone to liken this crisis to Great Depression?
  The prime reasons for the financial crisis were: 1) an asset bubble in housing that led to unsustainable price increases for housing; 2) low interest rates that contributed to the bubble; 3) unsound lending practices by mortgage lenders and ultimately unsound financial innovation products that exposed the balance sheets of financial institutions; and 4) purchase of securitized mortgage assets and other sophisticated and related financial products by investors globally, thereby sharing the impact of the crisis globally.

• It is generally believed that globalization is all about interplay between 4Cs – credit markets, capital markets, currency markets and commodity markets. Was the imbalance created among these four markets in some way responsible for the financial crisis?
  Whenever bubbles create a momentum to invest in one direction, other asset markets such as currencies move in the same direction. That is because financial flows dominate exchange rate markets in the short run. Imbalances turned out to be somewhat less than fully transparent, meaning that the global “financial architecture” (such as the BIS, IMF) was not on top of the events that occurred in a timely manner and could not prevent the spread of unsound risk taking.

• Who do you think should squarely be blamed for getting the world into such a catastrophic mess – the Wall Street firms with their insatiable desire for “derived” returns, or the regulators or the governments? What was it about the regulatory framework that contributed to the crisis?
  This is a rather volatile question. I don’t believe spreading blame is constructive. These were complex phenomena and it is important to understand the mechanics and dynamics of what contributed to the crisis. I would suggest that the regulatory framework was deficient in exposing the transparency of the balance sheet risks of financial institutions. Financial innovation was rapidly developed to cope with rapidly changing opportunities. Too few regulators and executives of the financial institutions considered the sensitivity of the asset behavior to an increase in interest rates and a failure of prices to continue to increase. They were perhaps blinded by the dazzling success of these markets.

• A large section of people believe that the crisis was allowed to become bigger because of policy makers’ (both at the companies and the government) indecision. And the fullblown crisis is just a price for indecisive governments and indifferent companies, the argument goes. Do you see any merit in this argument?
  I don’t believe that policy makers had answers to the dilemma and simply failed to execute obvious policy changes. I do believe that there was ignorance by executives, public policy makers and academics about the precise behavior of asset bubbles. This ignorance was evident in currency crises in the 1990s (Mexico, Asian, Brazilian, Russian), the tech bubble of the late 1990s, and then the housing bubble of the 2000s. Without great insight into how to prevent the bubbles, much less how to safely deflate them, there is not a sound basis for public policy.

• While the Wall Street thought its firms to be “too big to fail”, for the main street “too big to fail” meant a financial institution cannot be allowed to fail. Do you agree with those who say that Lehman had to fail in order for Congress to have the political will to pass any kind of rescue package?
  I don’t have any great insight on this question. The issues of moral hazard and political will are surely relevant to the question of when and whether to intervene. I don’t think we can prove that one position on Lehman is definitely sound or unsound.

• What did US Financial Crisis mean to global economy and the business? How do you think the governments and the businesses have responded?
  The crisis was potentially a massive threat of Great Depression dimensions. The monetary authorities globally (BoJ, BoE, Fed, ECB) moved with lightening speed to provide liquidity to the markets. Treasuries/Finance Ministries moved reasonably quickly as well. The objective was to prevent the “bottom from falling out” of the economy. They seem to have been successful in that endeavor. The problem is that the policies have long-term consequences that are potentially enormous.