William Black’s five fatal flaws of finance

October 12, 2009 | By | 10 Replies More

William Black is a white-collar criminologist who has written a compelling account of how the bloated parasitic financial sector is ruining America in his recent post at Huffpo.  These are Black’s five “fatal flaws” of finance:

1. The financial sector harms the real economy.  Even when not in crisis, the financial sector harms the real economy. First, it is vastly too large.

2. The financial sector produces recurrent, intensifying economic crises here and abroad.

3. The financial sector’s predation is so extraordinary that it now drives the upper one percent of our nation’s income distribution and has driven much of the increase in our grotesque income inequality.

4. The financial sector’s predation and its leading role in committing and aiding and abetting accounting control fraud combine to: A) Corrupt financial elites and professionals, and B) Spur a rise in Social Darwinism in an attempt to justify the elites’ power and wealth.

5. The CEOs of the largest financial firms are so powerful that they pose a critical risk to the financial sector, the real economy, and our democracy.

The Solution:  Fix the real economy, if you can find it.  “The real economy came off the rails at least three decades ago for the great majority of Americans.”

I was highly impressed with William Black after seeing him interviewed by Bill Moyers.  And now, after reading this detailed by accessible analysis, I’m even more impressed.  We can’t begin to fix the economy unless we begin to implement basic principles we can actually understand.  Fixing the real economy and making sure that finance is merely the servant of the real economy are clearly steps one and two, for each of the reasons listed by Black.


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Category: Economy, Fraud, Politics

About the Author ()

Erich Vieth is an attorney focusing on consumer law litigation and appellate practice. He is also a working musician and a writer, having founded Dangerous Intersection in 2006. Erich lives in the Shaw Neighborhood of St. Louis, Missouri, where he lives half-time with his two extraordinary daughters.

Comments (10)

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  1. Jay Fraz says:

    Oh god, troll bait is out for the libertardians.

  2. Jay Fraz says:

    Erich : Oddly, I've just gone to lumping them both into the same group even though left-libertarian are a different breed. It seems like market fundie/libertarians all have no life but to post on blogs, forum and other such things, their like zombies. They mistake rationalization for thought.

  3. Dave says:

    Okay, I'll bite.

    1. "Libertardians". Nice, I hadn't heard that one before. It's certainly a constructive contribution to the conversation.

    2. The article makes several mentions of the "real economy", but fails to define what the "real" part means. Does he mean:

    a) real economy = "all parts of the economy that are not finance" which seems arbitrary and unrealistic given finance's core role in raising captial in a captialistic system

    b) real economy = "physical goods economy" like railroads, cars, shoes, and frozen orange juice concentrate? If so, this is a primarily nostalgic view of things, and a bit unrealistic

    c) real economy = "those things of value to the buyer and seller at a mutually agreed price within a voluntary contractual relationship"

    Personally, my choice for "real economy" is (c). Label me a "free market fundie" if you must, but in the end, all humans are left with the choice of doing something voluntarily or being forced to do something involuntarily.

    3. Black makes a valid point (IMHO) around the disparities that arise when so much power and influence is concentrated in so few hands. This absolutely leads to market imbalances, inefficient distribution of assets (aka "unfair" pricing), and subsequently infuses herd mentalities among the mob in the market, which in turn leads to boom/bust cycles and bubbles. This is where regulation should be– giving all parties taking part in the economy their choice to impose certain restrictions (voluntarily) to steer money and (subsequently) behavior.

    4. The part about how finance people consciously steer money away from unionized companies seems a little conspiracy-minded. If unionized companies delivered superior products and services with a solid sense of trust (like Toyota Japan or your local electricians union), then "finance" (Wall Street) would reward them accordingly. The villainization of Wall Street seems a little too Tom Joad for a salient discussion.

  4. Erich Vieth says:

    U.S. regulators should consider breaking up large financial institutions considered “too big to fail,” former Federal Reserve Chairman Alan Greenspan said.


  5. Erich Vieth says:


    Thanks for your tight analysis. I struggle with the meaning of “real economy.” Here’s a recent comment by Frank Rich at the NYT that takes a swipe at it:

    Goldman is back to business as usual: making money by high-risk gambling, with all the advantages that the best connections, cheap loans from the Fed and high-speed trading algorithms can bring. As the Reuters columnist Rolfe Winkler wrote last week, “Main Street still owns much of the risk while Wall Street gets all of the profit.”

    Maybe it’s best to define it like this, by what it is NOT.

    I don’t know enough about economics to do the definition justice, but everyone would agree that there is something about making shoes and being a dentist that is not as “real” when one makes a living as cranking out the kind of derivatives that brought this country to its knees because they are, in essence, a form of gambling.

  6. Dave says:

    Erich: I would agree that many of the derivative strategies are little more than gambling, and don't build lasting value. The problem comes in how to differentiate between "bad" derivatives that provide no long-term value and are just gambles, and "good" derivatives that mitigate risk in commodities, anticipate true valuations, and generate new monitations in services.

    The trick is– even if we were to find that border between good and evil– is that we cannot simply try to regulate away the bad, or hope to catch the cheaters (doesn't work with drugs, how could it work with money?). If (big if) we were to find a common agreement about what is good and what is bad, is that we need to introduce simple market advantages and market disadvantages (transaction costs) to minimize the bad behavior.

    Our common friend Mark mentioned something he had read: what if we could manipulate the capital gains tax?

    1. In order to incentivize the long-term investment that seems to be good, offer a declining capital gains tax rate, where any investment eventually becomes tax-free if you hold on for 5 years

    2. Increase the capital gains tax on short-term gains– any investment flipped inside 1 year gets a big whack.

    3. The same principal could apply to real estate– sayonara to the house flippers that push up housing prices.

    This is one of the best things I've heard in a long time.

  7. Niklaus Pfirsig says:

    Dave, it is much easier to catch the cheater when money is involved. In the past, drug runners, boot leggers and gangsters who managed to isolate themselves from the chain of evidence involving illegal activities, were often shot down for tax evasion.

    Debt derivatives went beyond gambling in many cases and entered the realm of fraud. We can thank our friends at Enron for showing us the way.

    I think incentives for long term investment are a great idea. It seems to me that a lot of the market volitility has been the result of excessive day trading.

  8. Erich Vieth says:

    Dave: Here's another attempt to define the "real economy," this one by Barack Obama:

    "It will be good for the financial industry to have a level playing field in which everybody knows the rules and everybody knows that the rules will be enforced," Obama said. "And people are competing not by how confusing you can make things, and how to avoid rules, but competing because you're offering innovative good products that are helping grow the American economy and put people to work out on main street."


  9. Erich Vieth says:

    Paul Volcker's approach to encouraging a "real economy" was detailed recently by the NYT:

    Mr. Volcker’s proposal would roll back the nation’s commercial banks to an earlier era, when they were restricted to commercial banking and prohibited from engaging in risky Wall Street activities . . . “The banks are there to serve the public,” Mr. Volcker said, “and that is what they should concentrate on. These other activities create conflicts of interest. They create risks, and if you try to control the risks with supervision, that just creates friction and difficulties” and ultimately fails. The only viable solution, in the Volcker view, is to break up the giants.

    According to the NYT, however, Mr. Obama is no longer listening to Mr. Volcker, who Obama lionized during his presidential campaign.


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