PROFESSOR ROBERT SHILLER:
All right. This is the concluding lecture
for ''Financial Markets.'' And in this lecture, I want -- oh, I titled this lecture,
Finding Your Purpose in a World of Financial
Capitalism -- but I just want to give a lot of
summary thoughts about the course and about your place
in the world of business and finance. So, we had two -- well, the major textbook for
this course was by Fabozzi et al., and it gave you a lot of
detailed information about financial markets and
institutions. Did you like it? I'm getting approval, I guess. I put you through something,
because I thought you have to know that material. Finance is like a language. Well, it is a language. There's a lot of jargon, and
behind the jargon are concepts, and I wanted you to
immerse yourself in that. I also assigned my manuscripts
for my new book, which is tentatively entitled Finance
and the Good Society. I'm still not sure, that that
will be the final title. Some of you have been offering
me suggested titles, and I appreciate that. You can never know what the
title of a book will be, before you publish it, because
someone else can always grab the title, and then you've
got to change it. But that book was about -- see, Fabozzi et al. is more about all of the
language of finance, and all of the technical details. I wanted to supplement it with
something about the purpose of all this, and how it fits
into our lives. So, it's not done yet,
as you may be well aware in reading it. My apologies. But I benefit from interacting
with you about it. It's a dynamic thing. I have a number of themes. They're all just kind of random
thoughts about the major things in this course. But I mean, I'm really thinking
this time about the kind of tools we've learned
about, tools that are particularly useful for people
who specialize in finance. But I think, this almost should
be a required course for everyone. Maybe, I'm just too enthusiastic
about it, but the way things get done in our
society is through financial arrangements. And too many people talk in
vague terms, not, how are we going to make something
happen? And finance is about that, so,
that's why I think this course should be -- there should be more students
taking it than are. I also said, that I think that
finance is not a purpose in itself, it's a tool. And that you should be building
your life around some kind of purpose. There's a million different
purposes, so that's something for you to create in
your own mind. But that's, where the meaning
of life comes from. So, another thing I've
emphasized in this course is, that finance is like
engineering, so you have to design it. And once something is designed
and it works, it gets copied all over the world. You all have learned
how to drive a car. Is there anyone here who
hasn't driven a car? I won't ask for -- no one raised their hand. So, you have to know
a little bit about mechanics to drive a car. Maybe not too much. But ultimately, what I wanted to
do in this course is, maybe not teach you how to build a
car, but how to drive a truck, something big and powerful,
and get you beyond the simple things. So, finance, what does it do? It does really important
things. It helps allocate scarce
resources, it incentivizes people to do good work,
and it manages risks. And this is, what makes for
the developed world that we have now. Another theme of this course
is about information technology, which is something
that's rapidly expanding. I don't have to tell you that. But I think that it will change
the world of finance. The last 50 years have shown
tremendous changes, the next 50 years will show even
more dramatic changes. Or anyway, more specifically,
I have seven themes that I want to cover in today's
lecture. The first one is just about
the morality of finance. I've been talking about this
here and again, but let me say a little bit more about
that in concluding. My second theme is
hopelessness. There's a tendency for people to
think, that, at some level, because of the world's
problems, it's all hopeless, anyway. I don't think it is. Well, I've come to -- I'll have to tell you
what I mean by that. Then thirdly, I just
want say something about financial theory. Then to come fourth, to come
back to another theme, which is wealth and poverty, which
I've talked about a lot. Then, the world of
the next century. And I think, one trend we'll see
is the democratization of finance, that finance will
become much more of an integral part of our
lives in a new information-technology-enriched
world. And then lastly, I'll say
something about your career, whether it's in finance or in something completely different. But I'm thinking, that there
is a good chance it has something to do with finance. Let me start, though, with
the first thing, which is about morality. I have -- actually, the two
optional readings I have on this part of the reading list
are both about morality. And one is the book by
Unger called Living High and Letting Die. I think, it's a dramatically
well-written book, but on the first page of the book, he
refers you to UNICEF, which -- actually, his book was written
before the web got popular. The book is 1994, I think. 1996. He could have referred to the
web, but he gave the address. UNICEF is the United
Nations -- what does the I stand for? Children Educational Fund,
but what's the I? Can someone tell me? They don't actually emphasize,
what it's spelled out. It's the United Nations fund for
children of the world, and that's their website. So, he opens the book by saying,
why don't you get out your checkbook right now and
mail in $100 to unicef.org, because the estimate, as of
1996, is, that UNICEF can save a child's life for $3. So, you will save the
lives of 33 children for your $100 check. How can they do that? How can they save a life? I think, maybe he's referring
to things like vaccination programs, things that are
really cheap, that some children are not getting. And so, statistically, you can
save a child's life for $3. So, he says, write out a check,
but of course, I can tell you what to do, and that
is, just log on to that and get out your credit card. And I don't know, if you can
save 33 lives with $100, but maybe you can. So, when I first read the book,
I thought about that, and then I turned the page -- because most of us do -- and I realized later, a month
later, that I never had written out $100 check. So, I finally did. I went on to unicef.org and
I gave exactly $100, as he called for. Then, I started -- that was thought-provoking to
think about that, because why did I stop at $100? Why is it that most of
us don't do that? There are intellectual defenses
we have -- we think of ourselves as good people -- but if you were to see a dying
child, you would emotionally be driven to do something,
if there was something you could do. But somehow, when they're not
visible to us, we don't take action to make them visible. What the book consists of,
Unger's book consists of is an analysis of all the excuses we
give for not doing it, for not doing that sort of thing. So, living our comfortable
lives and letting other people die. And I think, it's really an
interesting book, because it is referring to a paradox
of human behavior. I think of this as at the
juncture of philosophy and psychology. And now, those two departments
are starting to -- I understand, I'm not in
either one of them -- they are starting to come
together, because they're realizing that philosophical
issues are related to psychological issues. So somehow, the human spirit
is very empathetic and sympathetic in certain
dimensions, but not so in others. When you read his book, you get
a sense of meaninglessness or loss of purpose. It's not entirely comfortable
to read it. He has a lot of examples
of moral dilemmas. I don't mean to find fault
with his book, but when I think further about it, it
seems, that maybe the book is a bit circumscribed by
the kind of moral dilemmas that he poses. In some sense, moral
dilemmas are -- it's almost like there's a moral
imperative for us to take action to do things. That's sort of what
he's getting at. But there's almost a moral
imperative to be entrepreneurial to do things. I mentioned before, Paul Allen,
who was one of the top people in Microsoft, who made
so much money and squandered some of it, apparently, on
conspicuous consumption, but on the other hand, gives a
billion dollars to charity. So, it seems to me that -- let's not conclude that people
who don't write the $100 check are evil, and let's think
of the many, many dimensionalities of morality. The other book I had on this
part of the course was by William Graham Sumner, and
it was written over 100 years earlier -- 1883 -- called What the Social Classes
Owe Each Other. And Sumner was actually Yale's
first real economist. Interesting person. He graduated Yale College in
1863, and he was hired by Yale as a tutor in mathematics in
1866, and became interested in economics and sociology. He has the distinction of
being the first American professor to teach a course
called Sociology, and in those days, there wasn't the
distinction between the social sciences that there is now. So, he could teach both
sociology and economics. So, in his book, I think, he
started a Yale tradition of conservative economics that
lasted until the 1940s. And then, Yale kind of drifted
more toward the liberal end. But he writes, anyway,
in 1883, "Is it wicked to be rich? Is it mean to be a capitalist?"
And he says, first of all, it seems, if
capitalists are just richer than other people -- he asks,
where's the dividing line, when someone is rich? So, is it wicked to be
above that line? But where do you
draw the line? And you learn from Unger,
maybe we're all wicked, because anyone who doesn't write
a $100 check every day to UNICEF, when children
are dying around the world, is wicked. What Sumner is saying, and it
seems to be a theme that survives the centuries, in
favor of capitalists. I'll quote Sumner. "The great gains of a great
capitalist in a modern state must be put under the head of
wages of superintendents. Anyone who believes that any
great enterprise of an industrial character can be
started without labor must have little experience
of life. Let anyone try to get a railroad
built or to start a factory and win reputation for
its products, and he will find what obstacles must be overcome,
what risks must be taken, what perseverance and
courage are necessary." I don't know, that I entirely
agree with Sumner, but he has a point, that part of our
morality is to do good for the world by doing things like set
up railroads, or Microsoft. And the kind of activities, that
that entails, will create opportunities for conspicuous
consumption, but not necessarily make that the
defining characteristic of someone who does it. Nobody is perfect, and it's
hard to judge people ultimately, but it seems to me
that there's almost a moral imperative to entrepreneurship. Let me go on to the second theme
that I said I would talk about, and that is
hopelessness. A lot of people, from their
education, get the idea that ultimately there's nothing
we can really do. This is one of Unger's -- Unger talks about
rationalizations we give for not being moral, and he
calls it futility as a rationalization. Ultimately, there's always going
to be starving people in the world, and I can try
to help this child, but something's going to
get him later, and so there's no point. If you have that kind sense of
futility, it can justify any amount of hedonism. But I think, that the classic
article that lends most people to that sense of futility, and
I assume you know about this already, but it's Malthus,
1798, his essay on -- well, the title of it is Essay
on the Principle of Population. So, Thomas Malthus wrote about
the population problem. It was such a celebrated essay,
that he went through six editions of it, but I'm
going to quote from the first edition, just to remind you. He said, in 1798, "Population,
when unchecked, increased in a geometrical ratio and
subsistence for man in an arithmetical ratio." So, the population
growth follows an exponential growth curve. He says geometric, but
it goes like that. Whereas he said, at best, the
increase of our ability to produce is linear. He calls that arithmetical. And so, the population
will run off with all of our resources. There's nothing we can do,
population will continue to put pressure on our resources. He says and I'm quoting again
from his 1798 essay, "Population, when unchecked,
goes on doubling itself every 25 years. If you go through two 25 periods
where there was no check on population growth,
it is impossible'' -- I'm quoting him -- "to suppose
that the produce could be quadrupled. It would be contrary to all our
knowledge of the qualities of land." And he comes now to his dismal
law of economics. He didn't call it that,
but I will quote him. "No possible form of society
could prevent the almost constant action of misery upon
a great part of mankind if in a state of inequality and upon
all if all were equal." So, the natural state of humankind
is bordering on starvation and dying. The force of his argument was
quite profound, because it was hard to argue against him, that
there's nothing you can do about it. That's just it. And all the theorizing of people
can only result in a world, where more people are
suffering and dying. If you want to think more about
this, I suggest you might go to Robert Wyman, who is
a professor here at Yale on Open Yale, which means it's
another of these courses open on the internet. Has of course called ''Global
Problems of Population Growth,'' where he spends a
whole semester thinking about the Malthusian problem. One thing that he talks about
in that course is, that there's a popular sense that the
population problem is not so bad anymore, because many
countries have introduced birth control policies. Notably, China has a one-child
policy, supposedly. It's not really a one-child
policy -- it's not enforced that well. It's more like a two-child
policy, or people have even more than that. But other countries -- India, certain regions of
India have made great progress, we're told,
on birth control. But still, despite that, Wyman
estimates that the world adds a billion people every
twelve years. So, that's a problem, and our
resources are limited. So, the problem is, that people
are crowding into the cities, because there's no room
for them on the land. They're trying to get an
education to push themselves ahead, but the sheer numbers of
people make it impossible for them all to get ahead. So, I suggest that you might
take his course. It's a problem that people
don't want to face up to. So, I'm sounding very dismal
here, but actually, I think that the problem is not
as bad as it may seem. This is my take on it. I tend to be a realist
about these things. We have a population problem,
it's going to be with it us, but, hey, it's been with us
forever, going all the way back in history. So, it's a tough world that we
live in, because the human race is naturally procreating,
and naturally creating population pressures and
conflicts that lead to wars and famines. We've been going through a
good run in the last few centuries, but I don't
know when the end -- it's not an end -- when we're going to see more
severe problems, but that just seems to be right
and inevitable. I think, that the weakest part
of Malthus' argument is the last step, saying that it's
necessarily a dismal world that results. I wanted to put the bright side
on Malthus' dismal law, and that is, most of the time,
everyone's fine in the world. Most people -- it's famines and wars are
intermittent events that reduce population. Between those big events,
pretty much everyone is doing all right. So I mean, maybe it's not
as bad as you think. You know, you might get killed
in a war someday, but you enjoy life until that happens. I mean, that's very basic,
but I think it's true. Moreover, I think that there's
a lot that we can do to make life better, even in the context
of the dismal law, even accepting the dismal law. And I think that civilization is
improving, so that life is better, even though there are
population pressures. And that's why I think
there is -- maybe I'm saying the obvious
here, but I want to say it anyway -- that there are plenty of
purposes and goals that people can fulfill, even taking as
given Malthus' dismal law. I talked last period about
nonprofit and charity, and government as well. There are a lot of people, who
are doing specific things to make the world respond better to
the dismal law of Malthus'. And I wanted to mention certain
examples, just to make this clear. I think, that there's work being
done by governments of the world, there's also work
being done by individuals who don't need government,
they set up their own organizations. Specifically talking about
the environment. This is what's being threatened by population growth. And so, there are many
foundations that deal with the environment. I'll just mention a few. The Nature Conservancy, the
Worldwide Wildlife Fund, the Wildlife Conservation Society. And there are specialized ones,
like African Wildlife Foundation, the Jane Goodall
Institute, the Diane Fossey Gorilla Fund. You know, you think the gorillas
out there are wild, but there's finance
and support. They've collected money. Someone is managing an endowment
for the gorillas. This is creative finance. A part of the problem with -- you think about, what's
happening with the population pressures of the world,
and is it bad or not? Well, in some sense,
it's good. Having 10 billion people out in
the world would just make for a more interesting place. There'd be more arts
and sciences, and fun things to do. Eventually, we're going to
colonize the Moon and Mars, and there's going to be fun
trips to do, so, I don't know, if it's a bad world we're
coming into, even if there are conflicts. But I think there are specific
problems with that world, and one of them is the extinction
of species. You think about that, we're
destroying habitat for species, and they're going
to be gone forever. But the thing is, that those
kinds of problems are problems that have sort of business
solutions. I wanted to talk about one
particular foundation. It's a nonprofit. I'll just give this as an
example, the Nature Conservancy. It was founded in 1951 in the
United States, but it now operates in 30 countries. Its total assets are $5.6
billion, which makes it the third largest charity in
the United States. And they have a principle of
''conservation by design.'' The idea is, our purpose is to
prevent extinction of species. Because extinction is forever. You know, these species have
taken hundreds of millions of years to evolve, they get
wiped out, they're gone. As far as we know, they're
gone forever. So, what they do is, they get
scientists who specialize in environment and biology, and
they say, which species are endangered, and what can we
really do to prevent their extinction? And one thing that the
scientists have been telling them is, that you have to
preserve habitat for species, and you have to do it with
purpose and clarity. What do these animals need? Some of them are migratory, for
example, and they migrate over long distances, so you have
to preserve a migratory route and stopping places
along the way for them. So, it has to be done well. So, the Nature Conservancy
believes, also, that the way to protect habitat is to buy
land, and put up fences around that to keep people out, and
then have a forest manager run it, so that the species will
have it, will have that land. They say, that they have 500,000
square kilometers of land that they've bought
around the world. I calculated, that there's 150
million square kilometers of land on the earth, so they have
1/3 of 1% of the world's land protected by
their charity. That might seem small, but you
know, that's a big difference. Because, if it's the last
habitat, that might be enough to keep a lot of species'
diversity going. So, that's an example of what
-- this is really finance. We have portfolio managers
managing portfolios and properties of land with
a good purpose. That's, where I say, the moral
dilemmas are not so simple. You could take a job managing
a portfolio for one of these foundations. Peter Unger, in his book, is
talking always about, would you save a child who fell
in the water or something like that? But that's not the kind of moral
dilemmas that we really face, that an energetic
intellect would find. The moral dilemma is to prevent
big, bad things from happening, and that takes a sort
of entrepreneurship and big thinking to manage. Another thought I had in this
context is about wars. I was saying that population
pressures are a fact of life, and I'm skeptical that anyone
will change the basic nature of the situation. But I wanted, in this context,
to emphasize that financial arrangements are capable of
enduring and surviving wars and catastrophes. I wanted particularly to make
it clear, that there's a tendency for people to think,
that finance is something that the government runs. You can easily get that
impression, because, when you go into finance, the first thing
you have to do is get licensed, and you have to file
some papers with either the government or a
government-approved organization. And then, you will find, there's
a whole list of laws and regulations that you have
to memorize, and forms that have to be filed with government
agencies, and permissions to be granted. So, it sounds like this is
just the government. But I think, that's
the wrong view. I think that you should think
of finance as people making arrangements with other people,
and governments are helpful, and they enforce a
contract, but they don't determine them. And in particular, I wanted to
give you a few examples that clarify this. What do you think happened
after World War I with financial arrangements? Germany lost the war. People were really angry
with Germany. In the Versailles Conference
after World War I, Germany was made to pay huge reparation
payments, payments that some people thought were so heavy,
that the country will never be able to do it. So, what do you think they did
to financial contracts? Germany was at its knees, people
thought they were evil, or many people thought
they were evil. Well, there was talk about
taking away -- people who own stocks or bonds, let's just
confiscate them, and tell them, you were in the wrong
country at the wrong time -- tough on you. Well, they talked about doing
it, but they didn't do it. The reparations were obligations
of the German government, and they were
paid by taxing people. And they taxed people
in an equitable -- they didn't actually pay
them, by the way. The skeptics were right. Germany never was able to pay
the reparations, but it tried to pay them by taxing people,
not by confiscating. Because ultimately, when it came
down to it, they thought, well, Germans are all different,
and some of them supported the war, and some of
them didn't, and some of them saved all their lives, and
they've got a big amount of money, so let's not confiscate
their shares. So, they didn't. That's my first example. Second example. Iran. Remember, it was ruled by the
Shah of Iran, who was a secular ruler, hereditary
ruler of Iran. Overthrown by a people's Islamic
revolution, and the Ayatollah Khomeini became the
spiritual authority for the new country, it became
much more Islamic. All right. So, what do you think happened
to financial contracts in Iran? In particular, the Iranian
government under the Shah had a social security system, and
they were paying to government employees' pensions. So, what do you think
the Ayatollah did? A guy is working all his life
for the Shah, we've overthrown the Shah -- do you still get your pension? What do you think? They did. They didn't cancel. I think, it's like
common sense. You come in, you are a totally
different government, now you're a radical Islamic
government. Now, I don't say, that they
won't do some things that you don't like, but they see the
basic financial contracts and they preserve them. The other example I'll
give is South Africa. And that is, in 1994, the white
apartheid government was replaced by a government that
was elected by the black majority in South Africa. So, what do you think
happened to their pensions or their insurance? Where they confiscated? No. So, I think that this is
a principle in history. Now, I can give other examples,
of course, where things went badly. Vladimir Lenin wasn't so kind
to stockholders in Russia after this Russian Revolution. Lazaro Cardenas in Mexico
nationalized the oil industry. Mao Zedong -- you know who he is,
in China -- not kind to capitalists. Mohammad Mosaddegh in Iran
nationalized the oil industry. Gamal Abdel Nasser in Egypt
nationalized a wide range of industries. Even in India, Indira Gandhi
did widespread nationalizations that were
effectively confiscations. Even the United States has in
some sense been involved in those sorts of things. After World War II, the United
States was not going to confiscate wealth of wealthy
people in general, but in Japan, there were these
wealthy families that maintained industries,
called Zaibatsu. These were the family-owned
businesses that dominated Japan before World War II. The big four, Mitsubishi,
Yasuda -- who else? Mitsui -- and what am I thinking of? It's not in my notes. But these big, wealthy families
were thought to have supported the war and made Japan
into more radical than it would have been. So, there was a lot of U.S.
thinking that we had to break up the Zaibatsu. So, what the United States did
was, force these families to convert their holdings of
industry in Japan into yen-denominated government
bonds. And then, the Japanese
government had a huge hyperinflation and
wiped them out. So, it wasn't actually
a confiscation. The U.S. government didn't
deliberately confiscate the wealth of the Zaibatsu, but
they effectively did that. By the way, we still have
Zaibatsu in Japan, but they're not owned by those
families anymore. The same industrial
conglomerates still survive. Third topic, I was saying
I would talk about is -- maybe I'll be brief about
this -- the importance of financial theory. I'm an advocate of two seemingly
disparate things, and you know this from
this course. One of them is Mathematical
Finance. We spent some time on it, but
not very much, because there's another course -- it's
also on Open Yale -- that John Geanakoplos has
on Mathematical Finance. But the other side of it is
Behavioral Finance, which is a particular passion of mine. And Behavioral Finance is the
application of psychology and other social sciences
to finance. And I think, that the two
actually work together symbiotically, and that we
should consider them together. Some people in Mathematical
Finance are very opposed to Behavioral Finance, because it
kind of muddles their world, but in fact, I think, they
should consider it their salvation, because without
Behavioral Finance, they're kind of bordering
on irrelevant. You have to consider things in a
broader context and think of the interruptions and problems
that are caused. I said, the next topic I would
talk about today is -- I've already been talking about
it a bit -- is about welfare and poverty. It seems to me, it's
fundamentally connected with our thoughts about finance,
because -- I've referred to this problem
before, that people think, that people who go into finance
are money grubbers. They want to make money, they
don't have human feelings or something like that. And there's also the sense, that
we're living in a world that's increasingly plutocratic,
that the wealthy people are controlling
the world. That was a theme that took a
lot of impetus in the 19th century with Karl Marx,
who said exactly that. And in some sense, it's
coming back -- maybe in not such
an extreme form. So, Jacob Hacker, who's in our
political science department, and Paul Pearson, who's at
Stanford University, have a new book that just
came out called Winner-Take-All Politics. And that book is about -- they have a claim in that
book, that the world is getting more polarized by the
political power of financial institutions. Basically, they have something,
they call the ''30 years war.'' What's
the 30 years war? You might think, it's something
that happened in the 17th century. Not for them. The 30 years war is the war
against the people of the world, fought by the financial
community in the halls of Congress and Parliament,
by lobbying. So, they argue that the
companies have gotten more and more sophisticated in lobbying
governments to fulfill their ambitions, and so, the income
inequality that we're seeing increasing, particularly in the
United States, but also elsewhere in the world, is
a consequence of this. So, Hacker and Pearson say -- much of the literature on income
inequality says, it has something to do with the
information revolution, which is eliminating jobs for low
income people, and the increasing importance of
education, which rewards college graduates at
the expense of uneducated people -- but they say, that the real
increase in inequality has not been between high school
graduates and college graduates, it's between the
whole population and the top tenth of a percent. There is this small community of
super rich people, that is developing, who are very adept
at lobbying governments. This is a trend that's
developing. Well, I think to some extent,
they are probably right. I think, maybe they overstate
that, but I think, it's a concern, but I think, that
we do have democratic institutions, and we can
respond to that. So that I think, maybe, they
overstate it, because I think that -- I've met billionaires
in my life -- I have a sense, that
they are not -- I haven't met enough of them
to make generalities about billionaires -- but maybe, they have a little
bit of a self-serving mentality, but in some sense
they seem not to care. They don't want to be viewed
as evil, they want to be -- a lot of what drove them to
become billionaires was a sense, that they would be a
benefactor of some sort, and so they're ready to
give it away. Anyway, that may be a
casual impression. But one thing that angers people
about wealth is the tendency of wealthy people to
build monuments to themselves. So, I was thinking of that, when
I was at the J.P. Morgan Library in New York, and also
there's something called the Metropolitan Club, which is
another building that he built to himself, this huge mansion
in Manhattan that he built. And I was thinking, is
J.P. Morgan evil? I mean, people are starving in
the world, and he's building a mansion for himself. But then, I reflected
further -- here, I am having dinner
in his mansion. He's gone. And is it really so bad in
the scheme of things? I guess, you can view it
in different ways. You can view J.P. Morgan as a
great success, who ended up helping the world, or you
can view him as a selfish monument builder. His life overlapped with Karl
Marx, that I told you about. But one of Karl Marx's
themes was, that the system is unfair. That some people
have capital -- that was a theme of his book,
Das Kapital -- some people have capital, and they are
wealthy as a result, and they will continue to be wealthy,
and they'll make their children wealthy as a result. I actually have a quote
from Karl Marx. "It is not, because he is a
leader of industry that a man in is a capitalist. On the
contrary, he is a leader of industry, because he is a
capitalist. The leadership of industry is an attribute of
capital, just as in feudal times the functions of general
and judge were attributes of landed property." That comes
from his book, Das Kapital, in the 19th century. So, Marx thought, that ownership
of capital was like a key to the good life, and
that the population was excluded from that. But I'm going to come back
to the democratization of finance, but it seems like
capitalism -- it isn't essentials to capitalism
that some social class dominates capital. We can have a capitalism that
is divided up among -- that is more people's, it
belongs to people, and there's not a privileged class. So, I another thing I wanted to
talk about is my concern -- Marx was impressive -- I think I may have said
this before -- he was impressive, because he
read emerging sociology. And the sociology of his day
was beginning to recognize, that people do form themselves
into social classes, and have a sense of loyalty to others
in their social class. But I think, that anything
he said is of limited relevance today -- was always of limited
relevance. Interesting, but wrong
in many ways. I'm thinking of the works of
another important thinker, Robert K. Merton, who was a
sociologist at Columbia. He was the father of Robert
Merton, the economist, who helped develop option theory. But Robert K. Merton referred
to, what he called the ''cosmopolitan class.'' He was
looking at social classes. He picked a small town in the
United States, and interviewed a lot of people, and was trying
to understand their class structure. You know, who do you
identify with? Who are you loyal with? He was a deep thinker, I think,
and looked at what really seemed to separate
people. And he decided, that, in this
little town, that there were really two classes of people. He called them cosmopolitans
and locals. So, the cosmopolitans had a
very different worldview. They tended to not care about
what's going on in their town. They would talk about national
or international things. He'd listen to what they say. They were focused outside,
they thought the town was irrelevant, and they tended
to have maybe higher-level positions. The locals were people, though,
who would talk all about their town, and
they would talk about people they know. They seemed to value their
connections within the town. And when you asked for opinions
about the local town, the locals would tend to give
almost loving expressions. This is a great town, we have
a great people here. And the cosmopolitans would act
totally indifferent, and they don't know anybody. They don't know, who's the head
of the fire department, or who holds the -- maybe they know the principal
the school, because they may have their kid in the school,
but beyond that, they don't know anything about
their town. So, Merton wrote that
over 50 years ago. I have a sense, that it's
developing further, this split between cosmopolitans
and locals. And it's developing
on a world scale. There's now a world cosmopolitan
class, and with increased communications we're
kind of split that way. So, people around the world
who are learning to speak English well, that's the world
language, people who travel around the world, and people
who are finance savvy, they are developing into
a social class. And I think, that there are
animosities and conflicts, but it's a little bit harder,
because the cosmopolitans are so scattered and they're
relatives of us, so it's not as intense a social contrast. But you know, I think, that the
animosities that we are feeling now have to do with the
fact, that cosmopolitans know and understand
finance, and they have lawyers and advisors. The rest of the population
feels excluded from that. So, that brings us to what I
said was the democratization of finance. And this is a theme of my own
that I've been emphasizing. So, the democratization of
finance is sort of trying to make it move beyond the
cosmopolitan class. So, cosmopolitans know how to
get things done, how to raise capital, and they know how to
manage their risks, so they don't get into trouble. Inequality is substantially
due to a failure to manage risks. Right? I mean, some inequality is due
to fundamental things, like someone is talented and
can make more money. But it's also due to random
things that are not controlled. Notably, in the current
financial crisis, we saw a huge drop in home values. And we saw people, who bought
homes at the top of the market, and then they find, that
their mortgages are worth more than their homes are,
and so they have a negative net worth. They're in trouble, they
would be bankrupt -- maybe they're not bankrupt
yet, but they're verging on that -- they're very unhappy. This was a failure, I
think, of bringing finance to the people. So, it's not democratizing
finance -- we haven't finished
democratizing finance. So, it's kind of chaotic,
the way things work for most people. Most people who, a, do not have
a lawyer, b, do not have a financial adviser, c, do
not have an accountant. Or maybe they go to some
storefront tax-paying service, but that's as far as they go. And these people make a
mess of their lives. So for example, we have laws
that allow people to go bankrupt and wipe
off their debts. All you have to do, if you are
in trouble, financial trouble, is go to a lawyer and say, can
you help me file for Chapter 7 bankruptcy? I'd like to wipe out
all my debts. But usually, you have to have
$1,000 to pay the lawyer to help you do this, and these
people can't get it together to do that. So, what happens? What happens to this typical
person, who is uneducated, has gotten deeply in debt? What do you think happens? Do they ever declare
bankruptcy? No. What do they do? They stop answering the phone,
because they're getting these dunning calls from creditors. And so, the creditors then -- it's called informal
bankruptcy. They will go to court, and ask
the judge to allow them to garnish the wages of the person
who won't pay and won't answer the phone. So, they'll take another
deduction from the person's paycheck, eventually. The person never
figures it out. His paycheck just went down,
he is paying off his debt. What a mess. But that's because of the
failure of financial institutions to handle
things well. So, Elizabeth Warren,
who is at -- I mentioned her before -- at the Harvard Law School has
written a couple of books about these problems
that people face. And it's a testimony to the
success of our democratic government, that she managed to
persuade Dodd and Frank to put it in their bill, the
Consumer Financial Protection Bureau, which would create a
government agency that would try to limit the abuse
of lower income, less educated people. We were hoping, that she would
be made head of her bureau, but it turns out, that
she's only acting -- I forget what her exact
title is -- transitioning into finding
a head for the bureau. Because the lobbyists that I
told you about, representing credit card or the mortgage
industry, are adamantly opposed seeing her put on
as head of the bureau. So, it looks like it's
politically impossible to put her in charge of it, but she's
at least involved in helping pick the person who would
make that happen. So, I think these are nice
steps forward, but I wrote a book -- let me just mention my own book
-- in 2008, called The Subprime Solution. And so, I was trying to
think of the future. Again, I'm trying to think
creatively and expansively without thinking punitively,
as Elizabeth Warren seems often to do. Her view tends to be, that there
are exploiters who need to be regulated. But I'm thinking, that maybe
there's something positive we can do. So, I have various ideas. Also, I had -- this
was 2008 -- I also had another book, The New
Financial Order, in 2003. I'm getting on toward 10 books
now in my life, and I'm having trouble remembering which
one is which. I was just commenting
to my wife, it's a little bit of a problem. But somewhere in these books,
one of the ideas I had -- actually, it's in The New
Financial Order -- is for livelihood insurance
that would help protect -- this is a financial institution
that would protect people's livelihoods. I viewed it as an expansion of
something that we've got already, called disability
insurance. In fact, it's been offered by
the government in the United States as part of the social
security system, but it handles certain insurance
against certain specific kinds of risks to livelihoods,
namely health risks. If you become paralyzed, if you
become mentally ill, any of those things that
a doctor can attest to, is insured already. Very important, because things
like that happen to people and they can't earn a living
anymore, and it happens to young people. And so, we have private
insurance, the government has taken over part of disability
insurance, but there's also private disability insurance. But none of this covers the
biggest threats to people's livelihoods. Most threats to livelihoods are
not due to medical events. It's economic events
that make you -- you know, you're 40 years old,
you've trained for, let's say, nuclear engineering, and then
we have the Fukushima or the Sendai disasters, and then
suddenly no government of the world wants to build nuclear
plants anymore. So, here you are, you're 40
years old, you're reaching your prime, you would normally
be making a good, high income, but now it's useless. No fault of your own. This is a risk that you cannot
now insure, and it's part of the thing that contributes
to inequality. And so, I think that we can
insure those things, and in the future, as finance develops,
these are some of the missions that
we have to do. Another thing is home
equity insurance. I mentioned before, that the
crisis was caused by failure to insure against
home price risk. I've been working on
trying to get home equity insurance started. Some of my colleagues at Yale,
Will Goetzmann and Barry Nalebuff particularly, have
actually created an insurance policy that would insure homes
against price declines in the city of Syracuse, New York. Didn't really take off,
so this is still not happening yet. But here's the idea -- you can buy insurance against
your home burning down. That goes back 300 years. But how often do homes
burn down? Not very often. What's the real risk
that you face? It's the loss of economic
value of a home. And so, that is not insured
anywhere in the world. Why not? We could insure it. I think, these are things
that would -- developing home equity insurance
or livelihood insurance would be
positive steps. I have one more example from
this book The Subprime Solution, something
that I call a continuous workout mortgage. In the financial crisis today,
right now, there are 2.5 million households that are on
the verge of defaulting on their mortgages -- haven't yet, but they are at
risk of defaulting and being thrown out of their houses. So, that's something like close
to 10 million people. Big time event. Why is it that they're
being thrown out? Well, because their home value
has dropped, maybe they're unemployed, their income has
dropped -- we still have 8.8% unemployment -- and they can't pay
their mortgage. And maybe, they think it's
futile, because they're paying a debt that is bigger
than their wealth. So maybe, they don't feel in
a very good mood about it. They go back to the mortgage
lender and ask for a workout, and the mortgage lender
typically says no. The government has done a
sequence of programs to try to encourage the servicers of
mortgages to do workouts, that means lower their payments or
somehow worth make it easier. But it's been disappointing. They haven't succeeded in
getting cooperation on these programs. It's one of
the big tragedies of the financial crisis. So, what I proposed is, that
we should think forward. I don't know, how we can solve
this mess right now, but think about in the future, having
mortgages that have a pre-planned workout. And the workout would
lower the cost of -- lower the payment
on the mortgage. Continuously, not just -- the other problem with workouts
is, even when people get a workout on their mortgage,
they default anyway, because things get
even worse later. And you've got one workout, you
go back and say, I'd like another workout. They say, you have got
to be kidding. And anyway, the government, like
the HAMP program, that the Obama administration has
promoted, has only one workout for each family. So, I think they should be
continuous and automatic. And they don't require anyone
to apply for a workout. So, how much time do I have? I think I'll move to my last
subject, which is your career. Because you are young people and
you may be wondering what you want to do. I think, I maybe have reflected
on this before. You probably feel, that you
want to do something important, and you want a sort
of perfect career, something that tells a story, makes
a story of your life and ultimately serves
for good causes. But when you read Unger, you
don't get an inspiration like that, right? You get -- he says, write a check
right now to UNICEF. Well, I can do that, but it
seems unrewarding just to give to charity. I can just live like
a monk, right? I could take a job at a
hamburger joint, and then give all my money away to UNICEF. Somehow that doesn't feel -- I think, that you know, that
you have abilities, and you want to see them flourish,
and you want to -- that's why I think, you
shouldn't be flipping hamburgers and giving
the money away. That's not what you should
be doing now. And instead, it would be
learning things that make it possible to do good works. What is the perfect career? I mentioned Paul Allen
or Bill Gates. Bill Gates -- I shouldn't give you an example
of dropping out of college, but he dropped
out of college. And by the way, you should
do that, if you have a Microsoft-size idea, but I think
I've said this before. I don't know. What is the perfect career? I'll give you another example. Mohammad Yunus. You've heard of him. He went to a Ph.D. program at
Vanderbilt University, got his Ph.D. in 1969, became an
assistant professor of economics at Middle Tennessee
State University. But then, the big thing that
he did is, he went back to Bangladesh and founded
the Grameen Bank. The Grameen Bank, which
specialized in making microfinance loans
in Bangladesh, and that was in '76. [clarification: Mohammad Yunus
started making microfinance loans in Bangladesh in 1976,
but the institution of the Grameen Bank was not established
until 1983.] Grameen apparently means ''of
the village'' in Bengali. But what he did is, he conceived
of a new way of making loans to very
low-income people. Banks before Yunus didn't have
much interest in lending to low-income people, because the
costs of administering the loan seemed to be too high,
relative to what you could get back. But he had a scheme for
getting people to pay back the loans. Often, they would make loans
to women in groups -- impoverished women, but he would
lend to the whole group and say, that the whole group is
jointly liable to the debt, that's the only way
we'll make it. And it's for business, for
starting a business, like getting a wheeled cart,
where you could sell food on the street. Some simple, low business
like that. You can't do it, unless you get
a little bit of capital, enough to buy the cart
and buy the first food to start selling. And these women can't get that
capital, but when he makes it available to them as a group,
they then interact with each other and enforce the good
behavior of each other. And it's a system that worked. So, he won the Nobel Peace
Prize in 2006. It was not the prize in
economics, it was the prize in peace. So, that's an example of the
kind of careers that, I think, some of you might think about. So, I think that in looking
forward to your own careers, you have to think about
the next five decades. You're going to be working -- I said this before, I think -- but you're going to be working
for another 50 years, right? More, if you enjoy it. With modern health care, you
might live to 100, but you won't be working at
100, probably. You'll probably retire
by then. Maybe not. Maybe, you've got a century
ahead of you. And I think, that the world will
change a lot over this interval of time. I think that, by the way,
information technology will be changing so many things
that we do in ways that we can't see. And financial markets
will be everywhere. So, I may be presumptuous to
think, that some of these ideas here are likely to come
about, but I've come to start to think, that they're all
inevitable, because we've already seen the past. We've
seen, how financial markets have captured more
and more risks. And we have such an advance in
our technology, that there really ought to be big changes
that will come. So, I guess, what you have to do
is, maintain a century-long personal outlook. I mean, just think
about how much happened in the last century. We had two world wars,
we had the whole communism came and -- extreme communism came
and disappeared. Things like that are going to
happen in the next century, and so, I think you have to
reflect on your role as an agent, not to think of it as
something that a remote government is handling. This is something that you
have responsibility for helping develop, how
the world will turn out in the next century. I was just saying that
governments come and go, but financial contracts and
institutions and the people who manage them continue. I think, that you face great
career risks in this new environment. I mentioned before, the 40
year-old, who finds that his career is suddenly eliminated
because of some random change. There's evidence that, what
happens to you in life, depends on random events. It's really so much
unforecastable. I'm thinking of myself,
for example. What did I think I
would be doing? I'm still -- I just stayed in
the same place. I've lived in New Haven for
almost 30 years and I've been a college professor. But when I was your age, I never
thought that I would be doing public speaking
the way I have been. I get -- I'm all over the -- I don't mean to exaggerate,
but I didn't have the confidence. You know, I was on my high
school debate team, and I didn't particularly do well. I think you just develop -- careers develop and random
things happen, and you discover things about
yourself. I was going to point out
studies, that show how random events affect where you go. So Joshua Angrist, who's an
economist, did a study of the effect of the draft lottery on
success of people in life. In 1969, during the Vietnam
War, the U.S. government decided to use a lottery,
based on birthdates, to decide, who gets drafted
into the U.S. Army and sent to Vietnam. And so, Angrist thought, that
was a good controlled experiment. Let's compare the lifetime
income of people who -- they way they did it is, they drew
out of an urn all birthdays -- there's 366 days, birthdays -- they drew them out of an urn,
and the first one who was drawn was the first one
to go to Vietnam. And then, as it went down, the
higher the number, the less likely it is that you would
ever be asked to go. And so Angrist -- by the way, I got 362. I couldn't believe it. What great luck. We were listening
on the radio -- I was a graduate student -- we
were listening on the radio for the lottery numbers, and
we were drinking beer, and people were all excited,
wondering who was going to get drafted. And I thought, you know, when
it got into the 350s, 350, 351, 352, I thought, I must
have missed my birthday. I can't be this far down,
but I got 362. And that's part of my success
story, because according to Angrist, people who were
drafted, who got the low number on the lottery,
ended up with lower lifetime earnings. That kind of random event
affects your whole life. You know, the word career goes
back to the sense, that there are random things that happen,
opportunities that come, and lack of opportunities
that hurt your life. So, I think that you have to
accept the fact, that it's a risky world, that you have to
try to position yourself, maintain -- I think -- one important piece
of advice I like to think of is, maintain an orientation
toward history in the making. That there's a tendency for
people to orient themselves in terms of their own life cycle. They think, what's
going on now? Well, I'm a junior at Yale, and
I'm going to be applying to graduate school next year. You should be thinking, well,
this is a time in history, when the Middle East is changing
rapidly, that the emerging countries are
developing new technologies, and thinking about the
opportunities that are happening in the world. That's kind of what
we got from Hank Greenberg in his lecture. Remember, that he said, that
the founder of his company decided to move to China at
the beginning of the 20th century, and founded a business
because of what he saw was happening in Shanghai,
which was an international city at the time. So, I'm going to go there, and
I'm going to make a business. That's kind of positioning
yourself with history. And then, he moved out of China
before Mao Zedong took over, and then moved back in. I mean, this is history
awareness, and I think that it matters enormously. But you still can't completely
eliminate the role of chance in your life, this is a
time-honored principle. I was actually going
to quote the Bible. Ecclesiastes was a book of the
Bible written in--when was that written--around
500 BC or 600 BC. And this is, you probably
already heard this, "I returned and saw under the sun
that the race is not to the swift, nor the battle of the
strong, neither yet bread to the wise, nor yet riches to men
of understanding, nor yet favor to men of skill, but time
and chance happeneth to them all." So, that's a
time-honored truth, that randomness-- I actually had this "time and
chance happeneth to them all," I actually had that inscribed
in Latin when I had my office redone. It's over my desk in my office
at home, "tempus casumque in omnibus." Chance plays a huge
role in our lives and this risky world plays a sequence of
events over your lifetime that we have to try to manage. So, what I hoped to
do in this course. This was really a course about
managing risks as well as enterprise and creating
a cooperative spirit. I wanted to try to convey to you
that we have a technology for that, that should be
a part of your life. All right, thank you. [APPLAUSE]
