This article is related to Anthony Biglan’s new book Rebooting Capitalism: Forging a Society that Works For Everyone.

Sometime in 2007, I read an article in the New York Times about how Wall Street banks were having collateralized debt obligations rated for their safety by one of three major rating houses, Standard & Poor’s, Moody’s, and Fitch. A collateralized debt obligation is an investment that consists of a set of loans or mortgages. More on that later. The article explained that the rating agencies were competing for the business of the banks, which paid them to rate the worthiness of the CDOs. The better the rating, of course, the more the banks could charge for the CDO.

I remember thinking, “Uh oh!” It was obvious to me, as it would be to anyone who understands the principles of reinforcement, that the agencies would be motivated to give high ratings to the CDOs; if they didn’t the bank would hire a different agency. And indeed, emails that came to light after the crash of 2008 showed that the rating agencies had indeed been motivated to give the banks what they wanted.

The Great Recession of 2008 cost the world economy trillions of dollars, threw millions of Americans into unemployment, and homelessness and contributed to 4750 suicides1 and 18,000 cancer deaths.2 It is a classic example of what happens when people are blind to the contingencies that influence people’s behavior. Of course, the rating agencies inflated their estimates of the values of the CDOs. They were being paid to provide a service to the banks that would help the banks to make a profit. They and the banks relied on the myth that the rating agencies are entirely objective in their estimation of the value of an investment instrument. Both the banks and the rating agencies profited handsomely from the widespread and erroneous belief that the rating agencies were wholly objective. If anyone in the regulatory community had understood (or been willing to admit) that people’s behavior is influenced by its consequences, this tragedy could have been prevented.

This was not the only failure to see harmful contingencies in the run-up to the crash of 2008. The first failure was the inability of regulators to see the danger of allowing banks and other lenders for home mortgages to bundle their loans into Collateralized Debt Obligations and sell them. Traditionally local banks loaned people money to buy houses. Because the bank stood to lose money if the mortgage was not paid off, the banks were scrupulous in assessing people’s ability to repay these loans. But when it became possible for banks to bundle these mortgages and sell them to Wall St bankers, the contingencies changed. Local banks now had an incentive to give mortgages. Because they could sell them, they did not need to worry as much about whether they would be paid off. Of course, Wall Street banks wouldn’t want to be holding mortgages for people who weren’t creditworthy. Ah, but if Wall Street could turn around and sell them in the form of collateralized debt obligations, they would be passing on the risk to buyers and would have the same motivation that the local banks had. And if the rating agencies gave these CDOs good ratings, there was money to be made and little risk to the Wall Street banks. After the crash, it was widely reported that people on Wall Street were saying, “I’ll be gone,” by the time the true worth of these CDOs became apparent.

In the 1920s, Charles Ponzi figured out a way to harness the madness of investment crowds with a scheme that came to be named for him. The key trick in a Ponzi Scheme is to pay high returns to the initial investors using money that later investors put in. Ponzi was able to maintain the scheme by sending reports of the high returns to the initial investors. The later investors are motivated to put their money in because of the returns they see the initial investors getting and the initial investors didn’t want to take their money out of such a seemingly lucrative investment.

A more recent Ponzi scheme was the one that Bernie Madoff carried off for many years.3 His Ponzi scheme came to light when the Great Recession hit and people began to withdraw money from his fund. Prosecutors estimated that the scheme led to losses of $64.8 billion. Although the scheme did not collapse until 2008, doubts were raised about Madoff’s investment firm as early as 2000. A Boston investment analyst, Harry Markopolos, looked at Madoff’s reported returns and concluded that they were too consistent to be believed. Madoff had had only 7 months in which he reported the fund losing money over a 174 month period. Markopolos took his concerns to the Securities and Exchange Commission, but they did nothing.

At the root of the Great Recession of 2008 was a Ponzi scheme run by the entire network of Wall Street banks. At the bottom of the bubble were people buying homes. Because it had become easy to get mortgages, more and more people began to do so. As in any market system, the more demand there was, the more prices of homes would go up. Many people realized that in this market, they could buy multiple homes and sell them a year or so later at a much higher price. This further increased the demand for houses, which further increased the price of homes.

This is nicely documented in Michael Lewis’ book, The Big Short, and the movie by the same name. I recommend both. Lewis tells the story of a few investors who realized that the housing market had become a bubble. The collateralized debt obligations—the financial instrument that bundled home mortgages to be sold by the Wall Street banks—consisted of sets of mortgages. By the time these CDOs got to Wall Street to be sold, very little attention was being paid to whether the mortgages inside them were as safe as mortgages used to be when local banks, granted them and held onto them. But when Steve Eisman became suspicious about the real worth of the CDOs he had his staff investigate each mortgage in some CDOs and discovered that many of the houses were unoccupied. They had been purchased by speculators who had been flipping the houses (selling at a higher price when their value went up) after a year or so and making money on them. Eisman and a few other investors decided to bet against these CDOs by buying credit default swaps that would pay off if a bond failed. When the crash came, Eisman made $400 million.

All of this may seem obvious even to someone who is not trained to study the contingencies that influence human behavior. But it was far from the view of the titans of the financial industry and those who were responsible for regulating their business practices. They are under the thrall of free-market economic theory. According to this theory, markets are self-correcting. There is an old joke about someone pointing out to an economist that there is a five-dollar bill on the ground. The economist replies that there couldn’t be because someone would have picked it up.

According to free-market theory, bubbles can’t happen because everyone in the market place is motivated to maximize their return on investment and that motivation will lead them to avoid transactions that would be harmful. A market in which everyone has all the information they need and everyone is free to act as they choose is known as an efficient market; everyone is maximizing their outcomes. The theory is founded on the assumption that players in the market always act rationally and that they have the information they need to maximize their outcomes. Both of these assumptions are contradicted by a wealth of evidence. But that evidence did not penetrate the financial and regulatory system in time to avoid the Great Recession.

Take the assumption of rational actors. Daniel Kahneman received the Nobel Prize in Economic Sciences in 2002 for his work showing that people are quite frequently far from rational actors. Among the biases of judgment that lead us to deviate from rational judgments is an optimism bias in which we wrongly believe that we will be more successful than other investors. Another is loss aversion, where people are more motivated to avoid the loss of a given amount of money than to gain that same amount of money.

Then there is the question of how much information market participants have. Economists have enumerated a number of ways that markets are not efficient, in the sense that they maximize buyers’ and sellers’ outcomes. The one that is most relevant here is an imbalance in information where the seller knows things that the buyer doesn’t know. Certainly, the buyers of CDOs, trusting that the rating agencies were accurately estimating the value of these investments did not have accurate information. The buyers of homes did not realize that the steady increase in housing prices was not sustainable, that it was a classic bubble, which would pop as soon as there was any downturn in prices.

Free-market theory is not entirely wrong. It lines up with an analysis of the effect of contingencies on behavior to some extent. For example, if a market participant has accurate information about the value of things they might buy or sell, they will tend to maximize their benefits. In this case, their behavior will be selected by consequences that are truly beneficial.

Indeed, if free-market theory were consistent with what we know about the contingencies of reinforcement, it would have predicted the debacle that occurred. Markets work to provide increasingly better goods and services because the actors who improve those goods and services are reinforced for doing so. It is the reinforcement for the actor that matters. What were the reinforcers for the people who ran the rating agencies? Getting business from the banks. They provided exactly the service that the banks needed. The banks got what they wanted, profits from the sale of CDOs. The home buyers got what they wanted, homes to live in or to flip. All of the actors in this tragedy were getting immediate reinforcement for the actions they took. They did exactly what behavioral scientists would have predicted.

Of course, the long-run consequences for many of the actors in this story were distinctly negative. Although many of the big banks made out just fine, millions lost jobs, houses, and, in some cases, their lives (due to suicide and heart attacks). In the absence of effective analyses of the long term consequences of our behavior, human behavior, like that of other organisms, will be selected and maintained by its immediate consequences.

The History of the Free-Market Illusion

The Great Recession was the culmination of a nearly forty-year evolution of free-market theorizing that led to the abandonment of the policies that had been put in place as a result of the Great Depression.

Let’s start this history lesson with the Great Depression. In 1929 the American stock market crashed. The crash was the result of the unsustainable run-up in the value of stocks—a classic bubble. At the time, there was virtually no regulation of the stock market. Requirements regarding the information to be given to prospective investors were minimal. The dictum Caveat emptor—let the buyer beware—was about all there was.

As stock prices rose and banks became more aggressive in marketing investments, it brought many people into the market who had never invested in stocks and who had very little understanding of investment. Among the factors that contributed to this situation was the increase in advertising largely as the result of the spread of radios; by 1930, 60% of households had radios.4

The situation was made more precarious because people could buy stocks on “margin.” They could put up only 10% of the price of the stock and pay off the rest when the price of the stock rose (which it did through most of the 20s.) However, by 1929, the economic expansion that had begun in 1920 ran out of steam. There were no more people who could enter the market and buy goods thus continuing the expansion. Stock prices began to level off or decline, which resulted in “margin calls”—the demand that those who bought on margin put up more money to cover their loans. That led to a panic in which people were forced to sell their stocks. By 1932 the market had lost 90% of its value. Thus, began the most prolonged depression in U.S. history. It did not fully end until the U.S. stepped up war production in 1939.

There were numerous Congressional investigations of what had happened. However, little progress had been made in coming up with ways to prevent what had happened from happening again.

That changed in 1933 when Ferdinand Pecora was appointed chief counsel to the Senate Banking and Commerce Committee. The story is told by Michael Perino, in his delightful book, The Hellhound of Wall Street.5

Pecora was an Italian lawyer who had gained some prominence for his skill in cross-examination as an Assistant District Attorney in Manhattan. I say he was Italian because in those days it was significant. There was still substantial discrimination against “Dagoes” a pejorative term that at the time was commonly used. He was an unlikely person to bring about significant reform of Wall Street banking practices. He only got the job as chief counsel three months before the Committee’s charter to hold hearings was going to expire.

Pecora subpoenaed Charles E. Mitchell the Chairman of the Board of City Bank to testify before the committee. At the time, the bank was the largest commercial bank in the country. The bank led the way in marketing investments to the middle class. They created a network of offices that assured inexperienced middle-class investors that they would provide the guidance needed to invest wisely. They marketed their services through extensive advertising, something that banks had seldom done.

Mitchell had testified earlier, but very little of note had resulted from that testimony. However, through careful analysis of the minutes of the board of directors meetings and skillful questioning, Pecora revealed how much the bank was reaping profits for its leadership at the cost to investors and the bank’s customers.

City Bank was a commercial bank. Commercial banks take deposits and make loans. This is different from an investment bank, which arranges the offering of stock for companies, facilitates mergers and reorganizations of companies. Goldman Sachs is a prominent example of an investment bank. At the turn of the 20th Century, commercial banks were prohibited from selling stock. However, between 1900 and the 1920s this prohibition had eroded. City Bank had created an affiliate, which it controlled, National City Company, which sold stock. At the time of the hearings, Hugh Baker was the President of National City Company. He also testified.

Pecora proved that the concerns about allowing commercial banks to sell stocks and bonds were well placed. Through its affiliate National City Company, City Bank was selling stock, including City Bank’s own stock, to the bank’s customers. The bank used every newly developed marketing method they could to sell their stocks and bonds. They had a large, nationwide team of salespeople, who had lists of bank customers to whom they could sell the stock. Tremendous pressure was put on them to increase sales. They got bonuses for meeting sales targets and had contests to see who could sell the most. That might sound positive, but employees also knew that they would be let go if they did not meet sales targets. Between 1927 and 1933, the number of people owning the bank’s stock went from 15,000 to 86,000.

Through massive advertising the bank presented itself as a secure, wise, and trusted financial advisor. It encouraged customers to use their savings, including bank deposits and government bonds, to buy the bank’s stock on margin. At that time, the margin was 10%.

Pecora zeroed in on the many ways in which the Mitchell and his fellow executives put their own interests ahead of the interests of customers and lower-level employees. First, there was the bonus system for top executives. Funds were put aside each year to pay for bonuses to top executives. Mitchell got 40% of the bank's management funds and 30% of the National City Company bonus funds. Mitchell received more than $3.5 million from 1927 to 1929. The equivalent of $50 million in 2017.

When the crash of 1929 came in October, the bank lost a lot of money. However, the executives never returned any of the bonuses they got early in 1929. And they never disclosed their bonuses to stockholders, many of whom had been convinced to buy the banks stock as a better investment than government bonds. Second, the bank did not reveal the spread between what they paid for a bond and what they charged a customer. Gullible people who had no experience in investment were persuaded to trust that the bank had their interests at heart. Mitchell said that he saw no reason why the fact that the bank profited from the sale of securities was something that should be disclosed to their depositors.

Third, the bank did not disclose the risks that people were exposing themselves to in moving their money from savings or government bonds to the purchase of the bank’s stock. The bank’s stock quadrupled in price between 1926 and 1928 thanks largely to National City Company’s promotion of it. So it was easy to persuade them that it was a better investment than government bonds.

Fourth, when the stock crashed Mitchell and his fellow executives used company money to avoid losses. Two weeks after the crash, bank executives were in trouble because they had purchased the company’s stock on margin and they could not meet the margin calls. The bank lent the top 100 executives the money to pay the margin calls interest-free and never recovered much of that money. Thus the stockholder’s money was used to bail out the executives. At the same time, the bank took the savings of many of its customers who had put up those savings as collateral for the purchase of the bank’s stock, but had no money to put up to meet the margin call. When questioned about the discrepancy between the way that the bank's executives and its customers were treated, Gordon Rentschler, the President of City Bank, justified taking customers’ saving by saying “It is the absolute rule of the bank to preserve its assets that are secured in any manner.”

The bank also failed to address the plight of lower-level employees who had been sold the banks’ stock on margin for $200 a share in December 1929. This sale which occurred after the crash was promoted to try to keep the price of the stock up. When the price of the shares sunk as low as $25, employees were forced to pay off the loans despite the stocks diminished values. The only way out for these employees was to resign their position. However, with unemployment at 25% and millions of people homeless and hungry, there were few employees willing to risk losing their job.

Pecora also got a stunning admission from Mitchell. Mitchell sold 18,300 shares of the Banks’ stock at the end of 1929 and bought it back in early 1930. He did this to create a loss for tax purposes. As a result, he paid no tax in 1929 and took home $1.1 million in salaries and bonuses. ($15,746,467 in today’s money.) This was tax evasion. (He had sold the stock to his wife).

The result of the first week of testimony by the City Bank officials was a chorus of outrage from the media, citizens, and politicians. The hearings were occurring at the height of bank failures all over America. At the time, the Federal Deposit Insurance Corporation did not exist. Thus, if a bank becomes insolvent and was unable to cover withdrawals from savings deposits, the depositor was simply out of luck. If you have seen It’s a Wonderful Life, you have witnessed a run on banks.

For the first time, millions of Americans learned how untrustworthy and selfish bankers could be. Over the weekend, both Charles Mitchell and Hugh Baker, the President of the National City Company resigned.

Pecora nonetheless continued the hearings. He called Hugh Baker, the National City president back to testify. He established that the bank did a brisk business in South American bonds. Pecora first established that for much of the 1920s the bank had evaluated Peruvian bonds as unsafe. However, after an improvement in the Peruvian economy and given the continued pressure from Mitchell to sell stocks and bonds, the company began to sell Peruvian bonds.

Pecora showed that despite the dismal evaluation over many years of the ability of the Peruvian government to pay back bonds, the prospectus for the bonds, which they quickly sold, made no mention of any risks of this investment. When he directly asked Baker if he could find any mention of the bad credit record of Peru, Baker replied, “No I do not see anything.” Instead, the ads for the bonds stated: “When you buy a bond recommended by National City Company, you may be sure that all the essential facts which justify the company’s own confidence in that investment are readily available to you.” According to Perino, the bank’s profit on the sales of the bonds was $100 million in today’s dollars.

Pecora also entered into the record the doubts of one of the company’s own South American experts to the effect that the Peruvian economy was unlikely to improve and that the political situation was uncertain and could possibly result in revolution. When asked if the public would have bought the bonds if that information had been provided to them, Baker admitted that he doubted that they would.

Finally, Pecora presented documents and elicited testimony from Ronald Byrnes, the former head of the foreign bond department at National City that showed that the company had marketed bonds for the Brazilian state of Mina Geraes. Here too the track record of the State in paying its debts was pathetic according to George Train who had urged the underwriting of the bond offering. He had written in company documents, “The laxness of the State authorities borders on the fantastic.”

National City said in its prospectus that the bonds were being issued for the purpose of increasing the “economic productivity of the State.” What the prospectus did not reveal was that under a Mina Geraes State law that National City lawyers had actually written, the bonds could be used to pay off existing debt. What debt? Half of the bond funds were going to be used to pay off existing loans from National City. The company was raising money from investors to escape default on earlier loans they had made to the state. The investors would have had to have read the law in Portuguese to learn that the funds raised could be used for this purpose.

Reforms Adopted in the 1930s

Ferdinand Pecora’s work for the Senate Banking and Commerce Committee was not the only thing that prompted reform of the financial system. The situation was dire in 1933. Banks were failing right and left. By the last week of the Pecora hearings, 20 states had made laws allowing restrictions on withdrawals or outright closing of banks to prevent bank failures. At the same time, there was 25% unemployment and people starving to death. Given the rage of the populous that was stirred up by the committee hearings, there was much more public pressure to make laws in reaction to the crisis than we saw in 2008.

The Committee continued to hold hearings after the Democrats took control of the Senate and President Roosevelt was inaugurated in March of 1933. Within that year major reforms were enacted. The first was the Truth in Securities Act, which required that the seller of securities provide accurate information about the risks of each investment. It made the sellers liable for false or misleading information.

The Banking Act of 1933, also known as Glass Stegall, prohibited commercial banks from also selling securities. It also created the Federal Deposit Insurance Corporation which established insurance for bank deposits up to $2500. It now insures deposits up to $250,000. This insurance has eliminated the risk of bank failures due to a panicked withdrawal from banks.

Finally, in 1934 the Securities Exchange Act created the Securities and Exchange Commission. It required all stock exchanges to register with the federal government. It regulated margin trading, which had contributed to the bubble in stocks in the 20s. It also prohibited insider trading, in which someone could use inside knowledge of what a company was about to do to buy stock in advance of its increase in value. Joseph P. Kennedy, JFK’s father became the first head of the SEC. He had made a fortune on Wall Street and knew all of the tricks. In an atmosphere in which capitalism seemed to be imperiled, he was happy to reform the system in the interest of saving it.

In 1996, Senator Daniel Patrick Moynihan6 published a figure showing the ups and downs of the Gross Domestic Product in the United States from 1890 to 1993. It is reproduced here.

The Gross Domestic Product is the total of all goods and services produced in the nation. Notice the extreme changes that occurred in GDP up until 1947. The Great Depression from 1929 until 1940 was by far the longest and deepest decline in GDP. The recession of 1949 was deep but lasted only 11 months. After that there five minor recessions. Moynihan used this chart to illustrate how much progress we had made in managing the economy. We reduced the length and depth of recessions due to the reforms initiated in the 1930s along with improvements in our ability to measure and forecast economic trends and the creation in 1947 of a policy to minimize both inflation and unemployment. The reforms of the 30’s reduced the risk of bubbles by preventing the kind of fraudulent promotion of securities that Pecora and the Banking and Commerce Committee revealed and the reforms prevented bank failures due to panicked withdrawal that deepened and prolonged recessions.

I used to use Moynihan’s chart in talks I gave and things I wrote7 about how we can improve the wellbeing of children and adolescents. I argued that the chart showed how, with careful data collection and good policy, we could manage the economy. I argued that in the same way, with careful monitoring of child and adolescent wellbeing and the widespread implementation of tested and effective policies we can prevent most of the child and adolescent problems that affect young people’s life prospects. (See The Nurture Effect for further details.)

But of course, that argument has unraveled since the Great Recession of 2008. That downturn was the deepest and prolonged since the Great Depression. It would seem to belie my claim that we can manage the economy.

But not so fast. The fact of the matter is that we wandered away from the policies and practices that were established in the 1930s and 40s that did succeed in minimizing recessions.

How Free-Market Thinking Undermined the Management of the Economy

Alan Greenspan was the Chairman of the Federal Reserve from 1987 to 2006. He was one of the most influential economists of the past fifty years, and a strong believer in free-market principles. In looking back on the crash of 2008 he said, “Those of us who have looked to the self-interest of lending institutions to protect shareholders’ equity, myself included, are in a state of shocked disbelief.”

Sebastian Mallaby has written a 700-page biography of Greenspan, The Man Who Knew.

Greenspan believed that it was impossible to predict bubbles and that the mess that they created could be cleaned up by lowering interest rates and bailing out the entity. Bailouts were contrary to what he originally believed, but when he found himself in positions of power as head of the Council of Economic Advisors and as Fed chair, as a practical matter, it was wiser to bail them out than to let a failure take down many other entities that had loaned to the failing company.

For example, in 1998 Long-Term Capital Management Trust collapsed when its investment practices proved to be far less smart than they had appeared to be. LTCM was a hedge fund that included two partners who had won the Nobel Prize in economics for their work on determining the value of derivatives. (Derivatives are investments whose value is derived from its relation to an underlying asset. A credit default swap is a derivative.) The LTCM leadership believed (and got many investors to believe) that they had refined the prediction of risks to the point where they could buy investments that others thought were too risky, but that their analysis indicated were not as risky as the market believed. They also sold insurance against the loss of value of financial instruments, based on their supposedly superior analysis of the risk. The flaw in their system was that it was based on an analysis of a short period in which markets did not fluctuate as much as they could. As a result, they were simply wrong about the risk of much of what they bought. When Russia defaulted on its bonds, they were in trouble. In 1998, they had lost $1.9 billion and 44% of their capital.

Greenspan understood the problem of “moral hazard.” If a bank or other investment organization made reckless investments but was bailed out by the government rather than being allowed to fail, then subsequent investors would be more comfortable in taking big risks. However, the collapse of LTCM posed a risk to all the other institutions that LTCM had borrowed from. Under the circumstances, Greenspan supported Peter Fisher of the New York Federal Reserve persuading the heads of sixteen banks to lend LTCM $4 billion to prevent its collapse.

Mallaby recounts a series of financial crashes during Greenspan’s time as Fed Chairman. In every case the government rescued the system by pouring money into to prevent bankruptcies.

The financial system has evolved in many ways since the reforms of the 1930s were enacted. Many new forms of investment have been invented, in particular derivatives. Globalization has meant that financial transactions are far more frequently international. High technology has changed the extent and speed with which transactions occur. The financial industry has grown and created a variety of organizations that did not exist in the 1930s. All of this has created huge challenges for regulation—even if the government and the leaders of the financial industry had agreed that regulation was necessary.

But virtually all of our leaders over the past thirty years have believed that regulation was not useful or not possible. Mallaby recounts how Greenspan had flirted with increasing regulation of some of the more questionable practices on Wall Street He had certainly been an opponent of regulation through much of his career, but some of what became apparent in the 90s and 2000s caused him concern. However, the Fed did not pursue it, partly because of its complexity. The Fed had regulatory responsibility for only certain sectors of the financial industry and various other federal agencies had responsibility for other sectors.

In the end, the system failed the American people. The basic problem is that risk-taking is reinforced when there are big profits to be made short term and little likelihood of negative consequences for taking those risks. Repeatedly the system has failed to regulate the riskiest practices but has bailed out the risk-takers when they got into trouble rather than allow a wider network of institutions to be pulled down.

In making the case for an alternative to free-market economic theory or to otherwise criticize current practices of capitalism, it is tempting to make the proponents of these views out to be unvarnished villains. But life is not that simple and I am convinced that the common tendency in public discussion to vilify and attack does not advance the goal of creating a more nurturing society. We will not punish our way into a more nurturing society.

Alan Greenspan is a case in point. Sebastian Mallaby’s biography of Greenspan convinces me that Greenspan is a kind, genial, and extraordinarily well-informed man. Greenspan’s distinctive quality as an economist was that he loved data. During the time in which he was coming of age, the field of economics made massive strides in the collection of data. Greenspan was one of the pioneers in this regard. He developed a consulting firm that provided very useful analyses of economic data to businesses that improved their forecasting, and thereby, the financial success of the companies that hired him.

However, if Greenspan had had a more accurate understanding of the contingencies that drive human behavior, he would not have been shocked by the crash of 2008. If we want our market systems to function for the good of everyone, we need to abandon the vague free-market theory that says that as long as government doesn’t interfere, market “forces” will ensure that everyone benefits from market transactions. Instead, we need to—and readily can—understand the contingencies affecting everyone’s behavior in a market system and assess the long term consequences of the system. We need to consider not only the consequence to the actors in the market but those who may be affected by transactions that they have no control over.

The Values of Wall Street

There is another aspect of the financial industry that needs to be examined—its values. Free-market ideology has encouraged people to believe that if they pursue their own wealth, they will necessarily benefit others. This has encouraged the development of a culture of self-aggrandizement that has ended up justifying egregious behavior. Some examples:

  • Wells Fargo’s creation of phony accounts without customers’ knowledge.8 The bank opened as many as 2.9 million accounts9 and issued 565,000 credit cards that customers did not request
  • Banker’s Trust created complicated derivatives that not even the CEO of the company understood. Mallaby described one derivative in which the investor made money so long as interest rates stayed within a certain range—if they went higher or lower—the investor lost money: “This sort of arrangement had no obvious risk-management purpose; it was a gamble, pure and simple. It was a gamble, moreover that the clients were almost bound to lose…” The Banker’s employees routinely referred to the “rip off factor.” According to Mallaby, one employee was recorded saying that selling these investments would be “a massive, huge, fucking, gravy train.”
  • Widespread unethical behavior. A 2015 report from the University of Notre Dame’s Mendoza College of Business, found that seven years after the Great Recession began, a huge proportion of people working in the financial industry in the U.S. and the U.K. believed that there was rampant unethical behavior in the industry. Forty-seven percent believed that their rivals were breaking the law or acting unethically. Twenty-seven percent believed that the industry did not put the interest of the client first. Sixteen percent said that their companies’ confidentiality policies prohibited them from reporting illegal behavior.
  • Criminal conduct. One way that a society deals with behavior that is harmful to others is by making it illegal and punishing such acts. However, very little of the type of egregious behavior on Wall Street is prosecuted.
  • Writing in The Atlantic in 2015, William Cohan described the reticence of justice department officials to prosecute Wall Street bankers. When he was Deputy Attorney General, Eric Holder wrote a memo warning that such prosecutions could cause corporate instability or collapse. In 2012, the head of the Justice Department’s criminal division, Lanny Breuer, said that “it was his duty to consider the health of the company, the industry, and the markets in deciding whether or not to file charges.”
  • The Wall Street Journal reported in 2016 that 156 prosecutions had occurred since 2008, but that few people had been convicted. They attributed this to the fact that many of the things people were accused of, although harmful to others, were not actually illegal.
  • Defenders of Wall Street will argue that the banks have paid huge penalties for their mistakes--$190 billion in fines and settlements. These are literally a cost of doing business; banks were often able to deduct these fines as a business expense.


The contingencies on Wall Street promote egregious behavior in two ways. First, the huge bonuses that people get to create a competitive environment in which each person’s worth is measured by the size of their bonuses. This is not simply a matter of money affecting behavior, it is the creation of a social environment in which people are encouraged to measure their self-worth in terms of the money they make. The result is a culture where making money is the end-all and be-all.

As of 2015, the profits of the financial sector as a portion of the overall economy were twice what they had been for the last 70 years of the 20th Century. The average pay of people working in the financial sector is 3.6 times that of the average American worker.10 However, a study by Thomas Philippon of New York University suggests the United States financial industry has become less efficient over the last 130 years at channeling capital toward productive use. And this same phenomenon may be a major contributor to rising inequality.11

Finance from an Evolutionary Perspective

It may seem like the financial world is quite different from the tobacco, gun, food, and pharmaceutical industry. However, the principles of variation and selection are as relevant to finance as the other industries. The practices of banks and related financial institutions are selected by their impact on profits. And in the context of values that lionize material self-aggrandizement, there are no countervailing forces that would restrain these organizations from using every lever they have to maximize their gain even when it is costly to the rest of society.

We need to change the contingencies that have selected and maintain current practices—contingencies like astronomical salaries for the people at the top and a social system that admires the accumulation of great wealth and fails to chastise or punish those who achieve it at a cost to others. This is a matter of changing the laws and regulations that allow so many practices to simply be the cost of doing business, because even after the fines, the companies are making great profits and their leaders are getting rich. But we will not get very far in changing laws and regulations so long as wealth accumulation trumps every other value. Reform begins with a reform of our values.

Action Implications


  1. Save for retirement. The economic policy Institute reports that half of the people between 50 and 55 have $8000 or less save for retirement. One of the major reasons for this is that a large proportion of Americans don’t earn very much. But another is that people don’t establish the habit of saving money. The easiest way to save for retirement is to have a fixed amount taken out of your pay and automatically put into a retirement account.
  2. If it seems too good to be true, it probably is. I am not an investment advisor. But I do know that it is unlikely that an investment will make more than 10% tops. (Unless of course you are a member of the 1% and have access to investments that you and I would not have access to.) But it is important to realize that if you begin investing small amounts of money early on it does add up thanks to compounding. A rough rule of thumb is what I have been taught is the rule of 72. Whatever amount of money you have, if you divide the interest you get on your investment into 72, it will give you an estimate of how many years it will take to double. For example, an investment of $10,000 that makes 6% a year will take 12 years to double. Another 12 years and you’ll have $40,000.


  1. Support stronger regulation of the financial system. In Rebooting Capitalism, I describe how the leadership of the Democratic Party has been co-opted by Wall Street. Your efforts to support reform in this country should include a demand that the financial system be much more closely regulated. This would include criminal prosecution of wrongdoers that result in some jail time and the confiscation of all profits that resulted from the wrongdoing. Of course, many of the misdeeds of Wall Street are currently not illegal. Reform must begin by changing the contingencies for practices that have a high risk of causing financial calamity.

Organizations Working to Reform Financial Practices

  1. Here is a website that lists numerous organizations working to improve economic justice. It includes groups working on anti-corporate domination, progress economic research, progressive taxation, consumer protection, and socially responsible business groups.

Read the Full "Cultural Evolution of Social Pathologies" Series by Anthony Biglan:

1. Introduction by David Sloan Wilson

2. How Cigarette Marketing Killed 20 Million People

3. The Right to Sell Arms

4. How and Why the Food Industry Makes Americans Sick

5. Big Pharma and the Death of Americans

6. How Free-Market Ideology Resulted in the Great Recession

7. The Fossil Fuel Industry: The Greatest Threat to Human Wellbeing

8. The Crisis of Capitalism


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  9. Brown J. Wells Fargo Has Found 1.4 Million More Phony Accounts, Somehow Still Has Customers. 2017; Accessed April 10, 2019.
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