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Broken Windows versus Banking

Several days ago I wrote about the broken window fallacy. Tonight while listening to Barack Obama address Congress, I grew troubled when he argued for supporting failing banks because “getting lending going again” would provide benefits that essentially mirrored what the broken window fallacy talks about: a young family that otherwise couldn’t would be able to obtain a loan to buy a house; some company would hire workers to build the house; the workers would have more money to spend in their communities; and so on.

Recall what the broken window fallacy says:

The basic idea is that it is temping to think that a hoodlum breaking a baker’s window stimulates the economy because the baker must go buy a window from the glazier, who then can go buy additional things from others in the community and so on.

It sounds strikingly similar, doesn’t it? I don’t think it is a coincidence. So, I immediately started wondering, where is the broken window in the lending example? When a bank creates money through a loan, whose window is metaphorically broken?

My guess is that there is no specific victim, which is why this is so insiduous. Instead, the loser is, in some way that I don’t fully understand yet, a large group of us — perhaps all of us, and the winner is a small group. I am beginning to belive that the only way to not be hurt by the banking system, in aggregate, is to be partaking of loans yourself — to be leveraged yourself. Suddenly, it doesn’t seem too strange that this nation is addicted to debt.  It is simply the best response to a set of incentives enshrined in law by our government.

2 Responses to “Broken Windows versus Banking”

  1. Broken Window Fallacy « Adventures in Smarshland Says:

    […] Ryan, recently wrote about the Broken Window Fallacy, and was wondering whether the Administration’s policy of continuing to inject capital into illiquid or potentially insolvent banks is analogous.  Although his skepticism is warranted, the current bailouts are different in several respects, but also shares some commonality. […]

  2. Scott Says:

    I have written a response to this on my blog here

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