Market failure vs government failure

Asking whether the financial crisis was a market failure or a government failure is a misleading question. Considering the market in isolation from the legal and political environment in which it’s embedded is a recipe for error. Adam Smith saw this and devoted a section of the Wealth of Nations to political economy. The same players that compete in the market also compete in the political sphere to influence the rules of the economic game. That feedback loop is the central cause of the crisis. So, it’s neither a market failure nor a government failure. It was a failure of the political economy and it’s causes are obfuscated by ideology on either side and generally are going totally unaddressed in the proposed reregulation. We’ll apparently have to see more of the same before anything real gets done.

For some reason, I was compelled to write the above in response to this.