Prof. Raghuram Rajan is well known for predicting the 2008 financial collapse three years before it happened. Now, he’s warning that an imbalance in our society is threatening global stability.
An economist at the University of Chicago Booth School of Business, Rajan says that there are three pillars in our society: the state, the markets and the community. In his new book, The Third Pillar, he traces the history of how the state and markets have grown, while the community has weakened. He says these pillars need to be brought back to an equilibrium in order to address many of the global issues we face today.
- Raghuram Rajan book explores how communities can save capitalist democracies
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- An Economist’s Argument for Preserving Communities—New York Times
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- To Save Capitalism, Save Communities—Bloomberg
Paul Rand: For most people, the 2008 financial collapse was a complete shock.
Tape: The DOW tumbled more than 500 points after two pillars of the street tumbled over the weekend. Lehman Brothers, a 158 year old firm, filed for bankruptcy.
Tape: I don’t think anyone really expected a bank as big as Lehman to be in the position it’s in now.
Paul Rand: But there were a handful of people who saw it coming. The 2015 biopic, The Big Short, tells the story of a group of Wall-Streeters and economists who predicted the 2008 financial collapse years before it happened.
TAPE: Wall Street took a good idea and turned it into an atomic bomb of fraud and stupidity that’s on it’s way to decimating the world economy.
Paul Rand: But that critically acclaimed film leaves out one important person who was warning about the collapse all the way back in 2005: economist Raguhram Rajan.
Raghuram Rajan: Well you know before the financial crisis I had given a talk trying to outline the kinds of problems that were emerging in the financial sector in industrial countries, you know to some extent, it outlined what could happen and in fact some of it happened.
Paul Rand: Rajan’s warning was met with ridicule and laughter. Three years later, he was proven right. Now, he’s sounding alarm bells again over another problem he says threatens global stability: the collapse of our communities.
Raghuram Rajan: Well, I think the at some level this notion of community rings a bell it makes people think ah yes that is something that's missing.
Paul Rand: What happens to us when we lose our community? What happens to our neighborhoods when they feel powerless in the face global forces? Who do we become? Rajan is arguing that the disempowerment of our communities is responsible for a whole host of problems: inequality, the opioid crisis and, perhaps most troubling, the rise of populist nationalism.
Raghuram Rajan: So there are other people who have in cosmopolitan cities who got divorced from community. My concern is that view pushed forward implies a life of loneliness. Which we are seeing is becoming a deep social problem in societies.
Paul Rand: From the University of Chicago, this is Big Brains, a podcast about the stories behind the pivotal research and pioneering breakthroughs reshaping our world. On this episode Raguraham Rajan and the loss of our communities. I’m you’re host Paul Rand.
Paul Rand: As one of the world’s leading economists, Raghuram Rajan has always focused on finding real world solutions to the problems that hold our societies back. He says this drive was instilled in him at an early age growing up in India.
Raghuram Rajan: As a young lad growing up in a poor country you always ask the question why are we so poor, and come off to a number of years in Europe when my father was a diplomat, I'd come back to India. And so one of the obvious conclusions is look: the people around here are pretty similar to the people I saw around there, and so why is it that we are so doing so awfully? And so part of my early life's questions was how do we actually get better? What's the kind of system that we should, we should take up? And of course-.
Paul Rand: At what age do you remember having that thought first?
Raghuram Rajan: Well you know, 13, 14, 15.
Paul Rand: Ok so pretty young.
Raghuram Rajan: I mean you're still in school and you're looking around and you're sort of saying what do I want to become and somebody told me about this fantastic field, economics, and because I was mathematically inclined they talked about econometrics, and I thought all the answers would be there. And of course, you start off initially in any kind of profession, you dream of you want to be a dreamer.And for dreamers, I think having these superstars in a profession is very useful.
Paul Rand: Absolutely.
Raghuram Rajan: Because everybody sees them, I want to be like Mike.
Paul Rand: Right.
Raghuram Rajan: Well for me it was I want to be like Keynes, John Maynard Keynes was a obviously a great economist.
Paul Rand: Some of his friends called him Mike I heard.
Raghuram Rajan: (Laughing) Absolutely.
Raghuram Rajan: I didn't know anything about his work, but it seemed like, you know, being an economist might be a fun thing, but also if you can help solve some of these problems. So that’s how I got into economics.
Paul Rand: Just like his childhood dream, Rajan has become a superstar economist. He was a Professor of Economics at the University of Chicago until 2003 when he was appointed the Chief Economist at the International Monetary Fund.
Tape: While the downside risks have increased, global growth is still robustly above trend.
Paul Rand: Then, in 2013, he became the Governor of the Reserve Bank of India.
Tape: Ragurhama Raja has taken over as the governor of the reserve bank of India. At 50 Mr. Rajan will be the youngest to old this high office.
Paul Rand: And, of course, he became most famous for warning about the financial collapse years before it happened. Now, Rajan has returned to his professorship here at the University of Chicago and he’s written a new book. It’s called The Third Pillar and it warns of another global crisis. But before we can get to that we need to understand the answer one basic question: what are the three pillars?
Raghuram Rajan: Two of the pillars are the ones we've talked about throughout the 20th century: the markets and the state.
Paul Rand: So can I ask you, when you say the state what do you mean by the state?
Raghuram Rajan: By the state I mean the usual sort of elements of the state, the judiciary, the legislature, the executive. But typically I also mean the central government. The entity that is running the country in a sense, and all its arms. And by the markets I mean the usual goods markets, labor markets, stock markets.
Paul Rand: So one is political, one is economic and the last one you’ll call societal or you’ll use is community.
Raghuram Rajan: And finally by the community, I imply the neighborhood. Now, because there are different notions of community, you can have your professional community, you can have your religious community, but I think even today, what is most important in the lives of most people on earth is the neighborhood, the village they grew up in, the municipality, the ward, you know most 70 percent of people in the United Kingdom identify with that as their primary source of identity.
Paul Rand: And so, when you think about community. Why is that so important to people, and what do they look for out of that community and what do they feel when it starts breaking down?
Raghuram Rajan: Well as an economist, you think of the community as basically the place where people get capabilities. Remember, you're born you're not born into the market economy. You enter many of these markets when you're a fully formed adult. So something is helping you grow into it, for example, your early schooling. And your early schooling and your success at that is determined by a number of things: What kinds of food you got as a child? What kinds of values you acquired as a child? What kind of discipline, what kind of determination?So, the people around you, and your early childhood matters tremendously in how well your life chances develop.
Paul Rand: Rajan didn’t call the book The Three Pillars, he called it specifically “The Third Pillar”. That’s because he’s specifically concerned with the community, or the lack of community. He argues that in order to have stability in the world, the state, markets and community need to maintain a carful equilibrium. But Rajan says that over the years, we’ve taken more power away from our cities, counties and neighborhoods, creating a dangerous imbalance amongst the pillars that’s responsible for many of the issues in our world.
Raghuram Rajan: Over time the state has also grown with the markets, and taken away power from the community, and this is something people don't recognize as much, that is as markets expand and integrate across a nation, you know, players in the markets, the corporations, want common rules. Over time what happens is the central government gets more and more power to regulate, to determine what happens here, what happens there, often they call to step in when there are nationwide calamities with things like social security measures that protect individual workers, workplace regulation. In an attempt to get uniformity across the country we tend to draw everything into the center. And now, because corporations work across the world, it's not just national government, but some kind of a meta international government which is essentially taking over all this.And what has been happening as a result of the technological revolution is we've got really powerful markets now spanning the whole globe. But at the same time that means we have a lot more competition. We have also got a process of automation which eliminates, both competition and automation together, eliminate the routine jobs.
Paul Rand: Okay.
Raghuram Rajan: Both in manufacturing and services, leaving either very low skilled jobs, for example, the guy at Amazon in the warehouse with that voice in his ear telling him what to pick up next to put together in the package that he sends you. And that's one, or you have very high skill jobs, you know, for example, that McKinsey consultant who now spans the globe because you know there's demand for McKinsey services anywhere in the world. And so, but there's a world of difference between these two, which is skills and education. If you have that super MBA, maybe even a PhD, you get into McKinsey. If you have a high school degree and you've just been laid off by that manufacturing firm which used to employ you and there's no other employer in town, well you hope and pray that Amazon sets up a warehouse nearby because that's going to, that's going to create the jobs, perhaps lower quality than you hoped for. But the problem is, the people who have those low jobs still aspire to get back into.
Paul Rand: To where they were.
Raghuram Rajan: Into good jobs. Exactly. They want to climb back up the social pole, but that require, the barrier is higher now because it requires more skills, more education, more capabilities, and often the places which are hit, the large employers left town, now you have, you know, with no jobs, you have social disintegration setting in.
Paul Rand: Dissolves of the community.
Raghuram Rajan: Exactly. The community starts breaking down. Now, in a community that's breaking down, the community institutions also break down. The schools are less good, often because the best people leave with their kids. I can move, and I don't want to be held back by this community which is breaking down, I'm going to look for a job elsewhere. The best people leave, taking their kids with them, which leaves a lower quality community in some sense behind, and this is a problem, that across the industrial world you see the community itself is disintegrating. You've got to go back to seeing it as an equilibrium and see what are the things we can push to regain that equilibrium. And it seems to me the strong pillars today are both the government the central government as well as the markets and what needs to be strengthened is the local area the community.
Paul Rand: What happens to us and our world when the pillars are imbalanced? That’s coming up after the break.
Paul Rand: Any expert in global affairs will tell you that one of the major concerns in our world today is the rise of populist nationalism.
Tape: Indeed since more than two decades, the right wing populist parties are on the rise in the European Uniion.
Tape:The British people have voted to leave the European Union and their will must be respected.
Tape: Around the world there are some leaders who see an opportunity for political gain by embracing populist stances.
Tape: You know they have a word, it sort of became old fashioned, it’s called a nationalist. And I say, really, we’re not supposed to use that word. You know what I am, I’m a nationalist, okay.
Paul Rand: Rajan believes the rise in populist nationalism poses a massive danger to global stability. So what role does the third pillar, the community, play in all this?
Raghuram Rajan: That's a great question. I mean to some extent you ask me what does the community do on the economic side. It does what we just talked about, build capabilities, and it's failing there. But on the social side, it builds a sense of identity of solidarity.
Paul Rand: I'm part of something.
Raghuram Rajan: I'm part of something, and that's also feeling I don't want to be part of this really declining community. And I gain no pride from saying I'm from this hellhole, and therefore, I'm looking for something else to associate myself with. I'm looking for a greater identity. And that's where you know certain other kinds of creeds, which offer a more theoretical identity, I'm part of the larger mass of the proletariat in the socialist creed, or I'm part of the nation in the nationalist creed. Those become substitutes.
Paul Rand: For the community.
Raghuram Rajan: For my local community. And because they are so much more disengaged amorphous identities, I believe they also anchor you less in the common decency of everyday life. That's what leads to great calamity when you get overly anchored in this imagined community. It can lead to great positive action, but it can also lead to great disaster. Now, the problem with this community doesn't have any necessary anchors holding it together. So the other thing you need to do is point to sort of others who are outside the community and say 'you're part of us because you're not them.' And so when you think about populist nationalism, it has essentially a couple of features: One it points to the evil elite who have created the conditions for you to be sort of down under. It is because they're biased against you with their policies that in fact you held behind. So that's one problem, the elite are self-interested and corrupt. You're not part of them. That's why you're declining. And nothing to do with technology.
Paul Rand: I've got an enemy now.
Raghuram Rajan: I have one enemy.
Paul Rand: Yeah.
Raghuram Rajan: The elite.
Paul Rand: Yep.
Raghuram Rajan: But I have a second enemy, which is which are the people the elite favor. So the immigrants, the minorities. That’s a problem. And I would also say though that it is important in democracy to understand that anger. I think there is value to populism. Because in a democracy, the cry for help comes long before revolution. And if the cry for help is addressed you can stave off some of the worst consequences if it's ignored.
Paul Rand: So, how do we rebalance the three pillars to stave off those consequences? That’s coming up after the break.
Paul Rand: Rajan has spent his career looking for solutions to societies problems, his latest concern is that the three pillars, the state, markets and community have become imbalanced. Specifically, the community has become significantly weaker. But how do we empower the community, what does that actually look like?
Raghuram Rajan: Well I think broadly people are seeing the need for some change, right? But my worry is still the automatic answer seems to be some grand new government program. And I am not reacting against that. You know the need for something to be done. But it seems to me that grand government program doesn't recognize the differentiation across areas that it is not something that that would be dreamt up in Washington. Yes there are some things Washington could do but a lot of it is about localities figuring out what is appropriate and being supported in doing that. And that requires something that Washington is not prone to do which is give up some power. Right. And you know bar to the state capital and from the state capital to the regions are the communities that's something that we need to think about.
Raghuram Rajan: We had a version of that in the markets that that to some extent we got to reduce state control over the markets to liberate the markets. Now we need to reduce state control over the state in a sense we've got too much centralization and decentralization appropriately governed. And that's an important appropriate, will actually help people figure it out. But that figuring out itself is is a kind of remedy to this illness because it gives a sense of engagement it gives a sense of empowerment to the local community. It gives a sense that I have something to do which will protect me against these forces or at least I have a active part in defending myself which then takes you away from pointing the finger at somebody else and say I'm basically in this mess because of them. Right. And the danger of course is if we focus too much on the latter I'm in this mess because of them or because of the system then we want revolution and who only who knows what revolution brings.
Raghuram Rajan: So I would start with people. We need to make sure that people stay good people stay in their communities will go back to the community. So how do you create a body of people in their community who can take charge, who can show leadership? Are they programs you could create whereby people who leave to go to college essentially get their college debt waived if they spent 10 years back in their community? Same way as we do for government workers.So the point I think to make is there is virtue for broadening equality and access.
Paul Rand: Okay.
Raghuram Rajan: And that will help keep good people in the community.
Paul Rand: Okay so.
Raghuram Rajan: People is one.
Paul Rand: People is one.
Raghuram Rajan: Powers is second.You need to have more powers decentralized to the community. Today, I mean there's less hope that the community can do something because what is there for the community to do? What can it do to make itself more attractive? What kinds of funding does it have to create for example infrastructure? If it does want to create infrastructure, does it have to go right up to the state on the national level to get approval for those plans? Or you know or or does it involve the private sector? How much how much can it do on its own? How much can an energetic mayor change in terms of school curricula? How much control does he or she have over that? Similarly, what kinds of structures can they build? You know sometimes for example, if you want to bring broadband in, you can't create your own structure to bring it in, you have to rely, in fact a number of corporations are suing to say you have to use us. You cant do it separately. So I mean we need to reexamine the powers of the community and and strengthen the powers of the community visa vi the state or the national capital. And of course visa vi the international.
Paul Rand: Rajan calls this focus on and empowerment of the community inclusive localism. But of course not all communities are created equal.If we give power and control back to localities what’s to stop repressive or intolerant communities from giving into their worst impulses?
Raghuram Rajan: The worry about localism however, is it is an old worry in the US, states rights have often stood for some form of segregation, some form of apartheid, and the worry is that if we allow for this kind of local empowerment because the center has always been more liberal than the local, we will return to segregated communities. And that kind of segregation creates that unlevel playing field which becomes deeply problematic. So in my view by all means decentralize powers as much as you can to the community, but don't decentralize the power to segregate. By all means let people choose who they want to live with. But I am saying that prevent discrimination based on all the things that we have laws against because you want open communities open to the flow of people. It may still be that only the Indians live together and all the Poles live together and all the you know whatever different religions live together. But over time the fact that you're not segregated by high walls means that you will you will cross those boundaries and you will become more mixed over time. That's the history of certainly the United States, the melting pot so I speak. It didn't start out as a melting pot, it starts out as different neighborhoods and eventually those neighborhoods-
Paul Rand: Melt.
Raghuram Rajan: Become more mingled. Exactly.
Paul Rand: As you remember, Rajan’s last prediction about a financial crisis was met with ridicule. People thought he couldn’t possibly be right. So how are his new ideas being received?
Raghuram Rajan: You get two kinds of reactions: One is of those who think that can't possibly be true in the future. That we go back to the community I used to-
Paul Rand: We're too far past that.
Raghuram Rajan: Yeah, I used to live in a community, but now what's my community? It's it's people who write in the Journal of Political Economy, and those are the people I know and I occasionally hang out with them most, most often I don't hang out with anybody. But I think that we will need to rediscover community, not just because it is it is socially necessary, it'll become economically necessary. Think about when you know robots do all the hard work of production, but also A.I. does a fair amount of the thinking work that some of us do. What's left? Ultimately it is human empathy.
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