How Self-Interest Destroyed The Economy

Do you find yourself asking this question: How is it that so many ostensibly smart people in the financial world made such terrible choices for so long?
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Do you find yourself asking this question: How is it that so many ostensibly smart people in the financial world made such terrible choices for so long?

Thirty years ago, an ecologist and professor named Garrett Hardin wrote a classic article in the journal titled "The Tragedy of the Commons." His thesis was that individuals, acting in their rational self-interest, may ultimately destroy a limited resource over the long term.

To illustrate, Hardin used the metaphor of an open pasture - "the commons" - to which herdsmen bring their cattle to feed. The herdsmen understandably want to feed as many of their cattle as possible - or as Hardin put it: "As a rational being, each herdsman seeks to maximize his gain." This works fine for everyone so long as there's enough grass to feed all the cattle. As demand rises, however, the effects of overgrazing take a progressive toll on the commons, until ultimately they're destroyed for everyone.

"Therein is the tragedy," Hardin writes. "Each man is locked into a system that compels him to increase his herd without limit - in a world that is limited. Ruin is the destination toward which all men rush, each pursuing his interest in a society that believes in the freedom of the commons."

Hardin's focus was on the ultimate costs prompted by the individual freedom to have children without limitation - namely overpopulation and insufficient resources for the many. The more narrowly limited resource in the financial world was profit. To generate ever more of it during the past decade, institutions, hedge fund managers, brokers, investment advisers mutual fund managers and individual investors all took ever bigger risks.

The "commons" in this case is the economy, which eventually collapsed under the weight of what amounted a global Ponzi scheme, prompting suffering and dislocation for everyone but those at the very top of the pyramid.

We're not all innocent victims. Bernard Madoff may have lost $50 billion, but an awful lot of his investors set aside their better judgment in favor of their greed and handed over their money to someone who produced unjustifiably outsize returns and was unwilling to disclose how he did it.

As for Wall Street more broadly, the bubble that finally burst had many enablers: regulatory agencies that failed to play the oversight role they were assigned; politicians from both parties who oversaw the deregulation of the financial markets; ratings agencies who colluded with the banks that paid them by giving unduly high credit ratings to their toxically risky bonds; and the rest of us, millions of investors and borrowers who poured money into markets as if they could only rise, and took out mortgages in order to buy homes we knew we couldn't afford.

We wanted what we wanted, and we didn't think much beyond that. Bankers and their agents were happy to give us what we wanted in order to get what they wanted, and they didn't think much beyond that.

Far too many of us conspired to get as much as we could while the getting was good, never stopping to consider that if everyone keeps trying to get more - leveraging their bets and running up debt to do so -- there will eventually be a day of reckoning.

Is there a lesson to be learned belatedly from Hardin's observations - a long term good to be derived from what we must hope is pain that will eventually diminish as the system reequilibrates?

Of course there is. We live now in a world of palpably limited resources. Every choice we make has an increasingly visible impact on the commons. The leader who suggests that his company's only obligation is to maximize profit for his shareholders is dangerously delusional.

We're all in this together, and we literally can't afford to act any longer as if we're each free to pursue our self-interest with blinders on. The antidote is a higher level of awareness - the capacity to see the consequences of our actions over the long term and to make choices from that perspective rather than succumbing to our most primitive impulses.

Profligacy, excess and greed aren't merely vulgar and offensive, they're inimical to our collective sustainability, and therefore to our self-interest.