This book has a depressing view of our current economic crisis. A good read for anyone that is too cheerful.

The parallel he makes between the trust lost by promising everyone could own a home to the repartiation payments after WW I is a bit of a stretch.

Good book though.

Shiller blames the subprime crisis on the irrational exuberance that drove the 1990s stock bubble and the 2000-2007 housing bubble. Restoring confidence will require bailouts targeted at low-income victims of subprime deals. Longer-term solutions will require inhibiting the formation of bubbles and limit risk - better financial information, simplified legal contracts and regulations, home-equity insurance, income-linked home loans, and new measures to protect consumers against hidden inflationary effects.

Mortgage originators, planning to sell off the mortgages to securitizers, stopped worrying about repayment risk, and sometimes enticed the naive, with poor credit histories, to borrow in the subprime market. High home prices generated a glut on the market and prices declined at an accelerating rate. Meanwhile, mortgage rates began to reset after initial "teaser" periods ended, and defaults surged.

The lowest price homes have shown the greatest price increases (and subsequent falls), probably due to their linkage to subprime loans. Ratings agencies were not about to cut ratings on securitized mortgage products based on theories that the increases could not continue, that prices might fall.

There's some good material in the "The Subprime Solution" - however, most of the pages are taken up in an obvious "explanation" of why everyone jumped on the bubble bandwagon.

This book is light on new data(a couple of graphs) and heavy on theoretical solutions,many only peripherally related to the present crisis. There is no discussion of resource depletion. The idea of insuring home equity and life income underestimate the cost of administration and fraud. It is a quick easy read,a few interesting ideas such as teaching kids to think in inflation units.

Trusting any Santa Claus of high finance in the midst of such massive failures of a bubble-prone financial system seems suicidal.

Shiller ends on a characteristic utopian-ideologue note: "Imagine our society equipped with a well-established information infrastructure that reached out to all its members, derivative markets for both owner-occupied and commercial real estate, well developed retail products, like continuous-workout mortgages, home equity insurance, and livelihood insurance, that facilitate management for individuals; and default options that naturally lead people to use risk-management devices intelligently.

"Our society could look forward to nothing less than more stable markets and, in turn, a more rational economy. We would eventually find ourselves forgetting that the kind of massive financial instability infecting our everyday lives is even a potential problem. Modern finance, applied democratically, can relegate these problems to history just as modern medicine, applied widely, has left us forgetting that epidemics of yellow fever and diphtheria ever raged among us."

I say, just stick with reading the ever-more shocking revelations of a good newspaper. Common sense answers applied with determination is the crying need. But such an approach doesn't follow the play book of new economy thinking and ideology that has got us into so much trouble for over a decade. Shiller still swims with that current, follows that herd. In the face of the real facts unraveling day over day, Shiller comes across as snake oil, no matter how good-hearted and liberal-minded.

Shiller's ideas appear innovative and gutsy, but he seems to have drank the cool-aide of high finance down to its dregs. His answers for our problems go deeper into that jungle with greater and greater trust demanded. Dr. Shiller, clean out the messy stables of your herd first--as Hercules had to do to prove himself--then your ideas may have relevance. As it is, you clearly are not facing up to the major challenges of your field--real-world failings that need to be addressed, hence your book functions more as a distracting red herring.

For Prof. R.J. Shiller, the root of the subprime mortgage crisis in the US is a myth, the belief that real estate prices must strongly trend upward for demographic reasons.
He proves that the price of real estate, to the contrary, is trending lower. What went up are the quality and the dimension of the average individual houses. But what about `land'? Didn't Mark Twain recommend strongly: `Go for land. They've stopped producing it.'? R.J. Shiller remarks cleverly that only 2,6 % of US land is used for urbanization.
Another factor of the bubble was psychological: the human herd instinct. There was a social contagion of boom thinking.
A third, more specific, factor was the deliberate governmental policy to promote home-ownership as much as possible. This should be good for the Party.

When the real estate bubble burst, it disrupted immediately the credit markets. Aggressive mortgage lenders never worried about repayment risks. They repackaged the mortgages, got top ratings from the rating agencies and sold their packages to third parties all over the world.
But even more importantly, the crisis damaged the `social fabric', the way of life of millions of families and also human relationships (through aggressive creditors). It created an atmosphere of distrust, of hoarding, with runs on banks; in one word, it gave rise to a psychological environment that could lead to a severe and long depression, which would hurt all citizens. Therefore, the subprime crisis must be solved.

Prof. R.J. Shiller makes a distinction between the short term and the long term solution.
In the short term, there should be a massive bail-out in order to prevent an escalation of the crisis and of the economic downturn.
In the long term, the US government should create a basic social contract and protect every citizen against major misfortune. It should impose financial democracy through standardized full disclosure documents so that everybody should get better information about all the risks involved. Without affecting individual privacy, indicators should be created about the real value of real estate. Those should lead to a more efficient pricing of houses and to a stabilization of the market. Prof. R.J. Shiller did not only recommend these policies, but created an indicator himself.

With an open and clear-sighted mind, Prof. Shiller wrote a small, but essential, book about a dramatic worldwide crisis, without losing the `human touch'. It is an essential read for all those interested in the future of mankind.

Robert Shiller, the creator of the Case Shiller Home Price Index, comes to the subprime mess with certified authority and insight. The first three chapters are well written and enlightening. His comments about the long term buildup of the housing boom and its effect on the national psychology of the bubble are on target; he must be taken seriously on the present threat to the social cohesion of the country comparing its rendering to the Great Depression and his comments about the amplification of the bubble by the media will find many believers in this country. His criticism of Alan Greenspan is temperate and gentlemanly in that academic manner. His critique of OFHEO in not doing its job in reigning in Fannie Mae and Freddie Mac flies in the face of OFHEO's bracing 2004 and 2005 reports to Congress. Shiller takes on the easy targets, ignoring the real scoundrels, Chris Dodd and Barney Frank, and its Democratic establishment which ruled Fannie Mae for years. He admits as much in the epilogue; eschewing "finger-pointing;" acknowledging with italicized emphasis that " there have been evildoers." It is just not the Yale way.

Robert Shiller's book doesn't warrant some of the negative reviews on here.

In an age of talking heads and pundits who argue more so on the basis of philosophy than on any factual evidence, this book's clear and evidence based examination of the subprime crisis comes as a refreshing alternative. Shiller, a Yale professor of economics, overcomes any temptation to over complicate or to talk down to the reader and gives a frank and detailed assessments of the current mortgage mess, the reasons we're in this crisis, and the possible short and long term solutions.

While Shiller explicitly states his view on framing a short term bailout in the early chapters, he has not written a policy paper. Instead, the book is a collection of thoughts and ideas of what would strengthen our financial institutions for the future - ideas like cpi adjusted standards of accounting (unidad de fomento) to weather periods of inflation/ deflation, subsidized financial planning to encourage savings and prevent speculation, and government sponsored financial watchdogs to assist the private investor.

Interestingly, Shiller anticipated the anger and the frustration that many average mainstreet americans feel about the current crisis. He warns against excessive finger pointing at officials, borrowers, and lenders. For one thing, they were all trapped in a flawed incentive system. He points to the disaster of the German reparation after WWI as a warning against letting the desire to punish go rampant and cloud pragmatism in making policy. Instead Shiller makes practical recommendations and suggests that once we are out of the current mess, we should structure our financial institutions to prevent future crisis, design insurance against economic/financial downturn, and actively integrate economic theory in public policy.

A more controversial topics that Shiller touches on is the role of future markets and derivatives. Here, instead of opting with most financial writers who are now so enchanted with the Buffetian quote about mass financial destruction, Shiller recommends more derivatives and more future markets as a part of the "subprime solution." Although I am convinced by his argument that future markets with enough liquidity will reduce risk and offer hedging insurance against market disruptions, I am rather disappointed that Shiller did not offer an analysis of the argument that derivatives were a part of the "subprime problem." If more financial engineering is in fact a long term solution to financial problems, Shiller should have at least addressed the current negative perception with a sentence or two. I hope that this will be corrected in future editions.

Even though "The Subprime Solution" is not an all encompassing treatise of the current financial crisis, it offers strong insights, readability, and wisdom in a time of uncertainty.

Small book, with large type and many spaces.
Out of date given the recent economic crisis.
Not very interesting.

Thie book tells the reader what we already know about the sub-prime lending problem..... stupid buyers and greedy lenders. Don't waiste your time reading this one.

This book is essentially divided into three parts. (1) How we got here (2) What to do in the short term and (3) What to do in the long term.

I found Shiller's account of how the subprime crisis emerged to be on the money. Shiller co-developed the Kay Shiller index, which measures the real increase in home prices and he point out that, between 1997 and 2006, real home prices (inflation adjusted) increase by 85% (p. 32). This sort of growth is clearly unsustainable and a byproduct of a massive and misguided group psychology event. He likens the subprime contagion to a disease epidemic, slowly creeping up and eventually spiraling out of control.

Shiller argues that a drop in home prices are necessary in order to restore equilibrium to the market. He writes, "the idea that public policy should be aimed at validating the real estate myth, preventing a collapse in home prices from ever happening, is an error of the first magnitude." (p. 85)

After grounding the reader in the nature of the problem, he offers up both short term and long term solutions to the housing crisis. His proposed solutions are left leaning and strike me as theoretically appealing but implausible in practice.

He argues for a Home Owners Loan Corporation, similar to what was seen in the 1930s. The HOLC would buy up toxic mortgages and help to stabilize the markets. He also believes that public infrastructure should help to subsidize financial advise, so that people know what they are getting into a priori. Finally, he proposes a continues workout mortgage, whereby one's payments would go down in the event of an economic downturn.

Now is the time for everyone to read this book. Mr. Shiller clearly outlines how we arrived in our current financial situation. If you want to understand how this happened and what to do , read this book!

This is an excellent summary of the recent events, and most of its underlying causes. Although readers with an economics background may find its conclusions debatable - and may therefore refer to other works, it is undeniable that Schiller's piece is well framed and thought provoking. On its recommendations, I would advise to reflect about the underlying principles that he is focusing on when making those: he is focusing on the lack of ability of the general public to understand and manage the price volatility that real state assets are subject to.

In terms of the value, this book would rate three stars for the layman but only 1 for those knowledgeable in the field.

During the first approximately 100 pages of this 180 page book, Schiller describes what lead to this debacle and draws analogies between the current situation and past in both the U.S. (i.e., events leading to the Depression, the Savings and Loan crisis leading to the formation of the Resolution Trust Company, etc.) and overseas (i.e., the 1990s bubble bursting in Japan and the Swedish banking sector crises of the 20 years ago). What he describes should be well known by anyone who has had an undergraduate course in U.S. Economic history, reads a sophisticated financial newspaper or magazine (i.e., Financial Times or Economist) and/or is a financial professional. Hence for this group the first 100 pages would have very little value. For layman without this background, however, this knowledge would provide good perspective.

Where the book really is weak, though, is the remaining 80 pages where Schiller provides his "solution(s)". This is what he calls the "democratization" of the financial market. The important points of this consist of:

a) The provision of financial advice to "the masses" through subsidized professional financial advice.

b) Adding more "bite" to government regulatory bodies (i.e., SEC).

c) the creation and utilization of financial instruments that provide insurance against fluctuations in home prices, economic conditions and peraonal economic conditions (i.e., unemployment). Examples of such financial instruments provided by Schiller include options and futures indexed to housing prices, Government debt instruments that are counter cyclical and instruments that provide the ability to hedge against personal financial circumstances.

Each of the above need to be examined in detail. With respect to the first, it seems highly unlikely that high quality professional financial advisement services that are unbiased (i.e., don't provide advise geared to selling financial products that do not necessarily coorespond to individuals' econommic situations as opposed to the commissions of the financial advisors) can be provided at a cost effective price that even the lower income ranks can afford. Any such labor intensive service can only be provided (in general), cost effectively, by those with limited educations and/or poorly trained backgrounds. A good analogy would be going to H&R Block. You pay relatively little there but you end up with high school graduates who, in general, have very limited qualifications. The end result would be mediocre advise. In a recent article in the New York Times the IRS was quoted as stating that 2/3 of tax forms prepared by tax preperation firms had contained errors. If these firms cannot succeed in providing relatively simple tax assistance how can they provide more complicated financial advise on how to hedge home, retirement and other assets? Even if they were all highly qualified this would still be a problem. The events leading to the current bubble bursting, as well as those of the late 1990s, caught many highly educated professionals such as Alan Greenspan and Bernanke by surprise. If they failed how can the less qualified be expected to perform better? This simply does not seem logical.

With respect to Schiller's recommendation to beef up government regulatory agencies such as the SEC, this would seem the most feasible of all. SEC funding can be increased, penalties increased, and litigation can be loosened to permit an increased deterance of corporate mafleasance by accounting, investment banks and other financial institutions. This recommendation is very realistic.

Schiller's third recommendation, the utilization of financial instruments to mitigate against fluctuations in housing prices and individual economic circumstances, sounds very nice theoretically but is hard to achieve in reality. With respect to housing price fluctuations, options futures on housing prices can be used (they already exist) but they require extensive knowledge in finance and they are relatively expensive to purchase when housing prices are on the decline (when they are needed most). Hence not a solution that seems very practical beyond homebuidling conglomerates. But even they did not make very extensive use of them.

With respect to financial instruments that can be used to mitigate against individuals' economic fluctuations (i.e., unemployment) there are other problems. First they do not exist. Secondly, even if they did (and why they are not provided by the private sector to begin with), there would be to much of a problem relating to moral hazard. Individuals can purchase such insurance then either intentionally put themselves out of work or not do enough to prevent unemployment. If one has insurance against all (or nearly all) income losses stemming from unemployment the incentive would greatly decrease to take steps to prevent unemployment.

In short, only Schiller's recomendation to beef up regulatory agencies seem realistic and feasible (at least in the foreseable future).

I got the impression that this book was thrown together, in part from earlier published work, to catch the wave of public interest in the subprime meltdown. Much of the content seemed just odd and unrealistic, and Shiller's etymology for "bailout" is ludicrous. (Has he never heard of bailing out a water-filled boat? Or used an American dictionary in preference to the OED? Bailout, in reference to a financial rescue, has been flagged as an Americanism for decades in Webster's New World Dictionary, College Ed.)

His solutions seem too academic, airy, and remote to be of much practical interest to anyone but another academic. I expected better from the author of the wonderful Irrational Exuberance.

Mercifully, it is short and for the most part well written, even if some sections (for example the treatment of the "basket" as an inflation adjusted currency) are befuddling (to this layman, at least).

Robert Shiller, the prescient author of the book Irrational Exuberance, offers an insightful examination of the causes of the subprime mortgage crisis, and suggests a list of potential measures for the future. He lays the blame for the subprime crisis on the same oblivious fiscal attitudes that led to the technology bubble of the 1990s and the real estate bubble of the 2000s. Both bubbles involved excessive lending and resulted in severe losses for capital providers. His prescription for dealing with the crisis involves a range of policy measures. In the short term, he calls for bailouts for low-income borrowers who got drawn into subprime scams that they did not understand. For the long term, he proposes a new framework for financial institutions, more transparent information, simpler contracts, improved risk-management markets, equity insurance and home loans linked to income, among other measures. Both his diagnosis and his prescription will be controversial, no doubt, but getAbstract thinks his book is a necessary text for anyone who wants to understand what's happened, and how to survive it and learn from it.

Robert Shiller's track record was impressive at first. He wrote Market volatility in 1992 outlining how stock price volatility was due to psychological speculation as it was disconnected from economic fundamentals. He was right as the stock gyrations in 1987 and 1989 demonstrated. In 2000, he wrote the excellent Irrational Exuberance stating stock prices bubbled up and were bound for a crash. Within three months the NASDAQ did exactly that loosing more than half its value taking the rest of the market on a three year brutal downturn (dot.com Bubble). At this stage, we thought Shiller was blessed with superior insight. Then, he lost his edge by envisioning retail financial insurance products to protect against risks often not worth covering as introduced in his strange The New Financial Order: Risk in the 21st Century. This book recycles many of those confused concepts.

In "The Subprime Solution" Shiller diagnoses the cause of the Subprime crisis and also develops a set of short-term and long-term solutions to fix and prevent this crisis.

His diagnosis is OK. He attributes the overarching cause of the Subprime crisis to bubble psychology. This diagnosis is a repeat of "Irrational Exuberance" focused on residential real estate instead of stock markets. He ties a lot of symptoms such as the increasingly lenient underwriting, lenient Moody's MBS ratings, and investors appetite for MBS to bubble psychology. He thinks bankers, MBS investors, Moody's, hedge funds, homeowners, and condo flippers all thought they could throw caution to the wind since the value of the underlying collateral (home) would shore up all boats.

When Shiller comes up with recommendations he is not convincing. In the short-term he simply suggests we bail out everybody by reviving the Home Owners' Loan Corporation (HOLC) first established in 1933 but no longer in existence. The former HOLC accepted mortgages as collateral for loans to mortgage lenders so long as the mortgages had more lenient terms than the market. This recommendation has several flaws to it. First, it runs into moral hazard. It would bail out with taxpayer's money homeowners who never had the financial resources to buy a house and condo flippers who speculated with other people's money. Second, a good deal of those mortgages has been securitized into complex collaterized bond structures with many tranches sold to international investors. Those mortgages administered by bond trusts are not pledgeable to an HOLC organization.

Shiller's long term recommendations are ineffective. Here he repeats many of the retail insurance products he envisioned in "The New Financial Order." His first recommendation is nationwide government subsidized retail financial advice. Yet, all the financial advice prospective homeowners need is to ask themselves if they can afford the mortgage. If the borrower is not numerate, the creditor should operate in a regulatory environment to be forced to make a prudent decision on his behalf. Shiller recommends the adoption of a new economic currency that would be adjusted for inflation. He feels this would improve price information of homes. In a country with very moderate historical inflation such an economic unit adds much confusion without merit. Shiller also thinks that his creation (with the Chicago Board of Trade) of home price index futures will eliminate bubbles because international investors will short (sell futures) on cities whose home prices appear to have bubbled. But, such futures markets have not eliminated bubbles in stock and commodity prices. Why would they eliminate bubbles in residential real estate? Additionally, those home price index future markets have been in existence for already two years. And, they don't seem to get off the ground. Trading volume is not sufficient to provide valuable price information. Other strange recommendations include his "continuous-workout mortgage" whose term would be adjusted downward to reflect the current income of the specific occupation of the borrower. This entails a huge transfer of risk to the creditors which would result in much higher mortgage rates. Another recommendation is home equity insurance for the borrower. But, it is not the borrower that bears the risk on the collateral value, it is the creditor. This insurance would be of little value to the borrower. Another recommendation is livelihood insurance insuring one's income from the risk of one's specific occupation. This product is not readily feasible. It also understates how transferable many professional skills are and how liquid are labor markets are. In summary, his long term recommendations do not address the Subprime crisis.

I recommend a far better book on the subject: Charles R. Morris The Trillion Dollar Meltdown: Easy Money, High Rollers, and the Great Credit Crash. Also, Shiller feels cities are commodities with urban amenities easily replicable. For an excellent book that explains why this is not so, I recommend Richard Florida's Who's Your City?: How the Creative Economy Is Making Where to Live the Most Important Decision of Your Life

Subprime. How often did you use the word three years ago? Today it is all over the news. But what, exactly, is "The Subprime Crisis"? How serious is it? Who is responsible? And what shall be done to solve it?

If you are looking for answers for any of these questions, than, alas, "The Subprime Solution", which comes hyped by some great economic writers (like Gregory Clark, of A Farewell to Alms: A Brief Economic History of the World (Princeton Economic History of the Western World) fame) is not a book for you. Shiller's analysis of the crisis is unsatisfactory, and his solution either mundane or speculative - with serious problems which Shiller overlooks.

Shiller informs us, at great length and repeatedly, that we are facing an extreme crisis. He calls it a "historic turning point in our economy and our culture"(p.1) and repeatedly compares it to the economic reparations inflicted on Germany after the Great War, and to the Great Depression. Watch out for the Hoovervilles! Seriously, such comparisons are unhelpful and unnecessary. The Subprime crisis is grave enough without comparing it to the Great Depression (is the Great Depression some sort of economic answer to Godwin's Law, which states that on every discussion, Hitler must at some point appear? Can't we ever talk about an economic crisis without channeling the nineteen thirties?).

But I digress. From approximately 1998 until 2006, the price of houses in the US rose much above their historical value, without any justification in terms of economic situation, the costs of construction, etc, (p. 36). Why did the prices rise? Well, because everyone thought that they would - and the expectations became self fulfilling prophecies. In short, there was a bubble.

But the bubble, as bubbles do, burst. Many lenders, who have offered mortgages to people based on the assumption that house prices would continue to rise, now have a lot of bad debt. Borrowers, who believed the same thing, now find it difficult to pay back their loans, and thus face the prospects of losing their homes. This problem is exacerbated by all sorts of "new" mortgages, especially ones with adjustable interest rates. As interest rates rise, people who used to be able to pay mortgages are no longer able to do so.

But why was there a real estates bubble, and not a bubble of, say, Tulips (as in the Dutch Tulip mania of the 17th century)? If Shiller knows, he's not sharing.
Nor is he telling us how big a problem it is. At the time of writing US unemployment rate is approximately 6%, GDP growth is down and inflation up, but the US does not seem to face either a contraction or hyperinflation, but only a recession. Recessions are part of economic life, and probably altogether unavoidable (which is not to say that US economic policies were ideal or even adequate).


Following his non description of the crisis, Shiller offers one short term solution, six long term ones, and a general call for more sophisticated housing markets.

The short term solution is a bailout. How large a bailout, and of what kind? Shiller mentions several proposals for a bailout, but he does not critically evaluate them. Nor is it entirely clear who he plans to bail out. Most of the time it seems the bailout will target borrowers, but Shiller also says that "it is essential that the... cost of bailouts... not be dumped into the laps of a small set of investors" (p. 108). There's a lot of talk of "getting the bailout right", and a lot of historical analogies (to the Great Depression, of course), but very little description of right and wrong bailouts.

The six long term solutions - as I said earlier - vary from the mundane to the speculative. The mundane: Improving financial databases and financial disclosures (is there anyone who will disagree?) The speculative: Shiller suggests "default options financial planning", what is now commonly known as Libertarian Paternalism - the government will offer a basic option, which people can cope out of (Nudge: Improving Decisions About Health, Wealth, and Happiness). This is of course a useless measure in mortgages, as the mortgage lender drafts the contract, in which you'll sign away your "default options". Shiller therefore slides into good old fashioned paternalism, requiring a notary to approve of mortgages (p. 134). "Libertarian Paternalism" I like; Regular paternalism, not so much. Typically, Shiller does not discuss the costs of his proposal (a Notary would be open to negligence suits by every defaulting borrower, and thus would require a hefty fee, needlessly impeding the transaction). Two further speculative suggestions are (1) a "Financial Watchdog" -equivalent to a Consumer Product Safety Commission, and (2) tax deductions for financial advice. Both suggestions exaggerate the knowledge of financial experts, who are no better at divination than the rest of us. The "Financial Watchdog" (1) runs a great risk of becoming politicized (think about what the Bush administration has done with the EPA), and of being relied upon too greatly. Shiller offers no evidence that tax credits for financial advice (2) are likely to be taken up by the small consumers whom the scheme targets, and to his credit, he admits as much. That he nonetheless dreams of a post-tax-deduction Utopia, where "technology will carry us forward into new dimensions of democratized financial sophistication that we cannot now imagine", is odd (p. 129).

The most interesting long term suggestion is to stop pricing things in currency, and to start using "inflation adjusted currency" or baskets. The government would publish a daily rate of exchange between the basket and the dollars. All prices would be denominated in "baskets". On pay day, one would look at the daily exchange rate between the "basket" and the dollar, and pay dollars based upon that rate. Apparently, such a system works well in Chile.

Again Shiller does not offer discuss the costs of such changes, and thus it is difficult to know if it is worth the fuss. First, teaching people to use a new measurement system is hard. If you are reading this in your native tongue, you are unlikely to use the metric system, because two hundred odd years after the French Revolution, it is still not widespread in the English Speaking World.

Furthermore, Inflation is not all bad, and so eliminating it is not an unalloyed blessing. There are two advantages to inflation. First, it allows prices (especially wages) to adjust downwards. Most people vehemently oppose pay cuts, but they are more willing to forego raises in difficult times. Second, a point made by Milton Friedman of all people, is that because people buy many different things but sell only a few things, they notice more a rise in their income than moderate rise in prices. Seeing your income going up is emotionally and psychologically satisfying (see Money Mischief: Episodes in Monetary History).

At the end of the book, Shiller argues for the development of sophisticated financial instruments for the housing markets. If (like at least one of the Amazon reviewers) you think speculation was the root of the crisis, you are unlikely to approve. As a fan of free markets, I'm open to the idea. But financial markets for houses would necessarily be very different than the markets for other products. To give just one obvious example, the product in most speculative markets are standardized (gold, dollars, US treasury bonds) - But every house is unique; With a little imagination, one can foresee all kinds of complications that this little fact may cause. Maybe these complications can be resolved, but Shiller's superficial account makes them seem far too easy.

"The Subprime Solution" is not as bad as most books I give 2 stars to; it is not entirely devoid of value. Nevertheless, its superficial account, melodramatic style and general lack of usefulness stop me from rating it any higher.

I find the argument from behavioral economics unpersuasive, that much of bubble-blowing is psychological, and the unsupported claim that we don't know much about bubbles. House prices are determined by demand and supply. Over the last decade, demand has been strong because of healthy economic growth, low interest rates, and cheap credit. As house prices rocketed, expectations of higher prices set in. However, the bubble normally bursts from outside the housing sector, often through a decline in a major industry, and then it becomes generalized (spread) to other sectors. As incomes fall, the multiplier effect sets in, inventory builds up, and everyone gets nervous. Bailouts, which Shiller supports, is a bad idea; it creates a moral hazard, and the politically weak having to pick up the tab. So, contra Shiller, I argue we know what to do, just that no one is politically inclined to stop the party until the wee hours of the morning. So we need to reform the financial system, but every time a new boom appears, lenders are too busy lending to think about old rules and not-pro-business regulators. The cycle starts again.

Subprime. How often did you use the word three years ago? Today it is all over the news. But what, exactly, is "The Subprime Crisis"? How serious is it? Who is responsible? And what shall be done to solve it?

If you are looking for answers for any of these questions, than, alas, "The Subprime Solution", which comes hyped by some great economic writers (like Gregory Clark, of "A Farewell to Alms" fame) is not a book for you. Shiller's analysis of the crisis is unsatisfactory, and his solution either mundane or speculative - with serious problems which Shiller overlooks.

Shiller informs us, at great length and repeatedly, that we are facing an extreme crisis. He calls it a "historic turning point in our economy and our culture"(p.1) and repeatedly compares it to the economic reparations inflicted on Germany after the Great War, and to the Great Depression. Watch out for the Hoovervilles! Seriously, such comparisons are unhelpful and unnecessary. The Subprime crisis is grave enough without comparing it to the Great Depression (is the Great Depression some sort of economic answer to Godwin's Law, which states that on every discussion, Hitler must at some point appear? Can't we ever talk about an economic crisis without channeling the nineteen thirties?).

But I digress. From approximately 1998 until 2006, the price of houses in the US rose much above their historical value, without any justification in terms of economic situation, the costs of construction, etc, (p. 36). Why did the prices rise? Well, because everyone thought that they would - and the expectations became self fulfilling prophecies. In short, there was a bubble.

But the bubble, as bubbles do, burst. Many lenders, who have offered mortgages to people based on the assumption that house prices would continue to rise, now have a lot of bad debt. Borrowers, who believed the same thing, now find it difficult to pay back their loans, and thus face the prospects of losing their homes. This problem is exacerbated by all sorts of "new" mortgages, especially ones with adjustable interest rates. As interest rates rise, people who used to be able to pay mortgages are no longer able to do so.

But why was there a real estates bubble, and not a bubble of, say, Tulips (as in the Dutch Tulip mania of the 17th century)? If Shiller knows, he's not sharing.
Nor is he telling us how big a problem it is. At the time of writing US unemployment rate is approximately 6%, GDP growth is down and inflation up, but the US does not seem to face either a contraction or hyperinflation, but only a recession. Recessions are part of economic life, and probably altogether unavoidable (which is not to say that US economic policies were ideal or even adequate).


Following his non description of the crisis, Shiller offers one short term solution, six long term ones, and a general call for more sophisticated housing markets.

The short term solution is a bailout. How large a bailout, and of what kind? Shiller mentions several proposals for a bailout, but he does not critically evaluate them. Nor is it entirely clear who he plans to bail out. Most of the time it seems the bailout will target borrowers, but Shiller also says that "it is essential that the... cost of bailouts... not be dumped into the laps of a small set of investors" (p. 108). There's a lot of talk of "getting the bailout right", and a lot of historical analogies (to the Great Depression, of course), but very little description of right and wrong bailouts.

The six long term solutions - as I said earlier - vary from the mundane to the speculative. The mundane: Improving financial databases and financial disclosures (is there anyone who will disagree?) The speculative: Shiller suggests "default options financial planning", what is now commonly known as Libertarian Paternalism - the government will offer a basic option, which people can cope out of (see Nudge). This is of course a useless measure in mortgages, as the mortgage lender drafts the contract, in which you'll sign away your "default options". Shiller therefore slides into good old fashioned paternalism, requiring a notary to approve of mortgages (p. 134). "Libertarian Paternalism" I like; Regular paternalism, not so much. Typically, Shiller does not discuss the costs of his proposal (a Notary would be open to negligence suits by every defaulting borrower, and thus would require a hefty fee, needlessly impeding the transaction). Two further speculative suggestions are (1) a "Financial Watchdog" -equivalent to a Consumer Product Safety Commission, and (2) tax deductions for financial advice. Both suggestions exaggerate the knowledge of financial experts, who are no better at divination than the rest of us. The "Financial Watchdog" (1) runs a great risk of becoming politicized (think about what the Bush administration has done with the EPA), and of being relied upon too greatly. Shiller offers no evidence that tax credits for financial advice (2) are likely to be taken up by the small consumers whom the scheme targets, and to his credit, he admits as much. That he nonetheless dreams of a post-tax-deduction Utopia, where "technology will carry us forward into new dimensions of democratized financial sophistication that we cannot now imagine", is odd (p. 129).

The most interesting long term suggestion is to stop pricing things in currency, and to start using "inflation adjusted currency" or baskets. The government would publish a daily rate of exchange between the basket and the dollars. All prices would be denominated in "baskets". On pay day, one would look at the daily exchange rate between the "basket" and the dollar, and pay dollars based upon that rate. Apparently, such a system works well in Chile.

Again Shiller does not offer discuss the costs of such changes, and thus it is difficult to know if it is worth the fuss. First, teaching people to use a new measurement system is hard. If you are reading this in your native tongue, you are unlikely to use the metric system, because two hundred odd years after the French Revolution, it is still not widespread in the English Speaking World.

Furthermore, Inflation is not all bad, and so eliminating it is not an unalloyed blessing. There are two advantages to inflation. First, it allows prices (especially wages) to adjust downwards. Most people vehemently oppose pay cuts, but they are more willing to forego raises in difficult times. Second, a point made by Milton Friedman of all people, is that because people buy many different things but sell only a few things, they notice more a rise in their income than moderate rise in prices. Seeing your income going up is emotionally and psychologically satisfying (see "Money Mischief").

At the end of the book, Shiller argues for the development of sophisticated financial instruments for the housing markets. If (like at least one of the Amazon reviewers) you think speculation was the root of the crisis, you are unlikely to approve. As a fan of free markets, I'm open to the idea. But financial markets for houses would necessarily be very different than the markets for other products. To give just one obvious example, the product in most speculative markets are standardized (gold, dollars, US treasury bonds) - But every house is unique; With a little imagination, one can foresee all kinds of complications that this little fact may cause. Maybe these complications can be resolved, but Shiller's superficial account makes them seem far too easy.

"The Subprime Solution" is not as bad as most books I give 2 stars to; it is not entirely devoid of value. Nevertheless, its superficial account, melodramatic style and general lack of usefulness stop me from rating it any higher.

As we all know by now, almost all economists are useless. They never forecast anything beyond the next month and their forecasts are consistently wrong, causing them to reforecast each month. They play this game of Monday morning quarterback because they rely only upon the government's "official" but manipulated data and they have neither the creativity nor backbone to think outside the box. Yet, the media gives them so much airtime, probably because they are tied very closely with the government.

Shiller is one of the few economists who is starting to get it. His emphasis of the importance of behavioral finance in the capital markets cannot be understated. But still, he is not much more than a broadcaster. And he offers no investment spin. Why didn't Shiller write a book a year or two ago warning of the problems? It is very easy to explain the sub-prime mess or predict doom and gloom now that the realities are apparent to the least informed consumer. All of the hacks are coming out only now talking on TV about problems. These are the same guys who kept denying there were major problems in 2007 and even 2008.

I suppose what was most disappointing to me was the fact that Shiller really did not lay down specific concrete solutions. Such solutions would be a part of fundamental change in Washington, the financial system and America's very broken free market economy. This book might be one to read down the road, but I do not feel it really adds much to what is going on, what to expect and how to resolve what appears to be the beginning of a depression. I am not so sure Shiller has a full handle on the complexities of America's real problems. But he is certainly not alone.

In my opinion, the real expert in this crisis is Mike Stathis, author of America's Financial Apocalypse. America's Financial Apocalypse: How to Profit from the Next Great Depression (Condensed Edition)

Stathis not only predicts the inevitable collapse of Fannie, Freddie and the banks, but goes far beyond the real estate and banking meltdown and discusses why America is headed for a depression by covering health care, Social Security, oil, free trade, debt, education, foreign acquisition of US assets, etc. His predictions have been 100% accurate and the investment guidance has proved very profitable for me. What is truly amazing is that this book was written in 2006.

I have not seen him being interviewed on TV but have heard him on the radio and he claims mainstream media has censored him because they are trying to hide the truth due to political reasons. I believe this. Just look at the how the media has continued to downplay things-just like they did during the dotcom collapse. Look at all of the shills on TV. The media is more interested in interviewing financial "celebrities" like Alan Greenspan, Jim Cramer and other guys who are always wrong rather than real experts who have been right. Before you read any other book related to housing or the economy, I suggest you read America's Financial Apocalypse. Stathis has proven to be the real expert and he is the only one I will listen to going forward. I am anxiously awaiting more books by him.

Mr. Shiller seems to be firing on half his cylinders in his approach towards solving the "housing crisis". Just like countless economists, he misses the mark completely on just what caused the so-called crisis to occur in the first place. For anyone with even a basic comprehension of simple economics, the reason is incredibly simple: Affordability.

The whole subprime machine was created out of the desire to continually inflate prices yet maintain sales by introducing 'clever' lending products for consumers who without such products would have long run out of the financial means to buy houses to start with. Had such loans and lending practices never been introduced, the bubble would have corrected much sooner, prices would not have climbed as high, affordability would not have become such a major problem in large metros ( almost 10x annual income in places like San Francisco) and lastly, we would likely have already recovered from such a correction. But instead, the fall has been far more painful and extended.

The solution is not to make attempts to create even more "democratic", or creative lending solutions. By doing so would merely deliver us back to a similar era of (In Mr. Shiller's words) Over exuberance.The simple answer to all of this is that we must allow the bubble to deflate. Yes, this means pain. It means a lot of people will lose homes that they had no business buying in the first place. It means prices will fall further. But it also means that once the dust settles, new home buyers will have a chance to buy in a more healthy, affordable environment. It means a return to more steady, reliable growth and appreciation. It also means more stability in the financial industry.

So no- I 100% disagree with Mr. Shiller on this. We as a nation should not be in the business of shoring up faulty business with the very tactics that placed it into its current negative position. Instead, we need a return to sound financial principals less reliant on shady economics. We need a return to actual affordability. Why this is so incredibly difficult for politicians, specialists, advisers, and economists to admit is beyond me.

This could have been a major contribution to economic theory and history.Unfortunately,Shiller is unable to think outside the box of the basic neoclassical rational actor model of SEU(Subjective Expected Utility)theory ,and its extension in the form of the Tversky-Kahneman Prospect (Cumulative Prospect Theory )Theory that underlies the behavioral economics(finance)school of thought that has arisen since the late 1970's.Shiller makes it clear that he is an avid supporter of this school(Shiller,pp.117-120).SEU theory is actually a more advanced mathematical form of Jeremy Bentham's Benthamite Utilitarianism as expressed in his 1787 book, " Introduction to the Principles of Morals and Legislation".Bentham,the founder of neoclassical economics, asserted that all rational,and even some irrational, human decision makers are able to accurately calculate the outcomes of their actions .However,he failed to present a method describing how such decisions were made.Modern neoclassical economics filled this gap by combining the Ramsey-de Finetti-Savage subjective theory of probability,based on the premise that all probability calculations are precise,exact,accurate,unique,linear,additive,single number calculations, based on the laws of addition and multiplication of the probability calculus,combined with the expected utility theory of Morgenstern and Von Neumann,which claimed that all utilities can be shown to also be exact,precise,linear,additive calculations.Neoclassical economist Herbert Gintis gives a good summary of the neoclassical SEU theory :"...the model can be shown to apply over any domain in which the agent has transitive preferences " so that " there is a probability pi subscript,0<=pi subscript<=1 such that the agent is indifferent between Ai subscript and a lottery that pays A1 subscript with probability pi subscript and pays An subscript with probability 1-pi subscript.Clearly,these assumptions are extremely plausible "(Gintis,2004,Politics,Philosophy,and Economics,3,p.40).Unfortunarely,this is not the case.Gintis has presented an abbreviated summary of Savage's sure thing postulate that both Keynes(A Treatise on Probability,1921,p.315,ft.2)and Ellsberg showed required that the decision maker would have to be able to specify a complete information set.Keynes expressed this by the condition that the weight of the evidence,w,equalled 1.Elleberg expressed it by the condition that there was no ambiguity in the information base so that his variable ,rho,equalled 1.This problem ,of a complete information base ,showed
up in the 20 year exchange between L Jonathan Cohen and Tversky and Kahneman ,carried out primarily in
the pages of Brain and Behavioral Science journal between 1974 and 1994,over the blue -green taxi cab problem.Tversky had to come up with a Keynes/Ellsberg like w or rho variable,that he called s for support,in order to counter Cohen's point that Tversky -Kahneman were claiming that the experimental subjects
were irrationally using heuristics and rules of thumb,instead of the mathematical laws that a rational decision maker would use,rather than recognizing that the experimental subjects realized that their information
base was incomplete so that w and rho were less than 1.In cases of uncertainty /ambiguity ,where w or rho are less than 1,it is irrational to attempt to use the mathematical laws of probability which only work if w or rho are equal to 1.This was exactly the same point made in 1931 by Keynes in his review of Ramsey's subjective theory of probability.SEU theory can only deal with situations of
risk(w=1,rho=1).
Shiller constantly refers to the need to better manage risk through the risk models used by modern financial mathematical models .These risk models all result in the use of some sort of normal probability distribution(joint normal,cumulative normal,bivariate normal,multivariate normal,log normal).Benoit Mandelbrot
has demonstrated continuously for 50 years that none of the time series data supports the use of any type of normal distribution.The data supports the use of the Cauchy,Frechet,or power law distributions like the Pareto.Mandelbrot has correctly demonstrated that decision makers face the wild risk of the Cauchy and not the mild risk of the Normal.All 6 of the solutions proposed by Shiller on p.122 and discussed in depth on pp.123-169 can't deal with Keynesian uncertainty or Ellsbergian ambiguity or Mandelbrotian wild risk.The only way to deal with the uncertainty and lack of confidence created by the speculative and securitization behavior of the large Wall Street investment banks and the commercial banking system is a preventitive one-Prevent the speculators from getting their hands on the bank loans that they need to leverage their debt position in the first place.Thisis the solution arrived at by both Keynes and Smith(See Smith,WN,1776,pp.339-340;Keynes,GT,1936,pp.321-327,338-353,and pp,374-377).There is only one reference to uncertainty in this book.Shiller puts uncertainty in italics on p.103:"Right after the 1929 crash,the forecasters,although they did not predict the depression that was to follow,expressed unusual uncertainty(uncertainty is in italics for emphasis)about the economic outlook.Romer believes that it was this uncertainty that led to the sharp contraction in consumer spending that ultimately caused the Depression ".(Shiller,p.103,2008).Unfortunately,none of his solutions,based on the standard neoclassical SEU
risk models,that are taught universally in all economics and finance classes where Shiller teaches,can deal with the collapse in investor and consumer confidence because confidence
is a function of Keynes's w,which is assumed to always equal 1 in the SEU theory.Keynes gave the correct solution on p.158 of the General Theory-"A collapse in the price of equities,which has had disasterous reactions on the marginal efficiency of capital may have been due to the weakening either of speculative confidence or of the stste of credit.But wheras the weakening of either is enough to cause a collapse,recovery requires the revival of both(Keynes placed " both"in italics for emphasis).For whilst the weakening of credit is sufficient to bring about collapse,its strenthening,though a necessary condition of recovery,is not a sufficient condition."(Keynes,p.158,1936).None of Bernanke's current policies or of Shiller's recommendations on risk management will have any impact on confidence.

Shiller's position,in this book and the others he has written,is that the problem is one of irrational exuberance combined with information cascades.
"An information cascade occurs when those in a group disregard their own independently,individually collected information because they feel thateveryone else simply couldn't be wrong.(Shiller,p.47).Keynes had already shown that the reason this occurs is that each individual regards his w to be very low.This means that you are now dealing with uncertainty and not risk.Risk management techniques,no matter how mathematically advanced,will not be able to deal with this problem.

Shiller has correctly identified the problems of financial speculation and securitization.Unfortunately,his new risk management techniques would have no more of a chance of dealing with the wild risk of the Cauchy Distribution than an ice cube would have of not melting in the Sahara Desert.An ounce of Keynesian/Smithian prevention is worth more than a pound of risk management techniques build on the standard deviation of a normal probability distribution." Excessive Volatility " automatically means you have to deal with uncertainty as opposed to risk.

The first thing that can be said about this book is that notion of a financial bubble is not really explicitly defined. Instead its author takes it as a given that there was a housing bubble and it aggravated the current "credit crisis". One could perhaps debate the author's contention is this regard, if one examined for example the relatively stable housing markets in many areas in the country at the present time. His emphasis in the book is not on the quantitative analysis of financial bubbles but rather in what measures can be taken to alleviate the effects of the housing bubble. The study of these effects has taken on major importance in the last year, and much has been written about them. This book, although short, is interesting at least from the standpoint of the audacity of the solutions that the author proposes.

One of the best features of the book is the author's discussion of the importance of technology for the financial community. He looks forward to the integration of behavioral finance in the mathematical modeling of the financial markets. This is just getting started, and those involved can look forward to some very interesting developments along these lines. It is always refreshing to see new paradigms being used at a practical level, and behavioral finance shows great promise in more accurate modeling of the financial markets.

As part of a long-term solution, the author proposes the "democratization" of the financial markets but his proposals in this context are somewhat annoying since he, as do most other writers, frequently refers to the "general public" in a manner that implies a complete disrespect for the members of this group. It is interesting that no matter what the topic or ideology, its advocates always refer to the "general public" as some sort of class or entity that they do not belong to, but that is clearly lacking in intelligence and in need of their assistance. It is though every interest group feels that those outside of its political and intellectual logosphere need "enlightenment" or guidance of some sort. The author for example makes the statement that "the public, of course, does not understand this basic economic fact" when discussing why their ignorance resulted in a massive speculative bubble. Addressing "the public" (whoever that is) in this way only exposes the author's elitism. It does not help at all in elucidating the need for the "democratization" of the financial markets.

And assuming that this need is a valid one, it would be interesting to see just what actually would be made available for this purpose. For example, anyone who has worked in mortgage modeling knows of the need for more accurate data on house prices. Would the author be willing to make the Case-Shiller index available to anyone who wants it, without any financial compensation to the firm that currently has proprietary rights to it? When reading the book, it would seem that only financial tools produced as the result of government funding would be available without charge to anyone that was interested in using them. An immediate question arises as to whether these public tools are better than the ones developed by private firms or institutions. If they are, and they are recognized as such, then financiers and investors will use them instead, eliminating the need for the private tools. If they are not, then the people who use them are getting sub-standard advice, and this will aggravate or cause another financial bubble, since clearly the author believes that bubbles are caused by information of poor quality or wildly optimistic estimates of future prices.

The author is in favor of governmental bailouts, citing actions taken in the great depression as evidence, and the need for financial "stablity" (the latter undefined in the book). But the ability of the governmental institutions to fix the problems that arose out of the great depression is not apparent when reading this book or indeed many others on the same subject. Yes, these institutions were put in place because of the great depression, but this reviewer is not aware of any evidence that they played an actual role in ending it. Just because they were invented with the intent of solving the financial problems of the great depression does not mean that they actually did. Other factors may have played the major role, these factors not being known, with the result of a false imputation of success to these governmental institutions. Indeed, there are a few ideological groups who claim that it was the gearing up for the Second World War that effectively ended the depression.

If government is to be more involved in matters of economics, maybe a good start would be to pass what might be called a "Financial Courage Act", which would be a massive educational program to instill in all citizens a recognition and appreciation of the extreme volatility of the financial markets of the twenty-first century. This would not be a propaganda campaign waged to protect Wall Street economic interests, but instead a long-term project that would educate everyone on why the financial markets take the form that they now do and thus alleviate some of the anxiety associated with rapid change. This reviewer cannot see anything intrinsically wrong with financial bubbles, and if we all understand them as just another aspect of our financial deal making we will not be emotionally overwhelmed when they do occur. When Roosevelt made his speech on the debilitating effects of fear, he was correct, and that speech might have been his greatest contribution to the economic turmoil of his time. The citizens of his generation had the courage to face up to their difficulties and move on, and so there is no reason why everyone at the present time cannot do the same.