The Neglected Economics of Trust: The Bentham Paradox and Its Implications

I Faith and Credit We can see the centrality of trust in the case of credit. Recall that Schumpeter even defined capitalism as "that form of private property economy in which innovations are carried out by means of borrowed money" (Schumpeter 1939, p. 223). Although capitalism has been with us for some time now, credit has always had an air of mystery surrounding it. Even so, we take credit for granted. We no longer hear lenders exclaim, as did William Paterson (on obtaining the charter of the Bank of England in 1694 using the money he had won in privateering): "The bank hath benefit of all the interest on all moneys which it creates out of nothing" (cited in Quigley 1966, p. 49). In times of crisis, we speak of the importance of maintaining confidence in the structure of credit, but normally we do not give this problem much thought. In an earlier age, people realized how tenuous are the underpinnings of the credit structure. For example, John Peyton, a southerner visiting Chicago in 1848, objected to having to take relatively worthless paper money issued by an obscure Atlanta bank as change. The hotelkeeper refused to honor Peyton's preference, proclaiming: Why, sir . . . this hotel was built with that kind of stuff. . . . I will take "wild cats" for your bill, my butcher takes them of me, and the farmer from him, and so we go, making it pleasant all around. I only take care . . . to invest what I may have at the end of a given time in corner lots. . . . On this kind of worthless currency, based on Mr. Smith's [the issuer's] supposed wealth and our wants, we are creating a great city, building up all kind of industrial establishments, and covering the lake with vessels - so that suffer who may when the inevitable hour of reckoning arrives, the country will be the gainer, Jack Rossiter [the speaker] will try, when this day of reckoning comes, to have "clean hands" and a fair record. . . . A man who meddles, my dear sir, with wild-cat banks is on a slippery spot, and that spot the edge of a precipice. (Peyton 1869, p. 605) In a similar vein, Thomas Ford, a former governor of Illinois, recalled that, although banks owed more than they could pay and although people owed each other and the banks more than they could pay, "yet if the whole people could be persuaded to believe this incredible falsehood that all were able to pay, this was 'confidence' "(Ford 1854, p. 227; cited in Hammond 1947, p. 235). Not surprisingly, every so often, the whole system of credit implodes or collapses. For example, in December 1997, during the Asian Crisis panicked Koreans formed large lines waiting to withdraw their money from the banks in Seoul. In one case, the bank manager tried to stem the tide of withdrawals by standing on a counter with a bullhorn while yelling: "Trust us! Trust us!" (Schuman and Davis 1997). Not having seen a depression in more than a half century and having been spared the direct consequences of the collapse of the savings and loan industry, most people in the United States think of banks as being fundamentally sound by nature. However, as Walter Bagehot, the philosopher of the British banking system, once noted, "Credit - the disposition of one man to trust another - is singularly varying. In England, after a great calamity, everybody is suspicious of everybody; as soon as that calamity is forgotten, everybody again confides in everybody." (Bagehot 1873, p. 64). Thus, if we accept Schumpeter's notion that the financing of innovations with borrowed money is the distinguishing feature of capitalism, along with Bagehot's observation that credit ultimately depends on trust, we can understand why trust should be a major concern of economists. II Food and Trust Food offers us a window into the role of trust from the perspective of a consumer. Trust and food traditionally go hand in hand, since in many societies (including our own), sharing food symbolizes a relationship of trust. …