Larry Summers and the Technology of Money
The former U.S. Treasury secretary and Harvard president sounds off about innovation in online currencies and mobile payments.
Larry Summers has examined the role of money in society through many lenses. He’s been chief economist of the World Bank, secretary of the U.S. Treasury, and lead economic advisor to President Barack Obama during the financial crisis; his views shaped the recovery effort.
No matter whether he’s serving as a regulator or an academic—or just being portrayed as the blunt-spoken president of Harvard in the film The Social Network—Summers always expresses himself with candor, authority, and a level of conviction that’s rare for just about anyone, much less an economist.
Less well known is that Summers is also a technologist at heart. Last year he joined the San Francisco venture capital firm Andreessen Horowitz as a special advisor, and he is on the board of Square, an online currency startup.
Technology Review reporter Conor Myhrvold sat down with Summers in his office at Harvard’s Kennedy School of Government, where he teaches now, to discuss how technology will change our financial future.
TR: You once said that “anyone who cares about the performance of market economies has to be deeply interested in the innovations of information technology.” What innovations are most important?
Summers: The move toward e-commerce. When something goes 1, 2, 4, 8, 16, 32, the gap between 16 and 32 is a lot bigger than the gap between 2 and 4. The penetration of e-commerce and the movement toward IT platforms of commerce is going to have a larger and larger impact on the real economy, simply because high percentage rates from a substantial base make more difference than high percentage rates from a very low base.
Amazon, and the fraction of all purchasing that’s taking place online, is having a growing impact. We’re also seeing all kinds of industries that nobody conceptualized even a few years ago, built around social networking in one way or another, of which online games are only one example. And we’re seeing—this gets ahead of us slightly—the processes of commerce changing fundamentally when people are able to store value on their cell phones, when people are able to take payments digitally with minimal friction or red tape.
So whether it is how we carry on commerce, whether it is new industries associated with social networking, or whether it is more rapid penetration of e-commerce into the regular economy, I think in all these ways, information technology is having a growing impact.
One example of that is Square, the payment startup launched by Twitter founder Jack Dorsey. Why did you decide to join the board of Square?
I was excited. Look, I think that for too long, financial innovation has been about big, rich institutions. Square’s innovation is fundamentally about making it easy for a piano teacher or tutor to get paid, or reducing the friction involved in using a car service. I was excited about the idea of financial innovation for the benefit of regular people. I thought they had an exciting product and the prospect of getting to a very substantial scale quite quickly.
You also joined Andreessen Horowitz as a special advisor, saying you wanted to contribute as a thinker, not just as a door opener. What is it you’ve been thinking about?
What I’ve enjoyed the chance to do is to think about how basic economic principles of pricing—pricing relative to marginal cost, price discrimination—can help you think about pricing different speeds for being able to download a movie, for example. These principles go back to the time when people were thinking about how first-class train service, second-class train service, and third-class train service should be priced in 19th-century France. The idea that the world always changes, but there are certain economic principles that are timeless and can be applied in new contexts, is something that’s very interesting for me.
How much faster is money moving today than when your career started?
When I started traveling, you had to carry traveler’s checks. If you were unlucky enough to run out of cash, you had a big problem and you had to go to an American Express office and hope for the best. Today, money can get transferred from any part of the planet to any other part of the planet, essentially instantaneously. I think for the most part that’s a positive thing. People can see prices more easily, they can act on their desires more efficiently; friction is rarely a good thing.
But I think we do need to be working to create regulatory systems that are as modern as the markets. And in some ways, what the 2008 crisis showed us is that our regulatory system hadn’t fully kept up with all of the financial innovations that were taking place, and that’s something that’s got to be a priority for all of us in the economic and financial area going forward.
One example of financial innovation is a currency system called Bitcoin, which is a way of digitizing money without control by one central authority. Can money exist without government and monetary policy?
Conceptually, money can exist without a central authority. The United States only got a central bank in 1913, and we were a country with a functioning economy before 1913. There are also private issuers of things that function very much like money—think about Crimson Cash here at Harvard, or American Express traveler’s checks.
Bitcoin is one of many innovative technologies that are going to seek to take friction out and provide services to people. You can make a priori arguments about how it will work very well, and you can also raise concerns a priori. And I think if we know anything about new technologies, you just have to wait and see what happens in the marketplace. Everyone thought New Coke would be better than old Coca-Cola and take things by storm, and [former IBM CEO] Tom Watson thought there was only demand in the world for 10 or 12 computers. And so I think history teaches that you can’t really forecast which kinds of innovations will ultimately become networked and get to scale.
What does the word “money” mean to you in 2012? Is the definition changing as it becomes more digital?
Money is a medium of exchange and a store of value, and I think it always has been. And you know, it’s been a long, long time since most of the money was [hard] currency; most of the money has been deposits in a bank of one kind or other. I think many of the basic principles underlying money that economists understand—that if you create too much of it you will get rising prices, for example—actually are constant even as technology does change.
Do you think our financial system is broken?
I don’t think there’s any question that it was broken—otherwise we wouldn’t have had the kind of financial crisis we’ve had from 2007, which still has carry-over effects right now. I think that the new legislation enacted by Congress to reform financial regulation does represent a very far-reaching set of changes in the way money and the financial system are regulated. There’s a great deal in that regulation that was left to public authorities and that will need to be worked out over time, so I think we’re in the midst of a fairly substantial change in financial regulatory practice, and I think that’s a good thing.
I think we need a system that’s as modern as the markets. Institutions can change what they hold, they can change their risk profiles much more quickly than they used to be able to, and that means they need to be watched more quickly. It also means that we may not be able to focus quite as much on what their risk profile is at a particular instant, as we focus on what their systems are for managing risk. But there’s no question that risk management is going to be one of the growth areas for the next decade or two.
In a 2007 interview, after you left Harvard’s presidency, you said, “I want to spend this next phase [of my life] understanding the world as accurately I can, and try to think about what the implications of that understanding are.” Almost five years later, what have you learned that surprised you the most?
Well, I didn’t plan at the time on working in the U.S. government, fighting rather serious financial fires. I think I have—I think we’ve all—learned that there is more fragility to the market economy than we had perhaps appreciated, that while most of the time the economy is in a sense self-regulating like a thermostat—when there’s excess supply, a price goes down and equilibrium is restored—economies are sometimes, perhaps two or three times a century, self-dis-equilibrating, and the metaphor becomes more an avalanche than a thermostat.
And at that time, there’s a need for strong government actions, and that’s what we tried to provide in 2009. Certainly no one’s fully satisfied with how the economy is performing, but if you look at the six months from the fall of 2008 to the spring of 2009, they show deterioration on almost every economic statistic more rapid than during the Depression—the first six months after the fall of 1929. And certainly the play-out has been nothing like what it was after the spring of 1930, and that’s a reflection of the strong policies that were pursued.