Finance goes to Hollywood

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CAMBRIDGE – Over the years, Hollywood films have had much to say about financial markets and institutions – often reflecting a distinctly populist perspective. At a time when both populism and financial volatility are much in evidence, what lessons might these films hold about regulation?

Start with the 1939 classic The Wizard of Oz, in which Dorothy and her cohort – the Cowardly Lion, the Scarecrow, and the Tin Man – travel along the “yellow brick road,” in order to reach the magnificent Emerald City, where they hope to find the wizard who can make their dreams come true. But the city’s splendor – and the wizard’s power – turn out to be illusory.

Most of the film’s devotees don’t realize that it is a populist allegory about money. The yellow brick road represents gold, and the Emerald City is a metaphor for Wall Street. The Cowardly Lion represents William Jennings Bryan, a populist presidential candidate in 1900, when the book on which the film was based was written. Bryan railed against big-city bankers and the monetary austerity of the gold standard, and pledged to advance the interests of farmers in the American West (the Scarecrow) and factory workers in the east (the Tin Man).

Fast-forward 15 years, and we arrive at the 1955 film East of Eden, in which Cal Trask (played by the legendary James Dean) “goes long” on beans, in anticipation of an increase in demand if the United States enters World War I. Sure enough, the price of beans skyrockets. But when Cal offers the profits to his father, he is rebuffed. Cal’s father is morally offended by his son’s actions, which he views as tantamount to profiting off of others’ misfortunes.

The film’s message is clear: speculation is sinful. But, in reality, Cal has been the agent of Adam Smith’s “invisible hand.” By betting on his hunch about the future, Cal has contributed to upward pressure on the price of beans in the present, thereby increasing supply precisely when it is most needed (by the British Army).

This would seem to support corporate raider Gordon Gekko’s famous pronouncement in the 1987 film Wall Street: “Greed, for lack of a better word, is good.” But Gekko’s greed involves insider trading – a crime in which the commodity traders in the 1983 comedy Trading Places also partake. In the 2013 movie The Wolf of Wall Street, stockbroker Jordan Belfort adds government corruption to the mix. Although these rogues are expected to elicit a guilty admiration from the audience, their moral failings – and the need for regulation to protect the public from them – are obvious.

But not all speculation is created equal. Bank runs, for example, cannot necessarily be blamed on “evil” bankers or greedy stock-brokers. In the 1946 classic It’s a Wonderful Life, it is ordinary depositors who converge on the small-town Bailey Brothers Building and Loan demanding their money, fearing that others will do the same. As the institution’s reserves are drained, protagonist George Bailey must sacrifice his honeymoon to avert failure.

Likewise, in the 1964 film Mary Poppins, a bank run erupts when Michael Banks – the young son of a bank clerk and one of the children in Mary Poppins’ care – cries out for the bank chairman to return his tuppence, sparking a panic among depositors. The drama was inspired by real events: an anonymous letter triggered a run on deposits at Birkbeck Bank in 1910, the year in which the movie was set.

We have known for some time how to deal with bank runs effectively. Government agencies must insure depositors (at least up to some threshold) and should intervene in the event of a bank’s failure. To guard against moral hazard (excessive risk-taking by banks on the expectation that they will be bailed out of trouble), reserve and capital requirements are needed. Since these requirements intentionally constrain banks’ profits, they amount to a sort of ex-ante insurance premium.

In the 2023 morality tale, Bank of Dave, a good-hearted businessman tries to open a community bank in a small English town, only to face underhanded resistance from the big London banks. Ultimately, they rely on onerous capital requirements, imposed by a captured regulatory body, to bring Dave down – and nearly succeed. (The real-life Dave, on whose story the film is based, never managed to come up with the capital.) Typically, however, big banks lobby for lower, not higher, capital requirements.

The 2008 global financial crisis proved particularly inspiring for Hollywood, exemplified by films like Margin Call and Wall Street: Money Never Sleeps. In The Big Short, a few investors realize in 2006-07 that US home mortgages have been excessively packaged, sliced, and derivatized, so they “short” the market. Needless to say, their bet pays off.

The Big Short is unusual in presenting short-sellers in a somewhat positive light. Far more common is the approach taken by 2023’s Dumb Money – also based on a true story – in which the meme-stock traders who bought GameStop shares in early 2021 are positioned as the “good guys” standing up to short-selling hedge funds. And yet, short-selling serves an important purpose – for example, as a check on excessive market exuberance.

Many politicians appeal to popular anger against bankers and speculators during election campaigns. Some follow through on their promises to strengthen regulation once in office. Recent efforts to improve capital requirements – the “endgame” of the Basel III initiative, launched after the 2008 crisis – are a case in point. In the US, leaders build on the 2010 Dodd-Frank legislation, which led to important progress, including regular bank stress tests and strengthened regulation of derivatives.

But for every politician who tries to improve regulation, another tries to block or even reverse progress, despite having used appeals to the populist desire to rein in the Gordon Gekkos working in the Emerald City to get into office. They figure that the voters can’t tell the difference – at least not until the next crisis strikes.

Jeffrey Frankel, Professor of Capital Formation and Growth at Harvard University, served as a member of President Bill Clinton’s Council of Economic Advisers. He is a research associate at the US National Bureau of Economic Research.