07/05/2009 05:12 am ET Updated May 25, 2011

Stiglitz And Chanos Argue For Short Selling (WATCH)

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Nobel prize-winning economist Joseph Stiglitz and Jim Chanos, president of Kynikos Associates, one of the largest short selling firms in the world, agreed today that short selling, which has been demonized by financial leaders and pummeled in the press, was not actually a major contributor to the economic decline.

"Short-selling is part of the correction. You don't want just the optimists to be reflecting their views of what the true price is," said Stiglitz. "So, in all this [financial institutions] weren't asking the deeper questions of what do we want financial markets to do, they were asking how do we make more profits."

This comment came during a conversation on short selling and the current economic crisis hosted by the Roosevelt Institute. The forum, called, "Selling Us Short: The Limits of Markets (and Governments)" focused on the failings of traditional financial models and the need for aggressive change to fix the market. Short selling is when a seller borrows a stock that he believes will fail and sells it, only to buy it back at the lower price and return it to the lender, keeping the price difference as profit.

For Chanos, short selling is vital to a healthy market, and the attacks from the financial sector are evidence of a broken mindset among political and financial leadership. "What's really disturbing, from my perspective, is a real attempt to squelch financial criticism, as Professor Stiglitz said," Chanos argued. "Because there hasn't been one major financial fraud in the last 25 years in the U.S. markets that was uncovered by anyone other than a journalist, an internal whistleblower, or a short seller." Chanos went so far as to defend naked short selling, the practice in which a trader sells a stock that he has not yet received. Congress has vowed to aggressively regulate this method, which Chanos said was not part of the problem at all.

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The forum, which was part of the Roosevelt Institute's New Deal 2.0 speaking series, also looked at the continued influence of financial leaders who contributed to the economic downturn. "It is stunning to me that after all that has happened, the banking industry still holds the power it does in Washington," said Chanos.

"The same guys who drove the Titanic into the iceberg may put it into reverse and take another run at it in another few years. Not much actually has been changed," he added.

Stiglitz went on to argue that currently, the government is focused on the largest banks in a vast financial network that also includes credit unions, regional banks, and other smaller lenders. While the larger banks are receiving the bulk of the stimulus package, they are not the ones directly responsible for keeping Americans working, which falls mostly to the smaller institutions.

Both men agreed that the financial downturn allowed for the possibility of change, but worried that the opportunity would be squandered without a serious change in mindset in both political and banking circles. They shared a concern that the continued influence of the revolving door between lobbyists and government positions, as well as the intransigence of bank leaders, would keep the market operating under a failed paradigm that would hurt American taxpayers. Stiglitz emphasized the importance of "distance between the regulators and the regulated." Chanos ended the panel by quoting a French economist he had spoken to recently as warning, "Self-regulation is to regulation as self-importance is to importance," which drew laughs from the crowd.