Market Psychology

The thing that struck me the most about yesterday’s global market selloff, is the sense of déjà vu. The more things change, the more they stay the same:

The Ubiquity Of Market Failure

Mark Thoma on keeping the public sector involved in markets (excerpt):

7 Important Examples of How Markets Can Fail
By MARK THOMA, The Fiscal Times

Many people on the political right believe that free markets are the solution to most any problem. For example, Senator Pat Roberts (R-KS) introduced yet another attempt to repeal Obamacare with a call to “start over … with true, market based reforms.”

​Free, unregulated markets are not always the answer, however. It’s true that competitive markets have desirable properties, but very special conditions must be present for competitive markets to emerge. When these conditions are not met, as is often the case in the real world, free markets can perform very poorly. In these cases – as illustrated in the following examples – government intervention that eliminates troublesome “market freedoms” can often be used to move these markets closer to the competitive ideal...

He’s absolutely right, in principle anyway. Some of the examples quoted won’t have any meaning to Malaysians, but the idea that government regulation are an evil necessity doesn’t always hold true – sometimes, it is only government intervention that makes having a “market” possible in the first place.

In fact, at least one source I have read claims that government procurement in ancient times resulted in the first organised markets, perhaps a precursor of how government debt today forms the foundation of private debt capital markets.

Nevertheless, agree or disagree, Prof Thoma’s thoughts are always worth a read, and the comment debate on his blog is an education in itself.

Weekend Reading: Dani Rodrik On The Influence Of Milton Friedman

Harvard professor, free market sceptic and mixed economy evangelist Dani Rodrik on Uncle Milt (excerpt):

Milton Friedman’s Magical Thinking
Dani Rodrik

CAMBRIDGE – Next year will mark the 100th anniversary of Milton Friedman’s birth. Friedman was one of the twentieth century’s leading economists, a Nobel Prize winner who made notable contributions to monetary policy and consumption theory. But he will be remembered primarily as the visionary who provided the intellectual firepower for free-market enthusiasts during the second half of the century, and as the éminence grise behind the dramatic shift in the economic policies that took place after 1980...

...But Friedman also produced a less felicitous legacy. In his zeal to promote the power of markets, he drew too sharp a distinction between the market and the state. In effect, he presented government as the enemy of the market. He therefore blinded us to the evident reality that all successful economies are, in fact, mixed. Unfortunately, the world economy is still contending with that blindness in the aftermath of a financial crisis that resulted, in no small part, from letting financial markets run too free.

Econophysics: Markets And Economies As Complex Systems

Via Wired Magazine comes this paper with a unique take on market behaviour (abstract):

Predicting economic market crises using measures of collective panic
Dion Harmon, Marcus A. M. de Aguiar, David D. Chinellato, Dan Braha, Irving R. Epstein, Yaneer Bar-Yam

Predicting panic is of critical importance in many areas of human and animal behavior, notably in the context of economics. The recent financial crisis is a case in point. Panic may be due to a specific external threat, or self-generated nervousness. Here we show that the recent economic crisis and earlier large single-day panics were preceded by extended periods of high levels of market mimicry --- direct evidence of uncertainty and nervousness, and of the comparatively weak influence of external news. High levels of mimicry can be a quite general indicator of the potential for self-organized crises.

The modelling approach used here takes cues from physics as well as behavioural economics, blending the two. I’ll admit I’m a neophyte at both – I’m completely unfamiliar with the approach used in this paper. But the premise, and the results are intriguing, despite the brevity of the paper (17 pages, including references).

Technical Notes:

Dion Harmon, Marcus A. M. de Aguiar, David D. Chinellato, Dan Braha, Irving R. Epstein, Yaneer Bar-Yam, "Predicting economic market crises using measures of collective panic", Feb 2011

There He Goes Again…

Tun Dr Mahathir on free markets, regulation and gold:

Dr M: Banking, finance need to be regulated

…Former prime minister Tun Dr Mahathir Mohamad said governments must continue to oversee the regulation of banks and financial institutions.

“Unless the Government oversees and limits the ability for the market to abuse (the banking systems) then, of course, we are going to have this kind of (global economic) crisis…

…“This idea of a free market has become almost like a religion. You cannot question it, even when it fails,” he said…

…“And the abuses became rampant because of the idea that governments must not interfere with the financial market. (That) the market it seems would regulate itself,” he explained.

He urged for the gold dinar to be institutionalised as the standard against which all currencies were measured for the sake of stability.

“It’s something tangible and something that has value anywhere in the world,” he said.

However, he said the gold dinar system, if implemented, should only be used for settlements of international trade…

…“The US dollar has got no value whatsoever. It’s got no backing, no reserve. But we accept it as if it has some value and because we accept it, it has value,” he said.

There Is No Such Thing As A Theory of The Invisible Hand

Myth making at its finest. From a book review of “How Markets Fail” by John Cassidy:

Debunking theories

ALAN Greenspan has a dangerous weakness for Adam Smith – he believes firmly that untrammelled capitalism provides a uniquely productive method of organising markets.

Paying homage to Smith’s Theory of Invisible Hand, Greenspan wrote, shortly before the explosion of subprime crisis, “People must be free to act in their self-interest, unencumbered by external shocks or economic policy ... Yet, even in crises, economies seem inevitably to right themselves.”

An Absence Of Markets: IKEA Edition

It sometimes fun to apply economic principles to everyday matters, and the way people interact with each other. And sometimes, it’s a little depressing. This post outlines a case of the latter.

I was at the IKEA store at IKANO Power Centre in Kota Damansara last Saturday, having dinner with my family and my sister. It being the start of the IKEA sale, the place was of course packed to the gills. The in-store restaurant was no exception, with fairly long queues into the cafeteria area.