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May 27, 2009
A few comments on comments on the origins of the crisis
The following are a couple of comments I have on a few quotations from a round up of quotes on the financial markets role in the origins of the present recession.What Good Is It, Anyway?.
Financial innovation, he says, is not like real-world innovation; the former only creates value if it solves an existing market imperfection. by Mike Rortybomb
Surely this is a criticism of real world innovation as well. If I make a machine that makes the finest metal triangles the world has ever seen but the world doesn't need any better metal triangles, then then is that innovation? Whenever you invent something where the benefits or costs of the innovation are uncertain has this problem. It may be more common in financial innovation than in mechanical engineering. Science fiction author Theodore Sturgeon once said "Sure, 90% of science fiction is crud. That's because 90% of everything is crud.". Maybe 90% of Innovation is crud.
[O]ne would hope and expect that between sell-side productivity gains and a rise in the sophistication of the buy side, any increase in America’s financing needs would be met without any rise in the percentage of the economy taken up by the financial sector. by Felix Salmon
I don't agree with this. It could simply be that more complicated financial services are luxury goods because they hedge lower probability states of the world. This could happen if setting up markets is expensive, then we'll set up hedging markets for the states we believe are most likely. It also need not be true that innovation today reduce profits tomorrow. Think of the movies. Movie technology continues to advance, but certain things need to be made anew with each movie. Those unique factors continue to be restricted, and so profits may increase with movie innovation as the limited factors get a greater share of revenue.
Having worked in fixed income for an investment bank during this time, it was my observation that most people working in the securitization, valuation and risk management process believed that what the banks were left holding was reasonably well modeled and approximately priced properly. Ex post, we were either phenomenally unlucky or a lot of people were wrong (more likely). Markets are information aggregation mechanisms, but they aggregate and attract information, but they don't make it. Capitalism doesn't protect you against mistaken beliefs in financial markets unless there are guys with the truth and in aggregate really deep pockets and functioning shorting markets.
Posted by OneEyedMan at May 27, 2009 8:11 AM
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