Monday, November 17, 2008

Fear and Greed in City Markets

David Freud, an adviser to the Government on welfare reform and author of “In The City”, Bene Factum Publishing, writes in Mail online, 16th November 2008 (HERE)

Crisis caused by lack of fear, not too much greed”

'It's all about fear and greed,' a hardened trader at the investment bank for which I worked told one of my trainee analysts in the Nineties.

It was the standard rough and ready explanation as to how share prices are constantly poised between concerns about where they will move next.
We had the lesson printed on some T-shirts and wore them on lively days in the market.

Greed has had a mixed press over the ages.

One of the Catholic Seven Deadly Sins since around the year 400, its iniquity was badly undermined by the famous economist Adam Smith's theory of the 'invisible hand', which promoted the notion that individuals may well help society most when they act in their own self-interest.

The arcane debate about where to draw the line between 'self-interest' and 'greed' is about to become considerably less theoretical as the City braces itself for the inevitable regulatory backlash to the current financial crisis.

'Greed' has been blamed for the avalanche of debt that has built up in recent years and which is the base cause of the crisis now overspilling from the financial markets into the general economy.

In practice, it is self-interest and the desire to make a profit that drives business activity across the whole economy, just as much as in the City, although the City tends to reflect those forces in more primeval form.

It is not because we have had too much self-interest, or greed, that we have hit this crisis but because we have had too little fear


I was immediately unimpressed by the theme, partly because last month I refereed an excellent manuscript on the economics of defence entitled in part, ‘Fear or Greed’, which title is plausible for a catchy tv chat show, or to a late-night discussion about war fighting in an officers' mess, and partly because David Freud’s piece repeats the usual nonsense about “Adam Smith's theory of the 'invisible hand'", a wholly contentious assertion regularly refuted on Lost Legacy (new readers may scroll down this month’s postings for evidence – or visit any monthly archive if not convinced; better still read Wealth of Nations!).

Given that Adam Smith did not mix up self interest and selfishness (this is absolutely clear in Moral Sentiments and in Wealth Of Nations) that part of Freud’s thesis is redundant as far as Smith’s role in concerned.

Those modern economists who incorporated their own theories of mystical invisible hands and markets in their 1950s general equilibrium mathematics maybe have much to answer for but Adam Smith is in the clear.

I leave the extent to which the catchy though incorrect title claim applies to the City of London, and to sports fans or gamblers generally.



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