Tag Archives: Financial crisis

Updates from Chicago Booth

How machine learning can improve money management<
By Michael Maiello – Two disciplines familiar to econometricians, factor analysis of equities returns and machine learning, have grown up alongside each other. Used in tandem, these fields of study can build effective investment-management tools, according to City University of Hong Kong’s Guanho Feng (a graduate of Chicago Booth’s PhD Program), Booth’s Nicholas Polson, and Booth PhD candidate Jianeng Xu.

The researchers set out to determine whether they could create a deep-learning model to automate the management of a portfolio built on buying stocks that are expected to rise and short selling those that are expected to fall, known as a long-short strategy. They created a machine-learning algorithm that built a long-short equity portfolio from the top and bottom 20 percent of a 3,000-stock universe.

They ranked the equities using the five-factor model of Chicago Booth’s Eugene F. Fama and Dartmouth’s Kenneth R. French. Fama and French break down the components of stock returns over time into five factors: market risk, in which stocks with less risk relative to their benchmark outperform those with more risk; size, in which companies with small market capitalizations outperform larger companies; value, where a low price-to-book ratio outperforms high; profitability, where higher operating profits outperform; and reinvestment, in which companies that reinvest outperform those that don’t. more>

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Optimizing for Human Well-Being


By Douglas Rushkoff – The economy needn’t be a war; it can be a commons. To get there, we must retrieve our innate good will.

The commons is a conscious implementation of reciprocal altruism. Reciprocal altruists, whether human or ape, reward those who cooperate with others and punish those who defect. A commons works the same way. A resource such as a lake or a field, or a monetary system, is understood as a shared asset. The pastures of medieval England were treated as a commons. It wasn’t a free-for-all, but a carefully negotiated and enforced system. People brought their flocks to graze in mutually agreed- upon schedules. Violation of the rules was punished, either with penalties or exclusion.

The commons is not a winner-takes-all economy, but an all-take-the-winnings economy. Shared ownership encourages shared responsibility, which in turn engenders a longer-term perspective on business practices. Nothing can be externalized to some “other” player, because everyone is part of the same trust, drinking from the same well.

If one’s business activities hurt any other market participant, they undermine the integrity of the marketplace itself.

For those entranced by the myth of capitalism, this can be hard to grasp. They’re still stuck thinking of the economy as a two-column ledger, where every credit is someone’s else’s debit. This zero-sum mentality is an artifact of monopoly central currency.

If money has to be borrowed into existence from a single, private treasury and paid back with interest, then this sad, competitive, scarcity model makes sense. I need to pay back more than I borrowed, so I need to get that extra money from someone else. That’s the very premise of zero-sum.

But that’s not how an economy has to work. more>

Consumerism isn’t a sellout – if capitalism works for all

By Richard V. Reeves – The essential thinginess of capitalism has been one of its most-criticized features. Materialism, and specifically consumerism, are almost always used as pejorative terms. Nostalgic conservatives, egalitarian progressives and environmentalists loudly agree on at least one thing: we are just buying too much stuff.

They’re not wrong. The U.S. self-storage market is already worth $38 billion, and growing fast. Almost one in ten households are now renting extra space. One feature of late capitalism is that many of us have more things than we have space for things.

At its best, however, consumerism is a powerful, positive force. It allows for the expression of identity, it can hold sellers to public account, and it drives new thinking and development. But this is only the case when consumers are being served fairly in the market. Today, there is a pressing concern about whether the forces of “bigness” – a trend toward fewer larger companies – combined with a reluctance on the part of governments to intervene in consumer markets, is dampening innovation and narrowing choice.

Before worrying about whether the market is serving consumers, we need to agree that it should. Critiques of consumerism have to be taken seriously before examining whether contemporary capitalism is friendly to consumers. These critiques usually come in four types: moral, aesthetic, financial, or environmental.

The moral critique of consumerism is that the acquisition of things displaces more worthwhile activities or priorities. Instead of shopping, we should be spending time with friends and family, in places of worship, or in nature. more>

Updates from Chicago Booth

Free markets for free men
By Milton Friedman – Do free markets make free men, or do free men make the free markets?

That might seem like a play on words or a purely semantic question, but it is not. It is a very real and very important question, and I think it contributes a great deal to understanding the kind of world we live in, and might live in.

One’s offhand impression is to say, “Well it must be free men who make free markets.” There’s an element of truth in that, but I think to a far greater extent, free markets make free men and not the other way around.

It’s true that there have been free men who have made free markets. The founders of the United States were free men who believed in individual and personal freedom, and they set up a constitution that was designed to preserve free markets.

But many people who regarded themselves as free men have produced totalitarian societies. The intellectual creators of the Soviet Union would have called themselves free men and would have said that they believed in individual and personal freedom. Yet they created not free markets but controlled markets. more>

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Nobel Economist Says Inequality is Destroying Democratic Capitalism

By Angus Deaton – As at no other time in my lifetime, people are troubled by inequality.

Across the rich world, not only in America, large groups of people are currently questioning whether their economies are working for them. The same can be said of politics. Two-thirds of Americans without a college degree believe that there is no point in voting, because elections are rigged in favor of big business and the rich. Britain is divided as never before and, once again, many believe that their voice doesn’t count either in Brussels or in Westminster. And one of the greatest miracles of the 20th century, the miracle of falling mortality and rising lifespans, is no longer delivering for everyone, and is now faltering or reversing.

At the risk of grandiosity, I think that today’s inequalities are signs that democratic capitalism is under threat, not only in the US, where the storm clouds are darkest, but in much of the rich world, where one or more of politics, economics, and health are changing in worrisome ways. I do not believe that democratic capitalism is beyond repair nor that it should be replaced; I am a great believer in what capitalism has done, not only to the oft-cited billions who have been pulled out of poverty in the last half-century, but to all the rest of us who have also escaped poverty and deprivation over the last two and a half centuries.

But we need to think about repairs for democratic capitalism, either by fixing what is broken, or by making changes to head off the threats; indeed, I believe that those of us who believe in social democratic capitalism should be leading the charge to make repairs. As it is, capitalism is not delivering to large fractions of the population; in the US, where the inequalities are clearest, real wages for men without a four-year college degree have fallen for half a century, even at a time when per capita GDP has robustly risen. more>

The Ideology of Self-interest Caused the Financial Crash. We Need a New Economic Paradigm

By Mark van Vugt and Michael E. Price – We are still feeling the effects of the global financial crisis, which started in the US in 2008, and that has now spread to every corner of the world.

The financial crisis should teach us some important lessons about the way economies work and the way we design our organizations. In essence, we have simply made the wrong assumptions about human nature. The leading model in economic theory is that of Homo economicus, a person who makes decisions based on their rational self-interest. Led by an invisible hand, that of the market, the pursuit of self-interest automatically produces the best outcomes for everyone. Looking at the financial crisis today this idea is no longer tenable. When individual greed dominates, everyone suffers. We could have known this all along had we looked more closely at human evolution.

Economic scientists often portray competition between firms as a Darwinian struggle where firms compete and only the fittest ones survive. The British financial historian Niall Ferguson wrote “Left to itself, natural selection should work fast to eliminate the weakest institutions in the market, which typically are gobbled up by the successful.”

This may be true but it is not the outcome of individual greed and competition.

Competition between firms presupposes that individuals cooperate well with each other, and the most cooperative organizations survive, and the least cooperative organizations go extinct. This is group selection, selection operating at the level of groups, where the best groups survive.

This is a far more accurate model of how economies and business operate, and it offers a totally new way of thinking about the design of organizations and ways to avert global financial crises.

A team of evolutionary minded psychologists, biologists and economists led by biologist David Sloan Wilson have come together over the past few years to come up with a more accurate model for how businesses and economies operate. It is based on Homo sapiens rather than Homo economicus. Their efforts are put together in an Evolution Institute report on socially responsible businesses “Doing Well By Doing Good.” more>

Takers and Makers: Who are the Real Value Creators?

By Mariana Mazzucato – We often hear businesses, entrepreneurs or sectors talking about themselves as ‘wealth-creating’. The contexts may differ – finance, big pharma or small start-ups – but the self-descriptions are similar: I am a particularly productive member of the economy, my activities create wealth, I take big ‘risks’, and so I deserve a higher income than people who simply benefit from the spillovers of this activity. But what if, in the end, these descriptions are simply just stories? Narratives created in order to justify inequalities of wealth and income, massively rewarding the few who are able to convince governments and society that they deserve high rewards, while the rest of us make do with the leftovers.

If value is defined by price – set by the supposed forces of supply and demand – then as long as an activity fetches a price (legally), it is seen as creating value. So if you earn a lot you must be a value creator.

I will argue that the way the word ‘value’ is used in modern economics has made it easier for value-extracting activities to masquerade as value-creating activities. And in the process rents (unearned income) get confused with profits (earned income); inequality rises, and investment in the real economy falls.

What’s more, if we cannot differentiate value creation from value extraction, it becomes nearly impossible to reward the former over the latter. If the goal is to produce growth that is more innovation-led (smart growth), more inclusive and more sustainable, we need a better understanding of value to steer us.

This is not an abstract debate.

It has far-reaching consequences – social and political as well as economic – for everyone. How we discuss value affects the way all of us, from giant corporations to the most modest shopper, behave as actors in the economy and in turn feeds back into the economy, and how we measure its performance. This is what philosophers call ‘performativity’: how we talk about things affects behavior, and in turn how we theorize things. In other words, it is a self-fulfilling prophecy.

If we cannot define what we mean by value, we cannot be sure to produce it, nor to share it fairly, nor to sustain economic growth. The understanding of value, then, is critical to all the other conversations we need to have about where our economy is going and how to change its course. more>

Updates from Chicago Booth

How to curb short-termism and boost the US economy
End the requirement for quarterly reporting
By Haresh Sapra – The United States is in the middle of that rarest of events: a public conversation on accounting standards. Since 1970, public companies in the US have been required to report quarterly. The Securities and Exchange Commission is now considering changing that frequency to biannual reporting, and in December 2018 issued a request for public comment on the matter.

Admittedly, the issue isn’t exactly igniting the passions of the masses, but the implications of these discussions could significantly affect the US economy. For the first time in many years, policy makers are seriously reconsidering the rules on corporate financial reporting. The SEC is examining how to change the system to lighten the burdens on corporations, and to reduce what it calls the “overly short-term focus by managers” of listed companies.

My research suggests there would be great benefits to the US ending mandatory quarterly reporting. It would help to kick-start innovation among US companies, for one. That should be of particular interest to the SEC, which stated in its request that it is interested in how the current system “may affect corporate decision making and strategic thinking.” more>

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As U.S. expansion notches record, recovery may have only just begun

By Howard Schneider – It was only last year that U.S. gross domestic product caught up with estimates of its potential, surpassing where Congressional Budget Office analysts feel it would have been if the housing bubble hadn’t burst in 2007, investment bank Lehman Brothers hadn’t failed the following year, and the world had not cratered into a deep recession.

The periods when GDP exceeds potential are typically when workers enjoy the greatest wage gains and members of historically sidelined communities find jobs. In recent years, those periods have not lasted long, a fact that Fed and other officials are wrestling with as they weigh possible interest rate cuts and assess just where the U.S. economy now stands.

The approach of the decade-long expansion mark has boosted speculation about how much longer the recovery might last, whether a recession is inevitable in the next couple of years, and whether the Fed and U.S. government are adequately prepared to fight another downturn.

For the type of progress Fed and elected officials feel is needed to rebuild middle-class incomes, it may take several more years.

But the environment has changed.

In the short-term, global trade disputes and other risks could slow the economy no matter what the Fed does. more>

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The world is running out of time

By Bertrand Badré – In 2015, the international community launched a renewed effort to tackle collective global challenges under the auspices of the United Nations Sustainable Development Agenda and the Framework Convention on Climate Change (COP21). But after an initial flurry of interest, the progress that has been made toward achieving the Sustainable Development Goals and tackling climate change has tapered off. Around the world, many seem to have developed an allergy to increasingly stark warnings from the UN and other bodies about accelerating species extinctions, ecosystem collapse, and global warming.

Now is not the time to debate whether progress toward global goals is a matter of the glass being half-full or half-empty. Soon, there will no longer even be a glass to worry about. Despite global news coverage of civic and political action to address our mounting crises, the underlying trends are extremely frightening.

For decades, most of the major economies have relied on a form of capitalism that delivered considerable benefits. But we are now witnessing the implications of the Nobel laureate economist Milton Friedman’s famous mantra: “the social responsibility of business is to increase its profits.”

A corporate-governance model based on maximizing shareholder value has long dominated our economic system, shaping our accounting frameworks, tax regimes, and business-school curricula.

But we have now reached a point where leading economic thinkers are questioning the fundamentals of the prevailing system. Paul Collier’s The Future of CapitalismJoseph E. Stiglitz’s People, Power, and Profits, and Raghuram G. Rajan’s The Third Pillar all offer comprehensive assessments of the problem.

A capitalist system that is disconnected from most people and unmoored from the territories in which it operates is no longer acceptable. Systems do not work in isolation. Eventually, reality asserts itself: global trade tensions reemerge, populist nationalists win power, and natural disasters grow in frequency and intensity.

Simply put, our approach to capitalism has exacerbated previously manageable social and environmental problems and sowed deep social divisions. The explosion in inequality and the laser focus on short-term results (that is, quarterly earnings) are just two symptoms of a broken system. more>