When markets work, and when they don't

BOOKS: "Irrational Exuberance Writ Large: Two superstar economists on how psychological factors led to the bust and may impede a turnaround (Animal Spirits by George Akerlof and Robert Shiller), by Michael Mandel, BusinessWeek, 29-30 March 2009.

The concept of "animal spirits" isn't new. Keynes coined the term. Akerlof and Shiller see animal spirits as the main cause of the current financial crisis.

Any discussion of globalization is eschewed. As Mandel points out, the term doesn't even appear in the index:

The omission is disturbing: It is difficult to believe that a world economy with near-instantaneous communications, and including a mix of Western and Asian cultures, is driven by the same psychological factors as those that held sway during the last great U.S. boom and bust, in the 1920s and '30s--a period the authors look to often. Indeed, one alternative to the Akerlof-Shiller theory is that, prior to the recent meltdown, investors, consumers, and businesses simply made a mistake when faced with the complexities of globalization and technological change.

Frankly, I find the reviewer's logic more compelling, even as I see the ultimate root cause of this crisis being the structural imbalance in world trade: Asia exports and saves, while America buys and gets deeper in debt. (Go figure! It couldn't go on forever!).

Also, I simply don't see the need to choose between impulse and rational actor models. When the markets work well, the rational model holds, and when they don't, it's often because rational behavior is bypassed by greed or ignorance. So the former phenom gives us some sense of the ceiling and the latter gives us some sense of the floor. Why must I therefore choose between them?

Comments

[TEJ]

Just remember all models are wrong, though some are useful.

[Louis Heberlein]

Too many American academics, media tech specialists, and some influential politicians think in terms of 'either/or' left brain or right brain models ... often without realizing that self- imposed limitation.

Chinese and Japanese counterparts are more often aware of both aspects, but often don't articulate that process.

Another factor making global business and economic dialogues difficult.