Current Finance, Has Two Systemic Problems & Dozens Of Bubbling Symptoms
This is a short paper on the two largest systemic risks in our markets. The paper is clear in outlining; how markets work, investor psychology, and policy problems (such as rising income inequality). Click Here To Skip The Introduction & Read About 2 Prevalent Systemic Risks
Article Introduction (Via CEPR.Org & Voxeu)
Greed was not invented yesterday. So, contrary to much recent political commentary, it does not explain our difficulties at this particular time. We depend on the greed or self-interest of people to deliver our daily bread and much else besides and thus to serve the common good even when that is no part of [their] intention as Adam Smith said. And we depend on competition to chastise those who do not do a good job of it. This harmony of self-interests is what markets are supposed to do for us. All that does not seem to have worked as it is supposed to in the financial markets. So what is wrong? We better find out so that, if the collapse of the house of cards can be stopped midway, something can be done to fix it.
The world of finance is a multidimensional system. In most dimensions it works in the same way as the market for bread. But in two important dimensions it does not. The general price level is not stabilised by market forces under present arrangements. Neither is the overall level of leverage. Both are unstable and subject to positive feedback processes. Movements of the price level inflations or deflations tend to be self-reinforcing. So do movements in leverage.
Article Excerpts (Via Via CEPR.Org & Voxeu)
Two consequences [risks] follow.
1. “The price level must be stabilised by monetary policy.’
2. “Leverage needs to be constrained by regulation.”
“The policy issues raised by recent booms and busts are not confined to problems of stabilisation and financial reform. Over this period, income inequality has also risen dramatically, especially in the US but also elsewhere.”
“The central focus of any reform effort must be on how to deal with the two critical system variables that are not subject to market driven negative feedback control…”
