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How Markets Fail: The Logic of Economic Calamities (Hardback)
Short Description for How Markets FailUsing insights from behavioural economics, and vivid contemporary and historical examples, this title shows how people's myopia, gullibility, copycat behaviour, overconfidence, loss aversion, and sense of altruism and fairness all help us understand the world in ways that rational choice economics does not.
Full description- Publisher: ALLEN LANE
- Published: 26 November 2009
- Format: Hardback 400 pages
- See: Full bibliographic data
- Categories: Economics | Business Negotiation
- ISBN 13: 9781846143007 ISBN 10: 1846143004
- Sales rank: 200,569
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Reviews for How Markets Fail
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Very insightful but with imperfect solutions to problems
The 2007 and 2008 crisis in world economics and financial markets have spawned many books. This is one book that talks about the same crisis but perhaps in a much more insightful way than any other. Dwelling on the interplay between economic policies and financial markets this book is difficult to put down once you realise the enormous promise it holds when you read the 12 pages of the 'Introduction' chapter. That promise is not belied although John Cassidy, the author, could have been clearer and more elaborate in the solutions he offers.
Cassidy refers to the idea that a free market economy is sturdy and well grounded as an "illusion of stability". He calls this "Utopian economics". This forms the first of three parts of his book and includes eight fascinating chapters on the people and ideas that shaped it.
This section of the book first lays out in great detail how economic theories and economists came about to have a large sphere of influence in central banks' monetary policy matters and governments' economic policies. It describes how the "Chicago School" of economics, propagating free market economy with almost zero regulations, ended up enormously broadening their sphere of influence in the top echelons of the US Federal Reserve and the Treasury department of the US government. What follows is an excellent exposition of 10-12 most-influential economists including Adam Smith, John Keynes, Milton Friedman, Robert Lucas and Friedrich Von Hayek, as well as a couple of mathematicians such as Eugene Fama.
Taking the reader back and forth in time, Cassidy beautifully connects the conservative economists with the "neo" liberalists, mathematics with economics, and evangelist-led economic theories with existing practices in financial markets and governmental regulations.
The second part of Cassidy's book has him propagating "reality-based" economics. Cassidy believes that free market economists dangerously ignore the very possibility of speculative bubbles, leave alone the fact that market prices during a speculative bubble provide incentives for individuals and companies to "act in ways that are individually rational but immensely damaging to themselves and others". He even gives examples of market failures beyond financial markets, such as markets encouraging "power companies to despoil the environment and cause global warming", health insurers excluding "sick people from coverage and CEOs stuffing "their own pockets at the expense of their stockholders."
The second part is as elaborate, articulate and insightful as the first. Cassidy puts forth the economics-linked issues of "the prisoner's dilemma", "the market for lemons", "the beauty contest", "the rational herd" and "ponzi finance". Like in the first part Cassidy beautifully uses the works of important contributors to economics to illustrate their--and his own--arguments. For instance, on the subject of market externalities, Cassidy talks about a paper, presented at Harvard University in the mid-1980s by W. Brian Arthur, a applied mathematician from Northern Ireland, wherein Arthur argued that chance events and network effects can enable inferior technologies to beat out superior products and take over entire markets.
Cassidy, however, fails to convince, why monopolies should be forced to co-operate with budding competitors. He talks about Microsoft refusing to make its products compatible with those of its rivals but does not rationalise why that is such a good thing in a competitive scenario and how much of sustainable benefits it will provide to consumers.
In the third and last part of the book Cassidy turns to the real-life happenings in financial markets and economies in the last 20-30 years and how they led to the complete financial meltdown in 2007 and 2008. This is again a very exciting read as Cassidy elaborately criticises Alan Greenspan's blind eye to the speculative bubbles in the real estate market, fanatic reduction of interest rates to artificially pump up the economy after the 'dot com' bust in 1999-2000, and dangerously preventing regulators such as Commodity Futures Trading Commission from laying out capital adequacy and risk-containment measures for complex financial products like credit default swaps and other complex financial derivatives.
Cassidy lays out in good detail the history of mortgages, including the sub-prime chain, and the bubble in real estate prices. There are rare insights into how the securitisation of mortgages by banks and Wall Street firms grew in size and led to extreme risks that ultimately exploded in the face of every financial market participant. He also points to the failure of capitalism in that tax payers money had to be used to bail out the failures in the market.
While Cassidy is great in describing what happened he is very weak in pointing out appropriate solutions in much detail. He does, however, says that free markets should not be devoid of active government intervention when prices are going up and building into a bubble. But Cassidy should have been more sharp and pointed out that if firms get too big to fail then they should be too big to succeed in the first place. Or, if free markets are to be allowed without restrictions, then any failures should also be allowed to happen freely without government bailouts. If profits are made by everyone during a bubble then losses can also be borne by everyone when the bubble bursts.
He also fails to highlight enough the dangers of uncontrolled leverage in not just financial derivatives but also in complex financial structured products whether traded directly between counterparties or traded on a financial exchange.
But, on the whole, the book is a great read. by rajesh gajra (natant.blogspot.com)
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