This recent financial turmoil has lasted for more than three years. It is probably fair to say that almost everyone, from laymen to investment professionals, has been wondering what on earth has gone wrong in the financial market. Mr Alan Greenspan, the former Chairman of the Federal Reserve of the US, tempted to explain this subprime crisis at Capitol Hill in October 2008 by admitting that it is simply because this view of the world/his ideology[1] was not working. In mid‐April this year, George Soros gathered a remarkably distinguished group of economists together to seek explanations of this recent crisis. They concluded that “such failures are most evident in two areas: the inadequacies of the efficient market hypothesis, the bedrock of modern financial economics, and the irrelevance of recent macroeconomic theory” (Kay, 2010).
At the beginning of this year, I asked the same question and trying to make some sense of this subprime crisis. Not surprisingly, my first attempt for answers was the internet. After a few searches, the title of Fox (2010), i.e. the myth of rational market, caught my attention. This is because for anyone who has some economic/ investment/finance backgrounds, he/she would have been taught and trained to believe that players/agents in the market are rational, they make decisions in response to the information they gathered. This is the fundamental element in a rational financial market, i.e. the efficient market hypothesis (EMH), which is the basis of latterly developed financial pricing models. As the title of Fox (2010) suggests, there seems to have some myths in the rational market, which are not consists to what we have been taught.
Instead of only looking at the recent development of the financial market, Fox (2010) traces to the beginning and divides the entire development of financial theories into the following five sections:
- 1.
“Early days” talk about the first attempt of linking statistics and mathematics with economics in the 1930s.
- 2.
“The rise of the rational market” covers the development of portfolio theory, and random Walk in the 1950s.
- 3.
“The conquest of Wall Street” discusses how investors try to beat the market in the 1960s and 1970s.
- 4.
“The challenge” mainly comes from the development of behavioural economics in the beginning of 1990s.
- 5.
“The fall” criticises the reliability of efficient market hypothesis.
When you read this book, from time to time, those familiar names, such as Harry Markowitz, Eugene Fama just to name a few, would appear frequently. One would therefore expects to see some long equations to describe different financial models. However, there is no such a single formula in the book. This is a surprising or rather interesting point of this book. Sometimes you might forget that you are reading a financial/investment book, you would think that you are reading a novel instead. Justin describes those financial theories through his journalist and columnist eyes. Suddenly, those hard sophisticated financial theories become more vivid and lively.
In addition, The Myth of the Rational Market was originally published in 2009 in the USA, and selected as the one of the 100 Notable Books of 2009 in the New York Times book reviews. The UK version of this book was not published till the beginning of 2010. It is also going to be published in Chinese, Korean, French and Portuguese.
Therefore, personally I would suggest this book to:
Lecturers who are teaching finance and investment modules. This is because it would deepen our understanding of the development of modern financial theories. This would also help us to put those financial theories into more detailed contexts, rather than just numbers or formulas. This hopefully also makes our lectures more interesting and more easily engaged with students.
Property professionals. Although this book does not seem to have direct relevance to the property industry, it is also useful for property professionals and academics. Especially because there are debates about the appropriateness of adopting those financial models into the property market. Therefore, it is necessary for property professionals to gain some insights and better understandings of the models and therefore decide the applicabilities of those theories in the property market.
For the general public, hopefully, this book would also provide some answers to your question – what has gone wrong in the financial market.
Finally, although we have been questioning about the current financial system, we should not loose faith in it. “… financial markets aren't perfect doesn't mean they're not useful. … We're less than halfway through the development of financial markets. Maybe there's no end to it” (Fox, 2010, p. 321).
Notes
“Greenspan's ideology, [which] had been widely shared in Washington and on Wall Street, was that financial markets knew best. They moved capital from those who had it to those who needed it. They spread risk. They gathered and dispersed information. They regulated global economic affairs with a swiftness and decisiveness that governments couldn't match” (Fox, 2010, XIV).
