<nettime> Informal Review of New Soros Book

["Nicholas J. Kiersey" <nicholaskiersey {AT} me.com>]

http://www.amazon.com/New-Paradigm-Financial-Markets/dp/B00171KGFK/ref=sr_1_1?ie=UTF8&s=books&qid=1216067916&sr=1-1

Dear Nettimers,

Having seen Soros's name mentioned a couple of times recently on this  
list, and following the chat about inflation, I picked up a copy of  
his new book this week, 'The New Paradigm'. Its a little bit self- 
involved, but if you can get past this, its actually quite worth the  
effort. Anyway, I am thinking of writing a review of it but, given the  
topical nature, I thought I'd share some of my initial thoughts about  
the book with yourselves, first.

The basic argument is that blame for the current debt crisis should be  
lain squarely at the feet of modern economic theory, and its misguided  
belief that it is a 'science'. The idea that economics is a science is  
misguided, he argues, because relations between human beings are  
slippery things, and ultimately resistant to study through scientific  
method. Simply put, any such method would require objectivity. Yet it  
is impossible to ever be fully objective about a process in which you  
are yourself a participant. The analytic principles you would apply in  
the natural sciences are not legitimate for this purpose because  
you'll never have perfect information about the ongoing processes in  
which you are yourself participating and, more importantly, you'll  
never be able to completely remove your own bias from the analysis.

The solution to this philosophical problem, Soros argues, is to  
introduce reflexivity into our analysis. Reflexivity requires us to  
lower our expectations about what we can claim to know about human  
affairs. Making absolute predictions about future performance, for  
example, is impossible because any assumptions upon which such  
predictions might be based are necessarily incomplete, and tentative.  
Yet it is not enough simply to resolve this issue on an esoteric or  
philosophical level. For we have 'bet the farm,' so to speak, on a  
global financial system built around a set of non-reflexively  
developed assumptions. Namely, the assumptions of economic theory.

As a science of human relations, economics proves its worth by  
identifying generalizable patterns of human behavior over time. To do  
so, however, it necessarily relies on metaphor to limit the complexity  
of the things it sees. Take for example the fundamental argument of  
classic economic theory, that supply and demand always tend towards  
'equilibrium' in the long run. The idea is that, with good enough  
information, the unrestrained pursuit of self-interests will always  
lead to an optimal allocation of resources.

As a functional metaphor for economic analysis, the idea of economic  
equilibrium may hold up for long periods of time. Yet it should not be  
accepted as dogma. For what are these concepts, of supply and demand?  
How are they made?

Economics says we have, each of us, inbuilt or 'given' outcome  
preferences. These are our most fundamental and timeless traits  
because they are so deeply embedded in our human nature. Now,  
certainly, if we really possessed such enduring traits then our  
analytical dilemma would be over. For these preferences would make our  
behavior in different contexts predictable, following basic laws of  
cause and effect over time. The problem, however, is that in financial  
markets the participants are not passive entities. They are reflexive  
beings, with capacities both as actors (agents of change) and  
observers (agents of knowledge). And given that each capacity has the  
potential to influence the other, those fundamental traits posed by  
economic science appear anthropologically specious.

If we are reflexive beings then the premise that we engage in the  
market in a purely rational fashion appears somewhat overstated. For  
where rational actors adapt their expectations to new information in  
order to maximize their interests, reflexive beings develop beliefs  
which, if held collectively, can create fundamental shifts in the  
nature of the market itself.

Contrary to economic equilibrium theory then, we find that actors do  
not approach the market from a position of externality, with preformed  
preferences, ever-adapting to new information about their position  
relative to an ideal point of equilibrium. Beliefs and perceptions,  
not expectations, are what we really need to be thinking about.  
Beliefs literally 'constitute' the economic system (and, I would  
argue, far more than even Soros lets on!).

So what does all of this mean for the current debt crisis? Well, Soros  
is clear here. The emergence of a new set of beliefs about the market  
is more than a mere reflection of what is going on 'out there', more  
than a mere change in expectations. Instead, it is an event with  
significance for the market itself. It can fundamentally re-write the  
basic narrative metrics that actors use to describe risk.

Soros goes through a series of booms and busts to show how well his  
theory holds up: the Conglomerate Boom of the 1960s, the 1980s  
International Banking Crisis, the late-90s Asian Financial Crisis,  
etc. At each point, his model is used to show that the market and its  
participants were engaged in reflexive behavior conditioned by certain  
basic understandings of what was 'normal' in the game. In the 1980s,  
for example, the creditworthiness of borrowers and the willingness of  
the debtors to lend were involved. But the creditworthiness of Mexico  
was not a 'real' thing in its own right. Rather, as it turned out,  
Mexican creditworthiness *mattered* historically only to the extent  
that it existed in the heads of the independent banks who narrated it.

And they narrated it as 'just fine' all the way to the bust. That is,  
the "moment of truth" where "reality can no longer sustain the  
exaggerated expectations" (66). Indeed, even at this moment they did  
not necessarily 'correct' their behavior. Like lemmings over a cliff,  
beliefs can drive the market often far, far on, past the moment of  
truth, and into calamity. "As long as the music is playing, you've got  
to get up and dance," as Soros cites Chuck Prince, the CXO of Citibank  
(84). It turns out, then, that there is little that is rational in the  
process at all.

So how about today's situation? In the current conjecture, are prices  
just a reflection of reality or are they effecting reality? Soros  
argues the latter. As he says, equilibrium is an ever "moving  
target" (72). And in this sense markets are always wrong. But  
sometimes they are more wrong than others. And you know you are in one  
of those moments when "some form of credit or leverage and some kind  
of misconception or misinterpretation" start to radically skew our  
economic affairs (78).

The current crisis is unlike any that has occurred before. Namely  
because it involves two bubbles, not just one. While the US mortgage  
crisis is the immediate "trigger" bubble, another "longer-term super- 
bubble" is by far the more important of the two. For where the  
misconception driving the property boom was that "the value of  
collateral is not affected by the willingness to lend," the super- 
bubble is driven by a more foundational issue: "market  
fundamentalism," the desire to extend the principles of laissez-faire  
economics to the entire domain of human global activity (91).

Soros goes into some detail about the ideology behind the super- 
bubble, and the development over time of a range of 'synthetic'  
securities of such complexity that they were beyond the understanding  
even of the regulators. Nevertheless, believing in the myth of market  
equilibrium, the regulators confidently abdicated their responsibility  
to investigate these instruments. All too casually, as we now know,  
they assumed the market would automatically correct any excesses.

How does Soros propose we remedy the situation? Case-by-case solutions  
are required. But at the general level, he argues, we need a more  
cautionary approach to the use of leverage. If creditors can expect to  
be continuously bailed out by central banks when their willingness to  
lend gets  them in trouble then regulators should exact a price for  
this. And the public should support this, too. For given that the US  
housing market is especially unlikely to bottom out on its own any  
time soon, it is clear that the costs of this breakdown will dwarf the  
costs of the regulative regime that might have prevented it.

What are we to make of these arguments? Critical social science  
theorists will not find anything particularly new or innovative in  
this text. But the books importance lies not simply in what it is  
saying, but who is saying it. This is not the sort of radical free- 
market ideology you would expect from a financial speculator. And  
while I am not an economist, I am nevertheless fascinated that someone  
like Soros should start to enter into the realm of social science  
philosophy for guidance on the operations of economic markets.

Obviously enough, this book won't be put on any freshmen economics  
course reading lists. On the one hand, its just too incendiary - I  
can't imagine many economists would want their students to read about  
why the most essential assumptions about economic science are  
perniciously wrong. On the other, its a little too self-indulgent. But  
no surprise there. Its not an academic book, and its not meant to be.  
After all, these are the critical musings of a multi-billionaire with  
an enormous ego and little personally at stake.

Yet I can't help but feel that this book ought to be read. If for no  
other reason than it gives us some pause to reflect on just how much  
power we have given to the operative assumptions of economics. We have  
essentially abandoned vast tracts of the public sphere to market-based  
governance in the hope that it will arrange optimally efficient  
outcomes. Moreover, perversely, we tend to think that any effort to to  
re-regulate any of these lending practices would be incommensurate  
with the values of democracy. But just how democratic is a way of life  
governed by the logic of casino capitalism?

Economists say they are simply scientists telling us the truth about  
ourselves. But they are so much more than that. When they teach us  
that we are market-based creatures, they are creating a powerful  
metaphor about man's nature, and passing it off as a universal  
'truth'. Warranted by their status as 'scientists', this truth works  
to erect limits on the horizon of questions we may be permitted to ask  
legitimately about what life is and what it is for. It is to this  
deeply political question that Soros wishes to draw our attention. And  
if he is right that we are witnessing the end of the current economic  
era, one can only hope that his message will get a fair hearing as we  
move to debate the terms of whichever system of exchange emerges to  
replace it.

Sincerely,

Nicholas


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