Fairness doesn’t matter much in conventional economics, which assumes that, if you and I can make a deal leaving us both better off, we’ll make it. But, in the real world, if the deal seems unfair to me I may very well reject it, even if doing so leaves me worse off.
New Directions for Understanding Systemic Risk: A Report on a Conference Cosponsored by the Federal Reserve Bank of New York and the National Academy of Sciences
Topic: Business
9:27 pm EST, Nov 6, 2007
Consider this an academically minded follow-up to the John Bird and John Fortune segment on sub-prime mortgages.
The stability of the financial system and the potential for systemic events to alter its functioning have long been critical issues for central bankers and researchers. Developments such as securitization and greater tradability of financial instruments, the rise in industry consolidation, growing cross-border financial activity, terrorist threats, and a higher dependence on computer technologies underscore the importance of this research area. Recent events, however, such as the terrorist attacks of September 11, 2001, and the collapse of the hedge fund Long-Term Capital Management (LTCM), suggest that older models of systemic shocks in the financial system may no longer fully capture the possible channels of propagation and feedback arising from major disturbances. Nor can existing models account entirely for the increasing complexity of the financial system, the spectrum of financial and information flows, or the endogenous behavior of different agents in the system. Fresh thinking on systemic risk is therefore required.
The havoc on Wall Street following the collapse of the subprime-mortgage market boils down to a simple truth: for years, lots of very smart people took lots of very foolish risks, betting borrowed billions on dubious mortgage derivatives, and eventually the odds caught up with them. But behind that simple truth is a more surprising one: the financial whizzes made bad decisions in part because that’s what they were paid to do.
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One lesson of the current market chaos, then, is that it’s hard to get incentives right. Investors, after all, want fund managers and corporate executives to take reasonable risks—that’s the only way to make money—and many of them do just that. But, in trying to reward reasonable risks, we’ve encouraged unreasonable ones as well. And when you make it rational for people to bet the house, you may end up without a roof over your head.
Dana Thomas has been the fashion writer for Newsweek in Paris for 12 years and writes about style for the New York Times Magazine and other well-known publications. She traces the origins of luxury from the mid–nineteenth century, when Louis Vuitton made his first steamer trunks and custom-made clothing was strictly the province of European aristocracy, through the fashion boom of the 1920s, when names such as Dior, Gucci, and Yves Saint Laurent came into prominence, and buyers with expendable income could afford exquisite clothing and perfume. Sadly, today most of the well-known names are owned by multinational groups, and luxury items have become commodities, where buyers crave name brands for what they represent rather than their inherent quality of manufacture and design. Thomas takes us into the streets of New York, where counterfeit items are sold that look so much like the real thing that it takes an expert to tell them apart, to the Guangzhou region in China, where children make knockoff goods under appalling conditions. She manages to remove the veil from the fashion industry with a blend of history, culture, and investigative journalism.
In truth, the perverse reality of luxury consumption today is that so few people are complaining.
“Deluxe” performs a valuable service by reminding us that these labels don’t mean much else. Once guarantors of value and integrity, they are now markers that point toward nothing, guiding the consumer on a road to nowhere.
The predominant sociological approach to formation of economic networks focuses on past interaction: people get to know and trust each other, especially in social settings (“embeddedness”), and are then able to share information and do business together. Economists instead argue that actors strategically choose to invest in certain relationships based on forward-looking incentives. Oversimplifying, in economics you choose your network but in sociology your network chooses you.
This paper takes a step towards merging these two approaches. We do not attempt to do so at the most general level. Instead we focus on a specific class of actors (entrepreneurs) and thereby hope to show how merging the economic and sociological approaches can yield new predictions and policy recommendations in a concrete empirical setting.
As the network around a set of people closes, it creates a competitive advantage known as social capital. The gist of the argument -- found in economics (e.g., Tullock, 1985; Greif, 1989), political science (e.g., Putnam, 1993, 2000), and sociology (e.g., Coleman, 1988, 1990; Granovetter, 1985, 1992) --- is that closed networks create a reputation cost for inappropriate behavior which facilitates trust between people in the network. A network is closed to the extent that the people in it have strong relations with one another or can reach one another indirectly through strong relations to mutual contacts. Information travels quickly in such networks. People wary of news reaching colleagues that might erode their reputation in the network are careful to display appropriate opinion and behavior. With a reputation cost for inappropriate opinions and behavior, trust is less risky within the network, people are self-aligning to shared goals, transactions occur that would be difficult outside the closed network, and production efficiencies result from donated labor and the speed with which tasks can be completed.
Small-world networks and management science research: a review
Topic: Business
9:26 pm EST, Nov 6, 2007
This paper reviews the literature on small-world networks in social science and management. This relatively new area of research represents an unusual level of cross-disciplinary research within social science and between social science and the physical sciences. We review the findings of this emerging area with an eye to describing the underlying theory of small worlds, the technical apparatus, promising facts, and unsettled issues for future research.
Andrew McAfee: How to Hit the Enterprise 2.0 Bullseye
Topic: Business
7:08 am EST, Nov 6, 2007
Clay Christensen stresses that managers are voracious consumers of theory. In other words, they value ways to think about their world, and mental tools that will let them make decisions and predictions with a level of confidence higher than they get from experience and intuition alone.
But the intersection of ties and Enterprise 2.0 technologies goes much farther than this. In fact, ties provide a great base for understanding the benefits provided by many E2.0 technologies, and for understanding when each one should be deployed. Thinking in terms of ties, in other words, let managers select from among the grabbag of available technologies and also anticipate the benefits they’ll get after successful deployment.
The benefit of blogs becomes much more clear when they’re seen as tools to convert potential ties, strong or weak, into actual ones.
I’m hearing from a lot of people that late 2007 is much like late 1997.
Our policy-makers and media rely too much on the "expert" advice of a self-interested insider's club of pundits and big-shot academics. These pundits are rewarded too much for telling good stories, and for supporting each other, rather than for being "right". Instead, let us create betting markets on most controversial questions, and treat the current market odds as our best expert consensus. The real experts (maybe you), would then be rewarded for their contributions, while clueless pundits would learn to stay away. You should have a free-speech right to bet on political questions in policy markets, and we could even base a new form of government on idea futures.
