The wisdom of the (incentivized) crowd
Commenter James of London asks the following:
I’d still like to hear your view on the paradox of the financial markets more or less “getting” MM, but 99% of the spokesmen for the financial firms in those markets – the finance types – not getting MM.
If I said 99%, that was a bit of hyperbole. There are certainly very smart people in the financial sector—Jan Hatzius, for instance. Nonetheless I definitely think its possible for markets to be “market monetarist” without most market participants being market monetarist. Alex Tabarrok has a new post that offers one reason why:
A recent paper provides evidence. It’s well known that Democrats and Republicans give different answers to even basic factual questions when those questions are politically loaded (Did inflation fall under Reagan? Were WMDs found in Iraq? and so forth). But do the respondents really believe their answers or are they simply signalling their affiliations? In other words, are respondents bullshitting? In a new paper, Bullock, Gerber, Huber and Hill provide evidence that the respondents don’t actually believe what they say and the authors do so by making partisans pay for their beliefs.
And there are other reasons. For instance, there’s the famous “archipelago model,” where each market participant sees only a small part of the “big picture.” However collectively they see the entire picture. When they trade with each other, prices move closer to the “perfect information” equilibrium (although obviously not all the way there.)
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4. June 2013 at 08:07
A perfect description of Krugman´s ‘non beliefs’ expounded for political reasons!
4. June 2013 at 08:21
Another reason to force pundits to randomly take a side of a bet with the odds determined by their predictions. The NYTimes scolded Nate Silver for making such a suggestion.
4. June 2013 at 08:24
http://s7.faceinhole.com/NR/13/6/4/603967dd64b3025bb.jpg
4. June 2013 at 08:57
The butcher, the brewer and the baker didn’t need to have read Wealth of Nations to be guided by the invisible hand.
The market can “get it.” Even if none of the participants fully do.
“prices move closer to the “perfect information” equilibrium (although obviously not all the way there.)”
There is no perfect information equilbrium because the information is always changing.
4. June 2013 at 10:51
Most people don’t realize that M0 is much, much smaller than GDP.
4. June 2013 at 11:59
Scott,
Of course, it is very simple.People who make aliving in financial markets usually do not broadcast the EMH and would not like any for or order that could be cause by the MM. Privately they may appreciate the potential benefits of an effective and credible MM based monetary/macro policy. I you were selling Chateu Petrus and believed is was just an expensive fermented grape juice, you would not be very effective. Same with investment professionals (prop traders excluded of course).
4. June 2013 at 12:02
Scott, I have no idea what gremlin messed up this message. It should have read as follows:
Of course, it is very simple.People who make a living in financial markets usually do not broadcast the EMH and would not like any form of order that could be caused by the MM. Privately they may appreciate the potential benefits of an effective and credible MM based monetary/macro policy. I you were selling Chateau Petrus and believed is was just an expensive fermented grape juice, you would not be very effective. Same with investment professionals (prop traders excluded of course).
4. June 2013 at 16:26
I think a better example than the “archipelago model” is the phenomenon of crowds collectively being able to guess better than any expert on things like the weight of a cow or the number of jelly beans in a jar. There are times when crowds are collectively very smart or just very difficult to out guess.
4. June 2013 at 18:01
Scott, do you have any references to the ‘archipelago model’? I tried googling the term both alone and with the terms ‘market efficiency’and found nothing relevant.
4. June 2013 at 19:48
Rien, Perhaps they even fool themselves.
John, Yes, those are also good examples.
Travis, I recall Robert Lucas used the model in a paper around 1972–trying to explain the Phillips Curve. I don’t recall the title.
5. June 2013 at 06:45
Travis: try googling Lucas Island model instead.
5. June 2013 at 06:55
Strictly, it should be Phelps (or Phelps/Lucas) island model/parable, because IIRC Lucas in the intro to Lucas 75 credits Phelps with getting him to think this way.
5. June 2013 at 14:00
It’s funny. I asked the head of a major investment bank this morning this exact question. He dismissed his, quite famous economists, with a wave of the hand. “Never mind them, every chance I get I tell the central bankers to keep on maximising QE, it’s right for business”. I did explain that if the central bankers had the right target, they wouldn’t even need QE. He got that point right away but, sadly, it was new to him. MM still has a lot of work to do.
5. June 2013 at 15:54
Nick, That’s right.
James, That sounds quite plausible to me. Economists are often just as bad, if not worse.