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Thought Labs


Book Session: Minding the Markets—An Emotional Finance View of Financial Instability

Financial markets have been in an almost continuous state of crisis since August 2007. Current understanding is inadequate. This session, based on a book describing research interviews with senior money managers, challenges both standard and behavioral theories of how financial markets work. It sets out a new theory in which financial markets are conceived to be markets in emotional conjectures expressed as stories—about currencies, raw materials, companies, inflation, politics, innovations, etc.

The prices of securities and other instruments, in this view, are produced by changes in the consensus view about the emotional truth of prevailing stories. This can happen very quickly.

Financial assets necessarily evoke emotions in those that trade them (however “rational” they seek to be) and can only be valued by imagining how ambiguous information available in the present will predict an uncertain future—radically uncertain in the Keynesian or Knightian sense. Stories fill the gap left by ambiguity and uncertainty. They are social, biological and psychologically evolved instruments for giving meaning and a sense of truth in situations of uncertainty and ambiguity.

And stories can change much quicker than underlying economic fundamentals. This session will reassert the necessity for policy aimed at regulating financial markets to focus on the underlying causes of the emotions evoked in them and the factors affecting human judgment and risk taking. It will argue that when emotion is understood as an essential part of good decision-making and when markets are understood as markets in stories, then it is vital to understand the role of emotion, unconscious phantasy and groupfeel in the ways stories circulate and to address significant problems of co-ordination and collective action entirely ignored in the prevailing theories. Financial assets necessarily evoke emotions in those that trade them (however “rational” they seek to be) and can only be valued by imagining how ambiguous information available in the present will predict an uncertain future—radically uncertain in the Keynesian or Knightian sense. Stories fill the gap left by ambiguity and uncertainty. They are social, biological and psychologically evolved instruments for giving meaning and a sense of truth in situations of uncertainty and ambiguity. And stories can change much quicker than underlying economic fundamentals.

 

Creating Communities of Deciders

Social media and networks have transformed the way information spreads and many de-cisions get made. So given this, why is it that media and social networks have had such limited impact on how financial decisions are taken? It is particularly striking that for decisions on health and retirement—two of the most important areas for individual decision-making—the focus of discussion is largely on the relatively individualistic approaches of “nudging” choice through default options or improving choice through financial education. Is there scope for better decisions on health and retirement through enhanced use of social networks and media? One intriguing possibility is that individuals choose default options because of their perceived social credibility. So if this were the case, a default option which comes from a more credible source is more likely to be accepted than a default option from a less credible source. Information then about the decisions of trusted friends and colleagues could then help individuals make more informed decisions. One of the problems with social networking on important financial decisions such as on health and retirement are privacy concerns. How can the advantages of social networking in improving decisions be achieved without the problems of loss of privacy? What role can firms from outside the financial product space play in intermediating information? How can social media and networks be harnessed to lead to better private sector product offerings as well as public sector benefit structures in health and retirement?

 

OECD Better Life Index

 

The OECD Better Life Initiative: After working on it for ten years, measuring the progress of societies will continue to be one of the organization’s key priorities in the coming years.

Focusing on people’s well-being and societal progress will require looking not only at the functioning of the economic system, but also at the diverse experiences and living conditions of our citizens. Economic resources, while important, are not the only determinants of a good quality of life. Also vital are people’s satisfaction, feelings and expectations. In this context in May 2011 a new initiative “My Better Life Index” was launched.

 

 

 

 

 

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