In the most bizarre, ill-timed, and poorly considered opinion column I have read in some time, ex- Fed guy Alan Greenspan blames the current meltdown on Richard Thaler. Okay, not Richard Thaler by name, but on behavioral economics, the en vogue body of work that shows how humans don’t conform very well to rational economic models — and doubly so when you most want them to. Sayeth Alan:
This, to me, is the large missing “explanatory variable” in both risk-management and macroeconometric models. Current practice is to introduce notions of “animal spirits”, as John Maynard Keynes put it, through “add factors”. That is, we arbitrarily change the outcome of our model’s equations. Add-factoring, however, is an implicit recognition that models, as we currently employ them, are structurally deficient; it does not sufficiently address the problem of the missing variable.
If I wasn’t so irritated, I might briefly be amused. Because not once in his column did Greenspan, the blower of the credit market bubble, talk about his own culpability, or even about his efforts to improve the models he now criticizes. Instead we get this wise-man, rearview-mirror critique of his predecessor and of market participants. He should be ashamed. Truly.
It would be nice to now start a more useful discussion about leverage, market linkages, asset syndication, and what a future model for financial risk measurement might look like — and I will put up a few posts on this over the coming weeks — but I just can’t bear it tonight, so I’m going to have a glass of wine.