Gene Expression

Moron is as moron does; the dumb money

Daniel Gross of Slate has a piece up, Dumb Money: The villains of the financial catastrophe aren’t criminals. They’re morons. I just love the use of the term “morons.” As Gross notes though there was plenty of g to go around, but that didn’t prevent moronic behavior. But, I do think it is worth considering whether the behavior was really that stupid. After all it isn’t as if wizards of high finance are going to go through the same sort of crash toward subsistence or penury of middle class borrowers who recklessly increased consumption during the bubble years. Remember that the individuals at the heart of the colossal f**k-up that was Long Term Capital Management not only avoided personal bankruptcy and remained safely in the upper middle class, but most of them are back working in the financial sector. If you’re a finance type who burns out and drops out of the industry you are likely to have a relatively soft-landing compared to an autoworker who is laid off. Not only do you likely have greater innate intelligence, but you can liquidate assets you’ve accumulated and move far down the consumption ladder without really affecting first-order pleasures proportionality.*

In hindsight it’s obvious that some of the assumptions in the late great bubble era were stupid. Some people saw through the stupidity, and have profited handsomely. Back in the year 2000 a rather wealthy individual went on a rant to me in a private conversation that debt-driven consumption was going come back to bite us in the ass. It seemed plausible to me, so I repeated it now and then that there would come a day when the mailboxes would no longer be “stuffed with credit card offers” (that’s a specific phrase I stole from my original interlocutor). Common sense suggested that you couldn’t keep borrowing indefinitely without increasing productivity. That being said, there were plenty of people who were skeptical of this simple model, and I did wonder if they just had a much more precise grasp on the counter-intuitive nuances of reality. After all, the natural sciences emerged in large part as an extension and contradiction of simple common sense. As someone with respect for intelligence I suspected and hoped that financial and economic trends which seemed to go against common sense were indicative of dynamics which I simply wasn’t able to grokk.

Well, that was then. In any case, the quants et. al. in finance are shining stars in the cognitive firmament. Instead of taking a methodological individualist stance, I think a more accurate description is that there was a systematic idiocy based into the incentive structures which leveraged heuristics and biases which even the intelligent are highly subject to. Obviously we can’t just killer traders & their friends & family when they lose an X amount of money, but we’re currently trying to figure out how to appropriately integrate abstract financial technologies, prefab human cognitive hardware and organically evolved institutional structures, so that rational individuals don’t turn into replicative cancers who bring down the whole system.

* A $200 wine is probably not 10% the pleasure of a $2,000 wine. So you can reduce costs radically if you’re high up on the totem pole without changing hedonic utility to the same extent.


  1. #1 Donna B.
    February 25, 2009

    And if one is happy with a $20 bottle of wine?

  2. #2 John Emerson
    February 25, 2009

    It was a snappy piece, but pretty unconvincing. I like my own theory better, that they were victims of socially-reinforced, pharmaceutically-induced toxic optimism within dysfunctional and unregulated markets. A lot of businessmen and investors I’ve met have seemed like hunch gamblers unconstrained by a reality sense and ruled by magical thinking. If the people high up in the game were like that too, some things would be easier to interpret.

    The market obviously weeds out losers, but if you start out with a thousand completely idiotic hunch gamblers putting in ten thousand apiece, if they play to the end there has to be a guy with ten million in his pocket.

    That’s a toy model, of course, but something like that could have been a factor.

    Optimism is American, and as long as I remember (at least as far back as Reagan) a big hunk of the media and the general population have believed in a cheerleader model of the economy. I realize that congenital naysayers like myself can be regarded as stopped clocks, but a lot of what I just said is on the money.

    As for Gross, these weren’t morons. My guess is that most of the players, especially the successful big time traders, had 130+ IQs, very high energy, a lot of detailed knowledge, and exemplary work habits — but maybe were also magical thinkers, or even just narrowly focused only on their specific task, with no larger context. And you certainly have to look at various institutional structures, and ask who was responsible for the specific structures that were and weren’t there.

    On optimism, if you only read one novel in your life, read Melville’s “The Confidence Man”. It’s a bit hard to follow because the characters aren’t named at first — the clue is that one con man shows up on the boat over and over again in different disguises (with a slight hint that there might even be two different con men working the same boat: con men are always pretending to be someone else, so how can you know how many there are?)

  3. #3 John Emerson
    February 25, 2009

    I think that credit-card debt is marginally relevant, but there’s a big move afoot to locate the blame at the lowest possible level, and on individuals who are easy to despise from the folk point of view. Another example is first time home buyers. The real problems were higher up, with the players and above all in the regulators, deregulators, and overseers like Greenspan.

    As far as I can tell, leveraging was the biggest problem — as someone just pointed out, when housing fell 20%, the stock market fell 50% because so many big firms were highly leveraged. The house of cards / domino effect.

    One of the lessons has to be that IQ is of very limited value without a bunch of other individual strengths and a healthy social context.

  4. #4 Dunc
    February 25, 2009

    All of those guys are still rich. They were smart, it was the rest of us who were dumb. When you get ripped off by a card shark, you don’t accuse him of stupidity for not being honest about the risks of the game.

    They all acted in economically rational ways, and made out like bandits. It simply wasn’t their objective to ensure long-term economic or social stability. It wasn’t even their objective to ensure long-term returns for their companies. Their objective was to personally make as much money as humanly possible. It looks like they achieved that aim quite nicely, thank you very much.

  5. #5 Sandgoper
    February 25, 2009

    Donna, if you like the $20 wine, you’ll like the $200 wine 10% more, or maybe even 100% more, but not 1000% more. And the $2000 wine might even be too old to be drinkable. Beyond a basic utility, a big additional outlay buys a disproportionately small increment of enjoyment, it’s the ability to engage in such conspicuous consumption that becomes the point.

    It’s like service in hotels – up to a point, it has a utilitarian purpose, but beyond that point it becomes pointless in any practical sense.

  6. #6 asdf
    February 25, 2009

    You guys have covered the motives of the minor league players pretty well: They were guided mostly by greed and short term thinking. What puzzles me is what those in charge are thinking. ie Bernanke, Geithner et al. If we take what they say at face value, they are operating on an extraordinary level of cognitive dissonance. The bears and Austrian economists make a great case for economic collapse. Just by examining the numbers and using common sense (ie, thinking of America’s finances as your household’s, and wondering how long you could keep living on a credit card after you were laid off), you can see that America will not recover in 3 years, as Bernanke said yesterday. It is just not true, and if they do not realise it, then they are not fit to work at 7-11, let alone run the treasury and federal reserve.

  7. #7 John Emerson
    February 25, 2009

    Those guys had higher financial goals than we do, and for a lot of them $100,000 / year and $1,000,000 net worth is near-poverty. (In reality, it’s only upper middle class, not rich.) For them it’s a serious game, not really for the money, and its like they threw two interception in the Superbowl, or finished eighth in the Olympics.

    I’m curious as to the relative proportions of crookedness and delusion, and also as to what differentiated those who got out in time vs. those who didn’t. I don’t think the answers are self-evident.

  8. #8 Dr. Octoploid
    February 25, 2009

    Actually, I’m not convinced that a majority of the players are that bright. In my dealings with very successful people in the financial sector, it’s been clear that they have a lot in common, and it’s not necessarily intelligence. Rather they are all confident and decisive.

    As mentioned in another post on this site, the bonus system in the sector rewards big gains far more than it punishes big losses. So the people who do best are basically those most comfortable taking big risks, often with other people’s money.

  9. #9 JM
    February 28, 2009

    “I’m not convinced that a majority of the players are that bright.”

    They’re fooling you. It’s common (particularly in London) to behave like some sort of East London barrow boy, but they’re hiding their lights under a bushel.

    Two anecdotes. In 2000, discussing the dot-com crash, a spot FX trader (who are generally regarded as dumb as a bag of wet cement) who is an old friend of mine gave me a complete rundown of a decade long crash involving a temporary housing boom as the surviving money moved around. Pretty accurate as it turns out.

    And just last year I was talking with another old friend who I’d previously regarded as a lot of fun, but not that bright really, suddenly regaled me with one of the most sophisticated analyses of the current crises – complete with swinging and original criticisims of many of the major players – that I’ve come across.

    Those guys are bright, they just play dumb. In fact, all the pons asinorum of the financial world hinge on one question: “Can the guy explain something in terms my dumb brother-in-law would understand?” If he can’t do that, then he doesn’t understand what he’s talking about.

    Corrollary: – Q. how can tell when a banker/trader is hiding something from you or trying to misdirect you? A. they suddenly stop making sense and you feel like you’re missing something.

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