The link between the speculators’ activities in financial markets and the needs of entrepreneurs is explained by Keynes in his General Theory. Keynes argues that there is no sense, at least in terms of easy ways to make money, in building up a new business if you can find and invest in the same enterprise on the stock market by buying its shares. So, there should be a link between the market valuations of companies listed on stock markets and entrepreneurs’ incentives to invest in building up businesses. Individual speculators and entrepreneurs would find it difficult unilaterally to coordinate their supply and demand for funds to build a new business, hence the need for the financial market.
What consequences do speculators’ actions have for entrepreneurial activity? In their book Animal Spirits, George Akerlof and Robert Shiller develop the connections between emotions and Keynes’ concept of animal spirits to explain how economic and sociopsychological factors feed off each other in the interplays between entrepreneurship and speculation. Akerlof and Shiller define animal spirits more broadly than Keynes – not only as psychological influences driving entrepreneurs, but as including a range of different psychological influences distorting the economy and financial markets.42 For Akerlof and Shiller, a particularly powerful psychological driver is storytelling. They argue that social storytelling helps to explain financial herding across different types of markets, for example in housing markets. In home-buyers’ minds, they join the herd in buying into a housing bubble in the false belief that house prices can never fall. They believe this because the dominant, conventional story told through the pronouncements of politicians and policymakers, news stories and word-of-mouth information is that house prices only ever rise. Akerlof and Shiller argue that in this way, naïve stories and folk wisdom fuelled the excessive increases in house prices across global markets in the 1990s and 2000s.43 Misguided consensual opinions allowed the bubble to grow too fast, magnifying the consequences of the collapse when it finally came. All this was exacerbated by the perverse incentives to buy into housing assets, especially when the large bonuses that financial traders could earn from these assets were added to the mix. Herding was not only driven by the interactions between copycat speculators, it was also enabled by the other actors and financial market institutions that did not challenge the flimsy foundations on which trading activities were based – including financial market regulators, credit rating agencies, politicians, academic economists – even journalists.44
These ideas return us to the insights of Hyman Minsky introduced earlier in the chapter. Minsky also analysed interactions between entrepreneurship and speculation across economies. If people and businesses are feeling optimistic, then a kind of euphoria will take over the macroeconomy: entrepreneurs will want to invest in their businesses, and perhaps build new ones. Bankers will be keen to lend plenty of money, and at lower interest rates. Speculators will thrive in this environment. As a boom begins, demand for plant, equipment, factories and housing will expand, and the construction sector will thrive on this growing desire for new and bigger buildings and infrastructure projects. However, the economic and financial system cannot continue on this upward trajectory forever. Soon, tensions and cracks will emerge, as people, businesses and banks start to realise that the levels of debt incurred during the boom phase are not sustainable. Overconfidence and optimism will be replaced by underconfidence and pessimism, and, in a mirror image of the boom phase, word will spread through the herd that prospects are not so good after all. Storytelling, word of mouth and false intuitions go into reverse, feeding herding and contagion as asset prices fall.45 The 2007/08 global financial crisis and the collapse in subprime mortgage lending that preceded it is a powerful example of the destructive power wielded by narratives and stories when they distort the delicate balance between entrepreneurship and speculation in the economic-financial ecosystem – with wide-ranging impacts on entrepreneurship, production and employment more generally.
Controlling speculation, encouraging entrepreneurship
We have seen the ways in which copycat speculators can have profound and destabilising effects on modern economies. Entrepreneurs are more generally the heroes of the economy. When financial markets are computerised, globalised and overconnected then financial contagion spreads rapidly. Something like the butterfly effect that characterises chaotic systems will take hold, as explored by British economist Paul Ormerod.46 Small groups of speculators introduce large amounts of instability – not just into the financial system but also into economic production and employment. One illustration of how the actions of lone individuals can be magnified spectacularly across the globe is the 2015 flash crash on the Chicago Mercantile Exchange. Navinder Singh Sarao was convicted in 2017 for manipulating financial markets for profit via the practice of ‘spoof-trading’. He executed large, false ‘sell’ orders to push down share prices, triggering herds of speculators to sell because they saw others selling. Sarao then bought back the shares at the new, lower prices, cancelling his initial orders to reverse the share price falls. He made a lot of money from buying at the low price he had himself engineered and then selling as prices rose again when he reversed his spoof trade. And all this was done from a computer in the bedroom of his parents’ home in Hounslow, west London. In globalised, computerised and deeply interconnected financial markets, one person can engineer enormous financial damage by manipulating herds of speculators.
From the perspective of evolutionary biology, there is no reason that an ingrained instinct to herd should be useful in modern financial markets. If financial speculation is little more than a form of institutionalised gambling, then perhaps our primitive fast-thinking instincts are not well suited to the modern world of globalised, computerised financial systems and sophisticated modern innovations such as algorithmic trading. Does herding driven by fast thinking magnify the fragility of the financial system? Yes, because if traders’ rewards are determined by short-term performance then all the speculators’ tangible incentives and unconscious instincts line up to support impulsivity. If large-scale herding in financial markets reflects the overriding influence of hardwired emotional responses and generates excessive financial instability, then it may be a maladaptation to be discouraged.
In essence, herding has benefits as well as drawbacks, and that is true in the economy too. Some speculation is a good thing, because it funnels financial resources towards business investment, entrepreneurship and employment. There is wisdom in crowds and collective opinion can under certain specific circumstances be more accurate than individuals’ opinions. Condorcet’s wisdom of crowds hypothesis, which we introduced in chapter 2, assumes that individuals form their judgements rationally and objectively, and allows no role for psychological and emotional influences. Yet the assumption of independence highlights one of the problems to do with financial herding and financial instability. Individual traders’ judgements are not independent. Different traders feed off each other’s decisions, and they use the same information to arrive at their judgements. There can be severely negative impacts for entrepreneurs and economies more generally. Either way, policy controls are needed to keep financial herding in check so that its benefits can be realised and its downsides contained.
How – and by how much – should governments intervene to moderate financial speculation and/or encourage people towards entrepreneurship? In the aftermath of the 2007/08 financial crisis, this is the major question that politicians, governments and international institutions have yet to answer. Once we are better able to understand what triggers financial herding, then we will be better able to control financial instability and its wide-reaching economic consequences. Some policy instruments have been suggested to slow financial markets. Impacts on the wider economy are being reduced in some countries by disentangling retail banking for ordinary customers from investment banking, the most risky and unstable part of modern financial markets. If more widely adopted, this will limit the impact of volatile investment markets and rising interest
rates on consumers and entrepreneurs, as well as increasing the volumes of lending available to the private sector. A tax on financial transactions – the so-called ‘Tobin tax’ – could put sand in the wheels of fast-moving markets driven by excessive herding and other destabilising influences. The problem, though, is that to be effective this sort of tax would have to be adopted globally, to prevent capital flight to tax havens.
Assuming that herding with the market is an impulsive, emotional response, if a way could be found to turn traders ‘off’ when their decisions are becoming too emotionally charged, then this could reduce destabilising speculative activities. A more powerful solution would be to rethink corporate governance and institutional arrangements. Financial services companies have instituted policies to ensure more effective monitoring of their traders’ activities, including more careful line management and team structures that ensure that the activities of individual traders are more controlled and less emotional, limiting ‘rogue’ traders’ room for manoeuvre. Policymakers are also recognising that herding and social influences destabilise financial markets and economies. They are exploring ways to resolve the problems. In the UK, the Financial Conduct Authority is developing research and insights to understand and ameliorate problems of herding and groupthink in asset management, especially by institutional investors.47 Similar initiatives have been conducted in the US by the Securities and Exchange Commission. If the oversight committees for large institutional funds can be more effectively designed to reduce the influence of unsubstantiated consensus, then this will be a check on the herding behaviours that destabilise financial markets and entrepreneurship.
Examining the practices of speculators and entrepreneurs has introduced us to the idea that our economies and financial markets are characterised by complex interactions between copycats and contrarians. Speculators are more usually copycats. Entrepreneurs are usually more contrarian. Sometimes, however, a speculator might do well to take maverick risks and magnify their returns in consequence. Entrepreneurs might do well to imitate the innovations of others in developing their new business models and strategies. But economies are not the only ecosystems in which copycats and contrarians come together. They do so in many other areas of our lives too – for example in scientific research, politics and religion, as we shall explore in the next two chapters.
7
Herding experts
In 2009, Trevor Ulrich, a toddler from Maryland, died suddenly. His post-mortem revealed bleeding on the brain and scalp contusions. His day-care minder, Gail Dobson, was accused of his murder, though there were no witnesses to the supposed crime. At the trial, following the conventional medical opinion of the time, the court-appointed doctors testified that Trevor had died of what was then known as ‘shaken baby syndrome’ – from injuries sustained through being violently shaken, perhaps in a fit of anger. The final verdict has gone back and forth, but at the time of writing Dobson had eventually been found guilty of child abuse and murder.1
This verdict was founded on a medical diagnosis first outlined in 1974 by paediatrician John Caffey. When a baby is shaken violently, a triad of medical symptoms ensues: swelling in the brain, bleeding around the skull and bleeding around the retina at the back of the eyes.2 Trevor suffered all of these symptoms. Following the trial, however, medical opinion started to shift. Since 2001, many shaken baby syndrome convictions have been overturned in the US. In 2009 the American Academy of Pediatrics acknowledged that the causes of the triad of symptoms are not well understood and recommended that doctors stop using the term ‘shaken baby syndrome’ and use ‘abusive head trauma’ instead. A judge’s summation after he had quashed the conviction of a mother of two serving a long prison sentence included his opinion that shaken baby syndrome was ‘more an article of faith than a proposition of science’.3 The fact that innocent people were wrongly convicted does not mean that a lot of the successful prosecutions were unjust. It does suggest, however, that courts need to be properly cautious in interpreting the evidence.
Dr Waney Squier, a medical doctor, was caught up in parallel controversies in the UK. In her early days as an expert witness for British legal teams prosecuting child abuse defendants, she had embraced the consensus view about the triad of symptoms being linked to shaken baby syndrome. But over time she changed her mind, coming round to the contrarian minority view that the triad of injuries can be caused by babies and toddlers injuring themselves in other ways. Her revised expert opinions were controversial. In 2010, the National Policing Improvement Agency complained to the UK’s General Medical Council that Squier’s expert opinions were biased by her subjective distortions of the scientific evidence. She appeared before the Medical Practitioners Tribunal Service, which in March 2016 concluded that she had misrepresented the evidence and overreached her brief as an expert witness.4
Many of Squier’s colleagues and friends raised concerns that she had been unjustly silenced.5 A group of lawyers and scientists defended her in a letter to the Guardian in 2016:
Every generation has its quasi-religious orthodoxies, and if there is one certainty in history it is that many beliefs that were firmly held yesterday will become the object of knowing ridicule tomorrow . . . However, the case of Dr Squier follows another troubling pattern where the authorities inflict harsh punishment on those who fail to toe the establishment line . . . It is a sad day for science when a 21st-century inquisition denies one doctor the freedom to question ‘mainstream’ beliefs.6
Squier can no longer be called as an expert witness in court trials. As a consequence, some expert witnesses are now reluctant to testify in court. Dr Irene Scheimberg, another doctor sceptical about shaken baby syndrome, told the BBC’s Newsnight programme that she no longer provides evidence because she is ‘afraid of the possible consequences’.7
Dr Squier took what might seem in retrospect to have been extreme risks in expressing a strongly held opinion. She has paid a very high price for her minority view, even though that view is shared by a significant number of experts. It is perhaps too soon to tell if she, and they, are right or wrong. The General Medical Council did not see it in these terms, arguing instead that Squier had manipulated and distorted the facts. But was it also her error of judgement to argue so publicly against the consensus view on a question that, objectively, remains unanswered and is still a matter of heated debate amongst experts? As an economist, I have no way of judging the scientific merits of either side, but Dr Squier is not alone in being ostracised for holding a contrary expert opinion. Whether or not she is vindicated we shall only discover in time.
Happily, time can turn the tide for a scientist prepared to take on the consensus. The Australian medical scientist Barry Marshall is famous for his self-experimentation with the life-threatening bacterium Helicobacter pylori (or H. pylori). He and his colleague Robin Warren suspected that H. pylori was implicated in the development of stomach ulcers, but there was no easy way to test their hypothesis. Deliberately infecting people with the bacterium would be unethical. At first, their hypotheses were ridiculed. The then prevailing consensus view was that stomach ulcers are the product of poor diet, hyperacidity and stress.8 Marshall – bravely or recklessly, depending on your perspective – drank a life-threatening concoction containing H. pylori himself. He quickly developed gastric symptoms, but after prescribing antibiotics for himself, made a full recovery.9 The experiment was a success: Marshall had been able to prove, insofar as proof is ever possible, the links between the causes and effects of stomach ulcers, as well as the cure.10 It is now established expert opinion that H. pylori is the culprit in the pathogenesis of stomach ulcers, and antibiotics are now the best available treatment for them.11 This was one of the twentieth century’s most important medical breakthroughs, given that around 2 per cent of people suffering from stomach ulcers go on to develop stomach cancer.12 On some estimates, Marshall and Warren’s findings have saved hundreds of thousands of lives, and the two men were justly awarded the Nobel Prize i
n Physiology or Medicine in 2005.
Scepticism about contrary expert opinion is not a new phenomenon. In 1633, Galileo Galilei was convicted of heresy for arguing the truth of Copernicus’s heliocentric astronomical model – in which the Earth and other planets revolve around the Sun, in contrast to the older Ptolemaic model in which the Sun and other planets revolve around the Earth. We would seem very foolish today if we argued against what is now the Copernican consensus, just as we would seem ridiculous were we to claim that the Earth is flat. Science has resolved these questions, but only after heated and sometimes violent debates.13 Galileo and the other cases above illustrate that contrarian experts are often the targets of the most vituperative attacks. What might lead an expert herd down the wrong research track? What might motivate a contrarian expert to move against the herd’s consensus? A complex set of social and individual influences, incentives and motivations are interacting, fuelled by the problem that it is rarely easy to identify an incontrovertible truth.
Fallible experts
Our everyday lives are saturated with expert opinions and judgements. Expert journalists and media pundits tell us how to interpret the latest political and economic news. Expert doctors diagnose our symptoms and prescribe treatment. Expert mechanics check our cars and boilers and tell us when they need replacing. Expert hairdressers convince us to try a new hairstyle. Expert weather forecasters advise us whether or not to travel or take an umbrella. For better or worse, expert opinions can have an enormous impact on us: consider the potentially life-changing epidemiological expertise that controls which pharmaceuticals and vaccines we do or don’t use, for instance, or, as we saw above, the serious consequences arising from evidence given by expert witnesses in legal trials. Sometimes experts are right. Sometimes they are wrong. Either way, we can’t know, or even assume, that their expert opinions are unbiased, driven primarily by well-informed and robust assessments of objective evidence.
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