After not walking the talk, another point which I have been noting is policymakers now saying they had cried foul, but no one listened.
Archive for January 21st, 2009
Stephen Cecchetti has written a wonderful paper explaining the financial bubbles. He has written the paper from a central banker’s perspective and adds the challenges it poses to the central banks.
He begins by suggesting the theory behind bubbles:
The criticism of the bubble view is based on the efficient markets logic that markets incorporate all available information and this automatically eliminates bubbles. But there are many circumstances under which the argument fails. The dynamic stories that we tell to explain market efficiency are based on the arbitrage. And when arbitrage fails, so does market efficiency. In fact, even if everyone knows that there is a bubble, there is a broad set of realistic circumstances under which arbitrageurs will not eliminate it.
To understand the importance of this line of reasoning, consider a bubble in the aggregate equity market that is certain to burst. Specifically, imagine that the bubble grows at 5 per cent each quarter, and has a 5 per cent probability of bursting each quarter. The existence of the bubble is common knowledge among the well-informed fund managers, but their naïve investors aren’t sure about it. Will the manager of an open-ended fund take a short position to profit from the bubble? The answer is almost surely no.
Infact, he would instead join the herd and make his return till the bubble bursts. And efficient market hypothesis fails (I think Fama/French should rephrase EMH and say markets are efficient over a medium to long term which they indeed are as various crisis point) . The same idea is also given by Marcus Brunnermeier who incidentally is a key member of Bernnake’s Bubble Laboratory.
If you are from any industry you could send your suggestions to Finance Ministry with respect to impact of financial crisis on India. The press release and details are here.
Another update is Dept of Economic Affairs has launched its internship program for the year 2009-10. It is for post-graduate students in disciplines like economics, management and law. The last date for application is 15 February, 2009. It should be an excellent platform to learn something about economic policy in India. The program was launched in December- 2007.