A harangue against complex finance

Our inability to deal with complexity means that markets are almost never right, argues John Staddon in his latest book 'The Malign Hand of the Markets'.


By John Staddon

Published by McGraw-Hill

The last 15 years has made a mockery of those who insisted that financial markets are never wrong'. But in The Malign Hand of the Markets, John Staddon, a professor at Duke University who specialises in neuroscience, suggests that our inability to deal with complexity means that markets may hardly ever be right'.

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Staddon has some good points to make, which will be familiar to MoneyWeek readers. His view is that finance needs to be simpler. For example, the industry claimed that the growing number of opaque financial products in the last two decades would make things more stable by spreading risk. Instead, banks used them to take on more risk.

Another big problem is moral hazard', whereby those who take risks are insulated from the consequences. When investment banks left behind the partnership model that had once held directors liable for a firm's debts, it just encouraged bankers to take more risks with other people's money.

We have no quarrel with these views. But Staddon spoils his powerful arguments by taking them too far. His proposed reforms look impractical. For example, he suggests a ban on all insurance related to what he terms "involuntary risk". While the main target would be financial contracts, such as credit default swaps, he considers cargo insurance and futures markets vital to the smooth functioning of real' commerce as "intermediate areas".

And while Staddon admits that "legislating simplicity has its pitfalls", it doesn't stop him demanding that new financial products undergo "something like clinical trials", which seems an unwieldy solution.

There are also some disappointing omissions. While Staddon is concerned about the ability of private insurance to encourage moral hazard and risk-taking, he has little to say about public action. Indeed, only two pages of the book are devoted to the Fed's bail-outs.

Then there's the writing style. Staddon has a tendency to go off on long tangents that bear little relation to his topic. In the chapter on growth, for example, he grouches about phones, buses and even complains that modern medicine is too effective at keeping people alive. This means that many of his arguments come across as harangues, or even rants.

David Merkel of the Aleph Blog thinks that "anyone who wants to understand economics and the crisis better would benefit from this book". If you're not already familiar with the causes of the crisis, and still tend to believe hype about free' markets, we'd agree. But if you're more interested in learning what the way forward might be, we'd look elsewhere.

The Malign Hand of the Markets, by John Staddon. Published by McGraw-Hill, £21.99.

Dr Matthew Partridge

Matthew graduated from the University of Durham in 2004; he then gained an MSc, followed by a PhD at the London School of Economics.

He has previously written for a wide range of publications, including the Guardian and the Economist, and also helped to run a newsletter on terrorism. He has spent time at Lehman Brothers, Citigroup and the consultancy Lombard Street Research.

Matthew is the author of Superinvestors: Lessons from the greatest investors in history, published by Harriman House, which has been translated into several languages. His second book, Investing Explained: The Accessible Guide to Building an Investment Portfolio, is published by Kogan Page.

As senior writer, he writes the shares and politics & economics pages, as well as weekly Blowing It and Great Frauds in History columns He also writes a fortnightly reviews page and trading tips, as well as regular cover stories and multi-page investment focus features.

Follow Matthew on Twitter: @DrMatthewPartri