Limits to Rationality in Financial Markets: June 15th to July 3rd, 2009

The aim of this Workshop is to bring together mathematicians, philosophers, financial and economic modellers, practitioners in financial markets, neuroscientists, experimental psychologists, policymakers and economists interested in deploying insights from these other disciplines.

Overview
The standard efficient market models claim that trading in financial markets is driven by cognitive processes involving the maximisation of risk-adjusted returns, with arbitrage ensuring that the resulting prices are efficient in the sense of reflecting all the relevant available information, and the resulting return distributions following Gaussian statistics.

However, even the very language of financial markets, such as "bulls and bears", "market sentiment" and so on, suggests that affective processes play an important role. The observed return distributions exhibit fat tails, clustered
volatility, long-term memory and other features that can potentially result in financial crises damaging the economy as a whole (as is seen in the current "credit crunch'').

The challenges then are to construct tests for the presence of affective processes in the behaviour of agents in financial markets, analyse the interaction of such affective processes with cognitive processes, and model how the choices at the micro-level interact to produce the non-Gaussian statistics observed at the macro-level. In addition, there is a need to consider the effect of rational-but-perverse behaviour (due to poor  incentivization) on the actions of individual agents and the system as a whole, to capture such effects in mathematical models, and minimize their occurrence in  economic systems. Important policy implications are likely to to arise from such analyses, ranging from more effective regulation of financial institutions by central banks and other regulatory agencies, through to appropriate ways of financing public sector investment projects.

From a Scottish perspective, these issues are of key importance given the implications  of the revisions of the Basel II regulations for the large Scottish financial sector, and the issues raised by the Scottish Futures Trust alternative to Public-Private Partnership schemes.

January 7th-9th, 2009

This intrinsically multidisciplinary research area is considered from the viewpoints of economics, mathematical modelling, neuroscience, psychology, philosophy of economics and financial markets, and public policy. The timetable is more open-ended than is usual, to encourage informal interaction and discussion.

There is an increasing realisation that "memory effects" play a significant role in economics (both micro- and macro-) and in financial markets. Incorporating such effects into tractable models in a realistic manner raises many interesting questions that straddle the traditional academic boundaries. For example,

• What information about the past is relevant to economic decision making?
• What past experiences cannot be "unlearned" in view of subsequent developments?
• Is the representation of the past in any sense "rational"?
• Are affective as well as cognitive processes involved?
• Can the economic present rewrite the economic past?
• What are the implications of memory-dependence for modelling and policy-making?

Wednesday 7th January: Speakers and downloadable presentations

Download abstracts

M. Grinfeld: Going back to El Farol (pdf presentation)
H. Lamba,  Incorporating Memory into Economic and Financial Models (pdf presentation)

Thursday 8th January: Speakers and downloadable presentations

H. Leuthold, Decision making under uncertainty: From heuristics and biases to neuroeconomics (pdf presentation)
A. Baddeley, Human memory structure and function: Its potential relevance to economics (ppt presentation)
J. Henry, From asset mispricing to systemic fragility: a turmoil reconstruction (ppt presentation)
R. Patalano, Economic past. A dead lock or a prologue? (ppt presentation)
M. Baddeley: A neuroeconomic analysis of herding in financial decision-making (ppt presentation)

Friday 9th January: Speakers and downloadable presentations

K. Kaivanto, Working Memory Constraints and Biases in Sequential Binary Decision-Making Tasks (pdf presentation)
H Mc Namara, The “I know best” effect: Feedback in decisions and hysteresis (pdf presentation)
S. D. Heim, Memories are made of these: ambiguity and sense-making (ppt presentation)

For more information contact

Rod Cross rod.cross@strath.ac.uk
Michael Grinfeld michael@maths.strath.ac.uk
Harbir Lamba hlamba@gmu.edu 

All presentations from the June workshop can be downloaded here under June workshop.

This 3 week long workshop is designed to initiate a series of parallel research projects, facilitating interactions across traditional academic boundaries and involve practitioners and policy makers.

We considered the relevant areas in two day slots, leaving Wednesday of each week free for discussions. Each two-day workshop addressed specific questions which can be downloaded here. Download the full programme.

15-16 June: Philosophical Issues. Download a programme and abstracts here.
18-19 June:  Neuroeconomics. Download a programme and abstracts here.

22-23 June: Economic Analysis. Download a programme.
25-26 June: Experiments in Financial Markets. Download a programme and abstracts here.

29-30 June: Mathematical Modelling. Download a programme here.
2-3  July: Policy implications and Closing. Download a programme here.

The workshop also included a public lecture by Paul Ormerod and the closing address was given by the Scottish First Minister, Alex Salmond.

The following is a current list of  confirmed participants for this workshop:

Philosophical issues:
Maurizio Tirassa (University of Torino)
Uskali Mäki (University of Helsinki)
Carsten Herrmann-Pillath (Frankfurt School of Finance and Management)
Brian Loasby (University of Stirling)
Gary Friedman (Drexel University)
Marco Novarese (University of Torino)
Ole Rogeberg (Frisch Centre, Oslo)
Diego Rios (Witten Herdecke University)

Neuro-economics
Carsten Herrmann-Pillath (Frankfurt School of Finance and Management)
M. Baddeley (University of Cambridge)
S. Derbyshire (University of Birmingham)
Michael Grinfled (University of Strathclyde)
H. Leuthold (University of Glasgow)

Economic Analysis
Andrew Hughes-Hallet (George Mason Univerity, USA)
Christian Richter (Kingston University)
Alexei Pokrovskii (University College Cork)
Gordon Brown (University of Warwick)
Paul Ormerod (Volterra Consulting)
Frederic Boissay (European Central Bank)
John Thanassoulis (Christ Church College, Oxford)
Sujit Kapadia (Bank of England)

Experiments in Financial Markets
Maria Andersson (Gothenburg University)
Nick Feltovich (University of Aberdeen)
Greg Fisher
Robin Pope (Bonn)
Jeff Schank (UC Davis)
Jan Tuinstra (University of Amsterdam)

Mathematical Modelling
Gary Friedman (Drexel, USA)
Paul Ormerod (Volterra Ltd)
Alexei Pokrovskii (University College Cork)
Jeff Schank (UC Davis)
Harbir Lamba (George Mason University)
Jean-Pierre Nadal (Ecole Normale Supérieure)
Sheri Markose (University of Essex)
Roger Waldeck (Télécom Bretagne)

Policy Implications
Alex Salmond (First Minister, Scottish Government)
Danny Gabay (Fathom Consulting, London)
David Cobham (Heriot-Watt University)
Sheila Dow (University ofStirling)
John Kay (Financial Times and Scottish Council of Economic Advisers)
Michael Kuczynski (Pembroke College, Cambridge)
David Simpson (University of Strathclyde)
Prof. the Lord Desai (London School of Economics)

For more information contact

Rod Cross rod.cross@strath.ac.uk
Michael Grinfeld michael@maths.strath.ac.uk
Harbir Lamba hlamba@gmu.edu 

View streaming video of lecture

Have Economists Gone Mad?

Public lecture by Paul Ormerod, Monday 22nd June 2009 at 5.30PM
Lecture theatre M405, James Weir Building, 75 Montrose Street, Glasgow G1 1XJ

There has been tremendous turmoil in the world economy. The most obvious example of this is in financial markets. But overall output is also now falling sharply, in countries like Japan and Germany faster than at any time since the 1930s. It seems obvious that these economies are not in a state of equilibrium, where everything flows smoothly. We are a long, long way away from any sort of equilibrium. And in the build up to the crash, we were out of sync in the other directions, with huge asset price bubbles, and unsustainable build ups of debt. What does mainstream economics have to say about all this? The answer, contrary to what most people might very well say when prompted is not “nothing”. It is even worse. The intellectual concepts which underpin modern macroeconomics became increasingly influential in central banks around the world in the run up to the crash, and bear a heavy responsibility for it. In accessible terms, Paul Ormerod describes what has been going on in macroeconomics, and why it deserves the description “mad”.

Paul Ormerod is the author of Death of Economics (1994), Butterfly Economics (1998) and Why Most Things Fail (2005), which was named a US Business Book of the Year for 2006 by Business Week magazine. Paul is also Director of Volterra Consulting, a London based economics consultancy.