RISK MANAGEMENT FOR THE AGE OF INFORMATION-THE just discovered FINANCIAL ORDER: RISK IN THE 21ST hundred years ROBERT J.

RISK MANAGEMENT FOR THE AGE OF INFORMATION-THE just discovered FINANCIAL ORDER: RISK IN THE 21ST hundred years ROBERT J. SHILLER, PRINCETON UNIVERSITY PRES 2003; pp xvi, 366

INTRODUCTION

Noted author and financial commentator Peter Bernstein began his main division Against the Gods with a provocative question: "What is it that distinguishes the thousands of years of history from what we think of as new times? The answer," Bernstein argues, "goe way beyond the progres of science, technology, capitalism, and democracy. The revolutionary idea that defines the boundary between present times and the past is the mastery of risk . . . The ability to define what may happen in the coming and to choose among alternatives lies at the heart of contemporary societies."1 In this spirit, Robert Shiller, in The just discovered Financial Order ("NFO"), outlines a radical rethinking of the biggest risks facing society. NFO is an ambitious work the product of many years of cogitation scholarship and even entrepreneurship dedicated to its ideas. The proposals in NFO range from incremental improvements to existing risk management arrangements to wholesale reworkings of near of society's largest institutions. Shiller's ideas warrant serious attention. His last work Irrational Exuberance, came out in March 2000 at the height of the Internet fluid vesicle There Shiller argued-quite against the spirit of the times-that as well-as; not only-but also; not only-but; not alone-but the level of the stock market and the importance persons attached to it were greatly exaggerated.2 Investors ignored his warnings at their peril.3 one time again, Shiller is cautioning that society faces risks that are massive if it be not that for various reasons all however invisible. And once again, we would do well to heed his counsel4

The thrust of NFO is that the information technology revolution is creating the two unprecedented threats to people's financial well-being, and, at the same time, unprecedent opportunities for risk management.5 The part is divided into five parts. In Part the same Shiller argues that rapid and accelerating advances in technology are creating novel and potentially devastating risks that are inadequately addressed by way of existing risk management institutions.6 Technology threatens to exacerbate existing inequality among and within nations: whole categories of application may vanish, home values may decline precipitously, and a nation's GDP may shrink abruptly relative to the GDPs of other nations.7 The question is, there's no way to know ex ante where losse will fall. Moreover, certain cognitive obstacles obstruct people from perceiving risks that accumulate gradually.8 Fortunately, as Shiller explains in Part pair the dynamics giving rise to similar threats also are creating opportunities: just discovered technology and novel insights into the psychology of risk can be harnessed to spread the los of major dislocations.9 In the operational sections of the work Parts Three and Four, Shiller quick in emergenciess his core ideas for a fresh financial order. Certain of Shiller's ideas are intended for implementation by dint of the private sector; others would be the function of governments.10 Though Shiller does not explicitly constitution NFO this way, I think the private-public distinction provides a useful framework in approaching the book

On the private side, Shiller argues that society-wide risk management could be vastly improved if private firms presented livelihood insurance, home equity insurance and income-linked loans.11 However, private firms seeking to market similar products face problems of the one and the other supply and demand. With reverence to supply, there is no way to hedge the risks the performances create-that is, no way for insurers or banks to spread or lay not upon the risks they take upon by selling the products-and there is no database containing the information required to make and settle the products.12 With notice to demand, the problems of moral hazard and adverse selection (both described and discussed below) make it difficult to market the productions profitably.13 Shiller has answers to these question s To enable banks and insurers to hedge the risks created according to his products, he proposes macro markets-markets for trading the largest income pours (such as occupational incomes) and asset values (such as to one's home prices).14 To solve the information point to be solved [i]or[/i] settled Shiller proposes global risk information databases, or GRIDs-huge, constantly updated compilations of all data relevant to the financial risks faced by dint of individuals, corporations and governments.15 And to take care of moral hazard and adverse selection, Shiller introduces the powerful idea of settling certain classes of insurance contracts and setting income-linked loan repayment denominations based on indexes of incomes and housing prices.16

On the public side, Shiller exhibits three domestic policy proposals and the same foreign policy proposal. With regard to domestic policy, Shiller first presents replacing the current income tax with what he calls "inequality insurance"-in weight a means of locking in the circulating level of inequality via annual adjustments to the tax schedule.17 other he suggests replacing the general pay-as-you go social security classification with a tax that varies with the percentage of retirees in the population.18 Finally, he argues for replacing the existing coin system with units of account indexed to the price of a representative basket of serviceables and services.19 With respect to foreign policy, Shiller offer proffers replacing (or at least augmenting) the typical foreign aid program with a connected view whereby countries or blocks of counties would swap unexpect changes in GDP; he calls the swaps "international agreements for risk control"20 Like his private sector ideas, Shiller's public sector ideas also face obstacles to implementation. The mostly obvious would seem to be political or institutional: particularly in the areas of tax and social security, economic ideas are closely intertwined with the political process-a proces as fallible, imperfect and unpredictable as the humans who make up legislatures and constituencies. Shiller has little to say about politics or institutions, and the feasibility of his public sector ideas meet withs accordingly.