A recent paper in economics highlights why I think the classical operation of financial markets can inform science, and also how modern ‘science’ hinders economics’ attempts to understand financial markets.
Underlying my interest in the specific paper is my curiosity in the doux-commerce thesis. The thesis emerged in the French Enlightenment as a reaction to Bourbon autocracy stimulated by Dutch and British liberalism and is the idea is that commerce improves society. For example, a 1704 technical text on commerce argues “Commerce attaches [men] to one another through mutual utility”, while in The Rights of Man (1792) Thomas Paine writes “[Commerce] is a pacific system, operating to cordialise mankind”. In the intervening years Montesquieu, Hume, Condorcet and Adam Smith all agreed that commerce was a powerful civilising agent, promoting honesty, industriousness, probity, punctuality, and frugality, in contrast to the excesses of absolute monarchies.
In the 1980s Albert Hirschman reviewed the thesis and compared it to competing views that either markets had a pernicious effect on society or that markets were shackled to conventional morality. More recently Marion Fourcade and Kieran Healy have reviewed the thesis from the perspective of contemporary sociology, which generally regards markets as ‘culture’, being embedded in society, and ‘saturated with normativity’. In this context three themes are identified. Developing the original doux-commerce thesis is research that investigates the cultural context of economic concepts, such as attitudes to insurance or gambling or how different contractual relationships reflect different power relationships. Secondly, and of principle interest to me, is how
the persistent tension in economics between normative and descriptive theory is shown to be resolved in practice through the development of social technologies that bring the behaviour of markets in line with the demands of theory
i.e. how contemporary financial economics is “an engine” driving the markets and “not a camera” observing the markets. Finally there is work looking at how ‘objective’ economics is suffused with normative (and subjective) meaning.
In particular I am interested in Deirdre McCloskey’s argument neatly summarised as
Commerce teaches ethics mainly through its communicative dimension, that is, by promoting conversations among equals and exchange between strangers.
because I see science as being a form of communicative action,
the speculative, agreed-upon inquiry which recognizes and distinguishes, defines and interprets reality and its various aspects and parts, on the basis of theoretical principles, models and methods rigorously cohering
rather than a description of ‘Truth’, which I regard as elusive given the uncertainty of nature.
My interest in these themes emerged while preparing a penultimate (sophmore) year course in derivative pricing I realised that the canonical origin of mathematical probability, Fermat and Pascal’s solution to the Problem of Points, was formally identical to the Cox-Ross-Rubinstein option pricing model. A fly in this Whiggish ointment was to establish how Pascal-Fermat identified the probabilities to be used in their model. Investigating this question convinced me that before 1713 the standard way of approaching probability was in establishing ‘justice’ in exchange, and not, as is more conventional today, as measuring relative frequencies.
Digging deeper into the origins of probability theory I concluded that the ethical assessment of markets was the principle driver in the development of ‘Western science’. For me the doux-commerce thesis is not about how markets influence morality but how the synthesis of morality and markets creates science. This will be the essence of the discussion as part of the Edinburgh Fringe with David Fergusson.
This sort of research is unusual for a modern probabilist, and was difficult. I only did it because between 2006-2011 I was the RCUK’s ‘Academic Fellow’ in Financial Mathematics,. As such I was expected to ‘engage’ the wider public with my research areas. Normally the ‘public engagement’ component of the Academic Fellowships were quietly ignored, this was difficult to me between 2007—2009. It was only because I was involved in the process of dialogue with people not embedded in academic theory that I was able to develop pretty unorthodox opinions (for mathematicians at least). This work has not gone un-recognised, independent of my Fellowship the RCUK (the UK equivalent of the National Science Foundation) identified my ideas as one of “One Hundred Big Ideas for the Future”.
The benefit to me of having undertaken this research is that as well as reviewing mathematics critically I now approach financial economics papers as political scientist/sociologist might in that I try and discern the implicit normative assumptions of a paper. It helps (sometimes hinders) my own research because it provides me with a meaningful context and this helps me identify the more important (subjective) issues my research should focus on.
My belief is that if researchers approach the financial markets from a Pragmatic perspective, acknowledging both the implicit normative nature of knowledge (which can, none the less, be objective) and the fundamental role of randomness in nature, financial economics will improve and the methodologies of financial economics will prove valuable for the rest of science.