“The advance of civilisation has brought immense new complexity to the devices we use every day ... including automatic on-off lighting, communications and data processing devices. People do not need to understand the complexity of these devices, which have been engineered to be simple to operate. ....
[F]inancial products have not advanced as much. We are still mostly investing in plain vanilla products such as shares in corporations or ordinary nominal bonds, products that have not changed fundamentally in centuries.
Why have financial products remained mostly so simple? I believe the problem is trust. People are much more likely to buy some new electronic device such as a laptop than a sophisticated new financial product. ....
Unfortunately, people do not trust some good innovations that could protect them better. [One example is] the innovations in mortgages in recent years (involving such things as option-adjustable rate mortgages) .... I have proposed the idea of "continuous workout mortgages", motivated by basic principles of risk management. The privately issued mortgage would protect against exigencies such as recessions or drops in home prices. ....
[Other examples are] "the target-date fund (also called life-cycle fund) that invests money for people's retirement in a way that is specifically tailored for people their age" and "retirement annuities that include protections against potential risks". ....
Regulatory agencies need to be given a stronger mission of encouraging innovation. They must hire enough qualified staff to understand the complexity of the innovative process and talk to innovators ....”
Robert Shiller, "In defence of financial innovation", Financial Times (28 September 2009).
http://www.ft.com/cms/s/0/c4a74ba2-ab83-11de-9be4-00144feabdc0.html
Robert Shiller (1946-) is the Arthur M. Okun Professor of Economics at Yale University and a Fellow at the Yale International Center for Finance, Yale School of Management. Professor Shiller has been a research associate of the National Bureau of Economic Research (NBER) since 1980. He was Vice President of the American Economic Association in 2005, and President of the Eastern Economic Association for 2006-2007. He is ranked among the 1000 most influential economists in the world.
Professor Shiller is author of Irrational Exuberance and The New Financial Order: Risk in the 21st Century (2nd edition, 2005). For an earlier column on the same subject, see Robert J. Shiller, "Has Financial Innovation Been Discredited?", Project Syndicate, (March 2008). See http://www.project-syndicate.org/commentary/shiller56
Many financial reformers would like to simplify investment instruments, arguing that their complexity contributed to the 2008 financial crisis. Professor Shiller believes that such thinking is wrong and feels strongly that consumers would benefit from complex financial products. He argues that, just as there is no need to understand the design of a lap-top computer in order to use it, neither is there any need to understand the design of a financial instrument in order to purchase it. Regulators should therefore focus on achieving trust, since it is lack of trust, not complex products, that causes financial markets to crash.
Thanks to Larry Willmore for the Tdj.
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