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Summary: Real People, Real Markets, Real Ideas
Review: Bob Shiller, economics professor at Yale University, is a shoe-in for a Nobel Prize in Economics within a decade. The reason: capital markets are at the center of today's global world, and Bob Shiller, perhaps more than anyone, understands them. Talk about timing! His previous book, Irrational Exuberance (echoing Fed Chair Alan Greenspan's famous 1996 phrase), hit the book stores in mid-March 2000 -- six days after the NASDAQ peaked at 5,100 and the new-economy bubble burst. In it he explained why misperception of risk and our abysmal mismanagement of it brought stock prices far above sustainable levels. Of course, he wrote that long before the rest of us (except for Alan Greenspan) started to lose sleep over it. His new book appears, again perfectly timed, when most of us feel more insecure than ever. There is no argument that with globalization the world has become a riskier place. The same opportunity that let the hedge fund Long Term Capital Management speculate and arbitrage globally also threatened the entire world, when at one point its liabilities were said to approach 10% of America's annual GDP. I co-authored a case study of a leading investment bank that pioneered a new state-of-the-art approach to risk management (known as value-at-risk) -- and was bankrupted by it. Have we learned our lesson? I doubt it. A popular Silicon Valley bumper sticker says: "Oh Lord -- please, just one more bubble". Based on history, the prayer will be answered -- there will be many more bubbles. And more economic crises, because every economic crisis in history began with financial collapse. Economists are great at diagnosing problems, but generally poor at solving them. But in The New Financial Order, Shiller offers a brilliant solution to our dismal inability to deal with risk and uncertainty, written in a style ordinary people can understand. His book is about "applying risk management technology to the major problems of our lives". In the words of his publisher Peter Dougherty, this is economics that tries to improve the culture. Here is Shiller's basic argument. In the 1980's economic theorists played with an idea known as 'missing markets' -- the notion that if only there were markets for everything, including every kind of risk, we would all be far better off and the economy would function smoothly. In inventing the 'missing markets', people who hate risk find those willing to bear it, at an appropriate price. The mechanism of supply and demand finds that price of risk-bearing (insurance) that makes both risk-buyer and risk-seller happy and better off. But despite the boom in derivatives -- the market for a variety of exotic risk-bearing assets -- most of the risks ordinary people encounter cannot be insured. Consider Joseph Q. Public. Joe wanted to study philosophy in college, but his mother persuaded him to became a mechanical engineer instead, because as a philosopher he might not make a living. He owns a three-bedroom Colonial in suburban Newton, MA., but worries its value will decline. He works for a small quality-assurance company and worries, in this global downturn, that he may soon be out of work. If he loses his job, he also loses his family's health insurance. All these risks are uninsured, because no such insurance exists; there are 'missing markets'. The irony is that, like a majority of Americans, Joe is heavily over-insured for the least worrisome or likely of all risks -- death. He has $700,000 worth of life insurance, even though, as a non-smoking 42-year-old who jogs, the chances he will die this year are less than one in five hundred -- far less than the chance of losing his job, picking the wrong career, or seeing his home equity tank. How can Shiller's insights help Joe Public and the world in general? By devising markets that insure risks that really matter -- markets big enough, so that risk is widely spread and broadly diversified, minimizing the chance any single risk-bearer will go broke. Such as livelihood insurance -- the chance I may not make a living. Home equity insurance -- the chance my house will drop in value. Income-linked loans -- contingent on my having enough income to pay them pack. Inequality insurance --insurance for the risk income inequality will create too many poor people. Intergenerational social security -- pooling risks held by different generations, some of them who work, some who are supported by those who work. And a huge database that supports these new markets, with new indexes and units of measurement that quantify the risks so they can be bought and sold and efficiently insured. Even if only a few of these new markets for risk existed, Joe Public could sleep a lot more soundly. It is time for banks, insurance companies, governments and the World Bank to invent them.
People love to ask economists like Shiller, if you're so smart -- and understand capital markets so well -- why aren't you rich? And if you know the solutions, why don't you do something?
Well, in fact, he is! And he does. In 1991 Shiller and partners founded Case Shiller Weiss Inc., to facilitate devices to manage the risks to our homes. This is done by the Case Shiller Home Price Index, a repeat-sale home price index that enables people to insure against a fall in home values. The company was sold at a high but undisclosed price to Wisconsin financial services firm Fiserv in 2002. Shiller has now founded a second firm, Macro Securities Research LLC, to create new risk management vehicles. As a pioneer in what is now known as 'behavioral finance' -- the application of psychology to understanding behavior in capital markets -- Shiller has a secret weapon, his wife Virginia, a child-clinical psychologist. I suspect he and I had the same experience -- discovering that our wives knew far more about economic behavior than we did, because while we studied equations and numbers, they worked with, and helped, real people, every day.
Rating: 
Summary: The Oracle of 21st Century Finance
Review: By any standards, financial markets are behemoths, where trillions of dollars are traded daily in stocks, bonds, currencies or securities. But unlike common perception that values financial markets based on their profitability, their more important function is to manage risks: shares are sold to investors to spread out risk-if money is made in the process, all the better. What is surprising is that despite the extensiveness and complexity of our financial nexus, many risks that people face are not currently covered: what happens, say, if your job is taken over by a computer? Or, if you spend seven years in school specializing in a field for which there is no market after you graduate? There is no protection against these threats. Yet, unemployment has a more adverse impact on welfare than any movement of the Dow Jones or the Euro/Dollar exchange rate. Financial markets can help people manage the latter, but not the former. In this sense, risk management is limited. Extending its scope to manage more risks is the subject of Robert Shiller's book. Mr. Shiller, of Yale University, has put together his vision for the future: a New Financial Order where risk management can serve the people, not just investors who know the markets. "The New Financial Order" is an ambitious work, and although Mr. Shiller tries to show that baby steps have been made towards that vision, it is clear that he is thinking far ahead-decades, even more. But what is this new order? Mr. Shiller's world is build around six pillars: livelihood and home values insurance, macro-markets where aggregate risks can be traded, income-linked loans, inequality insurance, intergenerational social security, and international agreements for risk control. These ideas are grand, as will be the markets needed to implement them. This financial order is an attempt to reduce the effect of randomness on our lives. All these instruments, in different ways, will allow a more equitable and efficient sharing of risk, making people better off. If in the past few centuries, financial innovation led to economic prosperity, then the future of finance will be to create economic security. "The New Financial Order" is a blueprint towards that goal.
Rating: 
Summary: The New Financial Order
Review: Dr. Shiller proved that the word "Irrational" should appear in the title of all of his books. He said in the introduction that the book was neither political or utopian, but it was both. To think that one can "insure" (really tax) everyone into mediocrity and at the same time have them permit government intrusion to a greater extent than ever seen outside of a dictatorship in order to get a lower rate is right out of Orwell. I was incredibly disappointed having had my expectations raised by his last book, "Irrational Exuberance."
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Summary: A Must-Read!
Review: Economist Robert Shiller became a household name when he published his previous bestseller Irrational Exuberance just as the dot.com boom was peaking. In The New Financial Order, he capitalizes on his celebrity to put forward a thoughtful, detailed proposal for managing economic risks. This highly readable book portrays a future in which many serious individual financial risks are dispersed to savvy global investors, thanks to technology. Imagine violinists being able to insure their careers in addition to their Stradivarius instruments, developing countries securing generous loans from the first world by tying the repayment schedules to their future GDPs and a revamped tax system preventing the gap between rich and poor from widening. We from getAbstract suggest this book to risk-management professionals who want to step back and look at the big picture, as well as to anyone who has a stake in creating new financial products to meet twenty-first century needs.
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Summary: New forms of insurance?
Review: Goes well beyond current ideas of manageable risks to suggest concepts and tools for management of six categories of international, national and societal/personal risk that can and should be managed. The author also includes reflections on the nature of innovation in financial markets. The central theme is that current technology and databases permit the establishment of forms of risk management that would transform the our ability to achieve long term societal goals. Separate chapters cover each of the six categories. They include:
* insurance for livelihoods and home values;
* income linked loans designed to cover individuals against hardship or bankruptcy
*insurance against increasing income inequality (between nations, groups or generations) Although the book is written for a general audience, some of the concepts are quite difficult to grasp. An early chapter, which provides an 'alternative history' of the period from 1950 to 2000 if the risk management mechanisms had been in place, helps non-specialists to get a feel for what the author is proposing.
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Summary: A fairly interesting book
Review: In the last two decades fascinating developments and innovations have occurred in the field of finance. Now called financial engineering, the techniques used therein are dependent on highly sophisticated constructions in mathematics. Risk analysis has been a large part of this drive for innovation in finance, and is the subject of this book. The author proposes some "radical" innovations for risk management, and it is fascinating reading. Those who welcome new ideas and proposals in finance should find the book interesting, but the book is addressed to a non-technical general audience, and so most of the mathematical justification behind the ideas is left out. However, references are given for the author's work and others he has collaborated with for the reader who needs a more quantitative approach. There are some philosophical threads in the book that are somewhat troubling, for those who do not agree with the political and moral philosophy of John Rawls (who the author uses as a "foundation"), but the substance of his ideas can still be accepted even if this philosophy is explicity rejected. The author proposes six ideas for what he calls a "new financial order": livelihood insurance, macro markets, income-linked loans, inequality insurance, intergenerational social security, and international agreements. He also proposes the development of massive databases, what he calls GRIDS, standing for "global risk information databases", in order to provide the information that allows effective risk management, and "indexed units of account", which is a new "electronic money" that serves to optimize the negotiating of risk. All of part three of the book is devoted to these six ideas. The author proposes 'income indexes" as a way of hedging livelihoods and compares livelihood insurance with disability insurance. Those readers in the scientific profession will appreciate his ideas on livelihood insurance, due to the extreme risk in entering a specialized scientific field at the present time. Interestingly, the author compares this risk management device with academic tenure, believing that the latter is a good example of what could be done in society as a whole. He does not elaborate though on how universities reduce the "moral risks" in the tenure system, unfortunately. Optimizing productivity in individuals who are guaranteed lifelong employment is extremely difficult, and there are strong arguments against the institution of tenure for this reason. The author's discussion of "macro markets" is very interesting, especially if read in conjunction with his research papers. Motivating it with a real world example of the Citibank loan to Bulgaria in 1994, the interest rate of which was tied to the growth rate of the Bulgarian economy, he proposes a few ways in which risks can be hedged for everyone, such as 'perpetual futures', and 'macro securities', the latter of which he prefers and discusses at length. These are securities that are automatically issued and redeemed on demand, but only in pairs. Based again on indexes, there is a macro whose price increases when the index increases, the other going down when the index increases.The author gives several examples of the forms which these macro securities might take. Because of its philosophical orientation, the author's ideas on "inequality insurance" may be somewhat troubling, for it is the government who is to set legislation on the level of income inequality, and prevent inequality from getting worse. But the tax system will be "framed" so as appear to enforce a measure of inequality rather than the specification of tax rates. The author explains how the inequality insurance payments would be calculated using what he calls the "after-tax Lorentz curve", coupled with the "Gini coefficient", which is a measure of how much the Lorentz curve sags. Historical evidence though casts much suspicion on the government's ability to do anything of value in the economic realm. In addition, inequality, as meausured by the author, does not say anything of the history of what led to that inequality. The history must be known before any action should be taken to correct the inequality. Inequality in and of itself does not entail corrective action be taken to dissolve the inequality. The biggest virtue of the book is the author's awareness, and subsequent discussion, of the role of technological advancement in economic affairs, particularly the role to be played by machine intelligence. However, in my opinion, I think he is wrong when he expresses the belief that low-income workers will be at higher risk for losing their jobs because of the advances in artificial intelligence. On the contrary, these kinds of jobs will probably be the most secure, since it will not be cost effective to have robots do the kinds of tasks involved in these jobs. The highest risk will be for those who are in middle management, for the tasks that must be done in these positions can be done much more effectively by intelligent machines. Indeed, areas such as accounting, information management, financial engineering, and other areas that are information-intensive will be run entirely by machines in the near future. The resulting massive loss of jobs could be dealt with by using financial innovations along the lines of what the author proposes in this book. The enormous wealth generated by intelligent machines could be used to alleviate the financial strain that will be experienced by the people who lose their jobs to these machines. And the machines themselves may have their own unique and clever methods to solve this problem and others that arise in the coming decades.
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Summary: OUTSTANDING BOOK ABOUT THE FUTURE OF RISK MANAGEMENT
Review: In this book, Shiller presents, in a concise and simple way, the direction in which risk management should go in the future if it is to serve its purpose. He reviews the history of risk management, with demonstrations of how far it has come and how certain successes were achieved mainly through psychological framing. He then expands these concepts to areas to be tackled in the future, such as home equity insurance, GDP insurance, and livelihood insurance. My main criticism of the book is the title, which seems overly ambitious. In my opinion, it should have been somehitng like Future Advances in Risk Management, but then again sensationalism does help sell books. Some of the criticism I found of the book is that it is overly simplistic. Like many outstanding ideas, after they are known they seem simple, but it is by no means easy to come up with them. Risk management is an area that requires a lot of development, and insurance/finance professionals are sure to gain much from the ideas in this book. If the particular ideas in the book don't match one's area, I believe it is still an important read as a source of ideas and a way of thinking that can be applied I believe in many different areas.
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Summary: Thinking Outside the Box
Review: Robert Shiller has the remarkable ability to think independently and the courage to propose ideas that to middlebrow thinkers may sound speculative.
Think of what your reaction would have been had someone discussed risk sharing (insurance) before it became popular. A lunacy people would have thought. Most risk management is like that: we think backwards with the benefit of past history and find these ideas obvious. They were not at the time.
Throughout his career Shiller stood for unpopular ideas and was proven right (his 1981 paper on volatility, his 2000 discussion of the bubble). I would read and re-read this book.
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Summary: A fascinating alternative view of the financial system
Review: Shiller is a visionary economist. The problem with visionaries is that they do not always see the world the same way as everyone else.
This book outlines how Shiller believes a range of innovative risk management products could change the international financial system, and at the same time raise the living standards of ordinary people. Shiller wants to create derivative products which would allow people to use financial markets to hedge against loss of income, or the decline in the value of their house, for example.
Now this is pretty daunting stuff for the average reader, and I doubt that most of the people Shiller wants to help would fully appreciate the complexities of the things he advocates.
The other problem I have is that I simply don't believe all of Shiller's ideas are feasible. Moreover, even he would have to admit it is impossible to eliminate risk from life, yet that is what he tries to achieve.
I think it is a terrific book for those who want to ponder "what if." It can be a hard read though.
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Summary: Read Irrational Exuberance first (better book)
Review: Some of Shiller's proposals, such as multiple indexes instead of or in addition to currency I can't see being accepted by the general public. It would be too confusing to have wages in one indexed amount and rent or mortgages in another, etc. How would anyone ever get a feel for where they stood, i.e. how much they had to earn to pay the rent? What if the wages index suffered more from inflation than the mortgage index or vice versa? I think one indexed value for all long term contracts such as wages, rent, mortgages, credit purchases, savings/ investment accounts, etc. maybe even such things as magazine subscriptions and major goods like autos, and appliances would work, but I think people would still prefer to use hand currency values for day to day shopping, so they could compare what they want to spend to the currency value of their accounts. Otherwise it would be too much like flying blind. Something that has puzzled me recently about academic and "serious" presses: where are the editors? This book has an astonishing number of typos, bad or marginal grammar, doubled verbs, incomplete sentences, you name it. I constantly found myself having to back up and read a passage over again because I though I knew where it was headed only to find that the verb didn't match the subject, or what sounded like an idiomatic expression wasn't (it only coincidentally reproduced the idiom), etc. The extensive list of acknowledgements didn't include an editor specifically; the book reads like maybe some of the dozens of graduate students involved are ESL. Shiller really needed a good sharp eyed editor.
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