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Forerunners of Modern Financial Economics

A Random Walk in the History of Economic Thought, 1900–1950

Donald R. Stabile

The economists who began using statistics to analyze financial markets in the 1950s have been credited with revolutionizing the scholarship of investing and with inaugurating modern financial economics. By examining the work of economists who used statistics to analyze financial markets before 1950, Donald Stabile provides evidence about the forerunners of modern financial economics.
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Chapter 9: The Forerunners in Relation to Modern Financial Economics

Donald R. Stabile


In the introduction to this book, I set out three themes that were part of the intellectual history of the forerunners of modern financial economics. First, decades before the creation of the ideas behind modern financial economics in the 1950s, economists had treated stock price changes as a random variable to which statistical methods applied and justified this approach with appeals to efficient markets. Second, Bayesian methods formed a part of the statistical methods they used. Third, there was criticism to that approach from early behavioral economists. The evidence in this book supports these themes. Starting with Irving Fisher, economists, statisticians and financial analysts treated stock prices as a random variable. Fisher stands out as the earliest of them that I have found, and his recommendation that investors use mean-variance analysis to assess the risk of a stock, first written in the early years of the twentieth century, was prophetic of methods of modern financial economics. Other forerunners who treated stock prices as a random variable or employed some form of meanvariance analysis include Wesley C. Mitchell, Alfred Cowles, Malcolm Rorty, Lionel Edie, Holbrook Working, L.C. Wilcoxen, John Burr Williams, and Frederick Macaulay. Among signal accomplishments of the forerunners in using mean-variance or another form of statistical analysis, in addition to Fisher’s, I offer the following listing. Edgar Lawrence Smith devised a rudimentary statistical measure of the risk of a stock, and Alfred Cowles studied stock prices with statistical methods. Frank Knight argued that probability theory and statistics could be...

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