Financial Markets, Money and the Real World
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Financial Markets, Money and the Real World

Paul Davidson

Paul Davidson investigates why the 1990s was a decade of financial crises that almost precipitated a global market crash. He explores the reasons why the global economy still struggles with the aftermath of these crises and discusses the possibility that volatile financial markets in the future will have real impacts on whole industries and national economic systems.
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Chapter 11: If Markets are Efficient Why Has There Been so Much Volatility in Financial Markets?

Paul Davidson


11. If markets are efficient why has there been so much volatility in financial markets? In the decades of the 1980s and 1990s the world witnessed increasing volatility in many financial markets around the world. Why is there so much volatility? Are financial markets inherently destabilizing and fragile or is today’s financial fragility the result of market ‘liberalization’ policy decisions taken since the 1970s? We are again being haunted by Minsky’s frightening financial fragility question ‘Can it happen again?’1 where ‘it’ is a replay of the Great Depression. 11.1 EFFICIENCY VERSUS LIQUIDITY Peter L. Bernstein is the author of the best-selling book Against the Gods,2 a treatise on risk management, probability theory and financial markets. Bernstein noted that since the Second World War ‘the number of stock markets around the world has grown from 50 to just over 125 – even the Chinese, nominally still socialists have seen fit to establish stock markets on their territory’.3 Accordingly, one might ask, if financial markets are, as Minsky suggests, so fragile and destabilizing, why are so many emerging economies using them? How one responds to these queries depends on the underlying economic theory that one explicitly, or implicitly, utilizes to explain the role of financial markets in an entrepreneurial economy. The efficient market theory assumes that financial markets can reliably forecast the future and therefore market values accurately reflect the present value of the ‘known’ future stream of money receipts that will accrue to the asset holder. E...

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