of an Economic Lit-Man
New Paradigm for Financial Markets: The Credit Crises of 2008
and What It Means By George Soros
George Soros is a billionaire, former hedge fund manager,
and philanthropist. When it comes to giving away his money,
he’s right up there with Bill Gates and Warren Buffett. Soros
was born in Hungary where the family changed its name from
Schwartz to evade anti-Semitic persecution. They endured the
Nazi occupation, then the Soviet occupation, while George
escaped to England to attend the London School of Economics.
Upon graduating, he moved to the United States and eventually
became a very rich man with progressive views. More recently,
he contributed several million dollars in an attempt to prevent
the reelection of President George W. Bush.
As a young man, Soros hoped to be known as a philosopher,
and over his lifetime he created a philosophical framework
for economic theory. His most recent publication, The New
Paradigm for Financial Markets, is the 10th book in which
he presents these ideas. Though his work is read attentively
by financiers and stock traders for its immediate practical
insight, his theories have not attracted a following. Soros,
who regards himself with detachment and self-deprecating humor,
will be the first to admit this.
Soros says that the old paradigm for financial markets is
radically wrong. It assumes that markets are self-correcting
and tend toward equilibrium. If the price of something rises
too high then people will recognize that it’s overpriced and
refuse to buy it, so the price will, resultantly, fall to
where it should be.
Under the assumption that markets are self-correcting, we
shouldn’t need to regulate them. Moreover, regulation will
interfere with the market’s self-correcting mechanisms. An
example would be Russia and China, which used to regulate
their markets, control what and how much was produced and
how it was priced. The result was miserable poverty for everyone.
George Soros’ new paradigm says that markets don’t
always tend toward equilibrium. To the contrary, prices can
deviate farther and farther from the norm, and produce buying
manias and financial bubbles. In the end, unregulated financial
markets go bust and people wind up selling good securities
as if they were worthless.
The old paradigm assumed that market participants had perfect
understanding of what was going on and rational expectations
about what was going to follow. However, Soros reminds us
that humans are imperfect and they enter the market with biases,
hopes and fears; they misperceive what they see, and their
expectations are often not rational at all.
Furthermore—and this is extremely important, in Soros’ view—by
participating in the market, people change it, and those changes
can alter the market’s fundamentals. Soros has dubbed this
interaction between the market and its participants “reflexivity.”
The book’s subtitle is The Credit Crises of 2008 and What
It Means, and the later pages focus on the extraordinary
economic firestorm we are going through today. Soros’ writing
is remarkably contrite; he records not only his view of the
crises but also the financial choices he made in light of
what he saw. He handed this manuscript to the publisher around
April of this year, so we’re in a position to ascertain how
well he foretold the future and how well he made his financial
As for the latter, he didn’t do so well. Like just about everyone
else, he underestimated the horrific dimensions of the crises.
He was right about the dangers of the global credit bubble
and the strange toxic assets held by the banking system, but
he didn’t foresee the credit drought, the evisceration of
global financial institutions, the falling price of oil or
the plunge in commodity prices. He also believed that China
and India had such dynamic economies that they wouldn’t be
much effected by what was happening in Europe or the United
By the time Soros finished writing the book, his investments
had merely broken even, and by midsummer they must have lost
ground. In an unfortunate way, his recent losses validate
one of the crucial points in his theory: You never have perfect
knowledge of what’s going on in the market and you can rarely
foretell its future direction.
Soros notes with wistful regret that people read his books
hoping to find a way to make money, whereas he writes them
as a philosopher hoping to gain converts. His writing is concise
but occasionally opaque. It’s not always clear when he uses
the word “market” whether he’s referring to the buying and
selling of products and services, or to the exchange of financial
instruments such as stocks. It’s not the same kind of market.
He leads the reader on with abstractions, but, after being
teased for several pages with disembodied observations, we
lust for corporeal examples.
Soros’ paradigm for the way financial markets work will strike
many readers as common sense. Most who think this will be
politically progressive, will have voted for Obama, and will
regard George W. Bush and his economic ideology with disdain.
We wouldn’t be able to make such assumptions about supporters
of a theory on earthquakes or molecular interaction, but economics
is not a natural science; it’s a human construction full of
human engagements. Economic “laws” are not natural laws, but
the operations of human society. George Soros knows this in
his bones, and has for many years been preaching his analytical
system. Though it isn’t scientific, it is certainly philosophical.