Undone by unsound assumptions

How to put capitalism back on its feet? By looking to the past, say Kevin Dowd and Martin Hutchinson in ‘Alchemists of Loss: How modern finance and government intervention crashed the financial system’ (www.wiley.com). Past, meaning not the twentieth century, but the eighteenth and nineteenth centuries, the authors add. For, a good starting point, in their view, is to reconsider the demerits of the joint-stock form and the merits of the old partnerships in the financial sector, and think seriously about restricting or even repealing the limited liability statutes.

After studying three centuries of financial history, the authors aver that modern financial theory rests on unsound assumptions and should largely be ditched. Some of its main pillars – such as the efficient market hypothesis, the assumption that returns are Gaussian, the belief that financial market risks are predictable, the belief that financial innovation is a good thing that helps make financial markets more stable, and so on have been pretty much exploded, they note.

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