1. Financial Liberalisation, Deregulated Labour Markets and the New Asset Markets Driven Capitalism Workshop Finance-Led Capitalism and Crisis Berlin 16 July 2009 Hansjörg Herr Berlin School of Economics and Law

2. „ „ …… the element of time, the source of many of the greatest difficulties in economics“. (Marshall 1890, p. 92)

3. Time and Money in the Neoclassical Model Léon Walras (1874): “Capital formation in a market ruled by free competition is an operation by which excess income over consumption can be transformed into such types and quantities of new capital goods proper as are best suited to yield the greatest possible satisfaction of wants both to the individual creators of savings and the whole body of consumers of the services of new capital goods … Furthermore, an important truth, which economist have proclaimed over and over again, but have left unproven, is finally established in the face of the denials of socialists, namely, that under certain conditions and within limits the mechanism of free competition is a self-driven and self-regulating mechanism not only for transforming services into products but also for turning savings into capital goods proper.” -The General Equilibrium Model: Universal future markets

4. Rational Expectations “I would like to suggest that expectations, since they are informed predictions of future evens, are essentially the same as the predictions of the relevant economic theory.” (John Muth 1961)

5. Time and Money in the Neoclassical Model Rational Expectations and Efficient Market Hypothesis in the 1970s -Economic agents use only one model to understand the world -Expectations are identical with the equilibrium of the model -Expectations disappear as an independent variable form the model -Some agents can be wrong, however, the mistakes have a normal distribution -Arbitrage guarantee grantees the equilibrium -The probability apparatus was added -Future events depend on objective probabilities -Logical time is assumed, future reflects the past vice versa (Newton) -There is risk no uncertainty

6. Consequences of the Neoclasscial Approach Domination of quantitative risk models –„Production“ of financial products –Rating Agencies used quantitative risk models –Basel II (bank based risk models) Fair Value Accounting

7. Keynes: Historical Time, Uncertainty, and “Animal Spirits” “We are merely reminding ourselves that human decisions affecting the future, whether personal or politic or economic, cannot depend on strict mathematical expectations, since the basis for making such calculations does not exist.“ Keynes 1936) About many economic matters “there is no scientific basis on which to form any calculable probability whatever. We simply do not know.” (Keynes 1937) “Most, probably, of our decisions … can only be taken as a result of animal spirits – of a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities.” Keynes (1936) “entrepreneurship” (Schumpeter)

8. What is the result of the Keynesian approach? Expectations are given exogenously –For example the marginal efficiency of capital –The liquidity premium –Credit rationing Sequence economy – No long-term trend We cannot accept that expectations are stable Expectations without anchor lead to –Asset markets without price anchor –Credit markets without quantity anchor

9. -There are no fundamentals which can be detected: -„In The Alchemy Finance …valuations affect the fundamentals that they are supposed to reflect.“ Soros (2008) -Historical time: The world is permanently created -Path-dependency of economic development -Self-fulfilling prophecy -Not all economic agents search for fundamentals -Short-term orientation -Speculation: beauty contest -Chart techniques -Herding

10. Without strict regulations and stabilizing institutions asset markets and credit markets are be unstable

11. The neoliberal revolution in the 1970s/1980s -Conservative governments were elected -Margret Thatcher 1979 -Ronald Reagan 1980 -The intellectual climate: Rational expectations and efficient financial market hypothesis -Conservative think tanks -Failure of the left in the 1970s

12. The Twins of the Neoliberal Globalisation Project: Deregulation of financial markets and labour markets Financial markets lost its anchor –Asset price bubbles –Exchange rate volatility –Uncontrolled national and international credit expansion –Price volatilty of natural resoruces Deregulation of labour markets –Nominal wages lost its function as price level anchor –Deflation is back

13. Real estate prices in Japan Prof. Hansjörg Herr13 Source: Japan Real Estate Institute

14. Real estate prices in the USA Prof. Hansjörg Herr14 Source: S&P/Case-Shiller Home Price Indices

15. Share prices in the United States, Germany and Japan Prof. Hansjörg Herr15 Source: finance.yahoo.com

16. Nominal exchange rates Prof. Hansjörg Herr16 Source: Federal Reserve Bank of St. Louis

17. Current account imbalances Germany, United States and Japan Prof. Hansjörg Herr17 Source: World Economic Outlook 2008

18. Total net capital flows and net FDI into all developing countries in m $-US Prof. Hansjörg Herr18 Source: Global Development Finance 2009

19. Crude oil price development in US-dollar Prof. Hansjörg Herr19 Source: Inflationdata.com

20. Chaos is back! No surprise! Thanks