Friday, June 14, 2013

Jeremy Warner: this crisis proves that capitalism works

In a very interesting Telegraph column, Jeremy Warner makes a very important point: this crisis proves that capitalism works.

Where Mr. Warner and your humble blogger differ is in how we come to this conclusion.

I look at the stock market which continued to function throughout the most hectic early days of the financial crisis.  Yes, prices did decline, but there were private buyers who were willing to buy at these prices if the sellers were willing to sell.

Compare and contrast the stock market with the interbank lending market or structured finance market.  The latter two markets froze.


Because of opacity.  Opacity that prevented buyers from having valuation transparency.

The first step in the investment process is to independently assess all the useful, relevant information disclosed in an appropriate, timely manner under valuation transparency to determine the risk and value of an investment.

The second step in the investment process is to solicit the price Wall Street is willing to buy and sell an investment at.

The third and final step in the investment process is to compare the independently determined value with the prices from Wall Street to make a buy, hold or sell decision.

If the first step of the investment process cannot be completed due to opacity, then financial markets effectively freeze except for gamblers who are willing to bet on the contents of a brown paper bag or a black box.

It is the observation that financial markets with transparency function during times of stress and the financial markets with opacity freeze that leads me to the conclusion that capitalism based on the FDR Framework works.

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