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Wednesday: {{snort!}} “Testosterone Poisoning is REAL”

Julius Caesar crosses the Rubicon and risks it all

Julius Caesar crosses the Rubicon and risks it all

Check out this must read from James Kwak at Baseline Scenario on risky behavior in the banking industry.  He cites another post at VoxEU by Anne Siebert entitled “Why did the bankers behave so badly?”.   They behaved badly because they were overconfident.  This overconfidence was brought on by three things: confirmation bias, a steroid feedback loop and bonus compensation strategies.  In other words, we have a repeat of The Smartest Guys in the Room that brought down Enron.

The steroid feedback loop hypothesis is fascinating.  I’ve referred to it as testosterone poisoning.  We saw it up close and personal on some of our former favorite websites like DailyKos during the election.  Aw, Jeez, here come the guys again doth protesting too much.  “How dare you insult our gender, you insensitive, brazen hussy!  You discriminate against me and my brethren.  Help!  Help! I’m being oppressed!”  Give it a rest, guys.  This phenomenon has legs.  Some geeky types have been doing research on the subject:

There is a substantial economics literature on the effect of gender on attitudes toward risk and most of it appears to support the idea that men are less risk averse than women in their financial decision making.1 There is also a sizable literature documenting that men tend to be more overconfident than women. Barber and Odean (2001) find that men are substantially more overconfident than women in financial markets. In general, overconfidence is not found to be related to ability (see Lundeberg et al (1994)) and that success is more likely to increase overconfidence in men than in women (see, for example, Beyer (1990)). Thus, if confidence helps produce successful outcomes, there is more likely to be strong feedback loop in confidence in men than in women.

In a fascinating and innovative study, Coates and Herbert (2008) advance the notion that steroid feedback loops may help explain why male bankers behave irrationally when caught up in bubbles. These authors took samples of testosterone levels of 17 male traders on a typical London trading floor (which had 260 traders, only four of whom were female). They found that testosterone was significantly higher on days when traders made more than their daily one-month average profit and that higher levels of testosterone also led to greater profitability – presumably because of greater confidence and risk taking. The authors hypothesise that if raised testosterone were to persist for several weeks the elevated appetite for risk taking might have important behavioural consequences and that there might be cognitive implications as well; testosterone, they say, has receptors throughout the areas of the brain that neuro-economic research has identified as contributing to irrational financial decisions.

A couple of interesting things jump out at me in the above paragraphs.  First, overconfidence is not related to ability.  That is, assertions that one is God’s gift to the financial world are not born out by any qualitative measurment of performance.  So, all you rich brokers and financiers who are whining that you lost your bonus or job and can’t afford the summer rental in the Hamptons this year to support the new servant class that you refuse to pay a living wage probably didn’t earn it in the first place.

The other thing that strikes me as interesting is that we don’t really know what would happen if we had  more women in the financial industry.  It is mere specualation that they wouldn’t fall prey to the same behaviors.  It isn’t clear to me that there isn’t as much nurture as nature going on in excessive risk taking.  But I think we can say that there is a very high barrier for admission to the party for women.  Four females out of 260 traders on a typical London trading floor is pretty pathetic.  If it is true that the steroid feedback loop is responsible in part for risky behavior, then breaking up the critical mass of men with additional women would be a worthwhile experiment.  But how do you get women in there?  Are women discouraged from pursuing these kinds of jobs in the first place?  Let’s assume that there is a “nurture” component to the absence of women in the financial industry and unpack some real world scenarios.

First up, a woman applying for a particular job on the trading floor is responsible and takes her fiduciary responsibility seriously.  In the atmosphere of testosterone poisoning, she would be seen as weak and not pulling her weight sufficiently.  Her lack of risk taking behavior would not be compensated nor praised.  Even women’s egos need stroking.  Why would a woman who is responsible want to subject herself to this?  Good question.  We should ask Sheila Bair, Elizabeth Warren and Hillary Clinton.  All three of these women have bucked the system and have advocated a bottom up approach to solving the financial crisis.  All three have met tremendous resistance from the status quo and the new status quo of the incoming administration.

Now let us consider a woman who has the temprament to compete on the same level playing field as a man.  This woman would not just need to be smart and ambitious, she would also need to possess the kind of moxie to seek forgiveness rather than permission.  She has to possess the kind of overconfidence that make people believe her.  In the real world, these kind of women don’t have a prayer.  They are labeled pushy, troublemakers, “not team players”.   We reward women for being team players, obedient and pleasant, not for being aggressive risk takers.

So, adding women to the mix is unlikely to be of any great assistance because the environment of the financial industry at the present time is incompatible with preferred gender behaviors.  There are a couple solutions to this problem.  We could either allow women to exercise these facets of their personalities so that they can compete with men in a dog eat dog world.  I think we should do this anyway because it’s time that smart ambitious women were encouraged to take risks.   But this wouldn’t solve the immediate problem of excessive risk taking in the financial sector.

The other solution is to punish excessive risk taking behavior and testosterone poisoning to begin with.  That is, hold people accountable for excessive risk taking.  As Paul Krugman says, make banking boring again.  It has been done before.  As Elizabeth Warren points out, the boom-bust cycle that plagued the American economy every 10-15 years since the creation of the republic didn’t happen in the 50 years that followed the Great Depression.  That’s because we had such a great shock to the system that we knew that curbing these behaviors was the only way to make sure the testosterone poisoned didn’t bankrupt us again.

The problem is that few people alive now remember what the Great Depression was like and the present shock to our system may not be as acutely debilitating, requiring clear, immediate steps to save the system.  Instead, it’s going to be like chronic back pain.   We’ll still have to work through it but the pain will never completely go away.  We’ll be expected to muddle through it, debating whether an operation or bedrest will make it end.  Meanwhile, the testosterone poisoned will go their merry way, wrecking havoc.

Podcast of the day: Mike Duncan has a terrific podcast on the History of Rome.  History does indeed repeat itself.  Oligarchs apparently have behaved the same way for a long time.  And unfortunately for all of us, there are only a few harsh remedies for getting rid of them.  Check out Insert Well Known Idiom Here.


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Things that make you go hmmm, episode 3

Stop me if you’ve heard this one already.  James Kwak at Baseline Scenario found this nugget buried in Monica Langley’s silly piece at the WSJ that Cinie dispatched yesterday:

Some bankers say they turned the conversations into complaints about the antibonus crusade consuming Capitol Hill. Some have begun “slow-walking” the information previously sought by Treasury for stress-testing financial institutions, three bankers say, and considered seeking capital from hedge funds and private-equity funds so they could return federal bailout money, thereby escaping federal restrictions.

James follows up with:

Ummm . . . if they could get capital from hedge funds and private-equity funds, wouldn’t they have done so already? And they are now resisting the stress tests? Simon is usually more negative about banks’ recent behavior than I am, but I’m catching up.

Veddy interesting.  So, the thing that bankers fear most in the world is ceding control to more responsible authorities.  Sounds like my 13 year old.  Let me see if I can wrap my head around this:  Banks come to government with hat in hands looking for handout.  The could have gone to private investors but didn’t.  Why?  Personal experience suggests that investors are calling in their capital and getting out of adventurous situations in areas like biotech.  One can only assume the investors are hurting for cash themselves or are saving it for some other purpose.  But, nevermind.  The bankers go first to the government for cash.  If the bank is in really bad shape, it would have to go to the dragon lady with the scary parts, Sheila Bair, at FDIC.  But then she would want to take it over, look into its underwear drawer and split it up.  So, they go to Timmy Geithner instead because they know that Geithner and Summers act like Sheila doesn’t have a brain in her head.

But then the public has to get involved.  It gets its knickers in a twist about some ‘bonuses’ and Congress begins to act like *maybe* they should mediate the situation to make sure their constituents don’t take them out in the next election.  And Geithner goes before Congress and asks for Treasury to have more control over non-bank entities.  It’s getting uncomfortable for the bankers.  If he gets what he wants, Geithner might be able to break up the banks in some backdoor way.  Now, suddenly, they don’t want no stupid government money after all.  I still don’t trust Geithner, Summers and Barry to do what is in the taxpayer’s best interest but you’ve got to wonder what it is that the bankers have to hide that they would turn down such a sweet deal to keep the government out of their stuff.  Fraud?  Embezzlement?  Gross irregularities and an Enron like complex of specter holding companies?  Well, yeah, they’re probably guilty of something.  Trillions of dollars don’t go missing overnight without leaving some kind of trace.

Let’s follow the money.   I love to watch the bankers squirm.

In other news:

Jake DeSantis quits AIG and sends his resignation letter to the NYTimes.  I *almost* feel sorry for Mr. DeSantis.  He says the financial services unit he was in was not responsible for the Credit Default Swaps.  He claims that he wasn’t born with a silver spoon in his mouth and that he agreed to take the job with AIG for an annual salary of $1, assuming the bonuses would cover his 12-14 hour days of work.

But then I thought, he couldn’t have been totally ignorant of what was going on with the CDS’s and how investors were leveraging themselves and the rest of the market into oblivion.  After all, he had every expectation that he would profit from it in some way.  Isn’t there a Good Samaritan law in NY or some kind of misprision thingy? (Lawyers, jump in at any time before I hurt myself)

In any case, it’s only a bonus to Mr. DeSantis, who says he can afford to weather the storm.  And I feel a lot less guilty after reading this part of his letter:

That is why I have decided to donate 100 percent of the effective after-tax proceeds of my retention payment directly to organizations that are helping people who are suffering from the global downturn. This is not a tax-deduction gimmick; I simply believe that I at least deserve to dictate how my earnings are spent, and do not want to see them disappear back into the obscurity of A.I.G.’s or the federal government’s budget. Our earnings have caused such a distraction for so many from the more pressing issues our country faces, and I would like to see my share of it benefit those truly in need.

Ahhh, spoken like a true Republican deregulator.  Government is always the enemy even when it’s paying your salary.  Pffft! There goes my sympathy for Mr. DeSantis.  It was OK to receive taxpayer funds for the bonus as long as the taxpayer wasn’t angry about it.  But now that they’re catching on, Mr. DeSantis prefers to give the money to his own charitable causes, like the Mashie Niblick Save the Ruff Fund,  than back to the taxpayers from whence it came.

Mr. DeSantis, the government *is* the taxpayers.  You are in this uncomfortable position because the taxpayers are finally waking up to this fact and putting their foot down about the unconscionable behavior of finance institutions that lost our hard earned trilions of dollars in savings.  The taxpayers, including yours truly, are faithfully paying our taxes to the government so that it can administer unemployment benefits and medicaid and CHIPS money to the people suffering from the global downturn.  I would appreciate it if you spared us the indignant outrage and give the money back to the taxpayers who paid for it so it can be put to better use.

Really, Mr. DeSantis, you have no idea what hard is until you become one of the little people and you ain’t there yet.  As my Navy dad used to say, “Tell it to the chaplin”.


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