Alchemists of Loss (eBook)

Kevin Dowd is a former academic and policy economist who has written extensively on the areas of monetary, financial and macro-economics, political economy and financial risk management. Professor Dowd's books include Competition and Finance: a New Interpretation of Financial and Monetary Economics (Macmillan, 1996), Money and the Market: Essays on Free Banking (Routledge, 2000) and Measuring Market Risk (Wiley, 2005). He has affiliations with the Cato Institute (Washington), the Cobden Centre (London), the Institute of Economic Affairs (London), the Independent Institute (Oakland), the Istituto Bruno Leoni (Milan), the Pensions Institute (London) and the Taxpayers' Alliance (London). He lives in Sheffield, England with his wife and their two daughters. Martin Hutchinson was a merchant/investment banker with more than 25 years' experience in London, New York and Zagreb, beginning with the merchant bank Hill Samuel, before moving into financial journalism in 2000. After working for US, Swedish and Austrian banks, he was a director of a Spanish private-equity firm, an advisor to a Korean conglomerate and Chairman of a US modular building company. As the US Treasury Advisor to Croatia in 1996, he helped the country establish its own T-bill program, launch its first government bond issue, and start a forward currency market. He then set up the Corporate Finance Division for the Croatian bank Privredna banka Zagreb and advised the Republic of Macedonia on restitution of savings for 800,000 Macedonian savers. In 2000 he moved into journalism, in October 2000 beginning his weekly column "The Bear's Lair," which now appears on the website www.prudentbear.com. He is currently a columnist for Reuters BreakingViews, writes for Agora Publishing's financial website Money Morning and is editor of the Permanent Wealth Report. He has appeared on television on the BBC, Fox News, Fox Business, CNBC and RTV Slovenija. He is also the author of Great Conservatives (Academica Press, 2004) a study of the rise, triumph and decline of British Conservatism. Hutchinson has a degree in mathematics from Trinity College, Cambridge, and an MBA from Harvard Business School.

Acknowledgements & Dedication v

Foreword vi

Part One: Past Successes and Disasters 1

1 Introduction 3

2 Pre-Modern Finance 17

3 Lessons from Past Financial Crises 33

Part Two: The Modern Financial Theory Engine 63

4 Theoretical Foundations of Modern Finance 65

5 Modern Financial Theory's Hideous Flaws 87

6 Risk Management: Daft Theory, Dodgy Practice 111

Part Three: Interactions with the Real World 137

7 The Real World Becomes Modern Finance-friendly 139

8 Modern Finance Captures Wall Street 159

9 And Wall Street Metamorphoses 199

10 Derivatives and Other Disasters 225

Part Four: Policy Accommodates Modern Finance 245

11 Loose Money 247

12 Government Meddling in the Financial System 269

Part Five: Götterdämmerung 295

13 Bubble, Burst, and Panic 297

14 The Slope Down Which We're Heading 331

Part Six: Charting a New Way Forward 349

15 The Math of Proper Risk Management 351

16 Back to the Future - A New Vision of Finance 373

17 A Blueprint for Reform 389

18 Lessons to Take Away 403

Bibliography 407

Index 413