From Essays to Equations (1)

WALL STREET SMARTS, THE BLOG, IS NOW WALL STREET SMARTS, THE BOOK.  FULLY EDITED AND REVISED WITH NEW MATERIAL ON AMAZON

I did not study economics in school.  The books I have read on the subject since then have all been geared to people with no background in what is sometimes referred to as the "dismal science."  One of the earliest and most enduring books on economics, An Inquiry Into the Nature and Causes of the Wealth of Nations, was written by Adam Smith and first published in 1776. A Scot educated as a moral philosopher, Smith took ten years to research and write his classic.  Referred to popularly as The Wealth of Nations, the treatise is considered the foundation of many modern economic theories.  The 1,200 page book contains several tables of goods and their prices in Smith's day, but unlike many books on economics today, Wealth of Nations does not contain one mathematical equation to demonstrate the movement of money through a country's economy.

Possibly  the most studied and documented event in the history of Wall Street is the October, 1929 market crash.  It is the standard by which all other U.S. market melt downs continue to be measured.  In my opinion, the best and, certainly, the most entertaining analysis of this event is Professor John Kenneth Galbraith's work The Great Crash 1929.  It was first published in 1955 and has remained in print ever since.  Galbraith, a professor for many years at Harvard, wrote over 40 books on the subject of economics.  In his wry, self deprecating way, he attributed the long running success of The Great Crash to the fact that, every time sales of the book would slip to the point of going out of print, there would be another market bubble and subsequent drop which would rekindle public interest in the financial devastation of 1929.  I would like to share with you his analysis of why brokerage firms offered their customers margin loans, which were also referred to as "call loans" since they could be terminated or "called" at any time by the lending broker.  In describing the purpose for these loans, Professor Galbraith wrote as follows: 

The purpose is to accommodate the speculator and facilitate speculation.  But the purposes cannot be admitted.  Margin trading must be defended not on the grounds that it efficiently and ingeniously assists the speculator, but that it encourages the extra trading which changes a thin and anemic market into a thick and healthy one.  At best this is a dull by-product and a dubious one.  Wall Street, in these matters, is like a lovely and accomplished woman who must wear black cotton stockings, heavy woolen underwear, and parade her knowledge as a cook because, unhappily, her supreme accomplishment is as a harlot.*

Who would think that you could find yourself chuckling while reading a book on economic history?   With humor and insight, Galbraith lays out the events in America during the "Roaring Twenties" and their tumultuous conclusion.  Galbraith, like Adam Smith, used prose, not mathematics, to explain economic events.

Another example of a book which is an easy and enlightening read for non-economists is Yale Professor Robert J. Shiller's best seller, Irrational Exuberance.  The title is a reference to the comment of Alan Greenspan, then Chairman of the US Federal Reserve, describing the state of the stock market in 1996.  Shiller described the history of bull markets in America as follows: 

As we have noted, there have been only three great bull markets, periods of sustained and dramatic stock price increases, in the U.S. history: the bull market of the 1920s, culminating in 1929; the bull market of the 1950s and 1960s, followed by the 1973-1974 market debacle; and the bull market running from 1982 to the present.** 

His work hit the book stores in March, 2000, the month during which the last mentioned bull market hit its peak.  In a 2001 Afterword to the paperback edition of Irrational Exuberance, Professor Shiller described how, despite the severe drop in stock prices in the months following publication of his book, people still believed the market would ultimately resume its 18 year rise.  As we know, market results over the next few years proved them wrong, very wrong.

We will continue looking at economics in the next blog.

* Quote from the edition of The Great Crash 1929 by John Kenneth Galbraith published in 1997 by Houghton Mifflin Company, page 20.

** Excerpt from Shiller, Robert J.; Irrational Exuberance, copyright 2000 Robert J. Shiller, published by Princeton University Press, reprinted by permission of Princeton University Press.

Comments are always welcome.