Arbitrage on the holodeck
May 28, 2017 § 41 Comments
Context and subjectivity are not the same thing.
Context is objective: water is objectively more valuable in the desert. It is also more costly to ship water to the desert than it is to use it where and when it is already abundant.
Preferences are subjective, though even preferences are rooted in objective reality. Preferences are not reducible to nothing but pure subjectivity, because man himself is not reducible to nothing but pure subjectivity. In the absence of disorder fresh water is preferred over seawater as drink, because the former satisfies the objective needs which give rise to thirst while the latter does not.
Objective truth always trumps subjective preferences. A subjective preference which is contrary to the objective truth is an intrinsically disordered preference.
Prices reflect an equilibrium in preferences between counterparties in the exchange of goods and services. The reason for exchange in the first place is because different objective contexts obtain for each counterparty: the baker has ample bread and few candles, while the candle maker has abundant candles and little bread. So ten candles are exchanged for a loaf of bread.
An actual exchange represents a preference equilibrium: a subjective meeting of the minds in bringing together two different objective contexts for putative mutual benefit.
But perception is not always reality.
When the controlling preferences of either party to an exchange are intrinsically disordered, the price is an unjust price. The mutual benefit (or its lack) in any exchange is ultimately an objective property of the actual exchange, not a meeting of minds in an intersubjective preference space.
“When the controlling preferences of either party to an exchange are intrinsically disordered”
As always a lot to think about. I’m have difficulty understanding what the ordering (normative?) principle of preferences might be though. I *think* it should be a striving for justice (even if the counterparties don’t always hit the mark). But how does one measure justice in preferences for, say, cars or shoes or gold coins? I’m an amateur finance guy so I apologize if this is way off the mark of the OP.
I see no reason to believe that there aren’t all sorts of different ‘not disordered’ preferences for any real context, possibly distinguished by whimsy or personal idiosyncrasies. Maybe I just like fish better than chicken, or care more about price than aesthetics.
For that matter preferences can be disordered for all sorts of different reasons, including simply misapprehension of the facts.
The point in other words isn’t to assert a comprehensive or even adequate theory of just prices. The point is just to take the reality of unjust prices seriously and explore basic concepts which may obtain, and it seems to me that a distinction between disordered preferences and not-disordered preferences is among those basic concepts.
“it seems to me that a distinction between disordered preferences and not-disordered preferences is among those basic concepts.”
That’s very helpful, and it gets me thinking even more about *my* preferences – regardless the preferences of the counterparty. In a way, price is an indication of how *strong* my preference is for any particular thing. And it’s easy to see how disordered that may be.
Bubbles are essentially a mass disordered preference. Bubbles are popped when reality rears it’s ugly head, regardless of what the participants in the market subjectively desire.
“Bubbles are popped when reality rears it’s ugly head”
How we might know that “reality” was the motivation of my initial comment – buy low sell high is an ages old prayer. And I was inclined to whine about those of us who aren’t knowledgeable finance types. But maybe that’s the point. Reality is about living within ones means. Which is another way of saying ones state in life. Striving – or strongly preferring – beyond that is just asking for problems.
I guess I’m less concerned about the merits or detriments of ambition generally and more concerned specifically about the irreducibly objective properties of transactions.
I agree that bubbles are a kind of mass disordered preferences. But bubbles (at least defined in decades or less as overinflated prices which eventually correct) are not the only kind of mass disordered preferences.
Non-economic background: At most one religion can possess the fullness of truth; more than one religion has lasted for millennia; preference for a false religion is a disordered preference; therefore mass disordered preferences can last for millennia.
I see no obvious reason to believe that some economic “bubbles” might not last indefinitely — for as long as the false ideas which support them last, at any rate, and some false ideas are demonstrably resilient. In fact I rather suspect that gold has been in a kind of ‘permabubble’ for a very long time because of persistent false ideas about wealth. Keynes was right to suggest that markets can stay irrational longer than the human life span. After all, why should economic errors be so different from errors in other domains?
The so-called “oldest profession” depends upon disordered preferences, for example.
The idea that an “invisible hand” corrects market errors in value assessment is either demonstrably false or a question-begging tautology.
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“So ten candles are exchanged for a loaf of bread.”
You aren’t getting my bread for ten candles. Just saying
What role does advertising play in the situation? One might imagine that there is an honest advertising that merely informs the prospective buyer about the qualities of what is sold, but it seems that there is also a dishonest advertising that intends to deceive the buyer by leaving out relevant information. Or there is a lot of advertising that appears geared toward creating a disordered preference in the buyer by inciting lust, pride, etc.
In the OP I am focused on contrasting the objective nature of a transaction specifically to the stipulated preference overlap which motivates it.
But it is true that deliberate promotion of disordered preferences in anticipation of a transaction is either deception (if the subjective preference is disordered through an error in fact, that is, the seller lies about a product) or vicious (if the subjective preference is morally disordered, that is, the seller is promoting vice to sell his product).
Also always keep in mind that both parties to any transaction are simultaneously buyer and a seller. If I buy apples from you by giving you dollars, I have sold you dollars for apples: the buyer-of-apples is the seller-of-dollars. IOW it is possible and probably commonplace for both parties to make innocent errors — which remain errors nonetheless.
A just price will, minimally, objectively benefit both parties independent of their subjective preferences, which (the preferences) may be disordered.
Sure, the buyer of apples is the seller of dollars, but unless counterfeiting or a bounced check is involved, it seems unlikely that promotion of disordered preferences will be involved on that side.
When it comes to sovereign currency (that is, actual bearer tax vouchers issued by the sovereign and/or bank deposits) that is (mostly) true. Though even here I would sound a note of caution, since the terms ‘money’ and ‘currency’ are used multivocally.
When it comes to other property that people treat like currencies (e.g. bitcoin, personally secured credit) that isn’t obviously true at all, and is probably false.
In any case we should be a bit cautious about declaring the sell side of a transaction presumptively licit merely because the property being sold has been labeled ‘currency’ or ‘money’. People have all sorts of objectively disordered preferences when it comes to money, or “money.”
The different types of disordered preferences will also have different effects on the price. For instance a morally disordered preference (like someone buying a bottle of liquor in order to get drunk) means that the exchange is unjust in and of itself. The liquor will not benefit the buyer of liquor no matter what or how much is given in exchange. But an economically disordered preference (say the buyer thought the bottle was 90 proof when it was really 80 proof) has a finite effect on the price; there is a just price for this transaction since the liquor (absent other disordered preferences) will benefit the buyer of the liquor.
Reblogged this on Get to da choppa! and commented:
If everyone understood this, there would be no Left as it exists today. It would instead consist of a collection of female, religious, and philanthropic societies doing their best to help the poor and downtrodden without getting in the way of the rest of the world. There would be no mass importation of Muslims; no feminism; no LGBTIQMINUS movement. Marriage would be between one man and one woman for the purpose of procreation, and education would provide tools and knowledge, not conditioning. It really is this simple.
Brilliant, Zip. No objective benefit → no subjective benefit. Subjective benefit presupposes some objective benefit. No objectively just price → no subjectively acceptable price. Or: you can’t even err if it isn’t possible to be right.
So how does this apply to derivatives trading?
Derivatives are just securities which bundle together rights to other securities. I wrote a post on how this becomes out of touch with reality when the graph of rights-grants becomes self referential:
When it comes to other property that people treat like currencies (e.g. bitcoin, personally secured credit) that isn’t obviously true at all, and is probably false.
This is something that would really benefit the majority to understand. Sovereign-issued tax voucher currency (whatever you want to call it) actually accounts for something like 1% of the “money supply.” Most of our “money” is little more than claims against the asset sheets of banks and similar institutions. (And that is itself often a fictitious claim based on usury, not actual hard property able to be liquidated or even securities like corporate equity)
So in some sense, most financial transactions today carry element of trading something for almost-nothing. The almost-nothing has value mainly because of a combination of ignorance and sovereign cooperation with a corrupt system of finance and banking. However, that value ultimately rests on there not being something like a black swan event that unravels enough of the system that the system must actually found for how much “nothing” is actually backing it.
The LTV on most business and other nonrecourse debt is pretty strong. The “holes” in bank balance sheets are consumer IOUs. But it would be a mistake to overstate the weakness of bank balance sheets. The circular security nonsense of ’08 was in non-bank institutions (“investment banks”) and money market funds.
I see a lot of apocalyptic finance porn (e.g. Ann Barnhardt) that rests on incoherent ignorant nonsense. Personally I think actually understanding things is prerequisite to announcing the end of the world.
But yes, almost all “money” used by consumers is electronic, that is, claims against bank balance sheets recorded and transferred via electronic ledgers.
I’ve always thought it was kind of amusing that “investment bank” means in effect “we aren’t even really any sort of bank at all”.
TimFinnegan and Kristor:
That is helpful input: there are some transactions which do not objectively benefit one of the parties at all no matter what the price, and for those transactions no price is just.
Once we exclude the “unjust at any price” transactions we are left with “just at some price” transactions.
I doubt that it is possible to define an exact price such that only that price is just. I’m pretty sure that isn’t what the medievals were doing when they wrangled about just prices.
Rather, there exist many transactions in which an objectively just price is possible, but wherein the actual price is unjust. Mere mutual consent doesn’t make the price charged objectively just, because mutual consent only confirms some overlap in subjective preferences at the moment and place of the transaction.
I think 08-10 was when I started breaking with the right-liberals in my life on politics. It was over their reaction to mortgage-backed securities. They held to an utterly irrational, folksy “an agreement is an agreement” attitude toward the consumer, while giving a free pass or even support to the banks that flagrantly violated title laws, rules of evidence, etc. It’s when the unreality toward the finance, law and authority started to come into focus (for me at least).
I remember many of them frothing at the notion the judges were shutting down mortgages because title laws were grossly violated, and asking them how they can justify supporting the bank. The bank violated rightful authority. The sovereign’s title laws are superior to the contract, and the sovereign has a literal, God-given right to bring measured force to bear on institutional law-breakers. If anything, the state authorities were merciful by merely tearing up mortgages where paper trails could not longer be validated! Had the government(s) fully exercised their just authority, they’d have put tens of thousands of people at all levels in prison, shuttered megacorporations as criminal syndicates, etc.
Liberals in general fail to grasp the fact that authority is conserved, and no set of rules or procedures or structures can change this. The choice isn’t between “more freedom” and “less freedom”; it is between acknowledged overt authority and sociopathic authority.
Another thing that was eye-opening was taking a really basic business law course and learning that title law is actually more or less universal to property exchange. There is a legal concept of title even in handing over a candy bar to someone. So people mistake the fact that the sovereign entities do not get involved with the sale of a bottle of liquor, imposing formal requirements and conditions of title forfeiture as can apply when formal title regulations are violated, for the sovereign not conserving the power to block transfer of title in those situations.
Blocking the sale of that liquor bottle by wielding that conserved authority would be no different than wielding it to block the transfer of title to a serial child sex offender who wants to buy a house next door to a daycare. They’re factually both exercises of the same authority, with the main difference being that the sovereign not wielding it on liquor because the sovereign would end up in a quagmire trying to ascertain who is and isn’t an alcoholic acting under disordered preferences (whereas it is logical to assume in the other case that the motives are disordered).
Sort of side note, I proposed to several right-liberals that the most effective way to bring the porn industry down and limit pornography would be to revoke copyright protection and title to the same. They couldn’t get onboard because somewhere, some woman who consented to being involved in pornography under certain conditions might not have a right of private action if it were turned into “revenge porn.”
I would agree. It is similar to the “just wage” (which I guess is really just another exchange, selling productivity for money). For some cases it is easy to say that the actual wage given is unjust, but for most jobs there will exist a pretty wide range of wages that could be considered just.
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Exactly. This is just to say that we can be wrong in our ex ante evaluations of transactions. But then also, we can be wrong about the value of a transaction only if it has an objective valuation. This is not to say that we can be thus wrong only if it has a positive objective value. We often engage in transactions that in retrospect can be seen to have inflicted net objective harm on both parties. A transaction then can have an objective value of zero or less, in which case it has no just price. But only if there is an objective value to a transaction can we be said to have erred in executing it.
I would amend your proposal slightly:
It may be worth adding that the objective value of a transaction obtains at the time of the transaction. It incorporates actuals and real potencies bound to those actuals, but can’t incorporate/discount everything that eventually does happen in the future. The car I buy on Thursday has a just price (or range of just price) even if it ends up wrecked in an accident on Saturday in the actual unfolding of its future timeline.
Which I suppose is just to say that place and time are both part of the objective context.
Just so. What’s more – and to complicate things a bit – preference schedules, too, howsoever whacked, are likewise part of the objective context. The heroin *really will* make me feel better, and so I *really do* want it.
This consideration seems to threaten to push us back toward some moral supremacy of preference schedules, especially since the facts of objective benefits do not at all contravene Hayek’s point that no one can have as much information about my preferences as I do (so that law cannot in justice carelessly interfere with their operations, etc.). Hayek is obviously right about that, and about the epistemic limits on the aptitude – thus morality, rightness, righteousness – of official acts in constraining this or that bit of commerce.
But even so, and nevertheless, not. Preference schedules are obviously *not* completely dispositive of the moral righteousness of transactions, or law and civil authority would never have arisen in the first place. We’d have had no use for them. They would be to us as suspenders are to birds. Nor by the same token would ownership have an ineliminably social aspect. A good cannot be mine except insofar as it belongs to no one else, and then only insofar as everyone else agrees to that state of affairs.
In the limit, then, *everyone* must agree to the liceity of transactions – and, by implication, to their justice – in order for the ownership of the goods involved to change hands licitly, ergo effectually, ergo actually.
What this means in practice is that everyone, as proxied by the agents of the law of the polis, is implicitly involved in ratifying every transaction that transpires within the pale. It is this implicit involvement of all of us in every transaction that motivates the concern of political philosophy with discovering the just price. It motivates also our concern about transactions – slavery, dope, prostitution, murder for hire, bribery, corruption, and so forth – that are inherently and always deemed unjust, eo ipso. If we allow such transactions within our pale, we are ourselves implicit in their wickedness; they taint us, and condemn us; for, in not preventing them, but rather licensing them, we have agreed to them. That’s why it is so important to banish scapegoats, whom we can say have transgressed the law, beyond the pale.
This casts a new light on transaction taxes, tonlieux and tolls: they are compensation to the polis for the moral hazard involved in its implicit benediction upon myriad transactions, the moral details of which must in the nature of things be obscured from almost everyone – even, perhaps, the principals, with their preference schedules so messed up by sin and error.
The interest of the polis in any transaction is in its justice along all dimensions, mutatis mutandis. How best to push transactions toward justice? Demolish all but the most advantageous with crushing transaction taxes, as high as the market can bear. That height is easily ascertainable: increase the taxes, until the revenues they generate stop increasing. That’s the sweet spot. Transactions that are then still worth more to the principals than not, even given the taxes, will proceed. Some of them will be vicious, to be sure. But most vicious transactions will not then be worth the trouble, and will not occur. That should over time school the people to abhor vice, thus increasing the price of vice beyond what they are willing to pay, thus reducing the quantity of vice supplied.
I note in passing that suitably high transaction taxes will also damp the quantity of uneconomic transactions that are otherwise completely innocuous. Prosperity should then optimize.
There remains the question whether the combined intelligences of the polis and of the principals can suffice to discover the just price of a transaction. Perhaps not. But, at least, we may so establish things as to frustrate the most unjust prices – and that, without a crushing totalitarian tyrannical and wildly inefficient bureaucratic inquisition into the motivations of the principals to each and every particular deal, such as would tend to terminate economic life altogether.
Abstractly speaking an authority can take either a “whitelist” approach to property exchanges (only approved transactions are endorsed and enforced) or a “blacklist” approach (transactions are presumptively endorsed and enforced but exceptions apply).
As a practical matter though the latter is the only real possibility for actual finite human authorities. Any attempt at the former proposes to actualize a potential infinite, and thus in practice would become a perverse and sociopathic version of the latter.
So blacklists it is. There is good reason why categorical commandments take the form “thou shalt not.”
Zip: your last provoked a massive brainstorm: game theory, evo psych, familiar society versus Hobbesian inimity, on and on. Way too long for a comment; presumptuous to post it as such. I will be posting an item at the Orthosphere on it sometime soon.
Many thanks for throwing me against the envelope of my thought world so hard that I bust right through. Again. As usual.
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