Elton G. McGoun

Ideology and the theory of financial economics

Abstract The paradigms of modern finance are the result of a type of academic thinking inspired by a positivist philosophy. Philosophers of science argue that this positivism of Milton Friedman is ‘value-neutral’; that is, it is not influenced by any particular political view of the world. In this paper, using the ubiquitous Efficient Markets Hypotheses as an example, we argue that both the ontology and the epistemology of financial economics are decidedly value-impregnated, however well the methodology masquerades as perfectly objective. It is important that scientists (researchers) recognize the ubiquity of ideology in finance and admit and understand the values implicit in its neoclassical methodology. With different beliefs and their attendant methodologies, the concept of ‘market efficiency’ would be quite different, if it at all existed.

The case for qualitative research in finance

Quantitative research into capital markets has had a profound influence on the contemporary finance literature. This paper examines the advantages of engaging in quantitative finance research, discusses the rigidity and the shortcomings of such activity, and suggests that alternative, qualitative methods be used to supplement the future direction of our academic discipline. We situate the current position of finance research within a broader model of the philosophy of social science to illustrate the narrowness of the finance discipline as it now stands. To justify the need for alternative paradigms, we use an ASD model depicting scholarly finance research as a dynamic, multidi~nsion~, social model. A discussion of the model reveals an element of social conflict at the mesa-level, which must be resolved if new patterns are to evolve at the macro-level. Finally, we discuss specific qualitative research methods that might prove useful in investigating finance problems.

Resistance is futile: the assimilation of behavioral finance

Abstract In this paper, we address the conflict between modern finance (the de facto dominant paradigm of financial economics) and what is usually called “behavioral finance” (BF), also occasionally called by its opponents “the anomalies literature” as a way of marginalizing it. Even the supposed proponents of BF, however, are marginalizing themselves by clinging to the underlying tenets, forms, and methods of the dominant paradigm. They have allowed it to set the terms of the debate and made it the benchmark against which all finance is not only judged, but also labeled “finance”. Finance research itself is subject to the same “mistakes” that BF attributes to practitioners, and it is these same “mistakes”, perhaps more than the fierce attacks by the supporters of the ruling doctrine, that are preventing BF from emerging as a new paradigm. In effect, the failure of BF is proof of its veracity and legitimacy.

Anomalies in finance What are they and what are they good for

Abstract In the natural sciences, anomalies contribute significantly to the development of new and ultimately more successful theories. The role of anomalies in financial economics, however, has been quite different. Although at the beginning, the word was used to show deviations from the Efficient Markets Hypothesis (EMH)/Capital Asset Pricing Model (CAPM) paradigm, lately, it has been applied to a new literature that is also more accurately called Behavioral Finance (BF). This paper argues that this misuse and misapplication of the word anomaly is not a simple coincidence. It is rather a sophisticated and accordant effort to imply that although there are some unresolved deviations from the norm, the reigning paradigm is irreplaceable, and its validity needs no empirical proof. In fact, an alternative paradigm such as BF is not only insignificant but also unnecessary and even impossible.

On knowledge of finance

Abstract In financial economics, there is no external environment independent of the science of financial economics as there is for other sciences. Without such an external environment, it is not possible, even in principle, to determine the truth of a scientific statement. Truth is a matter of convention among financial economists and practitioners and not susceptible to independent determination. Without such an external environment, it is not possible to make progress in the sense of stating more or better truths. Unless there is some standard of reference, there are neither more nor better truths but merely different truths. This situation calls for changes in the way research in financial economics is done and in the way its results are interpreted for practitioners.

Finance models as metaphors

Abstract Quantitative models in the social science of finance such as the Capital Asset Pricing Model (CAPM) and the Black–Scholes Option Pricing Model (OPM) are metaphors. They cannot be applied literally, but do provide us with figurative knowledge—an epistemologically meaningful form that might legitimately be called a “useful framework,” as the CAPM is commonly referred to in textbooks. This paper describes the scientific value of metaphors and discusses why the OPM ought to be seen as one and what this might mean. As a result of finance research and the development of what has been called “modern finance theory,” of which the CAPM and OPM are important parts, we can certainly understand financial relationships much better, but that “understanding” is quite different from what our research methods imply that it is.

Market Efficiency or Behavioral Finance: The Nature of the Debate

Academic finance (also known as financial economics) espouses a methodology that has been largely discredited (or, at the very least, challenged) in all other disciplines, not to mention the philosophy of science itself. And this methodology is so ingrained that it is rarely even addressed, let alone seriously debated. The term behavioral finance, which ought to be applied to a different, more experimental methodological approach to finance, is instead applied to a set of papers that make slightly different assumptions in their mathematics/statistics without even using different methods.

Beyond Behavioral Finance

Throughout its history, finance theory has made certain simplifying assumptions regarding human behavior and concerned itself with whether the implications of these assumptions were true and not with whether the assumptions themselves were. Recently, however, more interest has been shown in experimental investigation of these assumptions, and the resultant behavioral finance has been presented as a significant departure from the current research paradigm. Recent research in cognitive science, however, is finding that the mind can and does work differently than traditional finance assumes, and the differences between the behavioral assumptions of traditional finance and the supposedly more realistic ones of todays behavioral finance are frequently superficial. Knowledge and knowing are likely to be profoundly different from the forms in which we have incorporated them in our extant models, both traditional and behavioral, and they differ in ways similar to those which, for example, have differentiated corporations from corporate images in marketing. To truly understand what is going on we must go beyond behavioral finance to address these differences.

WALT’S STREET AND WALL STREET: THEMING, THEATER, AND EXPERIENCE IN FINANCE

Abstract The traditional research perspective on finance asserts that the structures and institutions and the employees and customers of Wall Street are devoted to exchanging financial resources in order to maximize their wealth. We argue that the structures and institutions of Wall Street are a themed environment and a theater where employees and customers play the fantasy roles that are a part of the popular culture created by Madison Avenue and in Hollywood productions such as Wall Street and Boiler Room. Financial activity is not just about wealth maximization, but about creating a satisfying narrative experience. Theming, theater, and experience are not some sort of cultural overlay on an underlying economic reality. Without them, there is no reality.

A sociological explanation of financial market growth

Abstract How is it that people are so willing to pay financial investors large sums of money when it is not at all clear that these investors are especially capable of outperforming the market? This is not the first case of an apparently exploitative relationship flourishing between two consenting parties. The sociologist Pierre Bourdieu has developed theories addressing such questions based upon his own practical investigations into similar seen, but unseen, social practices in the field of education. We must understand that people are cultural creatures who, throughout an entire lifetime, have been exposed to a complicated web of cultural understandings that pattern their relationship to the investment game. Given the extent of all of the cultural baggage regarding the investment game that people “bring to the table,” perhaps the fact that people consume the services of investment professionals is, as opposed to being inexplicably irrational, quite reasonable after all.