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Economic Circularities and Second-Order Observation: The Reality of Ratings
Abstract
Can observers observe the economy from the outside? Recent developments in economic sociology tend to blur the classic distinction and combination of economy and society and to move to a model in which the observer is necessarily inside the society he describes. The behavior of financial actors can then be analyzed by combining two concepts: beauty contest and moral hazard - a combination that allows for a translation of their behavior into the terms and the tradition of observation theory. Keynes' beauty contest can be interpreted as a systematic recognition of second-order observation: financial operators primarily observe other observers and what they observe. This observation produces particular circularities - including the insoluble problem of moral hazard, which reproduces Merton's famous model of self-defeating/self-fulfilling prophecies in the field of finance. If finance consists in second-order observation, however, then its movements can no longer be explained in reference to the world, but in reference to observation and its structures: the reality reference of finance is increasingly provided by ratings, which can only offer information concerning what others observe. The spread of ratings in recent decades and the doubts about their reliability are related to the generalized move of modern society to second-order observation, which produces specific problems and specific puzzles, as well as structures and constraints.Keywords:
Observation Theory, Embeddedness, Performativity, Ratings, Finance, Beauty Contest, Moral HazardReferences
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Zuckerman, G. (2009). The Greatest Trade Ever. The Behind-the-Scenes Story of How John Paulson Defied Wall Street and Made Financial History. New York: Broadway Books.
Akerlof, G. (1984). An Economic Theorist's Book of Tales. Cambridge: Cambridge University Press.
Altheide, D. (1976). Creating Reality. How TV News Distorts Event. Beverly Hills/London: Sage.
Altheide D. & Snow R. (1979). Media Logic. Beverly Hills/London: Sage.
Beck, U. (1986). Die Risikogesellschaft: Auf dem Weg in eine andere Moderne. Frankfurt a.M.: Suhrkamp.
Beunza, D. & Stark, D. (2012). From Dissonance to Resonance: Cognitive Interdependence in Quantitative Finance. Economy and Society, 41(3), 383-417.
Black, F. & Scholes, M. (1981). The Pricing of Options and Corporate Liabilities. Journal of Political Economy, 81(3), 637-654.
Blank, G. (2007). Critics, Ratings and Society: The Sociology of Reviews. Lanham: Rowman & Littlefield.
Çalişkan, K. & Callon, M. (2009). Economization, part 1: Shifting Attention from the Economy towards Processes of Economization. Economy and Society, 38(3), 369-398.
Callon, M. (Ed.). (1998). The Laws of the Market. Oxford: Blackwell.
Callon, M., Millo, Y., & Muniesa F. (Eds.). (2007). Market Devices. Oxford: Blackwell.
Esposito, E. (2011). The Future of Futures. The Time of Money in Financing and Society. Cheltenham: Elgar.
Esposito, E. (2013). The Structures of Uncertainty. Performativity and Unpredictability in Economic Operations. Economy and Society, 42(1), 102-129.
Fama, E. (1970). Efficient Capital Markets: A Review of Theory and Empirical Work. Journal of Finance, 25(2), 383-417.
Foerster, H. von (1972). Notes on an Epistemology for Living Things. BCL Report No.9.3, Biological Computer Laboratory, Department of Electrical Engineering, University of Illinois, Urbana. [Reimpreso en: Foerster, H. von (1981). Observing Systems (pp. 258-271). Seaside, CA: Intersystems Publications.]
Foerster, H. von (1981). Observing Systems. Seaside, CA: Intersystems Publications.
Gans, H. (1979). Deciding what's News. New York: Random House.
Granovetter, M. (1985). Economic Action and Social Structure: The Problem of Embeddedness. American Journal of Sociology, 91(3): 481-510.
Grossman, S. (1989). The Informational Role of Prices. Cambridge, MA: MIT Press.
Grossman, S. & Stiglitz, J. (1980). On the Impossibility of Informationally Efficient Markets. American Economic Review, 70(3), 393-408.
Keynes, J. M. (1936). The General Theory of Employment, Interest and Money. London: Macmillan.
Kessler, O. (2007). Unsicherheit, Ungewissheit und Risiko: Temporalität und die Rationalität der Finanzmärkte. En A. Langenoh & K. Schmidt-Beck (Eds.), Die Markt-Zeit der Finanzwirtschaft: soziale, kulturelle und ökonomische Dimensionen (pp. 293-321). Marburg: Metropolis.
Hilscher, J. and Wilson, M. (2012) Credit Ratings and Credit Risk. AFA 2013 San Diego Meetings Paper (January 31, 2012).
Langohr, H. & Langohr, P. (2008). The Rating Agencies and Their Credit Ratings: What They Are, How They Work and Why They are Relevant. Chichester: Wiley.
Levich, R. Majnoni, G., & Reinhart, C. (2002). Ratings, Rating Agencies and the Global Financial System. New York: Kluwer.
Luhmann, N. (1988). Die Wirtschaft der Gesellschaft. Frankfurt a.M.: Suhrkamp.
Luhmann, N. (1991). Soziologie des Risikos. Berlin/New York: de Gruyter.
Luhmann, N. (1992). Beobachtungen der Moderne. Opladen: Westdeutscher Verlag.
Luhmann, N. (1995). Die Realität der Massenmedien. Opladen: Westdeutscher Verlag.
Luhmann, N. (1997). Die Gesellschaft der Gesellschaft. Frankfurt a.M.: Suhrkamp.
MacKenzie, D. (2006). An Engine, Not a Camera. How Financial Models Shape Markets. Cambridge, MA: MIT Press.
MacKenzie D. (2009). Material Markets. How Economic Agents Are Constructed. Oxford: Oxford University Press.
MacKenzie D., Muniesa, F., & Siu, L. (Eds.). (2007). Do Economists Make Markets? Princeton: Princeton University Press.
MacKenzie, D. & Millo, Y. (2003). Constructing a Market, Performing Theory: The Historical Sociology of a Financial Derivatives Exchange. American Journal of Sociology, 109(1), 107-145.
Partnoy, F. (2002). The Paradox of Credit Ratings. En R. Levich, G. Majnoni, & C. Reinhart, C. (Eds.), Ratings, Rating Agencies and the Global Financial System (pp. 65-84). New York: Kluwer.
Power, M. (1997). The Audit Society. Rituals of Verification. New York: Oxford U.P.
Rebonato, R. (2001). Managing Model Risk. En C. Alexander (Ed.), Handbook of Risk Management. FT: Prentice Hall.
Reinhart, C. (2002). Sovereign Credit Ratings Before and After Financial Crises. En R. Levich, G. Majnoni, & C. Reinhart, C. (Eds.), Ratings, Rating Agencies and the Global Financial System (pp. 251-268). New York: Kluwer.
Sinclair, T. (2010). Credit Rating Agencies and the Global Financial Crisis. Economic Sociology Newsletter, 12(1), 4-9.
Smith, R. & Walter, I. (2002). Rating Agencies: Is There an Agency Issue? En R. Levich, G. Majnoni, & C. Reinhart, C. (Eds.), Ratings, Rating Agencies and the Global Financial System (pp. 289-318). New York: Kluwer.
Soros, G. (1987). The Alchemy of Finance. Reading the Mind of the Market. Chichester: Wiley.
Stigler, G. (1961). The Economics of Information. The Journal of Political Economy, 69(3), 213-225.
Stiglitz, J. (1985). Information and Economic Analysis: A Perspective. Economic Journal, 95, 21-41.
Stiglitz, J. (2003). Information and the Change in the Paradigm in Economics. En R. Arnott, B. Greenwald, R. Kanbur & B. Nalebuff (Eds.), Economics in an Imperfect World. Essays in Honor of Joseph E. Stiglitz (pp. 569-639). Cambridge, MA: The MIT Press.
Sylla, R. (2002). An Historical Primer on the Business of Credit Ratings. En R. Levich, G. Majnoni, & C. Reinhart, C. (Eds.), Ratings, Rating Agencies and the Global Financial System (pp. 19-40). New York: Kluwer.
Taleb, N. (2001). Fooled by Randomness. The Hidden Role of Chance in the Markets and in Life. New York/London: Texere LLC.
Taleb, N. (2007). The Black Swan: The Impact of the Highly Improbable. London: Penguin.
Weber, M. (1922). Wirtschaft und Gesellschaft. Tübingen: Mohr.
White, L. (2002). The Credit Rating Industry: An Industrial Organization Analysis. En R. Levich, G. Majnoni, & C. Reinhart, C. (Eds.), Ratings, Rating Agencies and the Global Financial System (pp. 41-63). New York: Kluwer.
Zuckerman, G. (2009). The Greatest Trade Ever. The Behind-the-Scenes Story of How John Paulson Defied Wall Street and Made Financial History. New York: Broadway Books.
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