Friday 14 November 2008

Beware Nobel Prize winners bearing gifts

Gordon Brown and his press cronies appear to be very keen to stress the plaudits he has been receiving from Professor Paul Krugman, the recent winner of the Nobel prize for Economics. So much so, that - according to Nick Robinson - Brown is now taking Krugman's advice directly in advance of the G20 Summit tomorrow:

One whose advice will have been listened to particularly closely is Professor Paul Krugman - the man who in the week he won the Nobel Prize for economics described Mr Brown as the saviour of the global economy. It's a plaudit that the prime minister is understandably fond of.

Gordon might do well at this point to remember a previous Nobel Economics Laureate, Myron Scholes, who in 1997 shared the Nobel Prize in Economics with Robert C. Merton "for a new method to determine the value of derivatives". Whilst Scholes option pricing strategy made sense to fans of bell curves and enabled countless bankers to charge exorbitant fees for plugging a few numbers into Excel and declaring that the resulting instrument was "low risk" - for the investors of Long Term Capital Management and those caught up in the disaster in 1998 his academic theories led to some unpredictable financial outcomes which they would rather forget.

Unbelievably, most of the Financial Service industry still relies on this convenient, but fatally simplistic model of laboratory randomness when making pronouncements on risk.

If it looks too easy, it probably is.

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