The Profit Motive Behind Financial Complexity

Economist George Akerlof has spent much of his celebrated career thinking about how trickery and deceit affect markets. His most famous insight, which won him the 2001 Nobel Prize in economics, is that when buyers and sellers have different information, lack of trust can cause markets to break down. In those models, no one actually ends up getting tricked -- everyone is perfectly rational, so even the possibility of getting cheated causes them to stay prudently out of the market. But in his book “Phishing for Phools,” written with fellow Nobelist Robert Shiller, Akerlof goes one step further. Much of the actual, real-world economy, he says, involves trickery and deception.

That might not come as a shock to most people, but to economists of the libertarian, free-market bent, it’s tantamount to heresy. Tricksters and con men, they say, will be weeded out of the market by their bad reputations. That’s a pretty big assumption, and might rightfully strike most non-economists as wishful thinking. But if you look at economic models, you’ll find that few of them include successful fraud and deception as a possibility. Modern econ relies so heavily on the assumption of rationality that there’s just not much room for tricks and scams. Obviously these models are far removed from most people’s experience of real markets, in which deception is common.