Milton Friedman on the efficient market hypothesis

In the orgy of eulogization and evaluation that has followed the death of Milton Friedman, a couple of odd myths have been promulgated.

One is that his monetary theories have been discredited. What has been discredited is Friedman’s belief that monetary policy could be run on a purely automatic basis, by simply allowing the money supply to grow at a certain pace. It turns out the money supply is far too slippery a thing to measure accurately enough for such a policy. But Friedman’s main messages — that inflation is always and everywhere a monetary phenomenon, and that central banks should focus all their energies on keeping prices stable — have been accepted at the Federal Reserve and pretty much every other respectable central bank on the planet.

Another myth, central to a Michael Kinsley essay in Slate this week that I dissected in the Curious Capitalist today, is that Milton Friedman believed that financial markets were efficient. Shawn Tully at Fortune does a great imitation of Friedman saying something along the lines of, “Yes, over the long run, markets might be efficient, but in the short-term …”

I didn’t get anything quite like that out of Friedman when I interviewed him on the subject in 2004, but he did, as always, deliver an interesting quote. I had mentioned that Friedman’s friend and long-time intellectual ally George Stigler had told then-Chicago-grad-student Baruch Lev at a cocktail party in the 1960s that he didn’t believe in the efficient market hypothesis.  Friedman responded:

You don’t have to believe it. I don’t believe it. We all know the market is not efficient in a descriptive sense. But that doesn’t mean that the efficient market is not the best approximation if you don’t have anything else to use. …Warren Buffett proves that there’s not an efficient market, and yet Warren Buffett is what makes the market efficient, and both statements are right. If the market were 100% efficient, nobody could make any money making it efficient, and then it wouldn’t be efficient again. So in a way it’s self-contradictory to suppose that there really is an efficient market.

Friedman didn’t believe markets were perfect. He just thought that they were better, and more accommodating of human liberty, than government. He may have oversold that argument on occasion. But don’t go calling the man an efficient marketeer.

Curious capitalist 2

My blog on is now live, with a post on the thrilling subject of where corporate boards come from.

Anyway, I thought this might be a good time to share some of the blog names not chosen (I had a team of four experts working on the project):

Mas Kapital (a favorite, but already taken)
We’re All Dead
Der Kapitalismusbeschreibungsblog
Capitalists Do the Darnedest Things
Captain Capitalism
Permanently High Plateau
Permanently High
Der Kapitalist
Der Kommisar
Capital Offense
😀 ismal
Fox and Friends
Office Pirates

UPDATE: Forgot one (see comment):
Truth universally acknowledged

Curious capitalist

My long-awaited (by me at least) conversion of my occasional contributions into a regular blog is set to begin on Wednesday. It’s going to be called “The Curious Capitalist,” a name coined by Brian O’Keefe. It had been threatened that if I didn’t come up with something better, it would be called “The Justin Fox Files.” So thanks, Brian.

I’m not entirely sure where that leaves this blog. Posts about the book belong here, of course, but I have to figure out what else. More news soon on this same channel.

Hold me, public

I recently wrote a piece keyed to the Santa Barbara newspaper mess. It was headlined “Why being publicly held is best,” and was mainly a dig at the more or less constant complaints one hears that U.S.-style publicly traded corporations are inevitably short-term-focused, environment-destroying, employee-exploiting beasts. It was certainly not my best work, but because it was at least tangentially about the media, Jim Romenesko linked to it yesterday on his much-read site. And because of that, I got an e-mail today from the people at the NPR show On the Media. Their interview with just-resigned Santa Barbara News-Press editor Jerry Roberts had fallen through, and they were wondering if I’d talk to them. I find radio interviews to be almost always a pleasure (you get to talk for so long, compared with TV), so I said yes, of course.

This leads to a couple of observations. First is that, in this Age of Romenesko, it’s incredibly tempting to write about journalism, because you know that if you do, Romenesko will link to your work and many of your fellow journalists will see it and put you on their radio programs (or offer you jobs or whatever). The other is that, the more and more I thought about it, the less comfortable I was in recommending public ownership for newspaper companies. My essay was mainly an attempt to extend the lessons of the News-Press to the business world in general. And I do still believe that Wall Street is pretty good at sensing impending trouble, which is exactly what investors in newspaper companies have been doing lately. But so many of the world’s greatest newspapers are not at the mercy of public markets that there’s got to be something to the idea that insulating them from financial-market pressures can be a good thing.

Anyway, my very muddled observations on the subject will be aired nationwide this weekend. Check here for local listings. (You can also eventually listen at the On the Media site.)

Hubbard speaks

It was really not my intention to turn this into an all-Glenn-Hubbard, all-the-time blog. But I’m too busy writing on the book (or at least like to pretend that I am) to post much else, and I did go to see the G man speak last night at Columbia, where he gave a University Lecture on “Business, Knowledge, and Global Growth.”

A University Lecture seems to be a big deal. Hubbard was introduced by Provost Alan Brinkley who in turn had been introduced by President Lee Bollinger. The rotunda at Low Library was more or less packed. And the speech lasted a whole hour.

It was a defense of business schools, which have been under attack lately in some unlikely places like Harvard Business Review and Business Week. Not to mention the new Atlantic that arrived in the mail a couple days ago. Hubbard’s argument (you can read a summary by Hubbard’s PR people here): Entrepreneurial capitalism is essential to raising living standards, and business schools like Columbia’s foster not entrepreneurial capitalism but social entrepreneurship as well.

He made one mention of the famous “Every Breath You Take” video. He was talking about how the U.S. lags other countries in broadband connections, then added (it wasn’t in the prepared text): “I would point out that Columbia Business School’s recent video about me managed to make it around the world pretty quickly.”

The topic came up again at the post-lecture dinner. In his remarks at the end of the meal, Bollinger told Hubbard that “we’ll be watching you.” I was invited to the dinner, I think, because Hubbard has zeroed in on me as a potential vessel for his message that business schools are great. It was a pretty good dinner, and I got seated at the head table with Hubbard, Bollinger, and Brinkley, among others. So here goes: Business schools are grrrrrrreat!

Glenn Hubbard, video star

This is a Columbia Business School student, playing Columbia Biz Dean Glenn Hubbard as Sting (or is it Sting as Glenn Hubbard?), complaining about Ben Bernanke getting the Fed chairman job (instead of him) to the tune of the Police’s “Every Breath You Take.”

It’s brilliantly done, with some nice Fed jargon slipped in and even some pretty good singing. And it’s one more indication that the new era of user-generated content (or, as I’ve seen one blogger more eloquently if tendentiously put it, “authentic media”) holds untold riches in store. In the past, something like this would have been done at a talent show seen by a couple hundred people. By putting it up on YouTube, the creators have immediate access to a global audience. They posted it last Thursday. As of mid-morning Monday, it had been viewed more than 108,000 times. And I’m betting that on this one the viral contagion is just getting going (I first heard about it this morning). [I had to switch to Google video because the YouTube link stopped working.]

Of course, it’s only a parody. It’s interesting that so much of the “authentic media” being created these days consists of commentary on or parody of the creations of those of us in what I guess has to be called the inauthentic media. But maybe this is just the transitional phase. The popular music industry seems to be starting to come out the other side of the great Internet destroying-and-reinventing machine, and I’m mostly of the impression that the new iTunes/MySpace/podcast infrastructure is a lot better at getting interesting music to people than what went before. It’s just that, not having any clear idea of what the rest of the media is going to look like — and being employed by a big media company — I can’t help but worry about my paycheck.

Blogging Mr. Kirkpatrick

KirkpatrickMy Fortune colleague David Kirkpatrick is currently sitting in his office a couple doors down from mine e-mailing bloggers, trying to get them to link to his great article about Ray Ozzie’s attempt to transform Microsoft. As a blogger, albeit one with a daily readership of about five, I feel duty bound to do so. In fact, why not link twice? Or thrice?

A better illustration of the shift in media power over the past decade is hard to imagine. A star writer for the country’s best business magazine, not to mention an employee of the world’s biggest media company, is begging a bunch of self-published bloggers for publicity. Not that I think this is a bad thing. Thanks to the bloggers, David’s article will reach readers who wouldn’t have known about it otherwise. If he made any boneheaded errors, the bloggers will let him know. If his article was especially insightful (I say yes, but I’m no expert), he’ll get online plaudits for that.

Of course, no blogger has the time or resources to produce an article like David just did. Which makes this all a nicely symbiotic relationship, for now. My only concern is whether the economics of the media business will continue to allow time and money to be set aside for people like David and me to write long articles that the bloggers can pick apart.

The West Ham-Dubai connection

West HamAs I experiment with this blog, I’ve been struggling to figure out what if any link there is between the stuff I get paid to write about (business and economics, mostly) and the things I keep posting here about food, soccer, Dutch literature, etc.

Thanks to a loyal reader in Philadelphia, I now see the connection. He forwarded me a link to a story in the Guardian about how my team West Ham United went to Dubai for a training camp last week — and failed to bring along the two Israeli citizens on the team, Yossi Benayoun (pictured at left) and Yaniv Katan, because Israelis aren’t allowed into the United Arab Emirates (of which Dubai is one).

Now I don’t feel bad at all for Benayoun and Katan, who were treated instead to a team-paid vacation in Marbella, which sounds like a lot more fun than sweating on the shores of the Persian Gulf. But it was a reminder that all the talk during the Dubai Ports controversy about Dubai being a bastion of freedom and progressive thinking was maybe a bit exaggerated.

Sure, Dubai is more free and progressive than its neighbor Saudi Arabia. But then, so are many European prisons (although not American ones, of course). Is Dubai a democracy? No. Is speech free there? No. More to the point, would Dubai ever let a foreign company run its port? Probably not, since Dubai is effectively one big corporation itself, with Sheik Mohammed as CEO.

None of this means we need to boycott the place. But maybe the politicians who raised all that hell about a company owned by Dubai’s government taking over operations at several American ports weren’t being completely ridiculous.

It’s one thing to let British or German or Japanese companies buy up big chunks of the U.S. economy — we do the same to theirs. Maybe it’s not so crazy, though, to think twice when those who do the buying don’t play by the same rules back home as we do. Orthodox economic theory says we shouldn’t care, of course: Money’s money. But I say economic theory that isn’t tempered with the occasional West Ham anecdote isn’t worth much.

The Misbehavior of Markets (and Corporations)

My latest Fortune article evolved out of a series of meetings put on by the CFA Centre for Financial Integrity, a part of the CFA Institute (formerly the Association for Investment Management and Research and before that the Financial Analysts Federation), and the Business Roundtable Institute for Corporate Ethics, which despite the name is not a wholly owned subsidiary of the CEO club that is the Business Roundtable. (I learned this after, in the interest of brevity, cutting down the unwieldy names of the two groups to ” CFA Institute” and “Business Roundtable” in the article.)

Anyway, the meetings were all about figuring out how to get corporate America away from its obsession with quarterly earnings—”short-termism,” the organizers called it. I’m not sure a whole lot of progress was made: The corporate executives who came complained about investors, the investors complained about corporate executives, and everybody complained about the analysts who work for the big brokerage houses (who weren’t represented.)

I was given a seat at the table in hopes that I would write up an eloquent account of the effort. But when the time came to do so, I found it pretty hard: There was so much that I could have written about that I ended up focusing only on a narrow slice of the discussion—the debate over whether corporations should give analysts guidance about what their future earnings will be.

There seemed to be something of a consensus that guidance was bad—that by giving it, CEOs and CFOs lock themselves into targets that become more important to them than the long-term health of their organization. But opinion certainly wasn’t unanimous on this front: One of the corporate investor relations guys was adamant that without some sort of guidance about the future, the analysts who followed his complex company had no hope of understanding whether it was really doing well or not.

Another possibility that I didn’t get to at all in the article, as my friend Paul Miller pointed out in an e-mail a couple of days ago, is that the best way to wean companies (and investors) of their short-term obsession might be to give out information more frequently. This might at first seem perverse, but the idea is that if companies release sales data and other performance metrics on a monthly or weekly or even daily basis, then “making the quarter” will become an irrelevance. Paul also argues that the more and better information companies provide to investors, the higher their stock prices will be be. (He even has a name for this approach, “Quality Financial Reporting,” and a book about it.)

This argument came up at the CFA/Business Roundtable meetings I attended, and again, there seemed to be some consensus that it was a path worth following. But there were, again, objections. What it comes down to is whether markets are smart enough to handle all that information. There’s lots of evidence that they are—decades of “event studies” that show prices reacting quickly (and in and the right direction) to new information. But there is also lots of evidence now that markets often overreact to information, “react” to no information at all, or are temporarily fooled by superficial earnings tweaks. (The title of this post is lifted from mathematician Benoit Mandelbrot’s newish book The (Mis)behavior of Markets, which details some other ways in which financial markets don’t follow standard pricing models.)

My own take is that it’s really dangerous to assume that you know better than the stock market, but equally dangerous to assume that the market always gets stock prices exactly right. So where does that leave us? Well, that’s what I’m trying to write a book about.