Full Title

Risk and Financial Systems

Keywords

Option Pricing, Performativity, Imitation, Diversity, RiskSummary

Summary

This in-depth study of the social formation of financial markets is aimed at providing insight into the role of social shaping in creating and responding to change in complex organisations. The study has identified the performative nature of finance theory in creating and shaping market interactions. In particular, the theoretical development of option pricing theory, has a performative role in financial markets since it appears that as the theory develops and becomes more widely applied markets begin to conform better to the predictions of the theory. Part of this work has been a detailed study of the failure of Long-Term Capital Management and an analysis that imitative behaviour across a range of companies engaged in convergence arbitrage created a "superportfolio" held across many firms. This led to instability and a dramatic loss of independence between seemingly quite different holdings that led to the near collapse of the financial system.

This study has many lessons for the management of risk in complex organisations, with strong social mechanisms that shape institutions. In particular, the consequences of underpinning these organisations with IT systems that facilitate very rapid transitions in the state of the system. Although this study concentrates on the constitution of financial markets the observations and generalisations are applicable to a wide range of social institutions. The classes of risks identified by this study are poorly understood and we have only begun to understand how to manage such risks. One important issue that is discussed in some depth is the role of regulation in controlling these risks.

Links

The Risk Theme

The Diversity Theme

Papers

1. MacKenzie, D, (with Yuval Millo) "Constructing a Market, Performing Theory: The Historical Sociology of a Financial Derivatives Exchange", American Journal of Sociology 109 (2003): 107-145. To be reprinted in Richard Swedberg (ed.), New Developments in Economic Sociology (Cheltenham, Glos.: Elgar, forthcoming). Abbreviated French translation as Construction d'un marché et performation théorique: sociologie d'une bourse de produits dérivés financiers, Réseaux 122 (2003): 15-61. [This paper is winner of the Viviana Zelizer Prize of the American Sociological Association (for the best article in economic sociology in the previous two years).]

2. MacKenzie, D. "Long-Term Capital Management and the Sociology of Arbitrage," Economy and Society 32 (2003): 349-380. Abbreviated version reprinted as "How a Superportfolio Emerges: Long-Term Capital Management and the Sociology of Arbitrage," in Karin Knorr Cetina and Alex Preda (eds), The Sociology of Financial Markets (Oxford: Oxford University Press, 2004), 62-83.

3. MacKenzie, D. "An Equation and its Worlds: Bricolage, Exemplars, Disunity and Performativity in Financial Economics," Social Studies of Science 33 (2003): 831-868.

4. MacKenzie, D. "Social Connectivities in Global Financial Markets," Environment and Planning D: Society and Space 22 (2004): 83-101.

5. MacKenzie, D. "The Big, Bad Wolf and the Rational Market: Portfolio Insurance, the 1987 Crash and the Performativity of Economics," Economy and Society 33 (2004): 303-334.

6. MacKenzie, D. "Mathematizing Risk: Models, Arbitrage and Crises," Revue d'Histoire des Sciences, in press.

7. MacKenzie, D. "Opening the Black Boxes of Global Finance," Review of International Political Economy, accepted for publication.

8. MacKenzie, D. "Models, Risk and Crises: The Global Financial System in 1998," in Mike Power and Bridget Hutter (eds), Organizational Encounters with Risk (Cambridge: Cambridge University Press), accepted for publication.

Author

Stuart Anderson