UPDATED: Bubbles and Sex

Michael Lewis visits Iceland for ten days for Vanity Fair to develop A General Theory of the Icelandic Financial Crash.

The subtext of his article is that Lewis, who wrote a bestselling memoir in 1989 about his few years on Wall Street, is suddenly so much in demand again as a financial journalist that he's getting rapid-fire assignments on topics about which he knows nothing.

The resulting article is a wonderful example of how reporters parachute into some place unknown and create general theories based on trivial travel incidents. When his plane lands, an Icelandic man bumps him while getting his bag out of the overhead bin (ICELANDIC MEN ARE MACHO). The airport passport control has one line for both foreigners and natives (ICELANDERS ARE EGALITARIAN), etc. At times it sounds like something that one of the foreign correspondents in Waugh's Scoop would write after two days in Abyssinia.

After visiting a museum devoted to Iceland's bloody medieval sagas, Lewis eventually arrives at the theory that Iceland went hog wild financially out of excessive machismo. Because everybody knows that Icelandic men are just as bloodthirsty today as in Viking times.

Well, actually Lewis's theory blames excessive machismo and excessive cultivation, since Icelandic men were also too genteel to be fishermen or aluminum smelters, the main jobs Iceland is suited for, so they became investment bankers.

From there, Lewis develops a general theory of bubbles:

Back in 2001, as the Internet boom turned into a bust, M.I.T.’s Quarterly Journal of Economics published an intriguing paper called “Boys Will Be Boys: Gender, Overconfidence, and Common Stock Investment.” The authors, Brad Barber and Terrance Odean, gained access to the trading activity in over 35,000 households, and used it to compare the habits of men and women. What they found, in a nutshell, is that men not only trade more often than women but do so from a false faith in their own financial judgment. Single men traded less sensibly than married men, and married men traded less sensibly than single women: the less the female presence, the less rational the approach to trading in the markets. One of the distinctive traits about Iceland’s disaster, and Wall Street’s, is how little women had to do with it. Women worked in the banks, but not in the risktaking jobs. As far as I can tell, during Iceland’s boom, there was just one woman in a senior position inside an Icelandic bank.

Of course, this theory also completely explains the much more important American Housing Bubble, since women play virtually no role in buying or selling homes in the United States. Just think of how many poor American wives were badgered by their husbands until they reluctantly agreed to spring for those granite countertops and extra-large walk-in master bedroom suite closets that their menfolk had always had their hearts set on.

In Lewis's defense, he's admitted elsewhere that he's trying to cash in quick on the fact that he's one of the few brand name journalists who can write readable prose about finance. I certainly don't blame him, and he's been on a hot streak lately (with me linking to several of his articles over the last few months), but diminishing marginal returns appear to be setting in.

UPDATE: A reader writes:

The paper by Barber and Odean is really concerned with trading behavior (specifically, they push the notion that overconfidence drives such counterproductive behavior). Barber and Odean (in my view to their credit) have made a virtual career out of that data set and also show that it is trading in general that seems to drive the poor returns. That is, the more you trade the more your losses (male or female, married or not), and men tend to trade more than women.

In other words, as a lot of guys found out in the spring of 2000, day-trading is an exciting but expensive hobby unless you have inside information or an elaborate arbitrage system. In the long run, transaction costs get you.

The Icelandic blowup was largely the result of holding paper assets that sank in value vs. liabilities that increased in value, not trading per se.

Also, based on the Icelanders I have known, they would hardly compare to say the blustering macho men of Mexican or South American variety. In fact, I would find the macho angle to be completely counterproductive.

Banking is a particularly dumb specialty if you live out in the middle of the ocean, and thus can't conveniently check out borrowers. At least Swiss bankers can take the train to visit the companies they are lending to. Hawaii would be a nice place to live if you were rich, but rich bankers rarely live in Hawaii. Heck, Wall Street turned out to be too far from Southern California to notice what was happening in the mortgage market.

The Icelandic banking follies sound like a higher-brow version of how newly capitalist Albania succumbed to pervasive pyramid scams in 1997.

4) The real story should be that Iceland is the proverbial canary in the coalmine (largely because they are small). They are essentially the first country in the current catastrophe to see its economy undone by excessive debt (and poor risk taking generally). That is, the reason it essentially went bankrupt is fundamentally similar to many Eastern European countries about to go belly up, and eventually the U.S., Japan, etc. In short, they are holding or have issued too much debt that cannot be paid back at the original terms. Essentially, the Austrians are correct.

My published articles are archived at iSteve.com -- Steve Sailer