DR DAVE ELDER-VASS
Constructing Financial Value
POLITICAL ECONOMY RESEARCH FELLOW | SEPTEMBER 2017 – AUGUST 2018
As the global financial crisis has demonstrated, market-oriented theories of financial asset values are bankrupt. This project aims to develop and apply an alternative theory, arguing that the value of assets like money, shares, and derivatives is socially constructed: demand for financial instruments is created by narratives that generate expectations of future value, by institutions that bolster these expectations, and by persuading other financial actors to accept them as facts. While such values are often stabilised, they are potentially highly precarious, generating massive risk for our economic system. A clearer understanding of how that risk is generated can help us to develop a finance sector that prioritises social benefit rather than private profit regardless of the consequences. Building on my earlier work on social ontology, the project will use publicly available evidence to examine three cases that exemplify the argument: venture capital investments, the digital currency Bitcoin, and the complex derivatives that sparked the 2008 financial crisis. In employing tools from the philosophy of critical realism and the sociology of social construction, the project breaks with existing frameworks for explaining economic phenomena. Instead it develops an alternative approach introduced in my recent book Profit and Gift in the Digital Economy (Elder-Vass, 2016) which argues that we can understand the economy best as the site of many interacting complexes of practices. This is a framework that allows us to integrate insights from multiple disciplines including economics itself but positions conventional market theory as a description of only one of the many mechanisms that influence economic events. I believe it is an ideal fit for the ISRF’s objective of re-theorising pressing social challenges by drawing on insights from multiple disciplines.
The Research Idea
The processes by which financial assets acquire their value are a mystery. Conventional market models of supply and demand obscure fundamental issues when they are applied to financial assets. While the demand for everyday goods and services – and thus their market values – is sustained by the useful functions they can perform for their potential buyers, the demand for a financial asset – and thus its market value – is sustained only by expectations about future monetary flows. To put the point as simply as possible: financial assets have value only because they are believed to have value. Market-oriented models of financial value distract our attention by treating expectations about future flows as unproblematic pre-existing facts, but the real mystery of financial asset value is how those expectations come to be established in the first place. In this project I will develop a sociologicallyinfluenced account of how those expectations are constructed, and explore the processes through which this is achieved. The core argument is that financial value is socially constructed in the sense that, led by innovative actors, a financial community collectively assigns to a certain class of constructed entities (a) the status of being an asset and (b) a principle of valuation, and embeds this status and this principle in a set of institutions. The valuations that these processes produce are real and enormously consequential, but also highly vulnerable and ethically questionable.
In recent years economic sociologists have engaged with financialisation (e.g. Krippner, 2012), the microsociological basis of financial markets (e.g. Knorr-Cetina & Preda, 2006), the performativity of economic theory (MacKenzie, 2006) and indeed the global financial crisis (e.g. Lounsbury & Hirsch, 2011), all of which are relevant to this project. Nevertheless, a recent survey of the literature identified work on financial valuation as one of the most pressing absences in contemporary economic sociology (Carruthers & Kim, 2011, p. 253). Although this is already becoming a growth area, work so far has tended to be micro-sociological (e.g. Kornberger, Justesen, Madsen, & Mouritsen, 2015) or to conflate economic and ethical valuation (e.g. Antal, Hutter, & Stark, 2015). By developing a more ambitious approach to financial value this project will therefore address a major gap. In doing so, it will draw on wider arguments, notably Boltanski and Thévenot’s concept of ‘orders of worth’ (Boltanski & Thévenot, 2006), which underpins the notion of principles of valuation, and my own work on the social ontology of normativity and discourse (Elder-Vass, 2012). But it will also reach more widely across disciplinary boundaries, drawing for example on the work of heterodox economists on financial bubbles (Kindleberger, 2001; Shiller, 2015). Debates over value in economics, politics and philosophy are currently dominated by the division between the market-based approach of neoclassical economics and Marxist related versions of the labour theory of value. By beginning to develop a third alternative this project opens up new possibilities in these debates.
By developing an alternative theory of how financial markets work, this project will open up space for debate on how financial assets are created, the risks this creates, and what role they should play in the economy. The explosion of financial assets over the last few decades has transformed the world’s leading economies. The balance of economic power has swung towards the financial sector, regulation has been progressively loosened, and unregulated financial innovation has generated the greatest crash in living memory. The ability of powerful financial actors to drive the creation of new assets with little concern for the potential wider consequences has produced a financial system organised around assets that generated systemic risks while delivering limited social benefit. These issues are obscured by viewing financial value as merely the product of interacting demand and supply, a perspective that tends to validate all market outcomes as equally desirable. Similar concerns were widely aired during the aftermath of the financial crisis, but without being consolidated into a coherent theory of financial value. Partly due to the absence of such an alternative, the mainstream view that financial markets should be regulated as little as possible has quickly re-established itself in practice. Yet the risks revealed in that crisis remain, and the need to understand the finance sectors in new ways that can sustain less dogmatic policy regimes remains as urgent as ever.
In financial innovations we can trace the development of socially constructed institutions that later come to be taken for granted. At least five significant processes are involved: a) a new type of asset is designed; b) a discourse or narrative develops that links the asset to established principles of value, construing it as valuable in terms that are already recognised for other assets; c) the asset is given characteristics that support the case for linking it to these principles; d) it is embedded in an institutional context, including organisations, discursive standards and sometimes state support or laws that support the narrative; e) a wider community is persuaded that claims for the value of the new asset are justified. The process culminates when the community concerned starts investing in the asset and buys into the supporting discourse because they now have a direct interest in sustaining it. While some of these elements are familiar from conventional accounts of the finance sector, this project will recombine and reframe them in a very different theoretical perspective. The core concept is social construction – that social facts depend on how we collectively think and communicate about them – but stripped of radical relativism and embedded instead in a realist understanding of larger causal complexes (see Elder-Vass, 2012). In this perspective market forces are real, but only one factor in the determination of financial value. The project thus makes progress towards understanding value as the product of many interacting causal influences in an open system.
The core of this project is the development of a theory of financial value, rather than the analysis of any particular case. However, the argument will be developed using three case studies – a model employed in my recent work on the digital economy (Elder-Vass, 2016). The studies will examine types of asset where value remains in doubt, generally because the assets are new or because their valuation has been in crisis. In such cases, the need to construct and institutionalise value and the consequences when this fails are more apparent, making it easier to investigate how values are stabilised and what factors affect whether stabilisation succeeds. The cases will be (a) the cryptocurrency Bitcoin, where the entire valuation system still remains in doubt, and may yet collapse; (b) venture capital, which constructs high valuations for companies with highly uncertain futures in order to launch them on the stock exchange; and (c) mortage-backed securities and related derivatives: a very well documented case in which precarious assets were constructed as safe. These cases will be investigated using abundant naturally occurring and secondary data, which provides examples of the techniques that are used to stabilise values, evidence of the outcomes and insider views on the process. I will be looking for evidence of what work is done, by whom, using what tools and relying on what institutions, to establish the credibility of asset valuations, and the relation between this work and underlying sources of asset value such as linked revenue streams.
Deliverables from the project will include a monograph, one or two journal articles, at least three conference/ seminar presentations, and at least six posts on my blog http://materiallysocial.blogspot.co.uk/ . I plan four phases: a) prior to the Fellowship. Read, gather evidence and develop elements of the argument. I will complete at least two related journal articles before the fellowship begins, including a paper on unicorns (private companies valued at over $1 billion), covering much of the venture capital case study for the fellowship project. b) months 1-3Complete the key reading and evidence collection for the remaining two case studies. One or two further journal articles (targeting Socio-Economic Review, Economy and Society and/or the Cambridge Journal of Economics). Literature to cover: a) the financial crisis and related financial innovations; b) financial economics, notably on innovation in payment systems and financial instruments; c) institutional economics of finance, social studies of finance and the sociology of valuation. c) months 4-10Draft one chapter per month of the monograph, provisionally titled Constructing Value. I have a strong relationship with the relevant commissioning editor at Cambridge University Press, who has published my last three books and expressed interest in taking my next book. Cambridge do not offer advance contracts for books, therefore I will submit a proposal to them once I have drafted the first two chapters. d) months 11-12I will draft the introduction and conclusion, then review and revise the full draft and submit the finished version to the publishers.
This project is one element of a larger programme. My earlier work on social ontology has developed elements of a critical realist toolkit for explaining social phenomena. I am now employing that toolkit to contribute to debates on how the economy works and what kinds of economic activity are desirable, while stepping beyond the sterile confrontations between monolithic views of the market as universally good or universally evil. My recent book applied this thinking to the digital economy while the project proposed here will begin to apply it to the finance sector. I intend to follow up this project with a more critically oriented exploration of what sorts of financial services are socially beneficial and alternative ways of providing them, as well as what sorts are harmful and how we should regulate or indeed ban them. Ultimately, then, I hope to influence policy, and I will therefore be seeking to obtain some exposure for the arguments of both this and subsequent projects amongst politicians, activists and the public as well as through the usual academic channels. In the longer term, my objective is to contribute to a wider recognition that a different kind of finance sector is possible.