Wednesday, October 26, 2011

Mathematics and finance

I just returned from a visit to China.  One of the things that I heard on my visit was that two-thirds of all mathematics students at one of the leading universities are taking courses to prepare them to work in mathematical finance. Two-thirds! Doubtless not all of them will end up following the career path they're aspiring too, but these are incredibly focused and dedicated kids and for sure many of them will.

The same aspiration is visible in the US (though I am not aware that any departments have reached the two-thirds level).  Masters' level programs in finance flourish, and the lure of "Wall Street" attracts the ambitious and talented undergraduate and graduate alike. Being around money is attractive, and academics are no more immune to this kind of attraction than anybody else.

It is quite puzzling though how the specific attraction to "financial math" has survived the financial crisis which began in 2008.  There is no argument that the failure of the market in mortgage-backed collateralized dent obligations was a major cause of the crisis.  The risk potential of CDOs was supposedly evaluated by mathematical modeling, but this modeling went badly awry - you can argue whether the blame lies more with the mathematicians who made the models or the managers and salespeople who ignorantly applied them, but whichever it was, mathematics was spotted near the scene of the crime.  (See here and here for articles which see the mathematical profession as implicated, and here for a very detailed response which also explains, for the trained reader, some of the math underlying CDO modeling.)

Some would say that the lesson is that we need more and better mathematics, and then we will be able to avoid the mistakes we made the first time around. No doubt. But what new mistakes will we then turn out to have made?  More fundamentally, do we need to continue to expand the "shadow economy" of finance when the "real economy" of actual goods and services may already be on a post-growth trajectory?

Is it really in the best interests of a country when two-thirds of its brightest students aim for the financial sector?

No comments: