And why thou beholdest thou the mote that is in thy brother’s eye, but considerest not the beam that is in thine own eye?
“Do you know what Pied Piper’s product is?” the CEO of the company, Jack Barker, asks his CTO, Richard, during a scene in HBO’s series Silicon Valley—while two horses do, in the background, what Jack is (metaphorically) doing to Richard in the foreground. Jack is the experienced hand brought in to run the company Richard founded as a young programmer; on the other hand, Richard is so ingenuous that Jack has to explain to him the real point of everything they are doing: “The product isn’t the platform, and the product isn’t your algorithm either, and it’s not even the software. … Pied Piper’s product is its stock. Whatever makes the value of that stock go up, that is what we’re going to make.” With that, the television show effectively dramatizes the case many on the liberal left have been trying to make for decades: that the United States is in trouble because of something called “financialization”—or what Kevin Phillips (author of 1969’s The Emerging Republican Majority) has called, in one of the first uses of the term, “a prolonged split between the divergent real and financial economies.” Yet few on that side of the political aisle have considered how their own arguments about an entirely different subject are, more or less, the same as those powering “financialization”—how, in other words, the argument that has enhanced Wall Street at the expense of Main Street—Eugene Fama’s “efficient market hypothesis”—is precisely the same as the liberal left’s argument against the SAT.
That the United States has turned from an economy largely centered around manufacturing to one that centers on services, especially financial ones, can be measured by such data as the fact that the total fraction of America’s Gross Domestic Product consumed by the financial industry is now, according to economist Thomas Philippon of New York University, “around 9%,” while just more than a century ago it was under two. Most appear to agree that this is a bad thing: “Our economic illness has a name: financialization,” Time magazine columnist Rana Foroohar argues in her Makers and Takers: The Rise of Finance and the Fall of American Business, while Bruce Bartlett, who worked in both the Reagan and George H.W. Bush Administrations (which is to say that he is not exactly the stereotypical lefty), claimed in the New York Times in 2013 that “[f]inancialization is also an important factor in the growth of income inequality.” In a 2007 Bloomberg News article, Lawrence E. Mitchell—a professor of law at George Washington Law School—denounced how “stock market considerations” have come “to trump those that improve the actual workings of a business.” The consensus view appears to be that it is bad for a business to be, as Jack is on Silicon Valley, more concerned with its stock price than on what it actually does.
Still, if it is such a bad idea, why do companies do it? One possible answer might be found in the timing, which seems to have happened some time after the 1960s: as John Bellamy Foster put it in a 2007 Monthly Review article entitled “The Financialization of Capitalism,” the “fundamental issue of a gravitational shift toward finance in capitalism as a whole … has been around since the late 1960s.” Undoubtedly, that turn was conditioned by numerous historical forces, but it’s also true that it was during the 1960s that the “efficient market hypothesis,” pioneered above all by the research of Eugene Fama of the University of Chicago, became the dominant intellectual force in the study of economics and in business schools—the incubators of the corporate leaders of today. And Fama’s argument was—and is—an intellectual cruise missile aimed at the very idea that the value of a company might be separate from its stock price.
As I have discussed previously (“Lions For Lambs”), Eugene Fama’s 1965 paper “The Behavior of Stock Market Prices” demonstrated that “the future path of the price level of a security is no more predictable than the path of a series of cumulated random numbers”—or in other words, that there was no rational way to beat the stock market. Also known as the “efficient market hypothesis,” the idea is largely that—as Fama’s intellectual comrade Burton Malkiel observed in his book, A Random Walk Down Wall Street (which has gone through more than five editions since its first publication in 1973),“the evidence points mainly toward the efficiency of the market in adjusting so rapidly to new information that it is impossible to devise successful trading strategies on the basis of such news announcements.” Translated, that means that it’s essentially impossible to do better than the market by paying close attention to what investors call a company’s “fundamental value.”
Yet, if there’s never a divergence between a company’s real worth and the price of its stock, that means that there’s no other means to measuring a company’s real worth than by its stock. From Fama’s or Malkiel’s perspective, “stock market considerations” simply are “the actual workings of a business.” They argued against the very idea that there even could be such a distinction: that there could be something about a company that is not already reflected in its price.
To a lot of educated people on the liberal-left, of course, such an argument will affirm many of their prejudices: against the evils of usury, and the like. At the same time, however, many of them might be taken aback if it’s pointed out that Eugene Fama’s case against fundamental economic analysis is the same as the case many educators make, when it comes to college admissions, against the SAT. Take, for example, a 1993 argument made in The Atlantic by Stanley Fish, former chairman of the English Department at Duke University and dean of the humanities at the University of Illinois at Chicago.
In “Reverse Racism, or, How the Pot Got to Call the Kettle Black,” the Miltonist argued against noted conservative Dinesh D’Souza’s contention, in 1991’s Illiberal Education, that affirmative-action in college admissions tends “‘to depreciate the importance of merit criteria.’” The evidence that D’Souza used to advance that thesis is, Fish tells us, the “many examples of white or Asian students denied admission to colleges and universities even though their SAT scores were higher than the scores of some others—often African-Americans—who were admitted to the same institution.” But, Fish says, the SAT has been attacked as a means of college admissions for decades.
Fish cites David Owen’s None of the Above: Behind the Myth of Scholastic Aptitude as an example. There, Owen says that the
correlation between SAT scores and college grades … is lower than the correlation between height and weight; in other words, you would have a better chance of predicting a person’s height by looking at his weight than you would of predicting his freshman grades by looking only at his SAT scores.”
As Fish intimates, most educational professionals these days would agree that the only way to judge a student these days is not by SAT, but by GPA—grade point average.
To judge students by grade point average, however, is just what the SAT was designed to avoid: as Nicholas Lemann describes in copious detail in The Big Test: The Secret History of the American Meritocracy, the whole purpose of the SAT was to discover students whose talents couldn’t be discerned by any other method. The premise of the test’s designers, in short, was that students possessed, as Lemann says, “innate abilities”—and that the SAT could suss those abilities out. What the SAT was designed to do, then, was to find those students stuck in, say, some lethargic, claustrophobic small town whose public schools could not, perhaps, do enough for them intellectually and who stagnated as a result—and put those previously-unknown abilities to work in the service of the nation.
Now, as Lemann remarked in an interview with PBS’ Frontline, James Conant (president of Harvard and chief proponent of the SAT at the time it became prominent in American life, in the early 1950s) “believed that you would look out across America and you would find just out in the middle of nowhere, springing up from the good American soil, these very intelligent, talented people”—if, that is, America adopted the SAT to do the “looking out.” The SAT would enable American universities to find students that grade point averages did not—a premise that, necessarily, entails believing that a student’s worth could be more than (and thus distinguishable from) her GPA. That’s what, after all, “aptitude” means: “potential ability,” not “proven ability.” That’s why Conant sometimes asked those constructing the test, “Are you sure this is a pure aptitude test, pure intelligence? That’s what I want to measure, because that is the way I think we can give poor boys the best chance and take away the advantage of rich boys.” The Educational Testing Service (the company that administered the SAT), in sum, believed that there could be something about a student that was not reflected in her grades.
To use an intellectual’s term, that means that the argument against the SAT is isomorphic with the “efficient market hypothesis.” In biology, two structures are isomorphic with each other if they share a form or structure: a human eye is isomorphic with an insect’s eye because they both take in visual information and transmit it to the brain, even though they have different origins. Hence, as biologist Stephen Jay Gould once remarked, two arguments are isomorphic if they are “structurally similar point for point, even though the subject matter differs.” Just as Eugene Fama argued that a company could not be valued other than by its stock price—which has had the effective consequence of meaning that a company’s product is now not whatever superficial business it is supposedly in, but its stock price—educational professionals have argued that the only way to measure a student’s value is to look at her grades.
Now, does that mean that the “financialization” of the United States’ economy is the fault of the liberal left, instead of the usual conservative suspects? Or, to put it more provocatively, is the rise of the 1% at the expense of the 99% the fault of affirmative action? The short answer, obviously, is that I don’t have the slightest idea. (But then, neither do you.) What it does mean, I think, is that at least some of what’s happened to the United States in the past several decades is due to patterns of thought common to both sides of the American political congregation: most perniciously, in the related notions that all value is always and everywhere visible, or that it takes no time and patience for value to manifest itself—and that at least some of the erosion of those ideas is due to the efforts of those who meant well. Granted, it’s always hardest to admit wrongdoing when not only were your intentions pure, but even the immediate effects were also—but it’s also very much more powerful. The point, anyway, is that if you are trying to persuade, it’s probably best to avoid that other four-lettered word associated with horses.