Paper prepared for the GIC Conference (Global Interdependence Center, Philadelphia) in Stockholm, September 29, 2011\u00a0<\/p>\n
Abstract \/ Summary\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 \u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0<\/em><\/strong><\/p>\n The predictability of financial crises is widely regarded as low, particularly in academia and at central banks.\u00a0 This dominating belief should, however, in many cases be considered as a flight from trying to acquire improved skills \u2013 skills that are greatly linked to market psychology (behavioral finance) and the understanding of history and macrofinancial aggregates. Sure, behavioral finance has gained some reputation in the past 10 or 15 years. But its benefits are still undervalued, particularly when trying to recognize exuberant financial markets and the risk of bursting asset price bubbles at an earlier stage.<\/p>\n The above-mentioned areas of financial markets research have been insufficiently integrated in the forecasting and risk management of financial institutions as well. It is time to accept that the neoclassical model – which still dominates financial modeling – can no longer be applied as nicely as it has in the past. It has been obviously the case in Sweden that the financial crises of the early 1990s and in the latter part of the past decade were caused by overconfidence, control illusion and flock mentality – but also by shortcomings in management and corporate governance. The first failure meant severe austerity for Swedish households, the second for the Baltic countries – particularly in Latvia. Research on the banks\u2019 management failures remains underdeveloped.\u00a0\u00a0\u00a0<\/p>\n There is no evidence whatsoever that these two serious Swedish banking crises were not foreseeable. Only 17 years had passed between the eruptions of the two crises.\u00a0 The question is when and under which circumstances financial decision-makers and authorities should listen to the usual minority of warning voices. And how (certain) warning voices can\/could be heard more effectively, both now and then. Rating institutes are obviously unable to play this role. They often make things even worse.<\/p>\n Another important conclusion is that economists should be more \u201cin house-oriented\u201d and inform their top management regularly about issues that will or may affect their financial institution. Top managers, on the other hand should take the time to meet economists – and stop hiding their own frequent shortcomings in macroeconomic and macrofinancial skills.<\/p>\n Certain conclusions from this paper can also be drawn for China, India and other emerging markets.<\/p>\n