Saturday, June 7, 2008

The Real Conflict of Interest (at Harvard)

In a front page article today, The New York Times reported that Dr. Joseph Biederman, a world-renowned Harvard child psychiatrist, had received at least $1.6 million from the drug companies in relation with consulting services that involved promoting their antipsychotic medicine. The article went on to say that Dr. Biederman’s work
helped to fuel a controversial 40-fold increase from 1994 to 2003 in the diagnosis of pediatric bipolar disorder, which is characterized by severe mood swings, and a rapid rise in the use of anti-psychotic medicine in children ... Some 500,000 children and teenagers were given at least one prescription for an antipsychotic in 2007, including 20,500 under 6 years of age.

The moral and social issues involved here – that a society chooses to tackle the problem of children’s behavior with the magic of pills, or the fact the news of this abuse has been out there for years – is not my concern; the subject of this blog is finance.

So let us talk about finance.

Do you recall, in the past ten or twenty times that you have come across Harvard’s name, what was it in relation to? It is a good guess that it was one of the following:

  • the size of the university’s endowment fund; or

  • the rate return of its endowment fund; or

  • the change in the management of the fund; or

  • the portfolio mix of the fund; or

  • the investment strategy of the fund.

You get the idea; money is not an unconsidered trifle at Harvard. Just google “harvard + mohamed el-erian” – he managed the fund until last year – and see for yourself.

Consider now, if you will, the situation of a professor at Harvard. To advance his career, he must constantly produce and publish high quality research papers in prestigious journals. Publish-or-perish maxim rules at Harvard as in other universities.

The pressure to publish never ceases. It in fact increases with the tenure. That is because the driver of research is not the abstract love of knowledge but money, in the form of research grants. The more research grants you bring into your university, the faster you advance and the richer you become. Research grants, in turn, favor renowned schools and scholars. Hence, the incentive to become a world renowned expert in a prestigious school. It is a self-feeding, self-perpetuating loop.

The problem is that the only way a scholar could produce first rate, topical research is by aligning his research interests with the agenda of the world renowned publications that have advertising ties to the grant giving corporations. In the same way that fashion magazines create and dictate the fashion taste, companies create and dictate the research agenda. "Dictate” has a social connotation. It works through the internalization of values and manifests itself in the free choice of independent minded, even critical, scholars. To take the case of Dr. Biederman, it is inconceivable that he engineered a 40-fold rise in the use of anti-psychotic medicine in children against his beliefs. He must have believed that his work was contributing to the well-being of the children. If it also happened that it made money for him and the sponsoring corporation, it was icing on the cake.

Against this background, an “independent” scholar wanting to follow his own path – to do what he thinks is important – will be laughed out as a an out-of-touch fool, as the last old fashioned editor of the New England Journal of Medicine found out to his chagrin.

Conflicts of interest in medical science, biology and genetics tend to get closer scrutiny. But they pale in comparison with what takes place in economics and finance. Setting aside the petty corruption that is common, every single research paper and every general research topic in economics and finance is set in motion by the interests of traders, fund managers, bankers, investment bankers, broker/dealers and arbitrageurs. These interests also determine the framing of the problems, in consequence of which the direction of research and its results become preordained.

In Vol. 3 of Speculative Capital, I spent considerable time on this subject. Analyzing the steps that led Black, Scholes and Merton to their option valuation formula, I wrote :

They set out to solve the problem of option valuation. They were theorists, but the theory at their disposal was not up to the task. So they chose pragmatism. More accurately, pragmatism was forced upon them. They went to the market and adapted the solution of traders that had developed from the practice. That choice set the direction and limitation of the work, as everything they later brought into the model, no matter how theoretical, served the end of mimicking traders’ actions. But traders were wrong about options. They though an option was a right to buy or sell. It is in fact a right to default. In faithfully and uncritically replicating what traders did, Black, Scholes and Merton thus replicated their error.
That is the heavy price of the subjugation of thought to “practical” business considerations: the universe of solutions is reduced, with the right answer at times being altogether excluded from consideration. As just one, but very timely, example look at the bafflement in the face of what is taking place in the financial markets. Where are the esteemed professors of economics and finance, Nobel laureates, think tank “resident scholars”, investment gurus and corporate chieftains with their solutions? The best they have managed to do is to describe the events – and that incorrectly. Sartre’s pointed question in Critique of Dialectical Reason comes to mind: How could practical man think?

As for Harvard, it has not gone unpunished either. It is now home to Alan Dershowitz, a law professor specializing in civil liberties, no less, who advocates torturing detainees for quick confession. That is the pragmatism taken to its logical end – attending to the practical matter in hand, say extracting a confession, without any thought.

In the Inferno, the deformities in the bodies of the damned correspond to the kind of sin they have committed. Even Dante could not dream a more fitting punishment on Harvard.

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