David French | 23/07/2012 10:58:56 AM

This article was originally published as 'Wacademia' in The Morning Bulletin in July 2012

I am currently reading a book called Wackademia, which as you might guess is about the fragmentation of university teaching in Australia. I count myself lucky to have gone to Flinders in the mid 1980’s.

Flinders prided itself on was an interdisciplinary approach to learning streams. As part of my economics degree I studied statistics, demographics, politics, history and even had the opportunity to enrol in “death dying and bereavement” and other subjects in the medical school. More experienced, it’s almost uncomfortable to realise that I only now understand what they gave me back then.

The three main sub-disciplines in finance – Accounting, Finance and Economics - rely on each other. In practice however, they have drifted apart, and have even become competitive. Let me explain how this affects you: In its pure form, accounting is a process of accurately recording financial matters. Those records are intended to form a picture of how things are. Finance represents a set of tools to determine how businesses and financial assets are best structured, and to measure the effects. Economics is the study of how we interact regarding the exchange of goods and services. In a sense, economics determines what is possible and potential outcomes, finance provides quantitative tools to help gauge those outcomes, and accounting records what happened.

But what if the sub-disciplines are not interacting? Widely adopted in the mid 2000’s, mark-to market accounting means that banks have to adjust balance sheet values to recently traded prices. It sounds good in theory, but what about the underlying economics? Economics 101 teaches that for price to reflect value, a market needs lots of buyers and sellers and they must be well informed. Further into a degree, finance courses apply this idea in the form of the Efficient Market Hypothesis, which underlies the valuation of most financial instruments.

Since even before the GFC share market volumes have collapsed – more than 40 per cent of trades are now executed outside the ASX, and of those that are, 30 per cent are automatically traded by computer programs. The resulting absence of depth and information breaches the basic assumptions of efficient markets and consequently has seen prices become much more volatile. This causes uncertainty in banks’ balance sheets, restricting ability to lend, and causing economic contraction. Do we blame that on greedy traders, or on the demise of liberal Western education?

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