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Voltaire’s Candide juxtaposes an optimistic philosophy with unbelievable tragedy. He was angry at the 19th century philosophers who proclaimed that we lived in the best of all possible worlds while destruction and death unfolded around Europe on an epic scale.
Today, we might hear the claim that we live in the best of all possible worlds and scoff. Of course, we’re too enlightened to be such naïve optimists. But are we? Isn’t the belief tempting? Or even, doesn’t the behavior of those around you make more sense if you realize they believe this, at least a little bit?
Economists are theoretically rational, analytical, big picture thinkers, but at the root of modern economics is a belief shockingly close to Candide’s parody of optimism. They have what they call “The Efficient Market Hypothesis” (EMH), which roughly states that all assets are valued fairly. This is built off the idea that asset values in an open market are fair because they include all available information, and all the actors in that market are behaving rationally in regard to both the asset and the available information.
This theory tends not to trigger the cynicism that Voltaire does. Intuitively, it sounds not just right, but defined as so. Isn’t an open market essentially a mechanism for finding the fair value of an asset? It’s not so simple. And when it goes wrong, it does so spectacularly.
Modern economists cannot be as destructive as the great thinkers of the 19th century, whose big ideas justified eugenics and many other horrors. Just because they cannot as easily be used to justify mass murder does not mean they should not be accountable for the downsides of their obviously incorrect theory.
“No,” I hear you say, “the EMH is not wrong; it’s correct by definition.”
Economists have convinced us of what Voltaire was protecting us from: We live in the best of all possible markets, where all information is public and all assets are fairly valued. That if the market does not value something, it must actually be worthless.
But if that were true, Warren Buffet would not have become a billionaire buying stocks that were worth more than the market was paying, the finance industry could not have been built on advising clients about public stocks, and you’d have no need for lemon laws or other regulations that fight information discrepancies. Nor would Kahneman and Tversky have won the Nobel Prize for demonstrating that actors in an economic system behave anything but rationally, puncturing the EMH for good. Thankfully, this has forced the field to begin to grapple with its flawed underpinnings, but many modern beliefs are implicitly built around these bankrupt theories.
You might be patting yourself on the back right now for not being silly enough to draw Voltaire’s ire, but it’s baked into the value system of the world around you — especially if you live in the US.
- The market moves from irrationally ignoring new technologies like the blockchain to irrationally dumping money on them, without any fundamental change to justify the shift
- Investments are made based on proximity and serendipity rather than rationality and opportunity size
- We tend to claim that the rich earned their status through hard work, rather than recognizing the role of privilege, inheritance, and luck in their status
Of course, not everyone in the market operates with such optimism, but each of us is biased in this direction. It affects our thinking whether we want it to or not.
“OK,” you say, “even if I accept some people make optimistic investment decisions, what does that have to do with software?”
Great question. If we live in the best of all possible markets, where all information is public and all assets are fairly valued, then we can trust the market’s assessment of what software should and should not exist. Lack of software to solve a problem is a sign that it’s not worth solving.
If, on the other hand, our world could be better, or if our market is imperfect at valuing assets, then we can’t trust intuitive conclusions about where value resides. This is most true when it comes to valuing unsolved problems. It might be that a given problem has no solutions because it is not worth solving, but mundane reasons are more likely to be at fault.
Most great companies exist because they provided something the market did not know it wanted. Their founders encountered a flaw, and managed to build something great in the opportunity created by it. Henry Ford claimed if he’d have given people what they wanted it would have been a faster horse. The market knew how to value them, but not cars. Before Apple, the market did not value personal computers. Before Google, the market valued directories but not search engines. Before the iPhone, the market valued expensive phones for professional use, but not personal.
These value statements were market failures, and their resolution generated billions of dollars for the companies resolving them. Now, of course, the market sees great value in what these founders have created — not because the market is so smart; but because it can no longer fool itself.
It’s easy to grow despondent in the face of such obvious market failures. If the wisdom of the crowds, the great invisible hand of the market, can be so wrong, what hope does a lonely entrepreneur have? I take a different way.
I luxuriate in these misses.
They surround us. We bathe in them. Yes, many great companies have grown into critical market gaps, but even with all these successes, there are untold problems whose solution should be valued but is not.
Only once you reject the market’s flawed opinions about what matters do you begin to see nearly limitless opportunity. There are so many more unmet needs than there are perfect solutions. These are your opportunities.
Of course, just because the market dismisses a space doesn’t mean there’s a great opportunity there. It’s your job to know the problem, your customer, your user, your buyer well enough to draw your own conclusions, to develop enough certainty that you don’t need someone else to tell you what to believe.
Because that’s the real point: Trust yourself, not a bunch of paternalistic optimists.