1 - Caveat Emptor: Coping with Sovereign Risk Under the International Gold Standard, 1871-1913

Summary

Caveat emptor: To those who forget the maxim, each new financial crisis brings an opportunity to relearn their lesson. The turmoil that swept Southeast Asian countries in the late 1990s is no exception: Once again, it has produced classic tales about late investors buying out of ignorance. According to some economists, rating agencies should take their share of the blame: They failed to provide appropriate signals to the market through early downgrades and then followed the market mood as it spiraled down. In self-defense, rating agencies emphasize that their grades are not (and have never been) meant to establish any kind of standard on which one could base investment decisions: The availability of formal ratings should not discourage investors from devoting time and effort to get their own opinion. Why look for someone to blame? It is after all in the nature of risk to bring its crop of regrets.

At a deeper level, these recurrent complaints may be seen as illustrating the complexities of the economics of economic intelligence: The supply and demand of information are nested into an institutional setting from which they cannot be separated. This setting in turn provides incentives that contribute to more or less risk-taking on behalf of agents. For instance, the expectation of an eventual bailout by some public body (national or multilateral) reduces investors’ incentives to collect data and process it in original ways: Less attention is paid to discussing economic developments in borrowing countries, fewer analyses are supplied, and they are of lesser quality.