Friendly Shylock

Social lending is a rather interesting financial concept that has its roots in micro- financing in impoverished regions. Basically, micro-financing believes in lending money to individuals who do not qualify for traditional banking credit. The assumption is that these individuals can set up their own businesses and break free of the poverty cycle.

Social lending in developed countries is somewhat similar to micro-financing but with some important distinctions. Similar to micro-financing, loans are not secured by collateral and payments are heavily reliant on “social pressure.” The important distinction is that the use of the loans in social lending is totally different from micro-financing. Loans in social lending are mainly used to either consolidate credit debt or to set up new businesses - I came across a post with a man wanting to borrow money to buy a ring for his fiancée- but are not used to lift the borrowers from poverty. The second distinction is that social lending in the US/UK operates in cyberspace on websites such as prosper.com and lending club. As a result, the nature of the social pressure is totally different from that in a village setting. Unsurprisingly, the costs of default are different too. In the case of social lending; the person’s credit history would be ruined by a default, but his neighbor is unlikely to know that he is fiscally irresponsible. A villager who defaults, risks being ostracized by his community or even the grim prospect of death.

Can social lending work in the US? The main problem is adverse selection. People deemed too risky for the banks are likely to make use of social lending. Ceteris paribus, the lack of collateral and weak form of social pressure are likely to increase the default rates. Social lending is even more risky now as US has a high chance of slipping into recession. Of course, lenders can well be compensated by a higher promised rate of return. However, it is unclear at this stage whether social lending has a higher expected return rate than banks’ on a risk-adjusted basis.

But I do think that there are money-making opportunities from certain groups of borrowers. The first group is small businesses trying to raise loans to finance their operations. Recently graduated students attempting to consolidate their tuition loans seem to be another promising group. The hard part is to separate the wheat from the chaff.

I am surprisingly busy for a person rotting away in NS. If I have more time, I would systematically analyze all the borrowers who default on prosper.com and try to have a sense of the factors leading to defaults. Of course, the usual financial barometers like credit history and Debt to Loan ratios will affect the default rates. The hard part is to find the more obscure ones. Women seem less likely to default than men. Perhaps older people are more responsible than the young. Feel free to suggest any factors that you think will affect the default rate to me.

I think it is possible to get a good return from my investment on prosper.com. After all, I am stuck with US Dollars and want to get a better return in the face of a depreciating dollar and interest rate cuts. To me, it is quite fun to be a friendly Shylock and see how my investments play out. It is also a good way to train my judgment of an individual’s words and figure out if he is really using the money for the stated purpose and return the loan eventually. It is obviously desirable to earn money when you are young and when you are old. But I suppose, losing it when you are young gives the scant comfort that you can earn it back eventually. So I am going to give social lending a try.

On Aims of Education

On Aims of Education

As I introspect on what I learnt in the University of Chicago, I was reminded of the Aims of Education address given to all incoming students during matriculation in September 24, 2004. The Aims of Education address is a tradition in my university, which tells all bright-eyed students the aims of a liberal arts education. In trying to understand the value of my education, it is probably a good idea to view it in the context of the original aims of the education itself.

Life of the Mind: I don’t think one can call himself a graduate from the University of Chicago if he has not heard of this phrase -life of the mind. Don Randel, the president of my University and the speaker of this address, pointed out two key attributes of the life of the mind, namely- imagination and curiosity. But I think he missed out an important attribute- healthy skepticism, which is the first step to challenge established dogmas and enhance human understanding and knowledge (although it is implicit in his plea to students to improve public discourse by asking hard questions and demanding answers from elected and aspiring officials).

Let’s take the controversial example of slavery. The traditional view of slavery is that it is a backward and an inefficient production system. Slave owners are portrayed as brutal and irrational. But, this has been debunked by Fogel, who showed that the South was practicing agriculture not because it was technologically backward, but because it had a comparative advantage in agriculture through superior organizational techniques. Moreover, slaveholders were economically rational for they were among the first to adopt new technology, respond quickly to profits and maximize returns to investment. Contrary to popular beliefs, slaves were not far behind free workers in terms of diet, health and housing measured using statistical indicators like life expectancy and infant mortality rates. In terms of economic prosperity, slave South’s per capita income was growing faster than the North’s and was the fourth most prosperous nation in the world in 1860.

Of course, there is no easy way to quantify the price of freedom and I am not an apologist for slavery. However, in the fuzzy mind of most people, after being indoctrinated that slavery is “bad”, which is a moral judgment, they automatically assume that slavery has “bad economic attributes”-economically inefficiency and irrationality. I think it is very important to understand that economic efficient institutions can produce outcomes that are contrary to our moral principles and values. So when you hear someone complaining about income inequality rising in Singapore, give him a fuzzy hug and let him know that while rising income inequality is deplorable, it does not make sense to oppose the underlying economic forces causing it. The market is merely an amoral allocation mechanism; it is up to the state to change the distributive outcome of a phenomenon like income inequality.

I think that there is a certain herd instinct in Singapore; I am not sure to what extent it is an outcome of our education system, to a societal emphasis on the collective or even whether it is an inevitable outcome of some primitive cognitive predispositions. To be fair, there is a fair amount of herd instinct in the United States as well, but there are multiple “herd instincts” , if only a reflection of the size and diversity of the population. Even critics of the government often display the same kind of herd instinct. This herd instinct is characterized by a rigid adherence to some fundamental principles with endless reiteration of the same basic arguments to drill the point home. Take for instance, the call for democracy in Burma. I am always amazed by how people hold the same unquestioning attitude to the alleged superiority of certain beliefs like freedom and equality, not unlike the insistence in the past on the merits of an ascriptive hierarchy, divine rights and the patriarchal order. Repetition of the virtues of democracy does not constitute an argument. I am also amazed by the lack of basic understanding of the different forms of democracy: direct democracy, representative democracy, liberal democracy, social democracy and other variants. What about sound economical and social institutions that determine the viability of any nascent democratic state? I am not pretending that I know how to ameliorate living conditions of ordinary Burmese and I don’t want to speculate on the best road to democracy in Burma due to space constraint. I am only against the impulse of the herd instinct that every well-educated person should be conscious. Champions of democracy love to view themselves as enlightened, civilized men of conviction. But what is the Enlightenment? And I quote from Kant:

Perhaps a revolution can overthrow autocratic despotism and profiteering or power-grabbing oppression, but it can never truly reform a manner of thinking; instead, new prejudices, just like the old ones they replace, will serve as a leash for the great unthinking mass.

One of the mindless prejudices of our age is the championing of liberal democracy without understanding the country’s economic foundations, historical development and cultural milieu. I think one of the best things that the University of Chicago has given me is the resolve and the courage to use my own understanding without guidance from another. This is not to say that I don’t think for myself before my University experience, but the laissez-faire environment and the freewheeling professors make it easier. Every student has an opinion and contributes to class discussion (of course, the quality of the discussion depends a lot on the level of intelligence of those in class and the moderating skills of the professors). But I don’t think anyone cares what you say as long as you do not engage in direct, personal attacks. At the same time, I enjoyed the tremendous freedom and independence given to me in my learning. I don’t have to go through stages of stupid drafts and cut through administrative crap to do my honors thesis. All I have is an idea, talk to my professor, and see him whenever I feel like it and presto, I finished my thesis.

To the extent that one of the main aims of education is to develop the life of the mind, I have not wasted my time in Chicago.

On Totos

Some people are aghast after knowing that I buy Toto, seeing it as a sure sign of my mental degeneration (especially when people know that I failed my Basic Theory Test too). From a rational economist's perspective, buying Toto tickets are irrational. This is because the expected return of any Toto ticket in Singapore is negative. The expected value of your System 7 bet is way below the cost of the ticket. So why do so many people still continue to buy variants of the Toto (e.g. powerball in the US) all around the world?

There is actually quite a bit of economic literature on lotteries out there. People buy lotteries because gambling is fun (Conlisk (1993) and Caplin and Leahy (1998))or they just don't know how bad the odds are stacked against them (Kahneman and Tversky (1979).

For me, the utility of buying Toto is worth the negative expected return. It is a good way of getting rid of my coins and a talk-cock conversation topic with my army buddies. Moreover, it gives me something to look forward to. Time passes faster and life is less miserable. Not to mention a S1.5 million hope too.




Conlisk, J, \The Utility of Gambling," Journal of Risk and Uncertainty, 1993, 5, 255{275.

Caplin, A and John Leahy, \Anticipation, Uncertainty and Time Inconsistency," June
1998.

Kahneman, D and A Tversky, \Prospect Theory: An Analysis of Decision Under Risk,"
Econometrica, 1979, 47, 263{291.

The use of the word "faith"

I stand by my use of the word "faith" and don't think the phrase "faith in science" is the correct usage of the word. Note that, "faith" has exclusive religious connotation and is characterised by a strong conviction without proof. Unless someone tells me that faith is trust (c.1250 definition), I would rather stick to words like "belief" and "trust" when taking the stand that science has the potential to solve some of the world's problems.

faith
c.1250, "duty of fulfilling one's trust," from O.Fr. feid, from L. fides "trust, belief," from root of fidere "to trust," from PIE base *bhidh-/*bhoidh- (cf. Gk. pistis; see bid). For sense evolution, see belief. Theological sense is from 1382; religions called faiths since c.1300. Faith-healer is from 1885.
http://www.etymonline.com/index.php?term=faith


2 a (1): belief and trust in and loyalty to God (2): belief in the traditional doctrines of a religion b (1): firm belief in something for which there is no proof (2): complete trust3: something that is believed especially with strong conviction; especially : a system of religious beliefs

http://webster.com/dictionary/faith