The Risks of Financial Diversification (OECD Observer)

Nat O'Connor: Amy Domini, CEO of the social investment firm Domini, provides a concise and clearly written argument against modern 'diversification' of financial products, in the OECD Observer.

She argues that "diversification, this theoretical means of reducing specific risk, ... exacerbated systemwide risk."

What "institutional investors found, thanks to the 'creativity' of Wall Street, was the chance to make bets on assets they didn’t want." ... "The human costs of this game-playing are devastating. Citizens of several countries experienced double-digit surges in their citizen’s primary food staple. ... In Nigeria, sorghum rose 50% during a nine-month period in 2009. This translates directly into starvation."

The law governing pension funds directs funds into diversification as a 'prudent' step to avoid major losses. Domini argues that "taken together, these standards mandate the very behaviour that so crushed the lives of millions of people."

"Modern portfolio management gave birth to a healthy idea: diversification. But that healthy idea has been subverted. This is not a problem that markets can correct on their own: the strong arm of government must be utilised before the second wave occurs. Diversification into assets that produce no goods or services to humankind undermines capitalism."

How much of the activity and jobs in Dublin's International Financial Services Centre (IFSC) are based on financial assets of this kind, that do not benefit humankind? I don't know. But it is worth considering whether we are encouraging unsustainable and undesirable forms of investment. Legislation to regulate what types of financial products are permitted might be just as important as development aid and famine relief.

Posted in: Economics • Banking and finance • Fiscal policy

Tagged with: financial sector • IFSC • oecd

Dr Nat O'Connor     @natpolicy

Nat O’Connor is lecturer in social policy in UCD’s School of Social Policy, Social Work and Social Justice and part-time policy specialist at Age Action Ireland. Previously Director of TASC, Nat also led the research team in Dublin’s Homeless Agency.

He has taught politics and social policy since 1999. He has a PhD in Political Science from Trinity College Dublin and a MA in Political Science and Social Policy from the University of Dundee. He is a Fellow of the Higher Education Academy (UK), a member of the National Economic and Social Council (NESC) and chairperson of the Irish Social Policy Association (ISPA). You can find him on LinkedIn (natoconnor) and TwitterX @natpolicy