ECONOMICS: Keeping Track of Risk

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Science  06 Feb 2009:
Vol. 323, Issue 5915, pp. 688d
DOI: 10.1126/science.323.5915.688d

The global financial events of the past year have brought home to many individuals the ineluctable tradeoff between reward and risk in which investments placed in an asset class with higher returns—for instance, equities—are vulnerable to larger annual deviations from the long-term averages in comparison to a safer or less risky asset class, such as cash. Searching for ways around this tradeoff has proven to be challenging, but Basu et al. describe experimental findings in support of the retrospective view that the introduction of recordkeeping in Sumer several millennia ago (an example is shown above) enhanced returns in economic exchanges while simultaneously reducing risk. In a multi-trustee and multi-round trust game, each investor decided how much money to send to a trustee, where it would be tripled before the trustee decided how much of the proceeds would be sent back to the investor. Over many rounds, reputations were formed, and investors who were allowed to enter written tallies of trustee historical performance gained twice as much as those who had to keep all of the data in their heads. Furthermore, the variation in returns to the recordkeeping investors across trustees was less by one-third, presumably because the investors could adjust their allocations on the basis of the specific reputation of the trustee rather than a group average. — GJC

Proc. Natl. Acad. Sci. U.S.A. 106, 1009 (2009).

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