Recently I reviewed Beyond Mechanical Markets by Roman Frydman and Michael Goldberg, and yesterday had the opportunity to meet Roman Frydman to discuss the book. He told me that many financial economists and many who work in the financial markets find it hard to understand the key point they are making in the book. It is that uncertainty about the world is so pervasive that the idea of 'fundamentals' or a 'true model' makes no sense. Today, the price of oil is important to share prices, but it wasn't 5 years ago and it might or might not be in another five years' time. Who knows?

This seems obvious, but has big implications. If there's no true model, it isn't possible to have rational expectations about it. The efficient markets hypothesis is meaningless. Indeed, there is a logical inconsistency in the rational expectations approach, because either the market in the aggregate delivers 'rational' outcomes in which case each individual investor is separately wrong; or all individual investors are right but identical. Many readers will be nodding in agreement (although not all). Equally, though, if there's no 'true' model, there's no need either to argue that financial market outcomes are determined by 'irrational' investors, which is what most behavioural finance approaches imply. As Prof Frydman put it, the rational expectations/efficient markets approach assumes investors are right about the true model;  while the behavioural approach acknowledges the inconsistency I just described but instead assumes that investors are (for psychological reasons) wrong about the true model. Both posit a true model – and that is what he is challenging with 'imperfect knowledge economics'.

Intriguingly, he argues that the conventional approach of financial economics is philosophically identical to central planning. Both assume the economist/planner can take an objective bird's-eye view of the fundamental structure of the market or economy. (It put me instantly in mind of Francis Spufford's marvellous book Red Plenty.) Instead, the world is contingent and investment opportunities temporary – which is exactly why people in the markets are obsessed with gathering information.

I will definitely go back to Beyond Mechanical Markets and in particular the philosophical Epilogue that I skipped over on my first read through. Prof Frydman told me that the book has struck a chord in continental Europe and has intrigued commentators in the UK, but is making less headway in the US. Maybe the cognitive dissonance between his arguments (and recent events) and the beliefs financial economists have held for three decades is just too strong?

Coffee in London with Prof Roman Frydman, 25 March 2011