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The Future of Finance

01/28/2011 12:15 PM Rockwell cage
Robert C. Merton, Ph.D. '70, MIT Sloan School of Management Distinguished Professor of Finance

Description: In his keynote address, Robert Merton chooses not to focus on the financial crisis. It is clear to him there were "fools and knaves," as well as "many structural elements that would have happened even if people were well behaved and well informed" -- risks are simply "embedded in our systems." Instead, Merton explores how financial engineering is essential in preparing for the inevitable next crisis, and in solving critical challenges. "The world has changed; we can't go back. Let's talk about what we should do going forward."

To illustrate society's need for financial innovation, Merton uses "a live case study:" the vast problem of retirement funding. In the past decade, stock market declines and falling interest rates have hit mainstream employer pension plans hard. Municipal pension plans may be underfunded to the tune of three trillion dollars. ("It makes the S&L crisis look like nothing.") But people seek, and are due, "the standard of living during retirement they enjoyed in the latter part of their work life."

Generally, determining this standard of living means adding up likely medical, housing and general consumption costs, and Merton describes how to target such retirement income. The main ways to achieve the desired goal are by saving more, working longer or taking more risk. Merton would like to design a software"based tool for ordinary people, simple on the user end, complex on the provider end, which would serve as a "next generation pension solution," offering a way to manipulate the key variables in retirement income and demonstrate potential financial outcomes. This tool would help users continuously optimize risk to help them reach their retirement funding goals.

There are regulatory obstacles now to the implementation of such a method on a widespread basis, and a gap between how managers, advisers and financial institutions think about pension assets, and what Merton has in mind. Nevertheless, he says, "What we need to do for most of the people who don't have extra money and must do the most with their assets is deliver a simple, easy to use, and if they don't use it still gets them there, solution." Merton acknowledges those who think the giant problem of pension funding can be solved by what's already available -- bond and equity markets, bank loans _ and who hanker "to get rid of all the complexity, go back to 1930, '50 or '80." From his perspective, this means "throwing away a lot of what you could do, because the market"proven strategies people have developed and usedcan do a much better job for people."

About the Speaker(s): Robert C. Merton earned a bachelor's degree in engineering mathematics from Columbia University, a master's degree in engineering mathematics from the California Institute of Technology, and a doctorate in economics from the Massachusetts Institute of Technology. He then served on the finance faculty of the MIT Sloan School of Management until 1988, when he moved to Harvard Business School, where he was the John and Natty McArthur University Professor. He returned to MIT in June 2010.

Merton is a fellow of the American Association of Arts and Sciences, and a member of the National Academy of Sciences. He is also past president of the American Finance Association. He serves as co"editor of the Annual Review of Financial Economics and is a member of the MIT Sloan Finance Group Advisory Board, among many other appointments.

Merton was a founding principal of Long Term Capital Management, and is currently the developer of SmartNest, a pension management system that addresses deficiencies associated with traditional defined"benefit and defined"contribution plans.

Host(s): Office of the President, MIT150 Inventional Wisdom

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MIT World — special events and lectures

MIT World — special events and lectures

Category: Events | Updated 7 months ago

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December 16, 2011 18:00
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