Jonathan Karmel's Reviews > The Wisdom of Crowds

The Wisdom of Crowds by James Surowiecki
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Feb 20, 12

Read from February 07 to 20, 2012

As a fan of Surowiecki's writing for the New Yorker, I had high expectations for this book, and I was not disappointed. The book explains why "crowds" are "wise" if the following are present: (1) cognitive diversity, (2) independence and (3) decentralization. When those elements are not present, the madness of crowds is entirely possible. These elements were present when scientists were looking for the cause of SARS, and the virus that causes that disease was found remarkably quickly.

It's interesting how the internet is harnessing the wisdom of crowds. For example, Wikipedia is an amazing source of information, and the PageRank algorithm used by Google is able to pinpoint the information we're looking for from among billions of sources. Like The Social Animal, by David Brooks, this book discusses the concept of "emergence"; many decisions are made by complex systems, not by individual actors. We're becoming more like bees, who all need each other to produce honey. But it is still necessary to have an aggregating mechanism (e.g. Jimmy Wales and his minions) to make it happen.

We live in an age of abundant new technologies, and I liked the way this book explained the emergent process that determines which technology will prevail and survive. I enjoyed the story of how Olds successfully marketed cars when there were many different competing technologies for automobiles.

Markets do some things extremely well. The odds at the track, determined by pari-mutuel betting, do turn out to be the odds that each horse will win. The bets coming into Vegas create the spread that results in an equal number of people betting on both sides of the line, allowing bookies to make a lot of money even though the vigorish is low. Decision markets like the Iowa Electronic Market can predict election results accurately. Within a couple of hours after the Challenger space shuttle exploded, the stock price of one of the four companies contracted to make it dropped significantly. It was the company that manufactured the o-ring seal in the booster rockets that caused the explosion.

On the other hand, markets can also fail when participants are not acting independently. Back in the day, plank road fever led to an investment boom and bust, and there are many other examples of market bubbles. Sometimes more information, even if it is not false information, distorts markets. For example, the prices of stocks discussed on CNBC become distorted just because they are mentioned. I liked the discussion of "information cascades."

This book explains that people will generally pay their taxes based on our current honor system, unless they believe that other people are cheating, in which case they will cheat too. Isn't this a powerful argument for greater enforcement of the tax code?

I liked the discussion of the dynamics of automobile traffic, and the efficacy of congestion pricing.

The discussion of the business model of the retailer Zara was also interesting.

The author argues that short-selling is a good thing in terms of making sure that the market prices stocks accurately, yet short-selling has traditionally been discouraged and relatively few people engage in it. I liked the way this topic was explored.

Finally, I liked the explanation of why football teams don't go for it as often as they should on fourth down. I suppose one of these days, a gutsy football team will adopt a moneyball-type approach and not always go for the field goal when it's 4th down with 2 yards to go. And then everyone will wonder why no one did that before.

Tons of food for thought in this book. I recommend it.
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