(05 NOVEMBER 2017)Thought of the week:Active vs. passive: Are economists interested?

In 2007 around 25 percent of US equity funds were passively managed. Today that number is around 50 percent. Do economists care about the active versus passive debate?

The instinctive answer is "no". However, the rise of passive investing since 2007 has been accompanied by other changes. Until 2007 global investment in foreign bonds and equites was worth between 6 and 8 percent of the world economy. Since 2010 that number has averaged 2.7 percent.

No economist would dare to suggest that correlation means causation. However, a passive portfolio suggests fewer trades. That will include fewer foreign trades. Passive investment might also increase home country bias, depending on the index followed.

Fewer foreign trades suggest a less efficient global capital market. Fewer foreign trades may also change global currency markets. Reduced investment inflows increase the importance of the current account balance as a driver of currencies. If passive investing has reduced foreign investment flows, these are important economic effects.

Will the rise of passive investing change? Economics may be a challenge. A global economic shock tends to create similar economic reactions around the globe. As policy nuances diverge and economic parochialism starts to increase, global economic similarities are likely to reduce. That may favor a more active and possibly a more global investment approach.

(By UBS)