Economists Joseph Stiglitz and Martin Guzman in an astute column on May 13, 2025 on VoxEU suggest the concept of pseudo-wealth—generated not from real economic resources. This, coupled with hopes for the future differing from expectations, can create false perceptions of riches, drive consumption higher, and create economic instability as the illusions pop. The argument opposes standard economic theory and refutes principal questions as to the role of financial markets and the need for regulation to protect public interest.
Pseudo-wealth is experienced when individuals with varying expectations exchange for or bet on future events, such as price movement in assets. For example, if one believes some cryptocurrency will increase in value swiftly and the other believes it will fall significantly, they can exchange against each other. Both feel richer because both experience the feeling of having won. But all of this pseudo-wealth—the disparity between people’s perceived net worth and actual economic worth—has nothing to do with new productive assets or actual economic worth.
Guzman and Stiglitz’s argument is that pseudo-wealth can always be precarious. It expands during periods of high dispersion in beliefs, for example, during the recent spurt in crypto assets or meme stocks, and narrows during periods of resolution in uncertainty or change in sentiments. This occurs regardless of actual economic fundamentals such as technology, infrastructure, or human capital but has real effects on consumption and economic stability.
A New Source of Economic Volatility
Classical accounts of macroeconomic instability account for instability in consumption by the variation of real fundamentals, e.g., technological innovation or shocks. Guzman and Stiglitz posit, however, that pseudo-wealth generates an implicit source of instability. When belief dispersion increases—maybe because of excitement about some new financial innovation—pseudo-wealth increases, stimulating more consumption. When the bets have to be called in or confidence is lost, pseudo-wealth crashes and consumption drops.
This instability is real. The run-up and subsequent fall of cryptocurrencies and meme stocks in the recent past illustrates how pseudo-wealth can manifest in consumption which is not sustainable. Pseudo-wealth is not tied to productive assets and hence is open to sudden reversals and triggers what we refer to as “intertemporal consumption misallocation” of households—consumption in one period which is in excess and in another too low, upsetting the economy.
The Paradox of Market Completion
Economic theory generally assumes “completing” markets—giving rise to more trading or insuring on the basis of future states—increases welfare. Guzman and Stiglitz contradict such an assumption. Whenever markets for trading on the basis of heterogeneous beliefs are allowed, pseudo-wealth is amplified by them, increasing both private and overall risk. Even though such trading is optimal in the view of an agent before outcomes are realized (ex ante), it typically leads to inferior outcomes after experience with reality (ex post).
This paradox has unsettling implications for welfare economics. Standard models render market outcomes Pareto optimal if they reflect people’s beliefs, but the authors claim that the solutions may be socially inefficient from the perspective of an interpretation with a coherent point of view, i.e., a planner who takes “reasonable” beliefs (a weighted average of individuals’ expectations). The implication is paradoxical: completing financial markets to permit more betting may enhance volatility and be detrimental to societal welfare, even though individuals see gain ex ante.
Implications for Policy: Balancing Stability with Freedom
Pseudo-wealth theory has implications for economic policy and financial regulation. Policymakers must be vigilant of financial innovations which enhance pseudo-wealth rather than productive capacity, according to Guzman and Stiglitz. For instance, cryptoasset markets, meme coins, and complex derivative markets thrive in the presence of disagreement in beliefs and pose system risk in the event of bursts of bubbles.
The authors also bring to life an ancient conflict between libertarianism and collective action. Libertarians believe in freedom of the individual and in free markets, yet pseudo-wealth shows that if trading on incompatible beliefs goes unchecked, it can lead to inefficient and harm-causing outcomes. Regulation intervention—such as shutting down particular speculation markets or imposing stability-oriented rules—may limit these threats and increase overall well-being, despite reducing freedom of the individual to bet on delusions.
A More Broader Vision
The arrival of virtual markets from internet betting markets to cryptocurrencies has made pseudo-wealth as significant today as it has ever been. The markets are supported on differential expectations and hype generating trillions of perceived value which can evaporate in one day. Guzman and Stiglitz’s approach furnishes us with a lens to examine such forces and their general economic implications.
Their work also attempts to explain why finance innovations are related to volatility, as Charles Kindleberger has argued. Innovations create ambiguity—over their impact, adoption, or endurance—thus creating large dispersions of beliefs and inflated pseudo-wealth. When ambiguity clears, pseudo-wealth deflates with economic consequences.
Conclusion: A Call for Reflection
Pseudo-wealth theory exhorts us to rethink the worth of markets that promote illusions of riches. Do we prioritize economic innovations enabling individuals to trade on beliefs, or do we prioritize overall stability in the system and tangible economic progress? In a global economy where perception can build and destroy vast quantities of value, it is crucial to discover which one we must choose in order to build sound, just systems.
In condemning threats of pseudo-wealth, Guzman and Stiglitz challenge policymakers, economists, and society as a whole to reconcile personal freedom with the well-being of all. In their work we are reminded of an ageless truism: not all that twinkles is for real and muddled illusions can have lasting consequences.
