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The Black Swan of Cairo | Foreign Affairs
Shared by JohnH
Links to entire article which is available to non-subscribers until 6/13/11. HatTip to Dave Lull.
Take, for example, the recent celebrated documentary on the financial crisis, Inside Job, which blames the crisis on the malfeasance and dishonesty of bankers and the incompetence of regulators. Although it is morally satisfying, the film naively overlooks the fact that humans have always been dishonest and regulators have always been behind the curve. The only difference this time around was the unprecedented magnitude of the hidden risks and a misunderstanding of the statistical properties of the system.
What is needed is a system that can prevent the harm done to citizens by the dishonesty of business elites; the limited competence of forecasters, economists, and statisticians; and the imperfections of regulation, not one that aims to eliminate these flaws. Humans must try to resist the illusion of control: just as foreign policy should be intelligence-proof (it should minimize its reliance on the competence of information-gathering organizations and the predictions of “experts” in what are inherently unpredictable domains), the economy should be regulator-proof, given that some regulations simply make the system itself more fragile. Due to the complexity of markets, intricate regulations simply serve to generate fees for lawyers and profits for sophisticated derivatives traders who can build complicated financial products that skirt those regulations.
Opacity
Shared by JohnH
“PAPER TO BE PRESENTED AT BENOIT MANDELBROT’S MEMORIAL Yale University, APRIL 29, 2011” HatTip to Dave Lull
143 The error about the error (Fukushima, again)
Paper on the epistemology of error.
An error rate can be measured. The measurement, in turn, will have an error rate. The measurement of the error rate will have an error rate. The measurement of the error rate will have an error rate. We can use the same argument by replacing “measurement” by “estimation” (say estimating the future value of an economic variable, the rainfall in Brazil, or the risk of a nuclear accident). What is called a regress argument by philosophers can be used to put some scrutiny on quantitative methods or risk and probability. The mere existence of such regress argument will lead to two different regimes, both leading to the necessity to raise the values of small probabilities, and one of them to the necessity to use power law distributions.
The Black Swan of Cairo | Foreign Affairs
Shared by JohnH
Most of this article is behind a paywall right now. HatTip to Dave Lull. Article has been opened to public until 6/13/11.
Such environments eventually experience massive blowups, catching everyone off-guard and undoing years of stability or, in some cases, ending up far worse than they were in their initial volatile state. Indeed, the longer it takes for the blowup to occur, the worse the resulting harm in both economic and political systems.
Seeking to restrict variability seems to be good policy (who does not prefer stability to chaos?), so it is with very good intentions that policymakers unwittingly increase the risk of major blowups. And it is the same misperception of the properties of natural systems that led to both the economic crisis of 2007-8 and the current turmoil in the Arab world. The policy implications are identical: to make systems robust, all risks must be visible and out in the open — fluctuat nec mergitur (it fluctuates but does not sink) goes the Latin saying.
Nassim Taleb on Living with Black Swans – Knowledge@Wharton
Shared by JohnH
HatTip to Dave Lull!
Nassim Taleb in conversation with Wharton professor Richard Herring. Video interview. Audio.
Taleb: The events in the Middle East are not black swans. They were predictable to those who know the region well. At most, they were gray swans or perhaps white swans. One of the lessons of “Wild vs. Mild Randomness,” my chapter with Benoit Mandelbrot in your book, is what happens before you go into a period of wild randomness. You will find a long quiet period that is punctuated with absolute total turmoil…. In The Black Swan, I discussed Saudi Arabia as a prime case of the calm before the storm and the Great Moderation [the perceived end of economic volatility due to the creation of 20th century banking laws] in the same breath. I was comparing Italy with Saudi Arabia. Italy is an example of mild randomness in comparison with Saudi Arabia and Syria, which are examples of wild randomness. Italy has had 60 changes in regime in the post-war era, but they are inconsequential…. It is a prime example of noise. It’s very Italian and so it’s elegant noise, but it’s noise nonetheless. In contrast, Saudi Arabia and Syria have had the same regime in place for 40 some years. You may think it is stability, but it’s not. Once you remove the lid, the thing explodes.
The same kind of thing happens in finance. Take the portfolio of banks. The environment seemed very placid — the Great Moderation — and then the thing explodes.