“And it is quite fitting that “volatility” comes from volare, “to fly” in Latin. Depriving political (and other) systems of volatility harms them, causing eventually greater volatility of the cascading type. This section, Book II, deals with the fragility that comes from the denial of hormesis, the natural antifragility of organisms, and how we hurt systems with the very best intentions by playing conductor. We are fragilizing social and economic systems by denying them stressors and randomness,…
…putting them in the Procustean bed of cushy and comfortable….but ultimately harmeful…modernity.”, Nassim Nicholas Taleb, Antifragile: Things That Gain from Disorder
Comments from Mike Perry, former Chairman and CEO, IndyMac Bank: It is clear from Taleb’s comments in Antifragile and elsewhere, that he believes The Federal Reserve Bank of The United States, through its powerful monetary policies, created an artificial environment that distorted finance and the economy for years, lulled them into a state of fragility, and this led to the 2008 financial crisis. I agree. I know that the normal business/economic cycle (which the Fed did its best to eliminate) is important for proper credit risk management. Credit has its own normal cycle of expansion and tightening. Because the Fed smoothed out the natural business/economic cycle for years, the credit downturn was the worst in modern history. That’s on The Federal Reserve. I am with Mr. Taleb, Ron and Rand Paul, and many others….it is time to at least Audit the Fed and possibly time to End the Fed.
Great Moderation: A turkey problem. Before the turmoil that started in 2008, a gentleman called Benjamin Bernanke, then the Princeton professor, later to be chairman of the Federal Reserve Bank of the United States and the most powerful person in the world of economics and finance, dubbed the period we witnessed the “great moderation”—putting me in a very difficult position to argue for increase of fragility. This is like pronouncing that someone who has just spent a decade in a sterilized room is in “great health”—when he is the most vulnerable. Note that the turkey problem is an evolution of Russell’s chicken (The Black Swan).
The Great Turkey Problem…..
It looks like a drop in volatility—and it is not. A turkey is fed for a thousand days by a butcher; every day confirms to its staff of analysts that butchers love turkeys “with increased statistical confidence.” The butcher will keep feeding the turkey until a few days before Thanksgiving. Then comes the day when it is really not a very good idea to be a turkey. So with the butcher surprising it, the turkey will have a revision of belief —right when its confidence in the statement that the butcher loves turkeys is maximal and “it is very quiet” and soothingly predictable in the life of the turkey. This example builds on an adaptation of a metaphor by Bertrand Russell. The key here is that such a surprise will be a Black Swan event; but just for the turkey, not for the butcher.
We can also see from the turkey story the mother of all harmful mistakes: mistaking absence of evidence (of harm) for evidence of absence, a mistake that we will see tends to prevail in intellectual circles and one that is grounded in the social sciences. So our mission in life becomes simple “how not to be a turkey,” or, if possible, how to be a turkey in reverse—antifragile, that is. “Not being a turkey” starts by figuring out the difference between true and manufactured stability.
Some people have fallen for the naïve turkey-style belief that the world is getting safer and safer, and of course they naively attribute it to the holy “state”. It is exactly like saying that nuclear bombs are safer because they explode less often…..When we look at risks in Extremistan, we don’t look at evidence (evidence comes too late), we look at potential damage: never has the world been more prone to more damage: never.* It is hard to explain to naïve data-driven people that risk is in the future, not in the past. (*A more rigorous reading of the data—-with appropriate adjustment for the unseen—shows that war that would decimate the planet would be completely consistent with statistics, and would not even be an “outlier.” As we will see, Ben Bernanke was similarly fooled with his Great Moderation, a turkey problem; one can be confused by the properties of any process with compressed volatility from the top. Some people, like Steven Pinker, misread the nature of the statistical process and hold such a thesis, similar to the “great moderation” in finance.
Other Taleb comments about The Federal Reserve….
Another expression of domain dependence: ask a U.S. citizen if some semi-governmental agency with a great deal of independence (and no interference from Congress) should control the price of cars, morning newspapers, and Malbec wine, as its domain specialty. He would jump in anger, as it appears to violate every principle the country stands for, and call you a Communist post-Soviet mole for even suggesting it. OK. Then ask him if the same government agency should control foreign exchange, mainly the rate of the dollar against the euro and the Mongolian tugrit. Same reaction: this is not France. Then very gently point out to him that the Federal Reserve Bank of the United States is in the business of controlling and managing the price of another good, another price, called the lending rate, the interest rate in the economy (and has proved to be good at it). The libertarian presidential candidate Ron Paul was called a crank for suggesting the abolition of the Federal Reserve, or even restricting its role. But he would also have been called a crank for suggesting the creation of an agency to control other prices.
I have called this mental defect the Lucretius problem, after the Latin poetic philosopher who wrote that the fool believes that the tallest mountain in the world will be equal to the tallest one he has observed. We consider the biggest object of any kind that we have seen in our lives or hear about as the largest item that can possibly exist. And we have been doing this for millennia. In Pharaonic Egypt, which happens to be the first complete top-down nation-state managed by bureaucrats, scribes tracked the high-water mark of the Nile and used it as an estimate for a future worst-case scenario. The same can be seen in the Fukushima nuclear reactor, which experienced catastrophic failure in 2011 when a tsunami struck. It had been built to withstand the worst past historical earthquake, with the builders not imaging much worse….and not thinking that the worst past event had to be a surprise, as it had no precedent. Likewise, the former Chairman of the Federal Reserve, Fragilista Doctor Alan Greenspan, in his apology to Congress offered the classic “It never happened before.” Well, nature, unlike Fragilista Greenspan, prepares for what has not happened before.* (*The obvious has not been tested empirically: Can the occurrence of extreme events be predicted from past history? Alas, according to a simple test. no, sorry.)
Likewise, those in corporations or in policy making (like Fragilista Greenspan) who are endowed with a sophisticated data-gathering department and are therefore getting a lot of “timely” statistics are capable of overreacting and mistaking noise for information—Greenspan kept an eye on such fluctuations as the sales of vacuum cleaners in Cleveland to, as they say, “get a precise idea about where the economy is going” and of course he micromanaged us into chaos. In business and economic decision making, reliance on data causes severe side effects—data is now plentiful thanks to connectivity, and the proportion of spuriousness in the data increases as one gets more immersed in it. A very rarely discussed property of data: it is toxic in large quantities—even moderate quantities.
Epiphenomena: The Soviet-Harvard illusion (lecturing birds on flying and believing the lecture is the cause of these wonderful skills) belongs to a class of casual illusions called epiphenomena. What are these illusions? When you spend time on the bridge of a ship or in the coxswain’s station with a large compass in front, you can easily develop the impression that the compass is directing the ship rather than merely reflecting its direction. The lecturing-birds-how-to-fly effect is an example of epiphenomenal belief: we see a high degree of academic research in countries that are wealthy and developed, leading us to think uncritically that research is the generator of wealth. In an epiphenomenon, you don’t usually observe A without observing B with it, depending on the cultural framework or what seems plausible to the local journalist. One rarely has the illusion that, given so many boys have short hair, short hair determines gender, or that wearing a tie causes one to be a businessman. But it is easy to fall into other epiphenomena, particularly when one is immersed in a news-driven culture. And one can easily see the trap of having these epiphenomena fuel action, then justify it retrospectively. A dictator—just like a government— will feel indispensable because the alternative is not easily visible, or is hidden by special interest groups. The Federal Reserve Bank of the United States, for instance can wreak havoc on the economy yet feel convinced of its effectiveness. People are scared of the alternative.