Sunday, April 12, 2009

Taleb in Washington

Marion Maneker (MM) wrote a 29 March 2009 piece about Nassim Taleb, link: Yves Smith brought MM's piece to my attention. Thanks. Some quotes, "To Taleb, the supposed stability brought about by complex financial derivatives, global banking connections, and accelerated flows of capital was a mirage masking the accumulation of massive amounts of hidden risk. ... Taleb has a clear-eyed plan. First, he says, we have to unmask the charlatans of risk like Myron Scholes. ... To Taleb, Scholes' academic work, which enabled the widespread use of complex derivatives, was like 'giving children dynamite.' ... We cannot have both debt leverage and a hyper-efficient system--the volatility is too great. What Taleb explains--which no one else does--is that efficiency is already a form of leverage. A highly efficient system removes slack and magnifies small changes. Think of the efficient system as a high performance aircraft. Each minute of steering input creates a rapid and violent shift, of course, speed, or altitude. ... A deleveraged financial system is a stable one, especially if we increase the redundancy within the system. That's an idea Taleb has taken from biology", my emphasis.

I agree with Taleb. Our large banks' capital structures, have too much short-term debt. These capital structures are the financial equivalent of just-in-time inventory. A system prone to breakdowns, see my 23 July 2007 post: As for Myron Scholes, see my 20 April 2008 post: Read MM's piece. I have likened a highly efficient system to an M-16 rifle, an inefficient one, an AK-47. Ah, the simplicity of the Russians. The AK-47 is so crude, it's beautiful. It fires. In: heat, cold, sand, anywhere. It's reliable. Thank you Mikhail Kalashnikov. The AK-47, 75 million copies sold, first choice of terrorists everywhere. The market rules! Taleb even thinks we should "increase redundancy"! Wow. Amen. Redundancy makes for robust systems.


Anonymous said...

I disagree with Taleb's solutions. He's for more regulation but regulation becomes politically controlled (and got us here).

I see a lot of the current problems due to entities borrowing short term and lending long term. We haven't really had enough time (yet) for actual losses on sub-prime loans and other long term paper to actually show up.

We are instead seeing "refunding" problems as leveraged holders of long
term paper try to refund their short term borrowings or (if unable) to try to sell or otherwise unload their long term securities.

Many holders trying to unwind (sell) the long term paper at the same time adds to the problem as it depresses prices thus requiring more margin (and/or creating losses on sale).

Nothing above is really new.

In light of the above two thoughts come to mind:

a. Who will eat the real long term losses on this paper? ie: Who is really lending long on this bad paper and how will the real losses effect them?

(pension plans? insurance companies? Foreign gov funds?)

b. Who else hasn't yet been hurt but is borrowing short and lending long? ie: Who has refunding/roll risk?

US Treasury!

Currently we've seen a (sort of) run on a bank. It appears to me that the FDIC + FED can cover any possibly US bank run. But what can they do about a run on the dollar?

I think that using money which can't be politically created (printed) would be enough to limit this as those who borrowed short would shortly go broke (no one would want to bail them out since someone would have to pay rather than just print).

Anonymous said...

Blown up... black swanned... dark markets... dark accounting.... dark risks...

Dollar diving? Well the Chinese are heading elsewhere...

Maybe we need a new global paradigm... vibrant currencies versus sinking currencies.... (growth/saving) economies versus (entropy/consumption) economies... uhmmm...

We had a Fed Reserve inserting "liquidity" into a entropic economy... the Fed kept saying... "revive the patient"... nope... must let the patient rest... lower consumption for awhile... and please shrink the financial system...