Nassim Nicholas Taleb's The Black Swan: The Impact of the Highly Improbable (2007) was, for me, an acquired taste. The first two times I attempted to read the book, I found it mildly unpalatable. But by my third attempt, I found myself agreeing with almost all that he was saying. It had to, sort of, grow on me.
What is a black swan? A black swan is an event that deviates beyond what is normally expected of a situation and is extremely difficult to predict. In The Black Swan, Taleb looks at the world through the lens of the new science of Complexity Theory (well, newish, since the science has been around since the 1980s). Taleb delineates two types of terrains: Mediocristan (where small predictable fluctuations occur around a steady mean) and Extremistan (where rare events - black swan events - occur with alarming frequency). In this fast paced world, Taleb says that we are moving from Mediocristan, deep into Extremistan.
Most of present day economics hinges on the Gaussian distribution of variables (the so-called bell curve) which is characteristic of Mediocristan. Extremistan is not described by the bell curve but by a "fat-tails" distribution (often referred to as Mandelbrotian distribution) which mainstream economics fails to include. Hence this economics is doomed to fail and banks and financial institutions which use mainstream methods are bound to collapse.
The Black Swan was written a year before the 2008 financial crisis which led to the collapse of Lehmann Brothers and made Taleb a household name.
What I liked most of The Black Swan was the advocacy of free market economics and the denunciation of central planning since in a black swan world nothing is certain. Its heroes are my heroes - Friedrich Hayek and Karl Popper and its villians are Keynesians such as Paul Samuelson who believed all of economics can be mathematicised and predictions are possible.
One of the notions developed in finance is that of equating risk with volatility (the deviation from mean behaviour) . Higher the volatility, greater is the risk. Taleb castigates this as a wrong science and all risk management models based on this assumption.
He develops this concept further in his book Antifragile: Things That Gain from Disorder (2012). Fragile theories and institutions are those that collapse under disorder. Robust ones are those that survive (neither gaining nor losing) under disorder. Antifragile ones are those that actually gain from disorder.
Taleb says that instead of measuring the risk associated with a market instrument, one should determine the fragility of the instrument which is easier to measure. One should strive to build robust and antifragile theories and institutions that can withstand (and gain from) the stressors, shocks and volatility of Extremistan.
Science has developed in multifarious ways in the past century. But many theories of science will not be robust or antifragile. Those scientists and economists spewing fragile viewpoints, Taleb calls "fragilistas". In this group Taleb includes successful economists such as Alan Greenspan, Robert C Merton, Myron Scholes and Paul Krugman.
Taleb says: "Crucially, if antifragility is the property of all those natural (and complex) systems that have survived, depriving these systems of volatility, randomness, and stressors will harm them. They will weaken, die, or blow up. We have been fragilizing the economy, our health, political life, education, almost everything...by suppressing randomness and volatility....Much of our modern, structured, world has been harming us with top-down policies and contraptions...which do precisely this: an insult to the antifragility of systems."
Taleb thus does not limit himself to the fragility of economics. He also shows fragility in modern medicine, modern nutrition, modern education and modern architecture. Bemoaning the tragedy of modernity he further states: "Modernity corresponds to the systematic extraction of humans from their randomness-laden ecology - physical and social, even epistemological. Modernity is not just the postmedieval, postagrarian, and postfeudal historical period as defined in sociology textbooks. It is the spirit of the age marked by rationalization..., the idea that society is understandable, hence must be designed, by humans. With it was born statistical theory, hence the beastly bell curve. So was linear science. So was the notion of 'efficiency' - or, optimization."
As an antidote to the fragility of modernity, Taleb proposes the wisdom of the Elders. He says that tradition and long held beliefs that have lasted for centuries and even millenia would be antifragile enough to last for even more centuries. Modern fragile fads and fashions would be worn out in the efflux of time.
Taleb's heroes are the ancient philosophers such as Seneca and Thales whose (antifragile) ideas such as stoicism and optionality resound down the centuries. The only "moderns" whose ideas he admits are the young Nietzsche and Wittgenstein.
Taleb's book reminded me another book that I read recently: E F Schumacher's Small is Beautiful: A Study of Economics as if People Mattered (1973). Although Taleb and Schumacher start from diametrically opposite viewpoints - Taleb favours free market economics while Schumacher favours a type of socialism - they converge on the idea that small institutions and small city-states are better than giant corporations and large nations, albeit for different reasons. Schumacher favours what he calls Buddhist economics which means living close to nature; Taleb says that giant corporations are encouraged because of "economies of scales" which are largely an illusion and make these corporations extremely fragile to shocks and volatilities.
Taleb's next book, expected in mid-2018, is Skin in the Game which I hope would be as erudite and exhilarating as these two books.
What is a black swan? A black swan is an event that deviates beyond what is normally expected of a situation and is extremely difficult to predict. In The Black Swan, Taleb looks at the world through the lens of the new science of Complexity Theory (well, newish, since the science has been around since the 1980s). Taleb delineates two types of terrains: Mediocristan (where small predictable fluctuations occur around a steady mean) and Extremistan (where rare events - black swan events - occur with alarming frequency). In this fast paced world, Taleb says that we are moving from Mediocristan, deep into Extremistan.
Most of present day economics hinges on the Gaussian distribution of variables (the so-called bell curve) which is characteristic of Mediocristan. Extremistan is not described by the bell curve but by a "fat-tails" distribution (often referred to as Mandelbrotian distribution) which mainstream economics fails to include. Hence this economics is doomed to fail and banks and financial institutions which use mainstream methods are bound to collapse.
The Black Swan was written a year before the 2008 financial crisis which led to the collapse of Lehmann Brothers and made Taleb a household name.
What I liked most of The Black Swan was the advocacy of free market economics and the denunciation of central planning since in a black swan world nothing is certain. Its heroes are my heroes - Friedrich Hayek and Karl Popper and its villians are Keynesians such as Paul Samuelson who believed all of economics can be mathematicised and predictions are possible.
One of the notions developed in finance is that of equating risk with volatility (the deviation from mean behaviour) . Higher the volatility, greater is the risk. Taleb castigates this as a wrong science and all risk management models based on this assumption.
He develops this concept further in his book Antifragile: Things That Gain from Disorder (2012). Fragile theories and institutions are those that collapse under disorder. Robust ones are those that survive (neither gaining nor losing) under disorder. Antifragile ones are those that actually gain from disorder.
Taleb says that instead of measuring the risk associated with a market instrument, one should determine the fragility of the instrument which is easier to measure. One should strive to build robust and antifragile theories and institutions that can withstand (and gain from) the stressors, shocks and volatility of Extremistan.
Science has developed in multifarious ways in the past century. But many theories of science will not be robust or antifragile. Those scientists and economists spewing fragile viewpoints, Taleb calls "fragilistas". In this group Taleb includes successful economists such as Alan Greenspan, Robert C Merton, Myron Scholes and Paul Krugman.
Taleb says: "Crucially, if antifragility is the property of all those natural (and complex) systems that have survived, depriving these systems of volatility, randomness, and stressors will harm them. They will weaken, die, or blow up. We have been fragilizing the economy, our health, political life, education, almost everything...by suppressing randomness and volatility....Much of our modern, structured, world has been harming us with top-down policies and contraptions...which do precisely this: an insult to the antifragility of systems."
Taleb thus does not limit himself to the fragility of economics. He also shows fragility in modern medicine, modern nutrition, modern education and modern architecture. Bemoaning the tragedy of modernity he further states: "Modernity corresponds to the systematic extraction of humans from their randomness-laden ecology - physical and social, even epistemological. Modernity is not just the postmedieval, postagrarian, and postfeudal historical period as defined in sociology textbooks. It is the spirit of the age marked by rationalization..., the idea that society is understandable, hence must be designed, by humans. With it was born statistical theory, hence the beastly bell curve. So was linear science. So was the notion of 'efficiency' - or, optimization."
As an antidote to the fragility of modernity, Taleb proposes the wisdom of the Elders. He says that tradition and long held beliefs that have lasted for centuries and even millenia would be antifragile enough to last for even more centuries. Modern fragile fads and fashions would be worn out in the efflux of time.
Taleb's heroes are the ancient philosophers such as Seneca and Thales whose (antifragile) ideas such as stoicism and optionality resound down the centuries. The only "moderns" whose ideas he admits are the young Nietzsche and Wittgenstein.
Taleb's book reminded me another book that I read recently: E F Schumacher's Small is Beautiful: A Study of Economics as if People Mattered (1973). Although Taleb and Schumacher start from diametrically opposite viewpoints - Taleb favours free market economics while Schumacher favours a type of socialism - they converge on the idea that small institutions and small city-states are better than giant corporations and large nations, albeit for different reasons. Schumacher favours what he calls Buddhist economics which means living close to nature; Taleb says that giant corporations are encouraged because of "economies of scales" which are largely an illusion and make these corporations extremely fragile to shocks and volatilities.
Taleb's next book, expected in mid-2018, is Skin in the Game which I hope would be as erudite and exhilarating as these two books.
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