September 16, 2009

Quote of the Day

I'll defend Economics from Paul Krugman, but Nassim Nicholas Taleb has, as this article states, earned the right to some I-told-you-sos:

My whole idea is to lower risk in society by developing a system that can resist human error, rather than one where human error rules. The first step is to make sure that no financial institution is too big to fail. Next, make sure governments don't favour big companies. Governments should also decrease the role of economists they're no more reliable than astrologers, and they do more damage. -- Nassim Nicholas Taleb, "Suck It Up, America!"

Hat-tip: Jimmy P

Economics and Markets Posted by John Kranz at September 16, 2009 11:37 AM

All right, I finally read the interview. His powers of prediction are...overrated. He's correct about economists' and financiers' inability to predict the future, correct about debt, wrong about Iceland, incorrect about Canadian self-sufficiency, wrong about "developing a system," very wrong about the nature of human information, and utterly wrong about actively preventing "too big to fail."

"For the past decade, he's been warning that the global economy has become far more vulnerable to unpredictable events that can cause vast disruption."

That was no prediction, because such a "warning" is completely meaningless. What does it mean, exactly? He says economists as "no more reliable than astrologers," which is true, but his own "predictions" have all the precision of fortune cookies. When something happens to ripple through international financial markets, he pats himself on the back. That's a bunch of bull.

Of course the world economy, having grown so complex, is susceptible to "unforeseeable events that can cause vast disruption." Anyone can see that. But his prediction lacked any specifics

He was simply a stopped clock that was eventually right. Similarly, don't believe all this hype about Nouriel Roubini, who also didn't have these amazing powers of prognostication that the media would have you think. Mark Zandi of Moody's frequently provides soundbites, and too many in a way. career of predicting a recession every year since at least 1997, maybe before then. Of course these two would eventually be right if they keep predicting the same thing over and over.

As I said, he's correct that "Central bankers have no clue" and about economists' ability to predict the future. Anyone familiar with Hayek knows that, and why.

The Internet did not "bankrupt" Iceland, no more than it caused the tech bubble. The Internet was merely the conduit for information, not a cause. The British and Dutch governments were wondering as early as 2006 what would happen if Iceland's major banks couldn't cover British and Dutch citizens' deposits in Icelandic banks, because it was clear Iceland's equivalent of the FDIC, or the Icelander taxpayer, couldn't cover the deposits. If you want to talk about causes, William Butler and Anne Seibert released a paper in October 2008, originally done in April 2008 but kept secret, that explained Iceland's problems. They were already very well known. In short, its banking sector was simply too extended for the size of its economy, and policymakers tried to sustain the unsustainable.

He says Canada has "energy and minerals," is "not overspecialized" and "is self-sufficient." These could easily apply to the United States; why is Canada any better? Now, Canada, or any other nation, cannot be insulated from the world, nor should it want to be. Self-sufficiency is the road to ruin, as the Hawley-Smoot Tariff showed us. It's good to have a fallback position so you can have another way to trade your goods and services with others, like a trader who can switch to driving taxis, not to provide everything for yourself.

But if we get hyperinflation and Canada will be the best place to be, how much more overloaded will its socialized health care system be? As the signs say, where will Canadians go for health care if they don't want to die waiting in line?

He's wrong about "developing a system." Anyone familiar with Hayek (namely the concepts of spontaneous order and knowledge being distributed throughout society) will understand why this line of thinking is as bad as central planners' belief that they can steer an economy in the right direction. It's flatly impossible for him, or any group of people, no matter how smart, to regulate things as he dreams.

For all his well-regarded philosophy, he doesn't understand that human information, as a whole, is imperfect. That's the nature of our existence, and unavoidable. Austrian economics explains that market processes exist as the mechanism by which we eliminate errors (q.v. Hayek's "Competition as a Discovery Procedure") and approach the harmony of supply with demand. Some people will have better information, not necessarily scientific facts as Hayek explained, but knowledge of time and place. Israel Kirzner developed his concept of the entrepreneur as someone who has better information and will put it to use, expanding on Schumpeter's concept of the risk-bearer.

And how does he plan to prevent things from becoming "too big to fail"? The free market tempers the size of a firm by allowing it to fail when overextended, which then becomes a warning to others. But he's talking about an active regulation, which is done only through government -- which would rely on imperfect bureaucrats and economists whose track record is abysmal.

I'm not impressed.

Posted by: Perry Eidelbus at September 17, 2009 10:38 PM

Perry, I am 100% with you on Roubini and the permabears who have "predicted 12 of the last 5 recessions."

Taleb is an interesting --and different -- case. I think you would very much enjoy reading "The Black Swan" and you probably have to read it to see his complaint about economists. Economists, he complains, pretend that the world fits into nice Gaussian probability curves when many things do not.

Many things display a Mandelbrotian probability, and if you're expecting Gauss and get Mandelbrot, you are in for a big surprise.

His fund, developed around his beliefs, is not a super short bear fund, it is a CAPM model with a huge weight to low risk and a short percentage in outlier options that pay huge in large swings. He has done pretty well with it.

I don't worship at the altar or anything, but he is an interesting thinker and his book is certainly germane in 2009.

Posted by: jk at September 18, 2009 9:38 AM

His book might be interesting if he sticks to economic thought, but as far as his "predictions," my point still stands: he was far too vague and general for his statements to have merit as prognostications. Red Sox fans had said for how many decades that their team would come back next year to win the World Series?

Modern economics (Taleb too?) largely forgets the Austrians, who recognize the imperfect nature of information. We don't along with the Keynesian, neo-Keynesian, neo-classical, etc. lines of thinking that oversimplify economic flows and assume equilibriums. Economics is nothing more than the science of human choice and its consequences, which will be chaotic. So Austrian economists fully expect that life will be closer to Mandelbrotian probabilities than Gaussian distributions, but uh, it's so obvious that Austrians consider it axiomatic. You don't need an entire book to talk about it.

I was taught to visualize things this way. Let's say you have sufficient data to chart a smooth-looking supply or demand curve. Now if you could zoom in closely enough, you'll see that it's not a smooth curve, but many infinitesimally small curves of their own (representing the choices of smaller and smaller groups until you zoom so closely that you see individual behavior). They all join together, end to end, to form the whole.

Taleb sounds almost Austrian when talking about his distrust of economists and central bankers, but then he starts talking about designing this system to minimize error. No human has the knowledge to design such a thing, nor should a person have that kind of power over others to create it. You let a system emerge on its own, out of a free society that doesn't have government trying to steer people one way or another.

Posted by: Perry Eidelbus at September 18, 2009 11:54 AM | What do you think? [3]