Posts Tagged ‘black swan’

In these clips, the first from his exposition for the Long Now Foundation, the second from CNBC, Nassim Taleb outlines the characteristics of the term he has injected into popular culture: The Black Swan, or the rare event.His experiences draw heavily from history, economics and financial markets. Nassim Taleb was a former derivatives trader now turned philosopher and pundit. Taleb criticizes conventional economic thought and attitudes to risk management which are all based on a notion that rare harmful events almost never happen–when in fact they do.

His ideas represent the school of skeptical empiricism which differs slightly from conventional empiricism in its treatment of empirical evidence: an empiricist in general would place value on evidence as a confirmation of a statement, while a skeptical empiricist would consider the existing evidence only as one opinion and is not exhaustive of all other possibilities, however evidence that contradicted a statement would be considered as a credible basis to disprove it. A naive empiricist, would look at evidence and reject any other possibility not represented by the evidence.

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Our favorite skeptical empiricist Nassim Taleb is interviewed by financial journalist, Consuelo Mack, where he shared his insights about history and rare events. He provides a definition of his most popular phrase “The Black Swan” which he uses to describe rare, unpredictable events that have unexpectedly large and widespread consequences for society. He cites as examples: The World Wars, the rise of the internet, Google, and stock market crashes. All these events were unexpected and unpredictable but had tremendous consequences for society after they happened.

He continues to explain that some fields and areas are more prone to Black Swans than others, in this case: economics, finance, technology, and history. Taleb describes how people in general do not understand the impact of rare events on their lives.

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Skeptical empiricist Nassim Taleb joins one of his mentors: Benoit Mandelbrot, who pioneered fractal geometry and contributed to Chaos Theory, in criticizing the existing tenuous situation of the financial markets and the global economy. They highlight some of the key fallacies that economists and bankers believe–which is precisely the mindset that has prevented the financial industry from correctly appreciating risk and anticipating the current crisis:

  • People believe that changes in history and in markets happen in small gradual increments, when the truth is that most of the time nearly nothing changes, and then all of a sudden a large unexpected change in the dynamics occurs which no one correctly predicted.
  • People estimate risk based on historical experience of defaults and losses, this makes them totally unprepared for an unexpected and larger risk that will happen in the future.
  • People think that consolidation and mergers of banks into larger entities makes them safer–but in reality this makes the whole financial system more delicate since it is now dependent on fewer entities, so a mistake by a large bank damages the system more than a mistake by a couple of smaller banks.
  • People are inherently optimistic and underestimate the extent of the crisis. Both Taleb and Mandelbrot think the crisis is very likely worse than people are thinking.

Eeriely, both their sentiments about markets suffering a quick and larger crash than people expect is analogous to an observation by Dr. Jared Diamond which we featured earlier about the collapse of human societies: normally after long periods of growth, suddenly without warning a society suffers a quick decline.

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