Why Nassim Taleb is the True Predictor of this Crisis
The punditry and the world at large have been hard at work trying to find ex-ante predictors for the malaise that has engulfed our markets, our economies, and our societies. Desperate efforts to find those who "called it" have been relentlessly launched. We all seem to want to know who among us really saw the mayhem coming. It was unavoidable that such an agitated process would deliver a sizable dose of less-than-reliable prophets and less-than-robust explanations.
The breathless quest for prospective explainers, the unquenchable thirst for totemic ex-ante seers has resulted in the crowning of individuals who, notwithstanding their many qualities, did not get it exactly right before the troubles initiated. Yes, many of them did warn about the unsustainability of the housing bubble, and the insalubrious practices taking place in the sub-prime mortgage business, and (much less often) about the toxic nature of certain newfangled securities. But only one person among the appointed oracles truly pointed fingers at the true prospective culprit behind the current devastation. And he did so not in 2005 or 2006, but as far back (at least) as 1997.
This is what Nassim Taleb said more than a decade ago that qualifies him, in my eyes, as the true and only visionary:
I believe that Value at Risk is the alibi bankers will give shareholders and the bailing-out taxpayer to show documented due diligence, and will express that their blow-up came from truly unforeseeable circumstances and events with low probability, not from taking large risks they did not understand. ... I maintain that the due diligence VaR tool encouraged untrained people to take misdirected risk with shareholders' and ultimately the taxpayers', money.
In the midst of the credit nightmare, such pearls could not appear any more prescient. For VaR, the mathematical model used as risk radar by banks and chosen by regulators as the tool that sets capital charges for trading activities (what essentially dictates the amount of leverage that banks can engage in), did ultimately cause the crisis and the Taleb-predicted bail-out, precisely by providing reckless bankers with a seemingly scientific alibi to monstrously leverage their balance sheets with the most toxic and illiquid of financial wares. By being unrealistically low, VaR allowed banks to cheaply devour as much toxic stuff as they wanted. Since those gigantic toxic positions are what truly sank Wall Street, and since the sinkage of the latter is what truly unleashed what is known as the credit crisis, it follows that without VaR the pain would have been much more diluted.
This crisis was not really a "housing crisis," but a "trading crisis." Mortgage defaults on their own would have never created this kind of tremors. The melting into oblivion of complex securities based on those mortgages is what did unleash hell. VaR unseemly allowed banks to afford the complexity feast, and that's why I declare it guilty numero uno. Only Taleb saw this coming, more than ten years ago. If only we had listened to him more attentively.
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This, for me, is the key--and should be shouted from the rooftops so that all those who prefer to blame working Americans can be suitably instructed:
"This crisis was not really a "housing crisis," but a "trading crisis." Mortgage defaults on their own would have never created this kind of tremors. The melting into oblivion of complex securities based on those mortgages is what did unleash hell."
Yes, yes, and yes again!
Did Taleb foresee the use of mortgage backed derivatives as the weak link in the coming blowup? Hard to say, as the housing boom only really took off under Bush and Greenspan who pushed for record low lending rates and more "creative financing," to support the bubble he needed to hide his ongoing recession--one that he never successfully pulled us out of. Between uncontrolled borrowing and the ever growing values of homes in the real estate bubble, Bush was able to conjure us gdp growth that turned out to be all smoke and mirrors. Anyone have any writing by Taleb that foresaw that?
@jeobed - Yet yet Taleb's previous fund had negative returns in 2001, a year he said was the “mother of all black swans.”
He talked about models, so did everyone else in the risk business. CDOs, leverage, and credit derivatives--no he did not make calls on that, but others did. It is good he is calling attention to problems and using his microphone to do it. But there is something very unwholesome about this myth that he "predicted" or is "the one" or any of that other nonsense. Your own post is vague on this topic. No dates with anything specific. I provided an example below of a reported Taleb claim that is easily refuted. I don't take anything away from his repeating what others already said about leverage and debt, but this false god / fake guru nonsense is tiresome. But if you crave false idols, suit yourself.
One specific, and early, date of Mr. Taleb's warnings is his April 1997 debate in which he clearly spells out the dangers of VaR - value at risk. There are many examples :-)
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Yes, there are many examples from that time period by many people, especially for readers of RISK magazine.
Even in 1997 what Taleb said was well-known, and this article that explains how Taleb is a great self-promoter, but he didn't forecast or give early warning about VaR-value at risk is available here:
http://sco
All I said about Taleb was that he made "certain" predictions about what the results would be from "unaccounted for" risks. Was I wrong about that?
I'm sorry if you missed my main point which is that whoever gets the title of "predictor
Today we have the results of the institutional blindness to whoever your favorite predictor is.
What are we going to do about it NOW?
My comment is that Taleb has identified the correct symptom of the failure of the money system, which is to CREATE EQUITY.
And I called for Taleb to recognize the cause of that failure in creating un-payable and unsustainable levels of debt, which is the DEBT-based money system of the fractional reserve bankers. THAT is the cause.
So, Taleb is not my idol. He is a guy with a penchant for criticizing those who think they know everything - Keynesians and Austrians alike.
To me, that is the basic ingredient for finding the solution.
Like I said - he has not yet met the enemy.
I am trying to make an introduction.
It will be far easier to get Taleb, our Roubini, or Hudson, or even Brooksley Born who warned about derivatives from right inside the White House under Clinton and was shown the door, to agree about their toxicity, than to get even one of them to examine the role of unregulated capitalism as practiced by the Federal Reserve!
Derviaitives= shooting yourself and betting which way you'll fall...
Yes, but you forgot to add that the trick is to find somebody who is willing to bet against you.
Taleb was one who made certain 'prescient' calls related to the risks that were not accounted for. Loud and clear.
I, for one, hope that Taleb's major contribution to the evolving dialogue is yet to come.
Taleb soon realized that shedding some light on the trading-investment business that was no longer relevant to today's crisis.
More recently, Taleb's focus has been on the real problem with the economy - there is just plain too much debt that is not repayable, and we need to figure out some way to get an equity "transfusion" into the monetary equation.
He hasn't fully met the enemy here, as far as that goes.
But he has correctly identified the manifestation that has resulted from the failure of the monetary system to create anything but debts whenever it creates money, be it commercial banks or investment banks.
Taleb has been very vague as to just how to get that equity into the money system.
The solution to inject more equity into the money system is to CREATE the money as equity instead of debt. It's as simple as that.
Our $14 Trillion economy needs $350 Billion in new money next year to provide the means of exchange for 2.5 percent growth.
Government, debt-free issuance of $350 Billion.
I think Taleb will soon be there.
The Money System Common.
I'm a bit confused. It seems to me that you have changed your point of view by roughly 180 degrees on the circle.
But hey, if circumstances change, Keynes was known to change his mind. Seems you did the same. If only more Friedmen would follow suit.
simply, d, please explain.
Friedman proposed exactly the type of monetary reform that I am proposing here.
First he proposed an end to "the private creation and destruction of capital" and a move to full-reserve banking in his AER article titled:"A Fiscal and Monetary Framework for Economic Stability"
Much later he even proposed a Constitutional Amendment, IF NECESSARY, to allow the government to create and issue debt-free money.
"One version would be:
Congress shall have the power to authorize non-intere
It might be desirable to include a provision that two-thirds of each House of Congress, or some similar qualified majority, can waive the requirement in case of a declaration of war, the suspension to terminate annually unless renewed.
A Constitutional Amendment would be the most effective way to establish confidence in the stability of the rule. However, it is clearly not the only way to impose the rule. Congress could equally well legislate it."
Quoted from: Free to Choose by Dr. Milton & Rose Friedman, Harcourt Brace & Co. (San Diego 1980, 1990), pgs. 307-308.
I'm just switching back up here because otherwise space will be scarce pretty soon. Let's go.
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'shedding some light on the trading-investment business that was no longer relevant to today's crisis.'
is likely the core of our disagreement about the proper interpretation of the crisis. I think it is fully explained by aspects of malpractice in risk management. It may or may not be the case that the manner in which the Fed operates with respect to interest rates and money made things worse. And there may be more than 100% reasons to explain the crisis: it may have been a necessity for more than one reason. But be that as it may, it was already inevitable because of how risk was managed, monitored and spread around (or not spread around).
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'there is just plain too much debt that is not repayable'
I may be naive on this, but if you ask me, this would be the case only if the world itself were bankrupt. I doubt that. I fail to see why there should exist a problem beyond the instability generated by high indebtedness which amounts to small equity cushions and hence high probability of insolvency with all the friction and noise and wealth destruction and inefficient use of resources and external effects that come with insolvency.
As fas as I understand, you seem to claim that there is an extra macroeconomical problem on top of that. I fail to see what that is.
Apart from the question whether a particular design is preferrable (by some or by the majority or by those in power or by those who know), there is also the question of how to get from here to there.
I think we agree that there is too much leverage or debt and that it must be converted into equity by means of a giant restructuring - clearly the biggest in history.
The problem with the 100% non-fractional reserve system is, in my opinion - and that's what we disagreed on in our last discussion a couple of months ago - that it is far from clear that it is compatible with our 'growth-needs' in the form and size we have come accustomed to. Generally speaking, it seems clear that it is detrimental to growth.
In my view, the non-fractional reserve system solves mainly the problem of a liquidity crisis for banks, and it does so with brute force. At a high price. It also helps to smoothen a debt crisis, but I'm not even sure it rules that out entirely.
In short: while I agree that the higher equity levels that would prevail in such a system are precisely what's missing now, there are still two problems: I don't know how to get there (easily, other than via that giant restructuring) and I don't know whether the price is right even under the assumption that we would be already there.
Many people made the same statement about VAR and its limitations long before Taleb. Triana blows Taleb’s contribution out of proportion and dismisses the contributions of others. “True predictor of this crisis” sounds like sychophantic nonsense.
Taleb predicted nothing. He did not speak out in any specific way about leverage, bad lending, new risky loan products, rating agencies, CDOs, or credit derivatives There is a lot that needs fixing. Taleb jumped on the bandwagon after others explained these problems, and Triana seems to think we should now all bow down in awe. Nonsense.
According to The Guardian: “to establish his credentials as the sage of our current predicament, Taleb frequently refers to an August 2003 article in The New York Times in which he correctly predicted [Fannie Mae] had underestimated the risk of [a big move] in interest rates that would destroy the value of their portfolio.
http://www
I think that it would be a mistake to measure economists or finance experts against the literal validity of their predictions. Some (many) don't even bother to make any predictions, and that's a perfectly sound way to go.
The reason is that the economy and finance are highly probabilistic realms of entities and to measure the soundness of a point of view concerning random non-predictable events against particular predictions isn't going to produce a useful performance measure.
An understanding of the process is required and this is measured against the validity of qualitative predictions. The basis for that is still quantitative, but it is not about predictions of actual events, only about predictions of the kinds of events to expect.
This is not sibyllic, it is merely an honest acknowledgement of the nature of the subject and its inherent complexity and hence of the limits of theory concerning it.
That's exactly true. Together with the incentives that were in place, VaR was a ticking bomb. Subprime was merely the thing which happened to turn out to be the trigger. And that's precisely why insufficient risk management in conjunction with screwed up incentives will necessitate the next crisis, as certain as night follows day.
Without triggers, you could let toddlers play in a bomb factory, with appropriate child protective devises on the outlets and such, forever with no fear. It would probably be thousands of times safer than most backyards.
I'm not sure I understand your point. Risk managers tend to distrust mine fields as an appropriate site for a children's playground. Do you think they're exaggerating?
Thanks for the idea of comparing traders to toddlers.
You are correct. The mortgage default crisis was nothing compared to the over leveraged, exotic derivative and CDO gambling scam. The defaulting mortgages could have been handled via a government established re-mortgaging program. Had the Wall Street thieves inside the bigger financial crime syndicate controlled by the bankstas not been able to gamble away so many 401K and working America's retirement savings, this crisis would be over already, in many aspects. Aside from the rising unemployment due to outsourcing, the new wave of Pink Slipped workers is due to workers saving more, spending less and no longer the purchaser of cheap Asian goods sold around the country, which is shutting down retail stores.
http://eye
It was a housing crisis. without exotic subprime, the financial crisis would never have happened.
No. I wouldn't go so far as to claim that the subprime story is a cover-up, but it is certainly not the root cause of the problem.
The same thing would have happened with any other kind of risk-taking gone out of control. The fact that it happened to be about private housing is a coincidence.
What happens to a MBS made up of fully qualified, prime borrowers? Simple: 360 on-time house payments.
Nassim Taleb predicted the crisis and the government did nothing about it because they also knew the crisis was coming. The big banks and their people in the government engineered this crisis as a way to transfer massive amounts of wealth from the taxpayers to the bank owners. The government knew all along. Both the democrats and the republicans are in on the scam. They will both get rewarded for their mischief with more campaign donations.
I Loved "The Black Swan". I'm going to read it again.
"Where Were Drama Pundits Whitney, Taleb and Gasparino When it Mattered?"
http://www
This linked article gives another perspective.
Trianna works hard to stretch Taleb's general statement about Value at Risk--one that many in the business pointed out even before Taleb--into a claim of his being the "true predictor.
We need all hands on deck. Thoughtful analysis and ideas from every source should carry equal weight as long as they are supported by facts.
"VaR, the mathematical model used as risk radar by banks and chosen by regulators as the tool that sets capital charges for trading activities"
Are you talking about investment banks here? They were not regulated, which, when you think about it , may have been the problem.
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