And many of the items have a strange aphoristic feel to them: What is fragile should break early while it is still small. And: People who were driving a school bus blindfolded (and crashed it) should never be given a new bus. And: Do not give children sticks of dynamite, even if they come with a warning. It's like Confucius, crossed with the metaphors of a tenth grader.
But what's frustrating is that Taleb doesn't even make a feeble effort to produce policy prescriptions. The closest he comes is to say that we need to change our capitalist structure "voluntarily":
Let us move voluntarily into Capitalism 2.0 by helping what needs to be broken break on its own, converting debt into equity, marginalising the economics and business school establishments, shutting down the "Nobel" in economics, banning leveraged buyouts, putting bankers where they belong, clawing back the bonuses of those who got us here, and teaching people to navigate a world with fewer certainties.
Are you confident that these prescriptions are possible or desirable, or will produce a world that is better-prepared to deal with uncertainty? (Getting rid of the faux-Nobel prize in economics? Really?) I have trouble believing that Taleb really believes this will do the trick.
I'm guessing the problem with forcing the financial industry to shrink is that it means a lot more deleveraging. There's a lot of debt out there that has to be pulled back or written off, if banks are going to be smaller. No one wants to do that right now.
Instead of a simpler, smaller banking system, we'll just get a politicized one. Because government regulation never hurt anything....
Hey, I said it was necessary -- I didn't say it was sufficient!
1. What is fragile should break early while it is still small. Nothing should ever become too big to fail.
Steve: Taleb is referring to corporations, not countries. This seems easy enough to make happen: evaluate the systemic risk a corporation poses and break it up into smaller companies when the systemic risk it poses is too high.
2. No socialisation of losses and privatisation of gains. Whatever may need to be bailed out should be nationalised; whatever does not need a bail-out should be free, small and risk-bearing.
Steve: If you implement 1., then 2. should also be possible (i.e. since there are no companies that are too big too fail, just let companies fail when they fail).
3. People who were driving a school bus blindfolded (and crashed it) should never be given a new bus. The economics establishment (universities, regulators, central bankers, government officials, various organisations staffed with economists) lost its legitimacy with the failure of the system. It is irresponsible and foolish to put our trust in the ability of such experts to get us out of this mess. Instead, find the smart people whose hands are clean.
Steve: Taleb is right again. The incompetent have to be replaced by more competent, less corrupt people. The "Nobel" price for economics is a travesty. It is not a real Nobel prize and it is ridiculous to suggest that economics is a science like Physics. In particular the politicizing of economics is appalling.
4. Do not let someone making an “incentive” bonus manage a nuclear plant – or your financial risks. Odds are he would cut every corner on safety to show “profits” while claiming to be “conservative”. Bonuses do not accommodate the hidden risks of blow-ups. It is the asymmetry of the bonus system that got us here. No incentives without disincentives: capitalism is about rewards and punishments, not just rewards.
Steve: Taleb is right again and this is actually old wisdom that transcends the financial industry. It is also easy to implement.
5. Counter-balance complexity with simplicity. Complexity from globalisation and highly networked economic life needs to be countered by simplicity in financial products. The complex economy is already a form of leverage: the leverage of efficiency. Such systems survive thanks to slack and redundancy; adding debt produces wild and dangerous gyrations and leaves no room for error. Capitalism cannot avoid fads and bubbles: equity bubbles (as in 2000) have proved to be mild; debt bubbles are vicious.
Steve: I think I understand what he really thinks but he has not expressed it clearly here. I think it would be better if he talked about the risk due to tightly coupled systems. For example, rather than depend on a really complex, tightly coupled product, it would be better to decompose the tightly coupled, complex product into loosely coupled, simpler products. When it is necessary to unwind, you need to be able to unwind to simple products so that it is easy to unload those products in a flexible way. Financial products need to be simple enough that the consumers of those products understand them (and the corresponding risk).
6. Do not give children sticks of dynamite, even if they come with a warning . Complex derivatives need to be banned because nobody understands them and few are rational enough to know it. Citizens must be protected from themselves, from bankers selling them “hedging” products, and from gullible regulators who listen to economic theorists.
Steve: Basically an echo of 5. Seems on the right track to me and it certainly is possible to regulate derivatives.
7. Only Ponzi schemes should depend on confidence. Governments should never need to “restore confidence”. Cascading rumours are a product of complex systems. Governments cannot stop the rumours. Simply, we need to be in a position to shrug off rumours, be robust in the face of them.
Steve: I interpret this to mean that people should actually understand what they invest in (i.e. they are confident because they understand it). Also, that government cannot provide confidence because it does not have the actual ability to save the situation by intervening in an intelligent way. That certainly seems true to me.
8. Do not give an addict more drugs if he has withdrawal pains. Using leverage to cure the problems of too much leverage is not homeopathy, it is denial. The debt crisis is not a temporary problem, it is a structural one. We need rehab.
Steve: obviously true. We have to save more and consume less. Pretty simple.
9. Citizens should not depend on financial assets or fallible “expert” advice for their retirement. Economic life should be definancialised. We should learn not to use markets as storehouses of value: they do not harbour the certainties that normal citizens require. Citizens should experience anxiety about their own businesses (which they control), not their investments (which they do not control).
Steve: obviously true. You better understand your investments (whatever they are) or you may be exploited. Again, this is old wisdom (a fool and his money are soon parted).
10. Make an omelette with the broken eggs. Finally, this crisis cannot be fixed with makeshift repairs, no more than a boat with a rotten hull can be fixed with ad-hoc patches. We need to rebuild the hull with new (stronger) materials; we will have to remake the system before it does so itself. Let us move voluntarily into Capitalism 2.0 by helping what needs to be broken break on its own, converting debt into equity, marginalising the economics and business school establishments, shutting down the “Nobel” in economics, banning leveraged buyouts, putting bankers where they belong, clawing back the bonuses of those who got us here, and teaching people to navigate a world with fewer certainties.
Then we will see an economic life closer to our biological environment: smaller companies, richer ecology, no leverage. A world in which entrepreneurs, not bankers, take the risks and companies are born and die every day without making the news.
Steve: kind of a rehash of previous points, but it seems true and doable. Now is not the time to patch the old system but is the time to rearchitect. In general, he wants more competition by limiting the size that companies may reach. Sounds like a good idea to me. He wants banking returned to old days when commercial banks and investment banks were separate (IIRC, Summers, in the waning days of the Clinton prez, broke down the walls between commercial banking and investment banking). Banking used to be a much safer and more boring business. Krugmen agrees with separating investment banking and commerical banking.
What Taleb proposes is mostly common sense and is certainly doable (sometimes it is as simple as doing it the way we used to). If you think his writing is hard to understand, you should look at his web site.
Taleb's list is strikingly simplistic. Some examples follow.
From #4: "Do not let someone making an “incentive” bonus manage a nuclear plant – or your financial risks. Odds are he would cut every corner on safety to show “profits” while claiming to be “conservative”.
I wouldn't be surprised if nuclear plant managers do have some sort of incentive bonuses -- and why wouldn't they? The lesson here should be that bonuses need to be structured so the interests of shareholders, taxpayers, and managers are aligned, not that bonuses need to be eliminated. In the case of a nuclear plant manager, for example, his bonus might be tied to meeting certain goals for safety, efficiency, etc. Obviously, a bonus that encouraged him to ignore safety would be retarded, but there's no reason to structure a bonus that way.
From #6: (Steve's commentary) "Seems on the right track to me and it certainly is possible to regulate derivatives."
Taleb doesn't say derivatives should be regulated, he says they should be banned. Why deprive investors of the means to hedge their risks? You could argue, as Soros has, that certain derivatives (e.g., CDS) should be limited to those who have an insurable interest, but that's not the same as banning them.
From #9: (Steve's commentary) "You better understand your investments (whatever they are) or you may be exploited."
Again, you are saying something different than Taleb. Taleb isn't saying you should understand your investments, he's saying that you shouldn't have any investments, except, perhaps you're own business. So those who own their own businesses should have 100% of their assets in their business? What about those who don't own their own businesses?
From #10: "Then we will see an economic life closer to our biological environment: smaller companies, richer ecology, no leverage."
No leverage? Really? Does that mean that home buyers will have to pay 100% cash for their houses, with no mortgages? How about less leverage instead?
I agree with the general direction of Taleb's proposals and modified them a bit to make them more reasonable (from my perspective). I worked with French engineers/scientists my whole career and I am used to them staking an initial position that is too strong and then backing off to a more defensible position as debate proceeds.
English is not his first language so I cut him more than a little slack. I'm married to a lady who doesn't speak English super well (not her first language) so now I have this ingrained habit of trying to understand what people mean rather than what they actually say. Obviously it works much better when you can paraphrase it back in real time as the conversation progresses.