Black Swans


BlackSwan3I have recently read Nicholas Taleb‘s book The Black Swan and although I would not call the book an easy read, it is a good read, and certainly encourages you to think about the random and the unknown.

The essence of what constitutes a Black Swan Event is to be found in the story of the Black Swan. (Short Version: European’s for 1600 years or more believed all Swans where white. They even had a saying – as rare as a black swan. So the discovery in  New Holland that no only where they possible, they were in fact not rare at all confronted then with the need to rethink many things.) A Black Swan event is by definition, unexpected, significant, requires change, and can afterwards be analysed as an event that could have been planned for)

There are a number of events that have been seen as Black Swan Events in recent years, including the felling of the twin towers, and the global financial crisis. Typical of the Black Swan event there are those who are able to point to the signs that they should have seen and didn’t, or didn’t take seriously enough, a significant reaction, possibly over compensation, and a sense of shock.

As Taleb has a certain credibility in the world of finance his analogy is largely based on the financial/philosophical approach, however it is no doubt wider than that. It may be a bit MontyPythonesque  however the message seems to be that we should ‘expect the unexpected’. The question, and it is a real world question, “How do you prepare for a black swan”. Clearly at one level you can’t. At another level, if you acknowledge that such events will occur you take take action so as to ensure that you, (or the organisation you are part of) has the capacity to withstand the event. In Financial terms, whilst the rich may have lost more than the poor, the rich are still richer than the poor. One of the concerns that has currency, is the question about what happens if a sustained slow down in western economies impacts China. Many believe that is likely to be a catalyst for massive unrest and social turmoil which could lead to any one of many outcomes. In a sense the response to the perceived threat could be counter productive, for the most natural response would be to limit our dependence on Chinese trade.

Much of the problems of the global meltdown has to do with borrowings against perceived unverifiable futures. And sure all borrowing has an element of this about it, and where the investor is lending money outside of the capacity to pay, but rather on a future, and as yet unrealised, capacity to pay, it has more of the characteristics of venture capital. When someone lent the Google Boys 10 million before they even had a business plan, it turned out to be a good thing, had it not been so good, they may not have got their money back, let alone the interest. The point being that you can’t put 10 million into a venture if you can’t reconcile yourself to the possibility of loosing it all. If many banks are lending beyond conservative guidelines, then the risks grow, and the thing about risk is that it may happen. The problem is that when it is the banks, then they have the capacity to bring down the whole economy – just ask the Americans.

On the whole Australian Banks had not gone so far down that road, and so where a lot less exposed, and the Australian Economy, after the Costello years, was fairly robust and cashed up, enabling the Government to limit the Banks exposure and to spend (perhaps more in the sense of expend rather than invest) and so stimulate the economy in a classic Keynesian manner. This means, certainly at this point of the cycle the Australian economy is in better shape than most other economies in the western world, mainly because we started in a better position. One of the risks we now face is that we have expended the buffer, so the next blast may well leave us shell shocked. I think that most Australians also believe that our Banks have behaved like indulged and spoilt children, arguing that they need to be allowed to make mega trillion profits and whack their customers at every turn because a strong banking sector is a sign of a good economy.

It should also be argued that not all Black Swans are in the financial sector, and the sector should not be allowed to monopolise or monetise the term. The Black Swan can and does form a part of every aspect of our lives, including relationships, spirituality, and even weather. The earthquake in Christchurch NZ was a Black Swan, no one especially expected it, and the city was not overly prepared for it, and then it happened. Suddenly all our thoughts of green field and a fabulous Cathedral are replaced with scenes of a panic and mayhem. Then of course we go back and ask if we should have been expecting it, and what we could have done to be more prepared, more aware, and better able to predict such events.

Inevitably human beings will always try and build the models so it doesn’t get us again, and logically, so we should. The argument of Taleb is that if nothing unexpected ever happened that in itself would be unexpected.

Part of the thing about Black Swans is that they are not all bad, some indeed are the best, and whilst we try to control and manage our environments as best we can, sometimes it is the bolt from the blue, that really makes the difference, the truly unexpected. Perhaps the significant concerns over the past few years have been somewhat laid aside in the wake of good rainfall in the catchment regions of the Murray Darling Basin. Does that mean the problem is fixed? Probably not. Does that give us some breathing space? Probably Does. Does that mean that we will use the period of grace well? Two consecutive years of good rain does constitute something of a Black Swan in this arid land. For those whose houses and businesses are under water it is possibly a Black Swan they could have done without.

Perhaps the abiding lesson of the book is that we don’t know what we don’t know. If we knew what we didn’t know we would either engage in a process of education, or take some other appropriate action to embrace and prepare, or shore up and defend.

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