I’m good at predicting yesterday’s weather, or impersonating the 6 pm TV announcer solemnly attributing today’s fall in airline stocks to the rise in oil prices. As for future events, I need a little more time.  You sense where I’m going: Where were the sages who tell us, today, why the financial markets collapsed?  The rearview explanations abound: CDS (Credit Debt Swaps), regulators looking the other way, subprime mortgages seducing homeowners into using their house as ATMs and, above all, the obligatory, populist and escapist: Wall Street Greed.
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I beg to differ, not by 180 degrees, more like 60 or 90. And I’ll hasten to say I don’t propose to really explain (as opposed to describe), let alone propose remedies to the crisis.
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Why?  Because we’re dealing with mysteries, not secrets.
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A secret is like a combination lock. With time, accomplices who procure the blueprint to the safe, harder tools, faster computers, the lock can be picked, the secret revealed.
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A mystery, on the other hand, is just that, a mystery, there is no combination, no code to be broken. Who created the Universe?  God, some will say .  Fine, but who created  God?  The Meaning of Life?  42 — according to Douglas Adams.  Mysteries do not lend themselves to syllogism, to deduction, only to metaphors for their contemplation.
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For example: Wall Street Greed.
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Consider mutating bacteria such as E. Coli or clostidrium difficilis. Why blame them for nosocomial (contracted in hospitals) diseases, for the weakening arsenal of antibiotics?  They multiply, they evolve, they adapt, they survive.  And, consider their last name, Coli, because they live in our colon.  It’s not a given we’ll ever eradicate them and, if we did, that their disappearance would benefit our species.  Instead, we evolve tools, chemicals and practices, to keep them under control.
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The metaphor is a little obvious. Wall Street is an ever-evolving life form of practices, deals, dealers and their inventions, their financial instruments.  They can’t, they mustn’t be eradicated.  We can’t live without credit, leverage, currencies and insurance.  Just like we need to use antibiotics judiciously, to invent new ones and to worry about prophylaxis, we have no choice but continuously evolve financial regulations and policing organizations.
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Contrary to what easy-thinking ideologues claim, we don’t need less regulations. Societies cannot be ruled by the Law of The Jungle.  Try deregulating traffic intersections.  Yes, too much regulation leads to old style central planning, gosplan, to a Soviet economy, even more corrupt in the end.  The real difficulty is evolving regulations and police as Wall Street evolves.
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I realize saying this is just about as helpful as the famous weight-loss regiment: Eat less and exercise more, for ever.  Another kind of mystery.
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But wait, it gets worse, the metaphor is incomplete, full despair in a moment. There is another ever-evolving life form at work: the three branches of our government with its stubborn resistance to change, to accounting prophylaxis,  transparency.  To say nothing of a sickeningly complex, always growing, smellier and smellier tax code.  If our government can’t be cleaner than Wall Street, how will this life form control the other?
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More black to this bleak picture.  Another mystery: models.
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In this context model means a set of equations.  Models are used by economists, businesses, Wall Street traders or governments, they have become both devilishly complicated, thousands of equations — and immensely valuable.  If Southwest Airlines makes good predictions for passenger traffic and oil prices, they can buy insurance for their fuel purchases and price tickets correctly and generate profits and make shareholders happy and, as a result, help pension funds pay benefits to retirees who, in turn, buy goods and services from businesses who…  And this is a laughingly oversimplified example.  Fine, but we have the finest math PhDs and the biggest computers in the world.  Probably true for a few more years.  The mystery lies deep inside the models.  They cannot deliver because their equations are, in layperson’s parlance, non linear.  Put another way, they are unstable.  The smallest error in the input data quickly results in gross deviations.  If this sounds crazy, please turn to weather forecasting.  An immensely valuable activity for agriculture, travel, insurance, war…  In the past twenty years we’ve made no substantial progress.  We always knew winters were colder than summers but we can’t predict next week’s weather with any accuracy.  And we won’t.  Counterintuitive as the statement might sounds, it results from properties of what some call Dynamical Systems or Chaos Theory, I prefer non-linear systems because the name addresses the nature of the mystery.  (A good read on the topic is James Gleick’s Chaos: making a new science.)  This has nothing to do with basic randomness found in quantum physics.  The mystery of real-life complex systems is they’re both deterministic and unpredictable. [I’ll skip over the competition between models trying to outguess one another.  Mathematically inclined readers will subsume those into an even more unstable meta-model.] .
We like to believe we can influence the course of events; this is how we’re built.
But, more often than we’d like, we have no say.  It’s a Law of Nature: financial markets will defy prediction and will explode from time to time.
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Is this nihilistic or defeatist?  Not in the least. Even if we know we can’t guarantee stability, we can make the system less dangerous, the bacteria less lethal.  And we can listen more serenely to the charlatans. -JLG
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