# Ten principles for a black swan proof world



## kincella (9 April 2009)

copied from another forum...

Ten principles for a Black Swan-proof world
By Nassim Nicholas Taleb

Published: April 7 2009 20:02 | Last updated: April 7 2009 20:02

1. What is fragile should break early while it is still small. Nothing should ever become too big to fail. Evolution in economic life helps those with the maximum amount of hidden risks – and hence the most fragile – become the biggest.

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. We have managed to combine the worst of capitalism and socialism. In France in the 1980s, the socialists took over the banks. In the US in the 2000s, the banks took over the government. This is surreal.

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.

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.

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.

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.

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.

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.

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).

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.

In other words, a place more resistant to black swans.

The writer is a veteran trader, a distinguished professor at New York University’s Polytechnic Institute and the author of The Black Swan: The Impact of the Highly Improbable


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## Uncle Festivus (9 April 2009)

Sound advice indeed, especially point 8 - 

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.

Akin to giving first home buyers $21,000 for a deposit and the rest of the populace stimulis freebies?


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## enigmatic (9 April 2009)

Uncle Festivus  i dont remember getting my stimilus freebies.

I'm Definitely part of the "and the rest of the populace"


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## Gundini (9 April 2009)

The ole Black Swan!


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## James58209 (29 March 2010)

I just came across these 10 principles, and I see that they were posted here a year ago.  So how would we rate our government, our big banks, and our RBA in their efforts to create a black swan proof world?  I think Glenn Stevens is trying to do the right thing -  I don't have any conspiracy theories about the RBA.  But I'm quite cynical about governments, big banks, the mainstream media, and of course real estate agents.  Do they think that black swan events are so unlikely that they don't need to put in much effort to avoid them?  Or do they just think that they can easily avoid accountability, and just pass the blame onto "the market"?  Who has the power to to alleviate the problem of "passing the buck" and to prevent each individual government from using the excuse that "the global debt problems are global"?  China?  The IMF?


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## Bushman (29 March 2010)

James58209 said:


> I just came across these 10 principles, and I see that they were posted here a year ago.  So how would we rate our government, our big banks, and our RBA in their efforts to create a black swan proof world?  I think Glenn Stevens is trying to do the right thing -  I don't have any conspiracy theories about the RBA.  But I'm quite cynical about governments, big banks, the mainstream media, and of course real estate agents.  Do they think that black swan events are so unlikely that they don't need to put in much effort to avoid them?  Or do they just think that they can easily avoid accountability, and just pass the blame onto "the market"?  Who has the power to to alleviate the problem of "passing the buck" and to prevent each individual government from using the excuse that "the global debt problems are global"?  China?  The IMF?





The worst 'bubble' isn't equities (i.e. dotcom) or debt (i.e. LTCM, Asian), it is a housing bubble as it affects every household. 

Our regulators and banks have now taken Australia into the housing bubble territory. How so? 
1. middle class welfare ramped up or flaws ignored i.e. first home owners, negative gearing; 
2. in the words of Don Argus, our bif four banks becoming glorified building societies with rampant lending to the residential sector at the expense of SMEs, commercial property and affordable housing. The loan book of the big four is now something like 60% residential; 
3. Chaotic planning system; 
4. Relaxation of foreign ownership laws; 
5. cutting interest rates; and
6. immigration without any planning framework. 

This has led to house price growth far outstripping income growth, leading to an affordability crises. The political fall-out of this will become a tidal wave in the next few years as two generations are priced out of the property market. Issues will be choosing children vs owning a house, continued rampant subdivision without infrastructure to support it etc. The cure will be regulatory and painful for said homeowners, as pressure on interest rates and capital values increases. The net outcome is households deleveraging, a long and painful bust which will hurt!  

Also where is the wisdom on pinning 100% of our hopes on China/India, two nations with an immature financial system, a fixed currency and a population base that saves and don't spend. Diversification anyone? 

My 2c. We have been lucky to date, not clever. The risks of our own Aussie black swan (and we are the home of said creature after all) has simply increased. The danger is there for all to see.


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## doctorj (29 March 2010)

I don't understand.  I've read Taleb's books and happen to be a big fan, but the idea that he can come up with 10 rules to minimises the risks of a 'black swan' in the future seems at odds with what I THOUGHT I understood from his books.  If a 'black swan' is a the occurance of a low probability event you don't expect, how can you make rules against it?


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## wozzza (30 March 2010)

i agree the terminology sounds strange, because as soon as you identify a risk and start to pinpoint preventative measures its no longer a black swan. but, its only the terminology, i suppose in a way his 10 points are preventing what would be a black swan to others (eg. mainstream economists, politicians, majority of population), even though to me it makes total sense.


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## Garpal Gumnut (1 April 2010)

doctorj said:


> I don't understand.  I've read Taleb's books and happen to be a big fan, but the idea that he can come up with 10 rules to minimises the risks of a 'black swan' in the future seems at odds with what I THOUGHT I understood from his books.  If a 'black swan' is a the occurance of a low probability event you don't expect, how can you make rules against it?




My thoughts exactly doc. Nick Taleb probably took a hit in the GFC and like James Taylor and Elton John has to do endless tours and rehashing of old hits to generate kopeks to pay the bills.

A black swan event is unexpected and low probability. It doesn't lend itself to 7 Habits type Mormonic analysis.

gg


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## joeyr46 (2 April 2010)

Garpal Gumnut said:


> My thoughts exactly doc. Nick Taleb probably took a hit in the GFC and like James Taylor and Elton John has to do endless tours and rehashing of old hits to generate kopeks to pay the bills.
> 
> A black swan event is unexpected and low probability. It doesn't lend itself to 7 Habits type Mormonic analysis.
> 
> gg




I cant see how we have had a black swan event as everything that has happened so far is simple economics and not unexpected consequences.


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## tech/a (2 April 2010)

Garpal Gumnut said:


> A black swan event is unexpected and low probability. It doesn't lend itself to 7 Habits type Mormonic analysis.
> 
> gg




Yeh well My house burning down or being killed unexpectedly are to me examples of Black Swan Events and I'll do what I can to make these as Black (Rare) as I can.



joeyr46 said:


> I cant see how we have had a black swan event as everything that has happened so far is simple economics and not unexpected consequences.




Its when not necessarily what.

Of course then there are positve Black swan events and I also take care to place myself in front of even rare opportunity---get it right once and it can change your life as it did mine! I had no idea it was going to occur.


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## Garpal Gumnut (2 April 2010)

tech/a said:


> Yeh well My house burning down or being killed unexpectedly are to me examples of Black Swan Events and I'll do what I can to make these as Black (Rare) as I can.




With great respect, particularly to the last scenario, they are not black swan events. 

gg


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## motorway (2 April 2010)

> 1)Beware of obvious rewards and excessive competition - they increase exposure to chance events and reduce the role of skill in acquiring rewards
> 
> 5) Invest in preparation - insure against the worst-case-scenario
> 
> ...




Navanit Akeri ==> Acting Under Uncertainty - 25 Rules Of Thumb

----

Motorway


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## tech/a (2 April 2010)

Garpal Gumnut said:


> With great respect, particularly to the last scenario, they are not black swan events.
> 
> gg




GG

To me they are.
Ive had neither in the last 56 yrs.
Yet Ive seen the Twin Towers demolished.
Seen 3 people I know win lottery.
Saw Port Power win a final---if that's not black swan nothing is!

Even so you get my point we can take steps to minimise or pre warn.

They are doing this now with Meteor searches


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## Garpal Gumnut (2 April 2010)

tech/a said:


> GG
> 
> To me they are.
> Ive had neither in the last 56 yrs.
> ...




Particularly on the last example.

You've got me....


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## theasxgorilla (2 April 2010)

Uncle Festivus said:


> Akin to giving first home buyers $21,000 for a deposit and the rest of the populace stimulis freebies?




I think the FHBG/OG is more like tax relief... a stamp duty offset.  I don't see anything wrong with this as it's targeted in a way that helps those who need the help.  Those already on the property ladder have an advantage over those trying to get on.  Given that Australian society views housing as a "fundamental human right", is that fair?

The fact that we have a debt driven property ladder is a whole other discussion, but I don't think the grant you mention maps to what Taleb is describing in point 8.


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## theasxgorilla (2 April 2010)

doctorj said:


> I don't understand.  I've read Taleb's books and happen to be a big fan, but the idea that he can come up with 10 rules to minimises the risks of a 'black swan' in the future seems at odds with what I THOUGHT I understood from his books.  If a 'black swan' is a the occurance of a low probability event you don't expect, how can you make rules against it?




I think what Taleb describes is a brand new (or probably a really old) landscape for a capitalist society, where black swan events are insignificant in impact, and therefore not able to threaten the system itself.

Have you read John Mauldin's fingers of instability?

http://news.goldseek.com/MillenniumWaveAdvisors/1156701777.php 

The real problem we face in the current system is that "fingers" of instability are introduced when, for various reasons, risky ventures do not fail in the natural course of events but are instead rewarded and kept hidden.  According to Mauldin's piece above, when a black swan even occurs, we can't know whether the impact will be a localised collapse, or global and systemic.

The system Taleb describes would not prevent black swans but, as he puts it, should create "a place more resistant" to their impact.


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