A guest post from Frank Dunn, an English physicist, mathematician and polymath, best summed up as an answer to why "we could do so much better, be so much better; if only we wanted to".
Taleb: what fools these mortals be?
Reading Brian Appleyard on Taleb in the ST Magazine (Cover Article, Expect the Unexpected, Prophet of Loss) left me with a sadness I have felt many times before. Appleyard writes sympathetically & warmly of Taleb. I too have much sympathy with Taleb. He writes and talks warmly and wisely on the foolish hubris of financial maths.
However, even he has misunderstood several key issues. He also gives the impression we can do no better. He, like Donald Rumsfeld seems to have given up: “There are things that we do not know we do not know”. You can hear mediocre scientists saying much the same thing about consciousness or quantum theory: “there are things that we are perhaps not meant to know”; or similar specious superstitious nonsense. I could write several books on how we could do better. Actually I already have, but I will keep it brief here.
Ostriches, not Black Swans
The ‘Black Swans’ that Taleb describes so poetically have been known for a few decades to students of market behaviour by a far less glamorous name: ‘Fat Tails’. These are the extreme events that happen far more often than they should, if you believe in conventional financial maths. These ‘extreme events’ or ‘outliers’ have been ignored for all this time as if they did not matter. However, ‘Fat Tails’ are more than merely important: they reveal the real, true risks of investment(s). The problem is thus not so much the existence of Black Swans, but the ostriches who have chosen to ignore them.
Fooled by Uncertainty, not Randomness
Financial markets are conclusively NOT random. If they were, the ‘Fat Tails’ full of ‘Black Swans’ would not be there. Instead there would be a nice simple ‘Bell Curve’ of the ‘Normal’ statistics of random behaviour. Taleb thus confuses randomness with uncertainty.
Financial markets, like human beings behave neither deterministically nor randomly. They exhibit the open-ended uncertainties of choice; human choice.
There ARE Better Models
Using Network Models, it is possible to understand the effects of individual free will, as well as the collective free will of groups or crowds. The essential differentiating feature of networks is they allow for influence (or cause) to be non-local; for remote events to influence local outcomes.
Inside the human brain, this means we can collect and organise information before we are ready to act. Externally, it reveals our collective, group or crowd behaviour; as well as how crowds can be often foolish but sometimes wise. This tribal, organised and communal behaviour gives the lie to the Darwinist illusion of man as ruthless individual. We are team players and Dawkins is yet another deluded fool.
However, these network models are still very crude and there is much work yet to do. In particular, as Penrose pointed out 20 years ago we will need better computers to model the human brain accurately: non-algorithmic quantum computers.
We could do so much better, be so much better; if only we wanted to.
Who is the Bigger Fool, the Mathematician, or the Central Banker?
So financial mathematicians turned out to be cheap salesmen like so many others; like so many politicians, lawyers, pensions sellers, IT & management consultants; pouring all their energies into flogging defective products they already had; rather than developing better offerings.
The question then must be: why do we all buy so much specious mediocrity? Why are Central Bankers, just like the typical consumer so eager to buy all the rubbish proffered to them? Perhaps it is because no-one thinks too deeply any more; anything too difficult is left to some arbitrary ‘expert’?
Perhaps, like Taleb we enjoy parties too much? Ironically, we are all too busy ‘networking’ to see how networks really work. I hope we sober up soon.