Black swan now elephant in the room

Nassim Taleb is exceedingly anxious: he has a flight to catch, and is not calmed by assurances that in efficient Hong Kong, he will make it to the airport with plenty of time to spare.

“I don’t want to cut it too fine,” he says, getting fidgety by the minute. “I want to give allowance for ‘black swan’ events”: a road accident or a traffic jam that might delay him and upset his travel schedule. “That’s how you can apply the ‘black swan’ principle in your daily life.”

 ‘Black swan’ events, of which the risk analyst wrote in his bestselling book The Black Swan: The Impact of the Highly Improbable, are rare, unpredictable events, the possibility or importance of which it is folly to ignore.

Taleb, a former derivatives trader, used that theory to frame last year’s collapse of the financial system, under the weight of the excessive risks that banks took invoking specious probability matrices.

A year after that collapse, Taleb has a disconcerting message to convey. Yesterday’s ‘black swans’ are today’s “elephant in the room” that everyone continues to ignore, he says. “The hidden risks of debt are still there — except that it’s been transformed from private debt (involving two individuals who made mistakes) to fiscal deficits to be borne by all taxpayers — and future generations of Americans.”

In response to the “cancerous debt pile-up,” patients are being given painkillers, says Taleb. “I don’t see any consciousness of the problem being addressed.”

In particular, Taleb has searing words of criticism for President Barack Obama — whom he voted for, but now “wants his vote back” — and “the people surrounding him”: Ben Bernanke, Timothy Geithner and Lawrence Summers. “There were so many wise people around, but whom does Obama pick? The same people who were driving a schoolbus blindfolded, who have now been given a bigger bus.”

As one of his “ten principles for a black swan-robust world”, Taleb warns against the administration policy of “giving addicts more drugs merely because they are having withdrawal pangs.” Instead of asking overleveraged banksto take the pain from loans gone bad, they are being asked to lend more. “Today banks are more fragile — and bigger — than they were a year ago,” he points out.

Additionally, the Obama administration is “punishing those who did the right things and rewarding those who made mistakes.” As another example, he cites the recent cash-for-clunkers program, under which customers who traded in gas guzzlers for new cars got a cash rebate. “Anyone who bought a guzzler should be penalised, but is instead being rewarded — with payments that will come from taxpayers.”

At the core of the Obama administration’s policy responses to the crisis, Taleb sees a system that is “socialising losses and privatising profits…There’s something fundamentally wrong this system: it incorporates the worst of socialism and capitalism, without any of their redeeming qualities.”

Governments, he says, “should never have to restore confidene in the markets…. Only Ponzi schemes need to have their confidence restored.” Instead, he says, governments should use the opportunity provided by the broken system —- “or broken eggs” - to rebuild a robust —- and a far less complicated - system. “You should be comfortable with a system that can withstand rumours, booms, busts… That will happen if naturally if you let things be.”

Defending the Darwinian survival-of-the-fittest theory he recommends, Taleb cites the merits of what happens in the world of nature. “In nature, there’s no such thing as too big to fail; and there’s no overleverage in nature,” he points out.

Taleb has a parting word of advice for Chinese policy makers. “As the biggest ‘customer’ for US Treasuries, China should tell Obama to get someone with a little more intimate knowledge of risk-taking than Geithner. Else, stop buying the bonds.”