Wednesday, April 08, 2009

Reducing risk in the financial system

Naseem Taleb, former trader and something of a maverick in his views on the financial system, comes up with 10 rules for making the world "black swan free'- a black swan is that rare event which can end up destroying an institution or a system. His tenth rule I found particuarly drastic:

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.
His first two rules are also highly sensible but not easily enforceable:

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.


K.R.Srivarahan said...

The ten commandments to definancialise the economy are very interesting.They are also a knee-jerk reaction to recent extreme events. In our anxiety to prevent Black Swans, we should not depopulate all swans.

Shubh said...

Although the 10 commandments are good but their implementation is difficult. How do you prevent someone from becoming 'Too big to fail' that will be restricting companies for M&A, which cannot be adopted in the long term.