I’ve nearly finished reading The Black Swan, Nassim Nicholas Taleb’s brilliant book about how we know less than we think we know, how we draw too many inferences from our own experiences and how we grossly misunderstand risk. (Yes, it’s a timely book. Taleb is a former Wall Street trader who evidently had little impact on his reckless peers, although the causes of the current meltdown go way beyond recklessness.) In any event, the metaphor of the Black Swan—that is, the sudden, unexpected, game-changing occurrence—is affecting the way I read the paper, listen to NPR and do what I’ve done for the last couple of days—go to conferences showcasing business and political leaders and other “experts.” Today’s list includes Newt Gingrich, Sheila Bair of the FDIC, Wall Street legend Pete Peterson and Richard Ward, CEO of Lloyd’s of London.
The question that keeps running through my head is this: Do these people really know what they are talking about? I suppose they may when describing the world as it is, with facts, figures and anecdotes. But my BS detector goes on alert when they try to explain why things happened, or what is likely to happen next—that is, when they impose a narrative structure on events or extrapolate the future based on what we think we know now. This is like the turkey whose opinion of the humans who feed him every day rises steadily until just before Thanksgiving.
Taleb argues persuasively that narratives distort more than they enlighten, that the world is more random that we realize, that we should avoid making predictions and avoid those who do. He writes:
Our minds are wonderful explanation machines, capable of making sense out of almost anything, capable of mounting explanations for all manner of phenomena and generally incapable of accepting the idea of unpredictability.
One of his chapters is subtitled: Nobody knows what’s going on.
I don’t know how many business people have read Taleb—his books are best sellers, and he’s garnered enormous amounts of publicity—but I’m noticing this week that many sound like they’ve read him. Most likely, they’ve been shaken a by the financial crisis and the recession and the sense that really smart people like Ben Bernanke and Hank Paulson may not know what to do about them. This is another upside of the meltdown: It has taken some of the swagger out of corporate America. (For the first upside of the meltdown, see this post.) People are more willing to admit they don’t understand what’s going on, or know what to do about it, and that’s refreshing.
In that context, here are some things that I heard today at the FORTUNE 500 Forum and at a Newsweek event called “The Future of Energy.” (Taleb would not approve.) So please take all that follows with a shaker full of salt:
Gingrich is smart, knowledgeable, funny and opinionated, and therefore a great guy to have on a panel. I wouldn’t go so far as to say that his ideological edges have softened but he had kind words for the Obama cabinet including the new secretary of state, Hillary Clinton. “The team he just assembled on national security is as solid and capable a team as we’ve seen,” Gingrich said. “It’s pretty hard to argue that General Jones represents the pacifist wing of the Marine Corps.” And: “Any place we can find common ground, I want to help President-elect Obama be successful.” They share, among other things, the belief that as a nation we need to deal swith the threat of climate change, although Gingrich opposes both a cap-and-trade program and a carbon tax because they would raise the price of energy and bring in more revenue for the government to spend. People who want to raise the price of oil to penalize the owners of gas guzzlers a lesson fail to see, in Gingrich’s view, that “it will crush the poor, it will crush senior citizens, it will crush rural communities.” (Newsweek’s Fareed Zakaria, who interviewed Newt, neglected to ask if he would support revenue-neutral controls on greenhouse gases.) Gingrich favors incentives over controls, carrots over sticks—a major increase in spending on basic research into clean energy, tax breaks for renewables, and series of well-funded by outsourced efforts to figure out ways to burn coal cleanly. He likes the idea of energy prizes that excite entrepreneurs. “Prizes are very powerful devices,” he said, “because they enable anyone to compete.” He doesn’t, however, believe that markets alone can get us where we need to go when it comes to curbing global warming: “I am for the Republican Party that built the transcontinental railroad with big incentives and opened the west with the Homestead Act.” Gingrich, it must be said, has lost none of his swagger.
Bair of the FDIC was more reserved and Taleb-like at our FORTUNE event. A Republican and former aide to Bob Dole, she has had the political courage to stand up to Paulson and Bernanke and argue that one way out of our economic mess would be to directly aid homeowners. She favors expanding a model that seems to have worked after the FDIC took over the failed IndyMac bank and gave homeowners facing foreclosure the chance to restructure their loans, on more favorable terms. She’d like to see Paulson release about $24 billion in so-called TARP funds to apply that protocol more broadly, keep more people in their homes, reduce the number of foreclosures and get us closer to the day when housing prices stop falling. “There are a lot of unnecessary foreclosures,” she said, Things could get worse as the economy slumps and people lose their jobs, or have their hours cut back, or see their earnings shrink because they collect fewer sales commissions. “I don’t see the light at the end of the tunnel,” she said.
Peterson, too, is a worrier and a regulator. On a panel grandly called The Future of Capitalism, Peterson argued that vast markets in credit default swaps, interest rate swaps and currency trades need more rules and transparency. “When you have the volume of the financial securities that we’re talking about, I don’t see how anyone can argue that they shouldn’t be regulated,” Peterson said. He also argued, as he often does, that Americans need to save more, that we are now scarily dependent on foreign buyers of our debt, particularly the Chinese, to finance our government. “There are huge geo-economic and political risks that emerge from a country that doesn’t save,” he said.
Finally, I sat down with Richard Ward of Lloyd’s, the giant insurer that, it turns out, learned about Black Swans the hard way. The company got whacked when it insured companies against asbestos-related claims in the 1990s, and took another big hit after insuring the directors and officers of corrupt companies like Enron and Worldcom. Since then, Lloyd’s has become more prudent and conservative in its underwriting and in its investments. So, for example, Lloyd’s is writing more short-term policies “because the world is changing so rapidly and the risks can change rapidly,” Ward said. If you doubt it, recall last week’s terrorism attacks in Mumbai. Ward doesn’t lose sleep over gyrations in the global stock markets, either: About 45% of Lloyd’s assets are invested in government bonds, and only about 5% is invested in equities, he said.
Ward and I talked about climate change—not surprisingly, global warming worries him because of the potential damage from severe weather—after which the conversation turned, inevitably, to the meltdown. “There are lots of lessons,” he said. “First and foremost, don’t overcomplicate your business. If it becomes so complex that people can’t understand it, you’ve got to ask yourself why you are doing it. Second, understand your risk and spread it. Third, insure that the remuneration policies you have in place don’t reward staff for gambling with the company’s balance sheet.”
Humility—admitting that even the so-called experts don’t know what’s lurking around the corner—helped Lloyd’s avoid the fate of AIG.
If there is one thing we can learn from the headlines of the past week or so – Market Plunge Baffles Wall Street, Size of Spill in Gulf of Mexico is Larger Than Thought, ‘Amateurish’ Bomb Defused in Times Square—it is that we cannot reliably forecast the future, that the world is bound to surprise us, frequently in unpleasant ways, and that, as the poet Robert Burns wrote, the best laid schemes of mice and men oft go awry.
