Nassim Nicholas Taleb points to the black swan

ItÆs you and me, and everyone else gathered last night at the Grand Hyatt in Hong Kong to receive his lecture on why the financial crisis is far from over.

Nassim Nicholas Taleb of "Black Swan" fame reminds me of the court jesters of medieval Europe. What made them comedic was not their slapstick or bawdy antics, but their ability to speak truth to power. The jester, dressed in his clown suit, might have looked ridiculous, but he told the king the plain truth -- truth that was so overpowering, so obvious and so tragic, that the king and his courtesans could do little but laugh.

Taleb addressed a full-capacity crowd at the Hong Kong Grand Hyatt last night as the speaker for the Asia Society's annual gala dinner. He noted in his erudite and often piercingly funny remarks that he was the only male in the room not wearing a tie -- this jester preferred a Chinese mandarin collar.

And, like the jesters of yore, he told truth to power. The room was Power incarnate, full of glitterati. Investment bankers of course, but also central bankers, big-time private equity and fund managers, government officials and diplomats -- and even a few journalists, another favourite whipping post of Taleb's.

Power heard the truth -- overpowering, obvious and tragic. And it laughed at his wit, it nodded at his wisdom, it even spent yesterday evening writing up his words, and this morning as you read this, it is going about its business as usual.

Power did not take it all sitting down. The Q&A with Taleb saw quite a few brave bankers challenge his arguments. A bond underwriter and a high executive from a Tarp recipient both argued that debt is necessary to economic prosperity. But the jester would have none of it. While he did make the distinction that he appreciates the role bankers should play, he was not about to accept the argument that debt or bailouts are in any way healthy to society at large. In fact, he skewered these representatives - flunkies - of Power.

Taleb has written two famous books. The first, "Fooled by Randomness: The Hidden Role of Chance in Life and in the Markets", was a tour de force of incisive logic (and egotism) that exploded many of the myths behind asset management. It introduced the concept of the black swan event -- an event beyond the usual measurement of expectation, but which has a high impact, like the subprime mortgage-fuelled credit debacle in America.

The second book, "Black Swans: The Impact of the Highly Improbable", came out in 2007, just in time to make Taleb one of the intellectual stars of the global financial crisis. He had seen it coming. (This second book, by the way, is twice as long and half as interesting as the first.)

He drew upon a set of 10 lessons outlined in "Fooled" that must be implemented to avoid further breakdowns such as the collapse of Lehman Brothers. Ominously, it seems that policymakers, particularly in the US, have failed to meet a single one.

Here's a flavour. What is going on in America today is not capitalism. Bailing out banks that are 'too big to fail' is socialising losses and privatising profits. It is the bastard spawn of capitalism and socialism, taking the worst aspects of both systems.

If an organism is fragile, it's best to break it yourself, early, before it poses a systemic threat (by becoming 'too big to fail'). The US government (and those in Western Europe) have helped the 'too big to fail' banks become even bigger. For every cry that a bailout is 'un-American', Taleb can point to a litany of bailouts that have continuously set a precedent, even under Ronald Reagan's presidency (Continental Illinois, Chrysler).

Taleb repeatedly compared economic activity to nature. In nature, there's no such thing as too big to fail. Nature can't tolerate overly large organisms, and if one dies, the rest of the herd isn't doomed to die with it. Why? Because nature doesn't believe in myths. It doesn't care about 'value at risk' or other misleading metrics. It doesn't have an ideology. It just has natural selection and a uniform impulse among organisms to reproduce, to survive via competition.

That's capitalism. Taleb can denounce big-bank statism with one breath and praise California tech entrepreneurs with the next, as examples of what is and what is not capitalism. He also praises hedge funds, which fail by the thousands every year without a whimper of complaint or public money -- unless they are run by fools with Nobel prizes, in which case a government bailout is then required.

Death is necessary to make capitalism work -- death, and a lack of debt. Taleb has no patience for a hint that debt can help society. He's heard it all before -- the velocity of money, the uses it has in helping ordinary people buy a home.

He has no time for Ben Bernanke. Bernanke is among the trio of failed bureaucrats (he says) running US economic policy (along with Larry Summers, ex Citi, and Tim Geithner). Bernanke's academic claim to fame is having understood the Great Depression. "Any grandmother who remembers the Great Depression knows you shouldn't have debt," Taleb says, dismissing the academic career of the chairman of the Federal Reserve System in a single line.

He has no time either for bonuses, particularly when there's no punishment for people like Robert Rubin -- ex Citi, ex Treasury -- who got paid $120 million in bonuses, initially from Citi shareholders and now by US taxpayers, retrospectively. And he has no time for complex financial products, risk metrics or economic policy that is about propping up models of indebtedness rather than allowing for failure.

Much of what Taleb had to say last night was familiar. We've read about it all year long. But it was Taleb who was often the first to say these things, and it took time and a horrible crisis to get others to repeat his warnings and his prescriptions.

If policymakers did adhere to Taleb's principles, society would be better off, but Power would not be. How many of you in the Grand Hyatt ballroom, who applauded him so profusely, would really like to sell simple, vanilla financial products? How many would really like to see indebted consumers convert to equity-only means of saving and investment? How many would prefer to see MBAs and trained economists all fired and ignored? How many would like to have their bonuses tied to future performance? How many would like to see the bank you work for (or is your client, or your custodian, or your financier) collapse rather than be propped up by Uncle Sam? And if all of this came to pass, would you want to pay AsianInvestor for our content or our advertising or our conferences?

Overpowering, obvious, tragic. Prepare for more black swan events. We're breeding them.

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