The Week Links in the Chain I
- John Udell manipulates DoE information to answer where America gets its oil from (props Phil Windley).
- Nicholas Nassim Taleb writes that Real Life is Not a Casino:
What causes severe mistakes is that outside the special cases of casinos and lotteries, you almost never face a single probability with a single (and known) payoff. You may face, say, a 5-percent probability of an earthquake of magnitude 3 or higher, a 2-percent probability of one of magnitude 4 or higher, and so forth. The same with wars: You have a risk of different levels of damage, each with a different probability. “What is the probability of war?” is a meaningless question for risk assessment.
So it is wrong to look just at a single probability of a single event in cases of richer possibilities (like focusing on such questions as “What is the probability of losing a million dollars?” while ignoring that, conditional on losing more than a million dollars, you may have an expected loss of $20 million, $100 million, or just $1 million). Once again, real life is not a casino with simple bets. This is the error that helps the banking system go bust with an astonishing regularity. I’ve shown that institutions that are exposed to negative black swans—such as banks and some classes of insurance ventures—have almost never been profitable over long periods. The problem of the illustrative current subprime mortgage mess is not so much that the “quants” and other pseudo-experts in bank risk-management were wrong about the probabilities (they were) but that they were severely wrong about the different layers of depth of potential negative outcomes. For instance, Morgan Stanley has lost about $10 billion (so far), while allegedly having foreseen a subprime crisis and executed hedges against it; they just did not realize how deep it would go and had open exposure to the big tail risks. This is routine. A friend who went bust during the crash of 1987 told me, “I was betting that it would happen, but I did not know it would go that far.”
- A Short Course in Behavioral Economics with Daniel Kahneman, Richard Thaler, and Sendhil Mullainathan. Nathan Myhrvold, who holds ~85% of computer users in thrall due to his creation of the dread Win32 API while at Microsoft, plays the resident supervillian. The heuristics and biases school of psychology, of which behavioral economics is one outgrowth, when fully linked with political and military strategy, operations, and tactics, has the potential to lead to a new soft totalitarianism armed with a more accurate perception of human nature than Marxist-Leninism. Of coures, it also could explain how such an enterprise would consume itself:
- Taleb returned ~60% using methods similar to those outlined in Barbell.
