Complexity and doom

By Felix Salmon
April 4, 2010
Clay Shirky is talking about media, but might as well be talking about finance:

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Clay Shirky is talking about media, but might as well be talking about finance:

Complex societies collapse because, when some stress comes, those societies have become too inflexible to respond. In retrospect, this can seem mystifying. Why didn’t these societies just re-tool in less complex ways? The answer Tainter gives is the simplest one: When societies fail to respond to reduced circumstances through orderly downsizing, it isn’t because they don’t want to, it’s because they can’t.

In such systems, there is no way to make things a little bit simpler – the whole edifice becomes a huge, interlocking system not readily amenable to change. Tainter doesn’t regard the sudden decoherence of these societies as either a tragedy or a mistake—”[U]nder a situation of declining marginal returns collapse may be the most appropriate response”, to use his pitiless phrase. Furthermore, even when moderate adjustments could be made, they tend to be resisted, because any simplification discomfits elites.

Meanwhile, Steve Waldman makes the case that banks are far too complex, these days, for notions of “capital” to mean anything any more. What we need, he says, is to get simpler: “we are doomed,” he says, “unless and until we simplify the structure of the banks.”

Which, if true, is to say that we are doomed. We have reached a level of institutional complexity which renders radical simplification impossible, short of outright collapse. We can see this even in relatively simple structures like that of U.S. financial regulators: such things are much easier to create than to abolish, and so they tend to multiply. But it’s even more true of finance more generally. The world’s biggest banks must become much simpler; the world’s biggest banks won’t become much simpler. The conclusion is not a pretty one.

Comments
8 comments so far

Exactly. If the megabanks internal risk management teams and external auditors can’t wade through the obfuscation what hope is there for civil servant regulation? The Volcker rule is a good start, breaking up into more pieces would be better yet. But if the megabank lobbyists have their way I’ll be sure to write my idiot congressman (IA 5th district) and senator grassley an “i told you so” even if they are out of office when unfettered finance finishes devouring itself and the country.

Posted by wolphkaat | Report as abusive

With “A Crisis of Politics, Not Economics: Complexity, Ignorance, and Policy Failure” (Critical Review), Jeffrey Friedman uses the “too much systemic complexity” hypothesis to study our recent financial troubles.

I was particularly struck by his conclusion, where he posits that immense regulatory failure sometimes follows from our brand of Western social democracy. In our legislative process, new laws (or regulatory bodies) seldom replace old ones. Therefore, new ones interact with the old ones in increasingly unpredictable, certainly regulatory-arbitrage promoting, sometimes catastrophic ways.

Don’t want to butcher his argument too much, here it is:
http://www.criticalreview.com/crf/pdfs/F riedman_intro21_23.pdf

Posted by kriscollins | Report as abusive

The reason banks cannot become simpler is that if they do, it will become evident to all that they are bankrupt organizations. The simple matter is that they have been allowed to create capital through out-of-control reserve lending, and dilute the value of all other transactions in society. The justifications for million-dollar bonuses will evaporate. Their relatively oversized influence in society will evaporate overnight. Complexity allows them to create derivative products that only an ultra-elite can decode, protecting the vital secret that they are truly bankrupt, existing only by the fiat of government power.

My prediction, no simplification until the last megabank has folded, if the government will allow it.

Posted by ericgarland | Report as abusive

Cool….we live in a what kind of society?

Posted by Storyburn_com | Report as abusive

One rule: any major bank that made real-estate loans to people whom they knew couldn’t afford them should be shut down, pure and simple. Not much left to obfuscate shall then remain.

Posted by HBC | Report as abusive

Some FACTS about complexity follow. Please take a look at them and the blog article link at the end. I hope it can be of some assistance to those seeking to play a part in the answer!!!

The amount of functionality of a system is proportional to complexity – more complex system can perform more functions

Each system can only reach a specific maximum value of complexity

Close to the upper limit the system is fragile – it is unwise to operate close to this limit

High complexity = difficulty in management – highly complex systems are able to perform more functions but at a price: they are not easy to manage

When a system is very complex and becomes difficult to manage, it is necessary to restructure it, add new structure or to remove excess entropy.

More components don’t necessarily imply more complexity – systems with few components can be more complex than systems with many components.

When presented with two equivalent options, for example in terms of performance, risk or profit, select the one with the lower complexity – it will be easier to manage.

Spasms or dramatic changes in dynamical systems are always accompanied by sudden changes in complexity.

In nature, systems tend toward states of higher complexity, but only until they reach the corresponding maximum. This poses limits to growth and evolution.

Systems with high complexity can behave in a multitude of ways (modes).

Systems with high complexity are more difficult to manage and control because of the need to compromise

A system with a given complexity will be more difficult to manage if it is made to operate in a more uncertain environment.

“High complexity is incompatible with high precision” – this is known as L. Zadeh’s Principle of Incompatibility. In essence, you can’t make precise statements about a highly complex system.

A fundamental characteristic of highly complex systems: they are robust yet fragile!

http://davidgwilson.spaces.live.com/defa ult.aspx?_c01_BlogPart=blogentry&_c=Blog Part&handle=cns!7DF3163703347130!1165

Posted by davidlongshanks | Report as abusive

Thank goodness I did not do that M Phil in Economics, davidLONGshanks, its too complex man !

Posted by Ghandiolfini | Report as abusive

Ghandiolfini,
You ain’t wrong! But I have only been getting my head round complexity since last year. My motivation has been that I didn’t know exactly what I was looking for but knew I had never (would never) buy in to the greed model and the “lie” of independence. Interdependence was so much more natural. System complexity made sense and it tied in with the thoughts of those who DID do the studying (Roubini, Taleb, Olson, etc.), spoke out before the crash or made sense of what happened.

None of them ever said it would be easy but what a challenge!?

Posted by davidlongshanks | Report as abusive
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