However, in their defence, these 'predictors' would point out that they are not aiming for a perfect correlation, but merely a trend within acceptable bounds.

I wonder how much the financial world truly relies on these models. It seems to me that world's problems have been caused by individual greed rather than computer models. As you say Golem, you don't need a computer to see a bubble forming, but I bet plenty of models showed precisely this and were simply ignored.

Where indeed. Juggling with knives in a whirlwind.

If you could catch the pattern of the hammer falling, recognize the little tell tale flash just before the bullet begins to leave its casing and plot the hot gases expand, pushing up the muzzle, would it help?

Even if studying the patterns of tremors ever revealed a pattern that allowed you to predict when the next earthquake will happen. What then? Could you stop it? Could you put the forces that had formed the pattern back in their box? Stop them in their tracks?

It's the dream of those who confuse mastering numbers with mastering the thing the numbers represent.

And then there's the teeny matter of non-linearity. The financial world has lived so long with curve fitting that some seem to have forgotten that fitting the curve after its happened is not the same as predicting it.

Years ago a mathematician working on weather prediction once showed me a wonderful demonstration. It was a competition between a little hand held Texas Instruments programmable hand calculator and a Cray 2 Super computer. The competition was for the Cray to be able to predict what number the TI was going to produce next out of a little equation it was running.

The TI was running a very simple Non-linear equation. Nothing complicated. He set it running.

All the Cray had to do, was compare the sequence of numbers popping out of the little calculator, find a pattern, zero in on a match and calcualte the next number before the TI did. Given that the Cray 2 was the most powerful computer in the world at the time, and the TI was an antique even then you might have thought it a daft test.

To make it easier he was even going to give the Cray the actual equation the TI was running. So all it would not know was the starting numbers that had been initially put into the TI to start it off.

Turns out that unless you know he EXACT numbers then the Cray will never catch up, never solve the problem and nbever be alble to predict the next number. No matter how long you give it.

In the financial world not only do you not know all the starting numbers of the system you are 'regulating', you also don't know the equations that govern the system.

Predictions have never worked and never will for known mathematical reasons. The world is non-linear.

Non-linearities make a mockery of wonderful phrases like "real time computer monitoring".

What does he think he will catch? The SEC can already see and could catch 'bid stuffing' right now – but they don't do anything. It's illegal but no one cares. To much money involved.

WHat does he think he's going to regulate?

You don't need a computer to see a bubble forming. But once one is forming, what you cannot predict is where the equation unerlying its behavour, will flip, jump or tip from one behaviour to another completely different one.

Poicarre knew it, Lyaponov knew it and veryone since knows it.

Regulate away. More power to his elbow. Will it solve anything and make the system good, robust, safe, better. No not really.

It will remain unstable, unpredictable and beyond regulatory control.

@frog2: I wasn't accusing you personally of playing the envy card. I really do think there's a plausible regulatory model involving realtime computer monitoring so patterns are caught today, not months after the year-end audit. I helped build such a system for the insolvency profession when I was a regulator, and trust me: banks have no fucking idea what "regulatory monitoring" really means. And it's high time they did.

22 August, 2010 20:26

Where do I begin !

I hadn't thought of securitization removing any flexibility. It's an interesting
notion.

I was a bit concerned that the article didn't wind me up as much as it wound you up. I'll have to go and meditate on that…

I think that some of the ideas in this article fit in with your theory (i think it's correct) of a new currency that has been debased. The financial people would have encouraged the judgement deficit in order to create more of their debt backed currency (the securities). Obviously the 'judgement' deficit was not something that came about by chance.

The most interesting point in the article for me (that I had not previously heard) is that securitisation removes flexibility in dealing with individual mortgage holders in difficulty. Once the debt is sliced and diced, then actually re-negotiating it becomes near impossible. This is a powerful argument against securitisation of mortgage debt – perhaps it should be banned outright.

I don't think that there is one single cause of this crisis nor a single solution. Why did securitisation or mortgage debt take place? Was it a cunning plan of the financial class to create their own currency, or was it in response to Clinton's plan to increase home ownership?

Problem is that people tend to be greedy and dishonest, especially when the ones at the top of the pile are greedy and dishonest. We need a system that is at least robust against that. How do you feel about paying taxes when a fair amount of it is going to bailing out the financial class?

I suddenly thought you might feel my reply was in some way meant as an attack on you. It isn't at all. I was sincere when I said thanks for posting it.

I am grateful when people come here to read and more so when they take the time to recommend things and offer ideas and comments.

If my reply was intemporate then I apologize.

Thanks for the links to "The Big Idea:The Judgement Deficit". I was genuinesly interested to read insiders taking issue with securitization and the spread of derivative based finance.

But Rob, the rest of the article raised my blood pressure.

Am I right in thinking the Big Idea is that the market, specifically mortgage lending, needs to get away form computerized credit score lending back to personal judgement lending?

It's a good idea, certainly. But big? If the paper had been called "The Deficit Judegement it would be fine. But passing it off as THE BIG IDEA is a problem for me. Because it makes it seem as if just a little matter of judgement is what caused this crisis and so fix hat bit of judgement, leaving ALL else therefore untouched, and it's fixed.

Now maybe I am just being bad tempered here. If so just ignore me while I calm down.

"The modern economy creates and spreads unprecedented prosperity by drawing on the resourcefulness and enterprise of the many, not by blindly following the dictates of a few." This is apologioa 101. I can't let it go, sorry.

What made Nike a vast money making part of the modern economy. Was it resourcefulness and enterprise of inventing running shoes OR was it locating their sweat shhops in countires where they could make the shoes for pennies and sell them for 60 dollars? I am sorry but following the dictats of the few is EXACTLY the business model. The few were offered pennies to work very long hourse and did.

The I-pad. Nice idea. But what made the millions? Was it the idea? Well the idea is a good one. But do you think the slave labour conditions at Foxconn in China making the things might be the reason it made Apple its profits?

This sentece is worthy of Marie-Antoinette. "… many of us value this humanization of our work as highly as we do the material comforts that the work secures." Exactly how people in assembly plants in CHina and India and all the other 'out-sourced' countries feel I am sure.

The article present western capitalism as a bunch of good guys having lattes and good ideas in the land of the free thinker. And completely glosses over the vast underpinning of masses following the dictates of the few.

"Yes, the collapse of the Soviet Union and of top-down, Soviet-style management in monolithic corporations liberated millions from mindless, unproductive toil." Ah those old soviets again. So useful as straw men. Yes they were released and welcomed into mindless and unproductive toil in monolithic western corporations. Or am I missing something here.

The the best bit of the whole article. His central point. "Finance suffered from a judgemnet deficit." Breath taking stuff. NO actually finance suffered from an HONESTY deficit. The article Lars suggested in the NY Times makes this clear. I have seen the paperwork of dozens of fraudulent and dishonest morrtgages. Pages and pages of them. Smurfs buying mortgages for a speculator, without income, no checks done, securitized again without checks, Rated as AAA without any checks and sold on into the torrebnt of greed.

A JUDGEMENT DEFICIT!? Oh yeah. Let's blame it on computers and specky boys who programmed them. NOTHING to do with all the actual fincancial people.

No. It was greed and dishonesty.

This paper said one good thing but the rest of it was a study in self serving stupidity and arse covering.

For my money it should be awarded the Nancy Reagan prize for fatuous drivel. Here's the sentece which sums it up.

"…we need to just say no to judgement-free risk taking by banks…."

Just say no to drugs! In Nancy's world it was as simple as that. Same is apparently true for Nancy-world finance professors like Amar Bhide.

A nice article which talks about securitized mortgages
http://hbr.org/2010/09/the-big-idea-the-judgment-deficit/ar/1

and a very nice commentary on this article too from the ever excellent naked captilism blog

http://www.nakedcapitalism.com/2010/08/amar-bhide-on-the-staliniztion-of-finance.html