Help! Still trying to get my head around it

wylo

Hi,
Im just looking for help, if someone could explain to me in the most basic basic terms what has happened in the past year or so to the worlds economy and our economy.
Dont get me wrong I understand technically what a recession and depression is, I have even read up the past few Irish budgets, receipts , expenditures, deficits, surpluses,etc.
But where has all the money actually gone in the World. It cant just vanish, how can every country be losing if you get me?
If there was a way of explaining it as if our country had just a few people in it with no money, just one person the government who organises the rest, someone else a farmer, someone a house builder.

I do kind of understand why were 16 billion down for this year and I understand our current problems, but I just cant get my head around how money can vanish especially if no country is benefiting, all across the world its happening, asia, middle east, Europe, America, Australia, Africa, etc
Its a bit of a messy post but any help would be great.
edit: maybe this belongs in Economics

cat&mouse

Your not alone on that one.!!! I wondered the same thing too. Like the saying in Ennergy Eficiency business, heat is transferred either to another person or another thing. If we open the door on a cold day, we say the heat is lost, but it is actually Transferred to somewhere out there, not lost.

nesf

It does belong in Economics. I'll move it there for you.

nesf

Essentially, money is just a medium of exchange it doesn't have any actual value in and of itself. The "paper wealth" of an asset can disappear because its perceived value of the asset can change. Money is only a medium of exchange, that's all. It doesn't disappear, the value of the assets merely changes.

This may help: http://en.wikipedia.org/wiki/Fiat_currency

An Fear Aniar

Bad lending decisions.


.

li@mo

I'm going to put this simply:

Lets say in the world there existed at the height of the boom, €100

Now we're in a recession,.....a worldwide recession.......nobody has money

WHERE HAS THE €100 GONE???

Surely in the world today, there exists the same amount of money as always.

My take on it is that the banks created "virtual" money which they gave out as mortgages and loans. This was essentially money that didnt exist.

Buildings didnt sell and now lie idle.

Banks want their repayment which the property developers cant afford.

Anyone agree?

li@mo

li@mo wrote: »

I'm going to put this simply:

Lets say in the world there existed at the height of the boom, €100

Now we're in a recession,.....a worldwide recession.......nobody has money

WHERE HAS THE €100 GONE???

Surely in the world today, there exists the same amount of money as always.

My take on it is that the banks created "virtual" money which they gave out as mortgages and loans. This was essentially money that didnt exist.

Buildings didnt sell and now lie idle.

Banks want their repayment which the property developers cant afford.

Anyone agree?

Again, as nesf said. Money is simply use to express the value that someone assigns to a good. Values change - if your house was worth 500,000 at the height of the boom, it may reduce to say 300,000. Thats nothing to do with the money system, it just the price which the market puts on your house.

Also read http://boards.ie/vbulletin/showthread.php?t=2055464119&highlight=money, it gives a good overview of what you asking.

ixoy

I seem to recall that only a small minority of a bank's "money" is actual cold hard cash left by customers in accounts - the majority of it is speculative to a degree, in the sense that it would be property or investments. They can lend out money against this - I'll give you 1m, because you're going to make a piece of property that'll be worth 1.5m, so I know you're good for it. If now someone says that land is only worth 0.5m well then the bank now suddenly has a problem. Worse still could happen, they can't recoup the cost of that original 1m loan at all because the developer can't sell it. No hard currency has disappeared, but the bank is now in crisis because it has suddenly lost access to some of its capital. Multiply this by a huge factor (and a variety of similar and more complex transactions) and now if all the banks are suddenly at this position, across the world...

Might be a bit simplistic but I think that's a kernel of the problem.

nesf

ixoy wrote: »

Might be a bit simplistic but I think that's a kernel of the problem.

The kernel of the problem was that many banks (thankfully not any Irish banks to any great extent or we would be in far more trouble) used accounting tricks to move certain forms of assets off the balance sheet so they only had to hold a very small amount of capital in reserve against them. This was one of the crucial problems in the Basel I regulation of the banking market and in fairness to worldwide regulators the Basel II regulations that were being drawn up prior to the credit crunch were specifically going to attack this problem precisely because it allowed banks to hold very risky assets yet have to put very little aside against potential losses.

There were also problems with allowing banks to do their own risk calculations with respect to their assets (I think, I could be wrong it's well over a year since I read this stuff in any detail).

JDLK

The current financial crisis has its roots in the rise of neo conservatism in America and globalisation. Under conservative policies markets are deregulated and allowed to find their own balance (this is known as free market capitalism). Conservatism also advocates classical economics- classical economics argues that the future can be predicted through probabilty and mathematical calculations. This has led to financial institutions believing they can predict the future values of products, markets etc- this practice is know as hedging, derivatives etc- basically the speculation on the future value of stocks, commodities, bonds etc

America is the finacial hub of the world which explains why the effects of the American sub prime scandal effect the rest of the world. The sub prime market was fueled by massive debt- essentially financial institutions were borrowing heavily from each other and lending at higher rates to consumers in the belief that they could pay it back. Sub prime lenders tend to lend to high risk borrowers (people with below standard credit ratings) This is fairly common as a higher interest rate is used as incentive for the lender who should also be spreadint their risk by hedging in low risk investments(again, borrowers). They didnt spread their risk- instead they focussed heavily on lending to high risk borrowers, or they thought they spread their risk but hedged on over inflated derivatives. Why did they do this? Hard to say but I beleive it was down to inflated confidence in the market and the belief that the high interest rates would offset any losses. The got a very basic lesson - high risk people couldnt pay back and defaulted, this knocked confidence which exposed their overinflated hedges which quickly nose dived leaving them unable to pay back the banks- causing wide spread panic and wiping billions off the exchanges in lost confidence which basically made all the lenders stop in their tracks in a frantic bid to limit damage and survive.

Globalisation again played an important role here as American industried began to be outsourced to Asia and America was cought in a situation where it was borrowing billions from China while sending all of its industries there- this might work if you had a global economy but because China was saving dollars and lending instead of trading it essentially sucked both the industries and the capital out of the American economy. American consumers were borrowing billions from China while also sending their jobs (their primary means of repaying debt) to Asia aswell. China deliberately undervalued the Yuen against the dollar, which basically allowed them to hoard dollars while giving out little in return (comparitively)- the rest of Asia also refused to float its currencies (this is known as dirty floating)

This lead to global finacial companies treating American consumers as global consumers- but because American consumers lost their manufacturing jobs to outsourcing they were unable to repay their loans- this sent shockwaves through the finacial sector as each sub prime lender defaulted.

Essentially "confidence" was lost in the lending market- ie banks did not trust that people would pay them back and so cut back on credit (credit crunch) in order to survive and mitigate their losses- unfortunately this led to good businesses losing liquidity and folding even though their liquidity ratios were good which again knocked market confidence.

Governments have been trying to restore confidence by gauranteeing loans and this is what Obama is trying to do with his stimulus package.

Fingers crossed

(PS I know my spelling sux before anyone comments)

Its basic enough to say that deregulation leads to finacial scandals (we've had these problems many times in history) and on the flip side liberal policies can also lead to economic problems such as stagflation. Obviosuly the issue is the unregulated lending but personally I believe the problem lies in the fact that technololgy has allowed the finacial market to become much more gloablised than the "real" markets and politics. Finacial institutions are not in touch with local economic forces- instead seeing finacial growth as the ultimate goal and pressuring indurstries to locate geographically in places which apresent very different social and political levels of global interaction- primarily China (which is set for 7.5% economic growth while the rest of the wrold contracts at an average of 4% this year). We need a level playing field in globalisation and financial institutions need to help their commercial customers offset the problems in maintaining competitive advantage, instead of pressuring them to adjust to unsustainable market forces for short term gains.

We need to dig up Keyens, clone his DNA and get him going again!!:D

silverharp

JDLK wrote: »

Under conservative policies markets are deregulated and allowed to find their own balance (this is known as free market capitalism).

No way , you can talk about a free market in the US at the turn of the 20th C, when the the federal Gov was very small and before an Income tax even existed , ever since then the free market has been whittled away. You can call it an unholy alliance betwen Big gov. and big business but dont blame it on the free market. However what you have written is good propaganda to complete the socialism process in the US, well done comrade!

ionix5891

read this

http://cynicuseconomicus.blogspot.com/2008/07/root-of-problem.html


the whole blog does a great job at explaining where we are and why in easy to understand examples, highly recommended read for anyone interested in subject

JDLK

silverharp wrote: »

No way , you can talk about a free market in the US at the turn of the 20th C, when the the federal Gov was very small and before an Income tax even existed , ever since then the free market has been whittled away. You can call it an unholy alliance betwen Big gov. and big business but dont blame it on the free market. However what you have written is good propaganda to comelte the socialim process in the US, well done comrade!

An unregulated finacial system in America at the turn of the 20th century led to the great Depression (the US was in fact the only country not to adopt a social insurance policy during the age of collectivism)

BUT

Im not a socialist, I called for a more Keyensian approach to the current situation- Keyens was a capitalist- but saw capitalism a merely a means of raising living standards not growth for growths sake. In fact I would like to see communist China dismantle it unfair communist trade system for a freer global trade.

I see liberal reaction(Obama) to conservatism as simply the natural swing in the economic political pendulum- its happened before and once liberal policies succumb to the corruption of power (rent seeking) it swings back to conservatism the only middle ground is Keyensiism and we are seeing America adopting an interventionist stance with a government stimulus package (Keyens) which I see as a positive step in restoring confidence- this is not the realm of socialism , its the realm of moral economics

I hate dogma in economics - there are elements in a lot of schools of thought that are attractive from modelling and policy perspectives and there are a lot that are not.

But can you repost your original post in Conspiracy Theories? That should keep them going over there for a while!!!

JDLK

Deleted User wrote: »

I hate dogma in economics - there are elements in a lot of schools of thought that are attractive from modelling and policy perspectives and there are a lot that are not.

But can you repost your original post in Conspiracy Theories? That should keep them going over there for a while!!!

A rather glib response, I assume was more for effect than substance

Would you care to elaborate and contribute or stay on the sideline and snipe?

nesf

ionix5891 wrote: »

read this

http://cynicuseconomicus.blogspot.com/2008/07/root-of-problem.html


the whole blog does a great job at explaining where we are and why in easy to understand examples, highly recommended read for anyone interested in subject

His latest analogy suffers from being too simplistic*, take his stuff with a proverbial fist of salt. That said, I enjoy his posts.




*There's more to production than factories that take commodities like iron etc and turn them into objects. There are a wide variety of traded services in modern economies (think legal services, on-site IT support and what have you). This complicates things greatly and means simple three town analogies don't capture as much of the modern economy as you'd like.

ionix5891

yes it is a bit simplistic at times and economics is certainly alot more chaotic but it does help get the head around some of the concepts

i have to say that blog made me more interested in economics (and the realization that all my saving are in hands of crooks)

nesf

ionix5891 wrote: »

yes it is a bit simplistic at times and economics is certainly alot more chaotic but it does help get the head around some of the concepts

i have to say that blog made me more interested in economics (and the realization that all my saving are in hands of crooks)

Yeah, there's the problem of a little knowledge. Stuff like this is great so long as it's covered in caveats about why the real world doesn't work this way.

A bit like neo-classical economics...

Time Magazine

JDLK wrote: »

The current financial crisis has its roots in the rise of neo conservatism in America and globalisation.

It's amazing how your Keynesian views have distorted your perspective on this, my good man.

http://gregmankiw.blogspot.com/2008/09/distorting-history.html

It's a bad thing when I agree with Greg Mankiw.

Obama stimulus ... We need to dig up Keyens, clone his DNA and get him going again!!:D

It's amazing how your Keynesian views have distorted your perspective on this, my good man.

Keynes (1942) wrote:

“Organized public works, at home and abroad, may be the right cure for a chronic tendency to a deficiency of effective demand. But they are not capable of sufficiently rapid organisation (and above all cannot be reversed or undone at a later date), to be the most serviceable instrument for the prevention of the trade cycle.”

The situation is far more complex than it is being made out to be. Casually associating deregulation with neo-liberalism is at best a half-truth. Ignoring the blame of intervention (by Clinton, by the Fed in LTMC, by establishing Fannie and Freddie...) in causing this crisis is foolish. Blaming globalisation without casting an eye on Iceland is intellectually dishonest. Finally, citing early Keynes without acceptance of his later work, and the great insights that macroeconomics has provided since, can only be justified by idealogy -- and as I'm sure Bill Clinton can now appreciate -- that is never a good basis for policy creation.

JDLK

The Economist wrote: »

It's amazing how your Keynesian views have distorted your perspective on this, my good man.

http://gregmankiw.blogspot.com/2008/09/distorting-history.html

It's a bad thing when I agree with Greg Mankiw.



It's amazing how your Keynesian views have distorted your perspective on this, my good man.



The situation is far more complex than it is being made out to be. Casually associating deregulation with neo-liberalism is at best a half-truth. Ignoring the blame of intervention (by Clinton, by the Fed in LTMC, by establishing Fannie and Freddie...) in causing this crisis is foolish. Blaming globalisation without casting an eye on Iceland is intellectually dishonest. Finally, citing early Keynes without acceptance of his later work, and the great insights that macroeconomics has provided since, can only be justified by idealogy -- and as I'm sure Bill Clinton can now appreciate -- that is never a good basis for policy creation.

Modern liberalism in the American context is associated more with interventionism (regulation) than deregulation- which accords perfectly with Keynes "The General theory..".

If we are simply going to trade other peoples blogs then we should just post up a list of web links: so here's one from Robert Skidelsky: http://www.skidelskyr.com/site/article/where-do-we-go-from-here

The question was asked how we came to this- but it is not enough to simply say banks loaned too much- we must ask the question why people were'nt able to pay back their loans. To simply assume that millions of people were dumb enough to take out loans they knew they couldnt pay back is being the most intellectually dishonest (not to mention downright insulting) and to then assume that finacial institutions, who supposedly make a living off predicting the future (another thing Keyens said was impossible) could not have the most basic foresight to spread their risk properly is pure naivity.

The fact is that on paper the numbers added up (in a gloabl context) but once the flow of dollars was not able to go back into the US economy to repay the American conumer debts we immediately saw defaulting- this was both a government and market system failure

Important note: While I am a supporter of a more Keyensian approach it makes little difference whay I think- the fact is fiscal policies are being adopted by governemnts right now as we speak- most notably America- which is in line with what the original poster asked- what went wrong (corruption through deregulation) and what is the current situation (government intervention/stimulus) - these are the present day facts

nesf

JDLK wrote: »

we must ask the question why people were'nt able to pay back their loans. To simply assume that millions of people were dumb enough to take out loans they knew they couldnt pay back is being the most intellectually dishonest and to then assume that finacial institutions, who supposedly make a living off predicting the future (another thing Keyens said was impossible) could not have the most basic foresight to spread their risk properly is pure naivity.

Remember the penalties for defaulting on a mortgage in the United States are very low. You only take a hit to your credit rating, you do not owe any money to the bank even if the sale of the property did not cover the whole mortgage amount. If people already have a low credit rating then they do not have anything to lose by taking a chance on buying a home and hoping to resell it later on for a profit. It's not a case of them being dumb enough not to realise they mightn't be able to pay it back, it's that the cost of not being able to pay it back was very small for Sub-Prime borrowers.

Also, remember that there were some very dodgy lending practices going on with "teaser rates" for the first year or two suddenly turning into very high interest rates which arguably a lot of buyers might not have been aware of.

JDLK

nesf wrote: »

Remember the penalties for defaulting on a mortgage in the United States are very low. You only take a hit to your credit rating, you do not owe any money to the bank even if the sale of the property did not cover the whole mortgage amount. If people already have a low credit rating then they do not have anything to lose by taking a chance on buying a home and hoping to resell it later on for a profit. It's not a case of them being dumb enough not to realise they mightn't be able to pay it back, it's that the cost of not being able to pay it back was very small for Sub-Prime borrowers.

Also, remember that there were some very dodgy lending practices going on with "teaser rates" for the first year or two suddenly turning into very high interest rates which arguably a lot of buyers might not have been aware of.

I take your point about the borrowers and indeed my sentiment was that borrowers knew the personal risk was worth it but the lenders either drastically underestimated their risk of lending or most likely hedged on over inflated derivatives which were over-valued by over confident institutions relying on flawed neo classical economic views of probablity calculations-

Basically the traders advised clients (sub prime lenders included) that hedging was worth way more than it was- the true values only came to light once the borrowers, who through the most basic logic as high risk, proved why they were indeed high risk- by not being able to repay their loans.

This is the most basic and scandalous problem; High risk people were encouraged to take out loans not only by lenders but also by the cost/benefit scenario of the loans to themselves- but why? Why did lenders push loans which their own probability calculators told them would not be repaid- I dont want to give a simple explanation but the notion that high interest returns clouded their judgement (ie greed) is very tempting

Greed is natural and a flaw of the competitive market but deregualtion is the space in which greed is allowed to operate and this is a flaw of the government

Time Magazine

JDLK wrote: »

Modern liberalism in the American context is associated more with interventionism (regulation) than deregulation- which accords perfectly with Keynes "The General theory..".

As I have already stated, Keynes revised many of his views of The General Theory of Money, Interest, Prices, Jevons and Just About Everything Else. That particular work is considered his swan-song, wrongly imho. Why is it so embraced? For much the same reason that idiotic free-marketeers embrace Friedman: it's a convincing-sounding fallacy that panders to a political viewpoint, and that's always going to beat factual economic science that leaves the value judgments to elected governments. As an economic blueprint, The General Theory is not so much an imperfect document as an unfortunate historical oddity. Had Keynes delayed publication and allowed his views to develop into what they eventually became, perhaps he would be appreciated for the greater economic achievments he progressed rather than a flawed economic doctrine that has little empirical support.

I think we're debating semantics on political idealogies here. You blamed the crisis on deregulation, and associated deregulation with the forces of the political right. I dispute both of these causal chains. I have already extrapolated my views on the former; the latter is even simpler: deregulation is a matter of economic theory not political doctrine. Its adoption by the political right may have been as a tool for their interests, but that does not in itself tarnish the tool.

If we are simply going to trade other peoples blogs then we should just post up a list of web links: so here's one from Robert Skidelsky: http://www.skidelskyr.com/site/article/where-do-we-go-from-here

Both my posts link to academic source or credible newspapers. Mine were factual accounts of what has happened in history, i.e. the current crisis is at least partly a problem of over-regulation and that even Keynes himself trimmed his Keynesian ideals. Yours is one simply of opinion. A good opinion granted, and one I read before, but still not one I agree it.

The question was asked how we came to this- but it is not enough to simply say banks loaned too much- we must ask the question why people were'nt able to pay back their loans. To simply assume that millions of people were dumb enough to take out loans they knew they couldnt pay back is being the most intellectually dishonest

Where did I assume this?

and to then assume that finacial institutions, who supposedly make a living off predicting the future (another thing Keyens said was impossible) could not have the most basic foresight to spread their risk properly is pure naivity.

Where did I assume this? (And Keynes did not say predicting the future was impossible; he said it was a "beauty contest" marked by "animal spirits", but did not claim it was impossible to the best of my knowledge.)

Incidentally, I think a key problem here was not with classical economics, which, incidentally, you are incorrect to assert it believes it can predict the future. The econometric tools which model risk are essentially atheoretical. They certainly do not conform to any particular branch of macroeconomic theory. Undoubtedly errors were made here as to the assumption of statistical distributions and the potency of uncertainty and financial contagion. These were errors made by guys with degrees in physics and quantitative finance. To suggest these mistakes were connected with the marginal revolters, the Austrian school or the children of Walras, is laughable. A fine ludic fallacy.

The fact is that on paper the nyumbers added up but once the flow of dollars was not able to go back into the US economy to repay the American conumer debts we immediately saw defaulting- this was both a government and market system failure

I agree entirely that it was both a market and regulation failure. I reject the notion that it has its roots in the rise of neo-conservatism and globalisation, however.

silverharp

The Economist wrote: »

http://gregmankiw.blogspot.com/2008/09/distorting-history.html

It's a bad thing when I agree with Greg Mankiw.

the video clip was interesting, talk about blowback, evidence for the prosecution that government is very good at misallocting resources in an economy especially under the pretext of some social objective?

JDLK

JDLK wrote: »

A rather glib response, I assume was more for effect than substance

Would you care to elaborate and contribute or stay on the sideline and snipe?

No, not really a glib response.

I take a little bit of an issue with the way you package everything up so neatly. You have nice little causes for events and you have nice little effects for the schools of liberalism etc.

However, I don't think you simply just take a out a school of thought and apply it to the market like that; its too complicated. To say that 'x' school of thought would lead to a solution is itself glib.

nesf

JDLK wrote: »

I take your point about the borrowers and indeed my sentiment was that borrowers knew the personal risk was worth it but the lenders either drastically underestimated their risk of lending or most likely hedged on over inflated derivatives which were over-valued by over confident institutions relying on flawed neo classical economic views of probablity calculations-

You have to look at the structure of CDOs and how insanely difficult it would be for buyers (or creators) of these CDOs to work out what the actual risk of the CDO was to grasp why this turned into the crisis that it did. The market can't work if the market can't "accurately" value the product as was the case here.


The problem wasn't down to neo-classical views of probability. It's far more complex than that and the quantitative views of risk used were a long way from neo-classical economic theory. How much do you know about derivative markets, option pricing and quantitative methods of risk analysis? (I'm asking so that I know what I need to explain and what I don't before I launch into a long complicated answer on the problems of risk analysis that led to the whole Sub-Prime crisis, I don't want to be patronising and start explaining what the Black-Scholes model is to someone who understands it (and its limitations) already)

JDLK

The Economist wrote: »

As I have already stated, Keynes revised many of his views of The General Theory of Money, Interest, Prices, Jevons and Just About Everything Else. That particular work is considered his swan-song, wrongly imho. Why is it so embraced? For much the same reason that idiotic free-marketeers embrace Friedman: it's a convincing-sounding fallacy that panders to a political viewpoint, and that's always going to beat factual economic science that leaves the value judgments to elected governments. As an economic blueprint, The General Theory is not so much an imperfect document as an unfortunate historical oddity. Had Keynes delayed publication and allowed his views to develop into what they eventually became, perhaps he would be appreciated for the greater economic achievments he progressed rather than a flawed economic doctrine that has little empirical support.

I think we're debating semantics on political idealogies here. You blamed the crisis on deregulation, and associated deregulation with the forces of the political right. I dispute both of these causal chains. I have already extrapolated my views on the former; the latter is even simpler: deregulation is a matter of economic theory not political doctrine. Its adoption by the political right may have been as a tool for their interests, but that does not in itself tarnish the tool.

Both my posts link to academic source or credible newspapers. Mine were factual accounts of what has happened in history, i.e. the current crisis is at least partly a problem of over-regulation and that even Keynes himself trimmed his Keynesian ideals. Yours is one simply of opinion. A good opinion granted, and one I read before, but still not one I agree it.

Where did I assume this?

Where did I assume this? (And Keynes did not say predicting the future was impossible; he said it was a "beauty contest" marked by "animal spirits", but did not claim it was impossible to the best of my knowledge.)

Incidentally, I think a key problem here was not with classical economics, which, incidentally, you are incorrect to assert it believes it can predict the future. The econometric tools which model risk are essentially atheoretical. They certainly do not conform to any particular branch of macroeconomic theory. Undoubtedly errors were made here as to the assumption of statistical distributions and the potency of uncertainty and financial contagion. These were errors made by guys with degrees in physics and quantitative finance. To suggest these mistakes were connected with the marginal revolters, the Austrian school or the children of Walras, is laughable. A fine ludic fallacy.

I agree entirely that it was both a market and regulation failure. I reject the notion that it has its roots in the rise of neo-conservatism and globalisation, however.

Practically your whole response is an argument semantics - which always heralds the death of any discussion, the next stage is grammar checking.

The last part was the only part where you actually expressed any independant thought or view of your own- please elaborate.

JDLK

Deleted User wrote: »

No, not really a glib response.

I take a little bit of an issue with the way you package everything up so neatly. You have nice little causes for events and you have nice little effects for the schools of liberalism etc.

However, I don't think you simply just take a out a school of thought and apply it to the market like that; its too complicated. To say that 'x' school of thought would lead to a solution is itself glib.

Please actually contribute something to the discussion. If anything your responses are packaged up in the most neatly. If you want to actually logically critique/analyse what i said or even (and i dont hold out much hope for this) contribute your own view then please do. Responses such as "you packaged everything up neatly" are the very definition of glib

Time Magazine

JDLK wrote: »

Practically your whole response is an argument semantics - which always heralds the death of any discussion, the next stage is grammar checking.

"Checking of grammar", no? :pac:

The last part was the only part where you actually expressed any independant thought or view of your own- please elaborate.

My first paragraph had views on Keynes in general; the intermediate ones were critiques of your views on the cause of the crisis rather than proposing my own. As I argued here, I do not accept your assertion that deregulation is "the cause" of this.

The penultimate paragraph was (part of) my view on what caused it: poor statistical analysis.

I expect you're already crafting your response to nesf's post from fifteen minutes ago. I suspect we will make the same point and he is better at conveying mathematical arguments in ASCII, so I'll leave that duty to him.

JDLK

nesf wrote: »

You have to look at the structure of CDOs and how insanely difficult it would be for buyers (or creators) of these CDOs to work out what the actual risk of the CDO was to grasp why this turned into the crisis that it did. The market can't work if the market can't "accurately" value the product as was the case here.


The problem wasn't down to neo-classical views of probability. It's far more complex than that and the quantitative views of risk used were a long way from neo-classical economic theory. How much do you know about derivative markets, option pricing and quantitative methods of risk analysis? (I'm asking so that I know what I need to explain and what I don't before I launch into a long complicated answer on the problems of risk analysis that led to the whole Sub-Prime crisis, I don't want to be patronising and start explaining what the Black-Scholes model is to someone who understands it (and its limitations) already)

I see, I need to provide academic qualification before I can enter into a discussion now?

Please feel free to lecture on the reliability of probability models (in the face of the economic disintegration of the worlds largest hedge fund and derivative advisors)

Of course we all know that these models only work when markets are "well behaved" and crumble when unpredictability enters the arena. Remember "Long-Term Capital Management". The fact is that quant theories-while mathmatically provable do not gaurantee success, the main problem is that over inflated share values who's only justifaction relies on a baynesian or Black Scholes probabaility calculation go to pot once a variable deemed too unlikely enters the equation

Probabailty calculations are the realm of mathematics and physics (as someone said) and from a technicsl point of view are independant or "atheoretical" however the very belief that the future can be accurately predicted is fundamentally classical see Ricardo-Malthaus, Keyensian is very much on the side of the here and now and the uncertainty of the future with really the only certainty being "in the long run we're all dead"

But I can se im being drawn into an argument on semantics- which while legitimate is is pretty inane and only loosly related to the OP's question

nesf

JDLK wrote: »

I see, I need to provide academic qualification before I can enter into a discussion now?

Please feel free to lecture on the reliability of probability models (in the face of the economic disintegration of the worlds largest hedge fund and derivative advisors)

Of course we all know that these models only work when markets are "well behaved" and crumble when unpredictability enters the arena. Remember "Long-Term Capital Management". The fact is that quant theories-while mathmatically provable do not gaurantee success, the main problem is that over inflated share values who's only justifaction relies on a baynesian or Black Scholes probabaility calculation go to pot once a variable deemed too unlikely enters the equation

Eh, no mate academic qualifications in Economics normally wouldn't give you much background on the pricing of options/quant methods used in the financial markets. I only asked because I don't want to give you an answer that's full of jargon that means nothing to you. You most certainly don't need a qualification in Economics or Finance to grasp some of the problems that effected the Sub Prime crisis and the ensuing credit crunch.

For instance, quant approaches work quite well in some markets, there are specific reasons for why they didn't work with respect to the Sub Prime mess.

JDLK

nesf wrote: »

Eh, no mate academic qualifications in Economics normally wouldn't give you much background on the pricing of options/quant methods used in the financial markets. I only asked because I don't want to give you an answer that's full of jargon that means nothing to you. You most certainly don't need a qualification in Economics or Finance to grasp some of the problems that effected the Sub Prime crisis and the ensuing credit crunch.

For instance, quant approaches work quite well in some markets, there are specific reasons for why they didn't work with respect to the Sub Prime mess.

Go for it, assume I have no background in stats, quant or finance.

(though I believe it is moot- proving that something is mathmatically probable then staking massive amounts of finance on it only to be proved wrong (by any variable regardless of significance) pretty much conclusively proves the uselessness of the original estimation.)

My main point is that we must go beyond the mathematical- that dynamic global markets cannoy be accurately valued or predicted and todays finacial situation is case and point, and the only way to avoid a repition of reckless financial practices is not through increased reliance on probability models but through a more interventionist, here and now, common sence approach

The fact that nobody predicted the finacial collapse is a pretty big kick in the crotch of any probability proponent

silverharp

JDLK wrote: »

My main point is that we must go beyond the mathematical- that dynamic global markets cannoy be accurately valued or predicted and todays finacial situation is case and point, and the only way to avoid a repition of reckless financial practices is not through increased reliance on probability models but through a more interventionist, here and now, common sence approach

If you want common sense , how about breaking up the gov sponsored ratings agency. Would you trust a housing survey paid by the vendor?
This whole affair has a moral hazzard dimension to this , The LTCM bailout & Y2K & 9-11 Fed response all "interventionist" actions laid part of the foundations for this.

JDLK

silverharp wrote: »

If you want common sense , how about breaking up the gov sponsored ratings agency. Would you trust a housing survey paid by the vendor?
This whole affair has a moral hazzard dimension to this , The LTCM bailout & Y2K & 9-11 Fed response all "interventionist" actions laid part of the foundations for this.

I think its a pretty big reach to say that the reckless practices of the private sector finacial institutions are the fault of governement intervention.

Think about this- the nationalisation of banks (Anglo) is the closest thing the west has ever come to real socialism- and this occured in a period of little governement regulation- if anything common sence regulation is proably the only way to ultimately protect free trade

nesf

JDLK wrote: »

Go for it, assume I have no background in stats, quant or finance.

(though I believe it is moot- proving that something is mathmatically probable then staking massive amounts of finance on it only to be proved wrong (by any variable regardless of significance) pretty much conclusively proves the uselessness of the original estimation.)

Right, I've only as much time as until the toddler wakes up to write this so apologies for it not being a complete treatment.


Fundamentally the problem in options pricing is trying to calculate what the price of a particular financial instrument (i.e. product) should be given that it isn't directly visible. Futures are the simplest example to work with, they are just a contract to buy or sell something at a specified future date. We cannot know the actual price of this something at this date so we have to estimate it. If I'm selling a future to you that says that I will buy X bushels of wheat at the start of April I ideally want to agree a price that will be lower than the price that I expect wheat will be selling for in April on average. The core concept here is that I don't need to know exactly I just need to be able to put some rough probability on future price. Now for things like wheat it turns out to not be so bad, what is knowable is the price today of wheat and what is also knowable is the price everyone else is paying for wheat in April (because you're not the only one doing this). Quants know that the probability of prices isn't like what things like the Black-Scholes model tells us. They add in a lot of different items to account for the fact that prices aren't distributed "normally" (a particular type of probability distribution that is easy to work with mathematically and describes some kinds of physical facts like height in a population).

The end result of all this mathematics and computer time is a market that tends to work relatively well. The prices that future contracts are originally sold for are rarely absolutely correct but they get it right enough of the time for it to be profitable and useful. Farmers get a guaranteed price for their harvest and can transfer the risk (or reward) of a worse (or better) harvest than expected onto a third party for a fee. These kinds of instruments work well in commodities, foreign exchange etc precisely because a lot of companies and people are happy to get a particular type of risk off their plate in exchange for a fee. The sellers of Futures can turn a profit once they are able to make a decent guess of future prices for the goods. People have been doing this successfully since the 18th century in Japan with rice futures iirc.



The problem with CDOs and the Sub Prime crisis (with respect to the above) was this:

Firstly: The financial instruments in question had a lifetime of up to 30 years! This longer the period of time the less and less accurate any estimation of value will be. 3 month or 1 year Futures markets work precisely because the periods of the estimation are relatively short.


Secondly: An individual CDO consisted of parts of hundreds of different mortgages in different regional markets. It was practically impossible for the end buyer in the market to assess risk correctly for them. This makes valuing them even more uncertain because you have to work out all the correlated and uncorrelated effects of different movements in underlying economic variables in the models.


Thirdly: CDOs with mortgages were based on historical data, not current market prices. The current Euro-Dollar exchange rate contains within it some view of what the market thinks will happen over the next 3-12 months. So there is some information in there that can be used to price a 3 month Future. There was no such equivalent with CDOs consisting of mortgages so analysis of the models were based solely on historical data of home prices and mortgage defaults which is a far more flawed system since it's extremely sensitive to what particular time periods you pick to model from, i.e. what do you consider to be likely to happen again or what do you consider to be a "once off"? Do you include data from the Great Depression or not etc?

Fourth: And possibly most importantly, rating agencies rated these products using overly simplistic models of risk (specifically models that ignored "tail risk"). The market is built on trust and market participants trusted the ratings these products were given but in reality the ratings agencies were not accurately rating the products which resulted in enormous market failure and the wiping out of billions and billions of dollars from bank and company balance sheets when the true risk of these products became evident.


CDOs were a completely different animal to the previous quantitatively heavy areas of finance like derivatives and futures and precisely because of the differences the methods didn't transfer and the market failed with the resulting credit crisis and other silliness. The underlying quantitative approach to finance isn't wrong necessarily it is just limited in application and here it was applied to something where it just doesn't work.

JDLK wrote: »

The fact that nobody predicted the finacial collapse is a pretty big kick in the crotch of any probability proponent

People have been warning that the quant models used in CDOs etc underestimated risk for years. No one listened because there was money to be made in selling the products.

JDLK

nesf wrote: »

Right, I've only as much time as until the toddler wakes up to write this so apologies for it not being a complete treatment.


Fundamentally the problem in options pricing is trying to calculate what the price of a particular financial instrument (i.e. product) should be given that it isn't directly visible. Futures are the simplest example to work with, they are just a contract to buy or sell something at a specified future date. We cannot know the actual price of this something at this date so we have to estimate it. If I'm selling a future to you that says that I will buy X bushels of wheat at the start of April I ideally want to agree a price that will be lower than the price that I expect wheat will be selling for in April on average. The core concept here is that I don't need to know exactly I just need to be able to put some rough probability on future price. Now for things like wheat it turns out to not be so bad, what is knowable is the price today of wheat and what is also knowable is the price everyone else is paying for wheat in April (because you're not the only one doing this). Quants know that the probability of prices isn't like what things like the Black-Scholes model tells us. They add in a lot of different items to account for the fact that prices aren't distributed "normally" (a particular type of probability distribution that is easy to work with mathematically and describes some kinds of physical facts like height in a population).

The end result of all this mathematics and computer time is a market that tends to work relatively well. The prices that future contracts are originally sold for are rarely absolutely correct but they get it right enough of the time for it to be profitable and useful. Farmers get a guaranteed price for their harvest and can transfer the risk (or reward) of a worse (or better) harvest than expected onto a third party for a fee. These kinds of instruments work well in commodities, foreign exchange etc precisely because a lot of companies and people are happy to get a particular type of risk off their plate in exchange for a fee. The sellers of Futures can turn a profit once they are able to make a decent guess of future prices for the goods. People have been doing this successfully since the 18th century in Japan with rice futures iirc.



The problem with CDOs and the Sub Prime crisis (with respect to the above) was this:

Firstly: The financial instruments in question had a lifetime of up to 30 years! This longer the period of time the less and less accurate any estimation of value will be. 3 month or 1 year Futures markets work precisely because the periods of the estimation are relatively short.


Secondly: An individual CDO consisted of parts of hundreds of different mortgages in different regional markets. It was practically impossible for the end buyer in the market to assess risk correctly for them. This makes valuing them even more uncertain because you have to work out all the correlated and uncorrelated effects of different movements in underlying economic variables in the models.


Thirdly: CDOs with mortgages were based on historical data, not current market prices. The current Euro-Dollar exchange rate contains within it some view of what the market thinks will happen over the next 3-12 months. So there is some information in there that can be used to price a 3 month Future. There was no such equivalent with CDOs consisting of mortgages so analysis of the models were based solely on historical data of home prices and mortgage defaults which is a far more flawed system since it's extremely sensitive to what particular time periods you pick to model from, i.e. what do you consider to be likely to happen again or what do you consider to be a "once off"? Do you include data from the Great Depression or not etc?

Fourth: And possibly most importantly, rating agencies rated these products using overly simplistic models of risk (specifically models that ignored "tail risk"). The market is built on trust and market participants trusted the ratings these products were given but in reality the ratings agencies were not accurately rating the products which resulted in enormous market failure and the wiping out of billions and billions of dollars from bank and company balance sheets when the true risk of these products became evident.


CDOs were a completely different animal to the previous quantitatively heavy areas of finance like derivatives and futures and precisely because of the differences the methods didn't transfer and the market failed with the resulting credit crisis and other silliness. The underlying quantitative approach to finance isn't wrong necessarily it is just limited in application and here it was applied to something where it just doesn't work.




People have been warning that the quant models used in CDOs etc underestimated risk for years. No one listened because there was money to be made in selling the products.

Surely the reckless behaviour outlined above just proves my point about the need for independant regulation

nesf

JDLK wrote: »

Surely the reckless behaviour outlined above just proves my point about the need for independant regulation

The regulators were already bringing in regulation to deal with the problems caused by CDOs being held off balance sheet* by banks in the proposed Basel II reforms in 2004.


The behaviour wasn't so much reckless as the left hand didn't know what the right hand was doing in the banks, which is far more worrying.


*This was an accounting trick that allowed banks to put aside very small amounts of capital to cushion against potential losses which aggravated the whole situation enormously.

JDLK

nesf wrote: »

The regulators were already bringing in regulation to deal with the problems caused by CDOs being held off balance sheet* by banks in the proposed Basel II reforms in 2004.


The behaviour wasn't so much reckless as the left hand didn't know what the right hand was doing in the banks, which is far more worrying.


*This was an accounting trick that allowed banks to put aside very small amounts of capital to cushion against potential losses which aggravated the whole situation enormously.

Here's the problem, the view that the finacial analysts can say "oh yeh we fu€ked up... but you know what???... the important things is; we know HOW we fu€ked up!!" This kind of justification through retrospection, being able to justify the validity of the past prediction of the current market is completely negated by the fact that the predicted market did not come to fruition- so what if the figures pointed to this or that, the reality is the predictions failed. This is a philisophical point of view that requires a leap for anyone within the "woods" of quantitative mathematics but the important and fundemental fact is that a market left to its own devices will not reach a natural equilibrium- maybe it would if you took the immeasurable human variable out of it but until we can measure the propensity to accumulate personal wealth we'll never accurately predict futures.

nesf

JDLK wrote: »

Here's the problem, the view that the finacial analysts can say "oh yeh we fu€ked up... but you know what???... the important things is; we know HOW we fu€ked up!!" This kind of justification through retrospection, being able to justify the validity of the past prediction of the current market is completely negated by the fact that the predicted market did not come to fruition- so what if the figures pointed to this or that, the reality is the predictions failed. This is a philisophical point of view that requires a leap for anyone within the "woods" of quantitative mathematics but the important and fundemental fact is that a market left to its own devices will not reach a natural equilibrium- maybe it would if you took the immeasurable human variable out of it but until we can measure the propensity to accumulate personal wealth we'll never accurately predict futures.

Ok, but you don't need to hold to neo-classical assumptions of markets reaching natural equilibrium on their own to believe that financial analysis can be useful. You don't need to hold to the Efficient Market Hypothesis either. Being a Keynsian or neo-Keynsian doesn't mean you reject all of financial analysis automatically.

JDLK

nesf wrote: »

Ok, but you don't need to hold to neo-classical assumptions of markets reaching natural equilibrium on their own to believe that financial analysis can be useful. You don't need to hold to the Efficient Market Hypothesis either. Being a Keynsian or neo-Keynsian doesn't mean you reject all of financial analysis automatically.

We all make predictions in our day to day lives- its simply a part of life to try to anticipate the future and educated guesses are often made, the problem in the financial markets is that predictions carry too much weight and effect values disproportinately to the vast variables which are external to mathematical quantification. This will always remain a fact but the main problem is that if, as you say, people had been predicting the finacial collapse that there was simply no mechanism to stem the spiral.

If indeed analysts knew this was coming (and I find that dubious considering the downfall of major financials)it is only less of a comfort that a system knows it is heading for disaster but cannot steer itself away. Almost like an overeater knowing they are going to die of obesity but simply cannot stop eating

Keyensian or not I believe mathematical probablities should be a part of future predictions not the whole- the shift toward over reliance on probabilities even when they are successful is the issue. When analysts are screaming to invest becuase they are 76% certain there will be a 6% return we need a mechanism to offset the mathematics with possible human risks and thus create a new probablity- that may be pie in the sky but there should at least be a mechanism to distinguish between inflated value and "real value".

But I suppose we have come full circle now from semantics to philosophy.

nesf

JDLK wrote: »

Keyensian or not I believe mathematical probablities should be a part of future predictions not the whole- the shift toward over reliance on probabilities even when they are successful is the issue. When analysts are screaming to invest becuase they are 76% certain there will be a 6% return we need a mechanism to offset the mathematics with possible human risks and thus create a new probablity- that may be pie in the sky but there should at least be a mechanism to distinguish between inflated value and "real value".

What's "real value" and do you accept my point on probability being useful in Futures markets et al without destabilising the rest of economic system?

JDLK wrote: »

But I suppose we have come full circle now from semantics to philosophy.

Yup.

JDLK

nesf wrote: »

What's "real value" and do you accept my point on probability being useful in Futures markets et al without destabilising the rest of economic system?


Yup.

My main point about "real value" is a philosophical view point (of which iIbelieve Keyens was a proponent)- that uncertainty can never be quantified and that all attempts to turn uncertainty into "risk" and therefore attach values to it -is moot in a situation of total system failure.

Saying the current finacial system is mathematically sound is moot as it lays in a smoldering mess. Its like communists saying that Marx is right but when you put it into practice it falls apart.

Like I said I think there is certainly a place for probabilities but it is the variables which are accounted for that are the issue- the current situation must prove that some variable was not included or was ignored, or undervalued. This requires you step outside the quantitative process and gain a more holistic view.

A view, in my opinion which must take into account the inequalities in gloabalisation. I beleive the quantification of probabilities at the national to international level (ie domestic product and export/import markets) are not the same when creating global stratgeies such as positioning manufacturing in offshore regions which are not providing fair/free trade. This then skews the redistribution of currency which is a future variable beyond the intital cost savings, yet is just as importnat because short term gains are not sustainable and the new conditions created therefore have a direct effect on future probablilites

nesf

JDLK wrote: »

My main point about "real value" is a philosophical view point (of which iIbelieve Keyens was a proponent)- that uncertainty can never be quantified and that all attempts to turn uncertainty into "risk" and therefore attach values to it -is moot in a situation of total system failure.

And your basis for uncertainty not being quantifiable is? (I'm not unsympathetic to this view, I just this this is a very broad and strong assertion)

JDLK wrote: »

Saying the current finacial system is mathematically sound is moot as it lays in a smoldering mess. Its like communists saying that Marx is right but when you put it into practice it falls apart.

I never said it was mathematically sound as a whole anywhere. I said that some markets seem to work fine with quantitative techniques, such as most Futures and Derivatives markets.

JDLK wrote: »

Like I said I think there is certainly a place for probabilities but it is the variables which are accounted for that are the issue- the current situation must prove that some variable was not included or was ignored, or undervalued. This requires you step outside the quantitative process and gain a more holistic view.

You're assuming that the quantitative process cannot do this. Why do you believe this?

JDLK

nesf wrote: »

And your basis for uncertainty not being quantifiable is? (I'm not unsympathetic to this view, I just this this is a very broad and strong assertion)



I never said it was mathematically sound as a whole anywhere. I said that some markets seem to work fine with quantitative techniques, such as most Futures and Derivatives markets.



You're assuming that the quantitative process cannot do this. Why do you believe this?

The view that uncertainty is unquantifiable comes from the very basic viewpoint that the current situation was not predicted (though I know you say it was). This uncertainty (the shock of finacial collapse) is tackled by both classical and keyensian economists- classical view it as a managed risk an ability to attach a level or value to uncertainty so that we can be X% certain that this will happen- but it ignores the very real (as we can see) possibility of all consuming unpredictability- instead it rationalises it as the flip side to probablity ie if we are X% certian that this will happen then the remaining % is allocated to the possibility that it will not happen- but the possibilities of something not happening are not necessarily equal to the remainder in % of the proabailty that they will happen. Again this is reinforced by the lack of quantification in the proabability of the current situations previous finacial predictions. How do we value uncertainty- is it the probability that something will happen or is it the possible damage of something if it does/doesnt happen?

My point is that it is not being quantified (whether possible or not)- or if it is it is being recklessly ignored

Was the possibility of finacial collapse added as a variable when Anglo or AIg or Lehmann analysts were predicting futures and advising clients?

on the one hand we hear analysts saying- "nobody could have predicted this" but then on the other hand they are telling us they are so good at predicting futures that we should entrust our savings to them- there is a disparity hear which cannot be ignored nor can it be brushed off. Analysts cannot have ot both ways

nesf

JDLK wrote: »

The view that uncertainty is unquantifiable comes from the very basic viewpoint that the current situation was not predicted (though I know you say it was). This uncertainty (the shock of finacial collapse) tackled by both classical and keyensian economists- classical view it as a managed risk an ability to attach a level or value to uncertainty so that we can be X% certain that this will happen- but it ignores the very real (as we can see) possibility of all consuming unpredictability- instead it rationalises it as the flip side to probablity ie if we are X% certian that this will happen then the remaining % is allocated to the possibility that it will not happen- but the possibilities of something not happening are not necessarily equal to the remainder in % of the proabailty that they will happen. again this is reinforced by the lack of quantification in the proabability of the current situation predication previously.

Maybe it is quantifiable however my point is that it is not being quantified- or if it is it is being recklessly ignored

I'm asking a more fundamental question than that, why do you think that uncertainty in economic systems is unquantifiable and do you this it is totally unquantifiable or that it can only be partially quantified? These are very fundamental and broad ranging questions that underlay what you're asserting above.


As an important semantic point, I didn't say that this specific situation was predicted, I said that the underlying problems that turned this from a small mess into a big mess were known and people were trying to fix them prior to this blowing up in everyone's face.

JDLK

nesf wrote: »

I'm asking a more fundamental question than that, why do you think that uncertainty in economic systems is unquantifiable and do you this it is totally unquantifiable or that it can only be partially quantified? These are very fundamental and broad ranging questions that underlay what you're asserting above.


As an important semantic point, I didn't say that this specific situation was predicted, I said that the underlying problems that turned this from a small mess into a big mess were known and people were trying to fix them prior to this blowing up in everyone's face.

I added some more to that last post. Again Im not saying that uncertainty is not being quantified but that the value of mathematical probability is actually more than its real value, so when something is X% mathematically probable it is in actuality less than that.

If I could actually work out this disparity i would be the new Keyens, but it is defintely there because the futures mathematical proabilites of say 10 years ago for 2009 did not come to fruition- this proves that something was not quantified, proving that the probabilities were in fact false (or incomplete). I do believe it can be worked out though be revisiting the probabilities and then adding what we now know as the real values. This is retrospective but I believe it can give us at least a starting point to view the disparity.

this might lead to a "best guess" scenario but it is still shaky because the best guesses have proved to be wrong, but then this argument i suppose is easily negated by saying that "oh well we all knew this was going to happen", its just a pity nobody told the rest of us then (of course then it could be said they did but we ignored them)

nesf

JDLK wrote: »

I added some more to that last post. Again Im not saying that uncertainty is not being quantified but that the value of mathematical probability is actually less than its real value, so when something is X% mathematically probable it is in actuality less than that.

If I could actually work out this disparity i would be the new Keyens, but it is defintely there because the futures mathematical proabilites of say 10 years ago for 2009 did not come to fruition- this proves that something was not quantified, proving that the probabilities were in fact false (or incomplete).

this might lead to a "best guess" scenario but it is still shaky because the best guesses have proved to be wrong, but then this argument i suppose is easily negated by saying that "oh well we all knew this was going to happen", its just a pity nobody told the rest of us then (of course then it could be said they did but we ignored them)

That doesn't answer my question though. There are three basic options to choose to subscribe to (I'll use future prices as the example but you can use any economic quantity):

1) Future prices are knowable and we can and do predict them absolutely given all the correct data.

2) Future prices are knowable but at best we can only predict a range of possible values and the probability of the price being one of these values at a certain date, given all the correct data.

3) Future prices are unknowable and cannot be predicted even in the sense of predicting a range of possible values even if we are given all the correct data.


Which out of 1, 2 or 3 best describes what you believe and why do you believe this over the other two options? Note: None of the above options says whether we can actually access or tell what all the correct data is, that is a separate philosophical question here.

JDLK

nesf wrote: »

That doesn't answer my question though. There are three basic options to choose to subscribe to (I'll use future prices as the example but you can use any economic quantity):

1) Future prices are knowable and we can and do predict them absolutely given all the correct data.

2) Future prices are knowable but at best we can only predict a range of possible values and the probability of the price being one of these values at a certain date, given all the correct data.

3) Future prices are unknowable and cannot be predicted even in the sense of predicting a range of possible values even if we are given all the correct data.


Which out of 1, 2 or 3 best describes what you believe and why do you believe this over the other two options? Note: None of the above options says whether we can actually access or tell what all the correct data is, that is a separate philosophical question here.

Im going to go with option 3 here as I cant really understand option 2, for me if something is unknowable then it is unknowable and best guesses are moot in a clinical environment- i believe this because when we attach a probability to something and it does not happen the actual probability of it not happening does not match the residual % in the probability of it happening (in my opinion), however option 3 poses a problem in that it says "even if we are given all correct data"- this I believe is the impossibility which is core to my argument - which pretty much negates all options

I think that it is too easy to get lost in the quantitative woods, the reality of the current situation vehemently rebels against any logical probability prediction of the past, I believe within the gap of the mathematical proability and the cold reality of todays situation is not just a variable which has not been quantified and undervalued but that unpredictability itself is a variable with its own value, because unpredictability effects human behaviour- most notably confidence- which has a very real economic value

As mentioned earlier the two thoughts on this is that we can manage long term risk (classical) or we cannot and at best we can react to dynamic markets(Keyenes)- I would be closer to Keyens and I think in the common sence view of the economic situation it becomes apparant that all predictions were undermined. though i think a value can be attached to uncertaintyl but only retrospectively

nesf

JDLK wrote: »

Im going to go with option 3 here as I cant really understand option 2, for me if something is unknowable then it is unknowable and best guesses are moot in a clinical environment- i believe this because when we attach a probability to something and it does not happen the actual probability of it not happening does not match the residual % in the probability of it happening (in my opinion), however option 3 poses a problem in that it says "even if we are given all correct data"- this I believe is the impossibility which is core to my argument - which pretty much negates all options

I think that it is too easy to get lost in the quantitative woods, the reality of the current situation vehemently rebels against any logical probability prediction of the past, I believe within the gap of the mathematical proability and the cold reality of todays situation is not just a variable which has not been quantified and undervalued but that unpredictability itself is a variable with its own value, because unpredictability effects human behaviour- most notably confidence- which has a very real economic value

I'll try and explain 2 better.

1) is a deterministic system, i.e. all physical processes in the world above the quantum level. If you have perfect knowledge you can predict any physical event. You can't always have perfect knowledge which is why it's very complicated to predict anything more than a very simple system exactly.

2) is a probabilistic system where there are random effects but these are systematic and predictable. The classic example is quantum mechanics, quantum effects are random but the probability functions describing this randomness are knowable. This means that we cannot ever know the exact price of a future good but we can know the probability distribution describing it's possible values if we have perfect knowledge.

3) is a completely indeterministic system where even if you know everything you can predict nothing.


3) is honestly nonsensical because it implies that economic movement is entirely random. The Foreign Exchange Futures market for instance is very predictable. Covered Interest Parity pretty much determines the price of a future contract.

JDLK

nesf wrote: »

I'll try and explain 2 better.

1) is a deterministic system, i.e. all physical processes in the world above the quantum level. If you have perfect knowledge you can predict any physical event. You can't always have perfect knowledge which is why it's very complicated to predict anything more than a very simple system exactly.

2) is a probabilistic system where there are random effects but these are systematic and predictable. The classic example is quantum mechanics, quantum effects are random but the probability functions describing this randomness are knowable. This means that we cannot ever know the exact price of a future good but we can know the probability distribution describing it's possible values if we have perfect knowledge.

3) is a completely indeterministic system where even if you know everything you can predict nothing.


3) is honestly nonsensical because it implies that economic movement is entirely random. The Foreign Exchange Futures market for instance is very predictable. Covered Interest Parity pretty much determines the price of a future contract.

I still dont agree with 2 (though im sure its the best we can do to date) I think this is moving into the area of chaos theory

and 3 is only nonesensical because of the added "entirely", I dont beleive they are entirely random however i do believe there is a certain randomness which is undervalued- it is this randomness which can be valued retrospectively to explain the difference between past quantitative probabilities and current realities