Beware those Black Swans

The bestselling economist Nassim Nicholas Taleb argues that we can’t make the world financial system

After completing my book The Black Swan, I spent some time meditating on the fragility of systems with the illusion of stability. This convinced me that the banking system was the mother of all accidents waiting to happen. I explained in the book that the best teachers of wisdom are the eldest, because they may have picked up invisible tricks that are absent from our epistemic routines and which help them survive in a world more complex than the one we think we understand. So being old implies a higher degree of resistance to "Black Swans" (events with the following three attributes: they lie outside the realm of regular expectations; they carry an extreme impact; and human nature makes us concoct explanations for their occurrence after the fact).

Take Mother Nature, which is clearly a complex system, with webs of interdependence, non-linearities and a robust ecology (otherwise it would have blown up a long time ago). It is a very old person with an impeccable memory. Mother Nature does not develop Alz­heimer's - and there is evidence that even humans would not easily lose brain functions with age if they took long walks, avoided sugar, bread, white rice and stock-market investments, and refrained from taking economics classes or reading the New York Times.

Let me summarise my ideas of how Mother Nature deals with the Black Swan. First, she likes redundancies. Look at the human body. We have two eyes, two lungs, two kidneys, even two brains (with the possible exception of company executives) - and each has more capacity than is needed ordinarily. So redundan­cy equals insurance, and the apparent inefficiencies are associated with the costs of maintain­ing these spare parts and the energy needed to keep them around in spite of their idleness.

The exact opposite of redundancy is naive optimisation. The reason I tell people to avoid attending an (orthodox) economics class and argue that economics will fail us is the following: economics is largely based on notions of naive optimisation, mathematised (poorly) by Paul Samuelson - and these mathematics have contributed massively to the construction of an error-prone society. An economist would find it inefficient to carry two lungs and two kidneys - consider the costs involved in transporting these heavy items across the savannah. Such optimisation would, eventually, kill you, after the first accident, the first "outlier". Also, consider that if we gave Mother Nature to economists, it would dispense with individual kidneys - since we do not need them all the time, it would be more "efficient" if we sold ours and used a central kidney on a time-share basis. You could also lend your eyes at night, since you do not need them to dream.

Almost every major idea in conventional economics fails under the modification of some assumption, or what is called "perturbation", where you change one parameter or take a parameter henceforth assumed to be fixed and stable by the theory, and make it random. Take the notion of comparative advantage, supposedly discovered by David Ricardo, and which has oiled the wheels of globalisation. The idea is that countries should focus on "what they do best". So one country should specialise in wine, another in clothes, even though one of them might be better at both. But consider what would happen to the country if the price of wine fluctuated. A simple perturbation around this assumption leads one to reach the opposite conclusion to Ricardo. Mother Nature does not like overspecialisation, as it limits evolution and weakens the animals.

This explains why I found the current ideas on globalisation (such as those promoted by the journalist Thomas Friedman) too naive, and too dangerous for society - unless one takes into account the side effects. Globalisation might give the appearance of efficiency, but the operating leverage and the degrees of interaction between parts will cause small cracks in one spot to percolate through the entire system.

The debt taboo

The same idea applies to debt: it makes you very fragile under perturbations. We currently learn in business schools to engage in borrowing, against all historical traditions (all Mediterranean cultures developed over time a dogma against debt). "Felix qui nihil debet", goes the Roman proverb: "Happy is he who owes nothing." Grandmothers who survived the Great Depression would have advised doing the exact opposite of getting into debt: have several years of income in cash before any personal risk-taking. Had the banks done the same, and kept high cash reserves while taking more aggressive risks with a smaller portion of their port­folios, there would have been no crisis.

Documents dating back to the Babylonians show the ills of debt, and Near Eastern religions banned it. This tells me that one of the purposes of religious traditions has been to enforce prohibitions to protect people against their own epistemic arrogance. Why? Debt implies a strong statement about the future, and a high degree of reliance on forecasts. If you borrow $100 and invest in a project, you still owe $100 even if you fail in the project (but you do a lot better in case you succeed). So debt is dangerous if you are overconfident about the future and are Black Swan-blind - which we all tend to be. And forecasting is harmful since people (especially governments) borrow in response to a forecast (or use the forecast as a cognitive excuse to borrow). My "Scandal of Prediction" (bogus predictions that seem to be there to satisfy psychological needs) is compounded by the "Scandal of Debt": borrowing makes you more vulnerable to forecast error.

Just as Mother Nature likes redundancies, so she abhors anything that is too big. The largest land animal is the elephant, and there is a reason for that. If I went on a rampage and shot an elephant, I might be put in jail and get yelled at by my mother, but I would hardly disturb the ecology of Mother Nature. On the other hand, my point about banks in my book - that if you shot a large bank, I would "shiver at the consequences" and that "if one falls, they all fall" - was subsequently illustrated by events: one bank failure, Lehman Brothers, in September 2008, brought down the entire edifice.

The crisis of 2008 provides an illustration of the need for robustness. Over the past 2,500 years of recorded ideas, only fools and Platonists have believed in engineered utopias. We shouldn't think that we can correct mistakes and eliminate randomness from social and economic life. The challenge, rather, is to ensure that human mistakes and miscalculations remain confined, and to avoid them spreading through the system - just the way Mother Nature does it. Reducing randomness increases exposure to Black Swans.

My dream is to have a true "epistemocracy"; that is, a society robust against expert errors, forecasting errors and hubris, one that can be resistant to the incompetence of politicians, regulators, economists, central bankers, bank­ers, policy wonks and epidemiologists.Here are ten principles for a Black Swan-robust society.

What is fragile should break early while it's still small: Nothing should ever become too big to fail. Evolution in economic life helps those with the maximum amount of hidden risks become the biggest.

No socialisation of losses and privatisation of gains: Whatever may need to be bailed out should be nationalised; whatever does not need a bailout should be free, small and risk-bearing. We got ourselves into the worst of capitalism and socialism. In France, in the 1980s, the Socialists took over the banks. In the US in the 2000s, the banks took over the government. This is surreal.

People who drove a school bus blindfolded (and crashed it) should never be given a new bus: The economics establishment lost its legitimacy with the failure of the system in 2008. Find the smart people whose hands are clean to get us out of this mess.

Don't let someone making an "incentive" bonus manage a nuclear plant - or your financial risks: Odds are he would cut every corner on safety to show "profits" from these savings while claiming to be "conservative". Bonuses don't accommodate the hidden risks of blow-ups. It is the asymmetry of the bonus system that got us here. No incentives without disincentives.

Time to definancialise

Compensate complexity with simplicity: Complexity from globalisation and highly networked economic life needs to be countered by simplicity in financial products. Complex systems survive thanks to slack and redundancy, not debt and optimisation.

Do not give children sticks of dynamite, even if they come with a warning label: Complex financial products need to be banned because nobody understands them, and few are rational enough to know it. We need to protect citizens from themselves, from bankers selling them "hedging" products, and from gullible regulators who listen to economic theorists.

Only Ponzi schemes should depend on confidence: Governments should never need to "restore confidence". Cascading rumours are a product of complex systems. Governments cannot stop the rumours. We just need to be able to shrug off rumours, to be robust to them. Do not give an addict more drugs if he has withdrawal pains: Using leverage to cure the problems of too much leverage is not homoeopathy, it's denial. The debt crisis is not a temporary problem, it's a structural one. We need rehab.

Citizens should not depend on financial assets as a repository of value and rely on fallible "expert" advice for their retirement: Economic life should be definancialised. We should learn not to use markets as warehouses of value.

Make an omelette with the broken eggs: The crisis of 2008 was not a problem to fix with makeshift repairs. We will have to remake the system before it does so itself. Let us move voluntarily into a robust economy by helping what needs to be broken break on its own, converting debt into equity, marginalising the economics and business school establishments, banning leveraged buyouts, putting bankers where they belong, clawing back the bonuses of those who got us here and teaching people to navigate a world with fewer certainties. Then we will see an economic life closer to our biological environment: smaller firms and no leverage - a world in which entrepreneurs, not bankers, take the risks, and in which companies are born and die every day without making the news.

Extracted from the postscript to "The Black Swan: the Impact of the Highly Improbable" by Nassim Nicholas Taleb (Penguin, £9.99)
© Nassim Nicholas Taleb 2008

This article first appeared in the 05 July 2010 issue of the New Statesman, The cult of the generals

An artist's version of the Reichstag fire, which Hitler blamed on the communists. CREDIT: DEZAIN UNKIE/ ALAMY
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The art of the big lie: the history of fake news

From the Reichstag fire to Stalin’s show trials, the craft of disinformation is nothing new.

We live, we’re told, in a post-truth era. The internet has hyped up postmodern relativism, and created a kind of gullible cynicism – “nothing is true, and who cares anyway?” But the thing that exploits this mindset is what the Russians call dezinformatsiya. Disinformation – strategic deceit – isn’t new, of course. It has played a part in the battle that has raged between mass democracy and its enemies since at least the First World War.

Letting ordinary people pick governments depends on shared trust in information, and this is vulnerable to attack – not just by politicians who want to manipulate democracy, but by those on the extremes who want to destroy it. In 1924, the first Labour government faced an election. With four days to go, the Daily Mail published a secret letter in which the leading Bolshevik Grigory Zinoviev heralded the government’s treaties with the Soviets as a way to help recruit British workers for Leninism. Labour’s vote actually went up, but the Liberal share collapsed, and the Conservatives returned to power.

We still don’t know exactly who forged the “Zinoviev Letter”, even after exhaustive investigations of British and Soviet intelligence archives in the late 1990s by the then chief historian of the Foreign Office, Gill Bennett. She concluded that the most likely culprits were White Russian anti-Bolsheviks, outraged at Labour’s treaties with Moscow, probably abetted by sympathetic individuals in British intelligence. But whatever the precise provenance, the case demonstrates a principle that has been in use ever since: cultivate your lie from a germ of truth. Zinoviev and the Comintern were actively engaged in trying to stir revolution – in Germany, for example. Those who handled the letter on its journey from the forger’s desk to the front pages – MI6 officers, Foreign Office officials, Fleet Street editors – were all too ready to believe it, because it articulated their fear that mass democracy might open the door to Bolshevism.

Another phantom communist insurrection opened the way to a more ferocious use of disinformation against democracy. On the night of 27 February 1933, Germany’s new part-Nazi coalition was not yet secure in power when news started to hum around Berlin that the Reichstag was on fire. A lone left-wing Dutchman, Marinus van der Lubbe, was caught on the site and said he was solely responsible. But Hitler assumed it was a communist plot, and seized the opportunity to do what he wanted to do anyway: destroy them. The suppression of the communists was successful, but the claim it was based on rapidly collapsed. When the Comintern agent Gyorgy Dimitrov was tried for organising the fire, alongside fellow communists, he mocked the charges against him, which were dismissed for lack of evidence.

Because it involves venturing far from the truth, disinformation can slip from its authors’ control. The Nazis failed to pin blame on the communists – and then the communists pinned blame on the Nazis. Dimitrov’s comrade Willi Münzenberg swiftly organised propaganda suggesting that the fire was too convenient to be Nazi good luck. A “counter-trial” was convened in London; a volume called The Brown Book of the Reichstag Fire and Hitler Terror was rushed into print, mixing real accounts of Nazi persecution of communists – the germ of truth again – with dubious documentary evidence that they had started the fire. Unlike the Nazis’ disinformation, this version stuck, for decades.

Historians such as Richard Evans have argued that both stories about the fire were false, and it really was one man’s doing. But this case demonstrates another disinformation technique still at work today: hide your involvement behind others, as Münzenberg did with the British great and good who campaigned for the Reichstag prisoners. In the Cold War, the real source of disinformation was disguised with the help of front groups, journalistic “agents of influence”, and the trick of planting a fake story in an obscure foreign newspaper, then watching as the news agencies picked it up. (Today, you just wait for retweets.)

In power, the Nazis made much use of a fictitious plot that did, abominably, have traction: The Protocols of the Elders of Zion, a forged text first published in Russia in 1903, claimed to be a record of a secret Jewish conspiracy to take over the world – not least by means of its supposed control of everyone from bankers to revolutionaries. As Richard Evans observes, “If you subject people to a barrage of lies, in the end they’ll begin to think well maybe they’re not all true, but there must be something in it.” In Mein Kampf, Hitler argued that the “big lie” always carries credibility – an approach some see at work not only in the Nazis’ constant promotion of the Protocols but in the pretence that their Kristallnacht pogrom in 1938 was spontaneous. (It is ironic that Hitler coined the “big lie” as part of an attack on the Jews’ supposed talent for falsehood.) Today, the daring of the big lie retains its force: even if no one believes it, it makes smaller untruths less objectionable in comparison. It stuns opponents into silence.

Unlike the Nazis, the Bolshevik leaders were shaped by decades as hunted revolutionaries, dodging the Tsarist secret police, who themselves had had a hand in the confection of the Protocols. They occupied the paranoid world of life underground, governed by deceit and counter-deceit, where any friend could be an informer. By the time they finally won power, disinformation was the Bolsheviks’ natural response to the enemies they saw everywhere. And that instinct endures in Russia even now.

In a competitive field, perhaps the show trial is the Soviet exercise in upending the truth that is most instructive today. These sinister theatricals involved the defendants “confessing” their crimes with great
sincerity and detail, even if the charges were ludicrous. By 1936, Stalin felt emboldened to drag his most senior rivals through this process – starting with Grigory Zinoviev.

The show trial is disinformation at its cruellest: coercing someone falsely to condemn themselves to death, in so convincing a way that the world’s press writes it up as truth. One technique involved was perfected by the main prosecutor, Andrey Vyshinsky, who bombarded the defendants with insults such as “scum”, “mad dogs” and “excrement”. Besides intimidating the victim, this helped to distract attention from the absurdity of the charges. Barrages of invective on Twitter are still useful for smearing and silencing enemies.


The show trials were effective partly because they deftly reversed the truth. To conspire to destroy the defendants, Stalin accused them of conspiring to destroy him. He imposed impossible targets on straining Soviet factories; when accidents followed, the managers were forced to confess to “sabotage”. Like Hitler, Stalin made a point of saying the opposite of what he did. In 1936, the first year of the Great Terror, he had a rather liberal new Soviet constitution published. Many in the West chose to believe it. As with the Nazis’ “big lie”, shameless audacity is a disinformation strategy in itself. It must have been hard to accept that any regime could compel such convincing false confessions, or fake an entire constitution.

No one has quite attempted that scale of deceit in the post-truth era, but reversing the truth remains a potent trick. Just think of how Donald Trump countered the accusation that he was spreading “fake news” by making the term his own – turning the charge on his accusers, and even claiming he’d coined it.

Post-truth describes a new abandonment of the very idea of objective truth. But George Orwell was already concerned that this concept was under attack in 1946, helped along by the complacency of dictatorship-friendly Western intellectuals. “What is new in totalitarianism,” he warned in his essay “The Prevention of Literature”, “is that its doctrines are not only unchallengeable but also unstable. They have to be accepted on pain of damnation, but on the other hand they are always liable to be altered on a moment’s notice.”

A few years later, the political theorist Hannah Arendt argued that Nazis and Stalinists, each immersed in their grand conspiratorial fictions, had already reached this point in the 1930s – and that they had exploited a similar sense of alienation and confusion in ordinary people. As she wrote in her 1951 book, The Origins of Totalitarianism: “In an ever-changing, incomprehensible world the masses had reached the point where they would, at the same time, believe everything and nothing, think that everything was possible and that nothing was true.” There is a reason that sales of Arendt’s masterwork – and Orwell’s Nineteen Eighty-Four – have spiked since November 2016.

During the Cold War, as the CIA got in on the act, disinformation became less dramatic, more surreptitious. But show trials and forced confessions continued. During the Korean War, the Chinese and North Koreans induced a series of captured US airmen to confess to dropping bacteriological weapons on North Korea. One lamented that he could barely face his family after what he’d done. The pilots were brought before an International Scientific Commission, led by the eminent Cambridge scientist Joseph Needham, which investigated the charges. A documentary film, Oppose Bacteriological Warfare, was made, showing the pilots confessing and Needham’s Commission peering at spiders in the snow. But the story was fake.

The germ warfare hoax was a brilliant exercise in turning democracy’s expectations against it. Scientists’ judgements, campaigning documentary, impassioned confession – if you couldn’t believe all that, what could you believe? For the genius of disinformation is that even exposure doesn’t disable it. All it really has to do is sow doubt and confusion. The story was finally shown to be fraudulent in 1998, through documents transcribed from Soviet archives. The transcripts were authenticated by the historian Kathryn Weathersby, an expert on the archives. But as Dr Weathersby laments, “People come back and say ‘Well, yeah, but, you know, they could have done it, it could have happened.’”

There’s an insidious problem here: the same language is used to express blanket cynicism as empirical scepticism. As Arendt argued, gullibility and cynicism can become one. If opponents of democracy can destroy the very idea of shared, trusted information, they can hope to destabilise democracy itself.

But there is a glimmer of hope here too. The fusion of cynicism and gullibility can also afflict the practitioners of disinformation. The most effective lie involves some self-deception. So the show trial victims seem to have internalised the accusations against them, at least for a while, but so did their tormentors. As the historian Robert Service has written, “Stalin frequently lied to the world when he was simultaneously lying to himself.”

Democracy might be vulnerable because of its reliance on the idea of shared truth – but authoritarianism has a way of undermining itself by getting lost in its own fictions. Disinformation is not only a danger to its targets. 

Phil Tinline’s documentary “Disinformation: A User’s Guide” will be broadcast on BBC Radio 4 at 8pm, 17 March

This article first appeared in the 05 July 2010 issue of the New Statesman, The cult of the generals