Where Do Earthquakes, Tsunamis, Japanese Nuclear Power Plants and Black Swans Converge?

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The editors of Consumer Metrics Institute some of the most incisive trackers of economic indicators around have recently indulged in some interesting commentary on the disruptive nature of tsunamis and how it relates to identifying risk. Mainly, they make the case that the earthquake and ensuing tsunami hitting Sendai, Japan, and outlying regions are not “Black Swan-types of cataclysmic, unforeseen events.

First, for those readers not familiar with the term “Black Swan, it’s a book written in 2007 by Nassim Taleb, who’s a principal at Universa Investments LP, outlining his theory that there are certain unforeseen events that change the course of history, which we rationalize after the fact. (Yes, it’s also a Darren Aronofsky film with Natalie Portman, but that’s not nearly as interesting or broadly impactful.) In Taleb’s words, as quoted by the New York Times: “What we call here a Black Swan (and capitalize it) is an event with the following three attributes. First, it is an outlier, as it lies outside the realm of regular expectations, because nothing in the past can convincingly point to its possibility. Second, it carries an extreme impact. Third, in spite of its outlier status, human nature makes us concoct explanations for its occurrence after the fact, making it explainable and predictable. Ultimately, Taleb and his theories focus on risk probability and mitigation.

Most famously, the “Black Swan theory has been spoken in the same breath with the financial collapse in the latter part of last decade, when banks fell and economic depression rippled throughout the world. It also may apply to certain Middle East countries, their politics and economies. For example, Taleb spoke about Saudi Arabia’s volatile situation in a Bloomberg interview: balancing their vast oil wealth with astronomical unemployment for the overwhelmingly young (40 percent under age 15) population.

The Consumer Metrics writers mention that although tsunami damages in general are hard for traditional risk management technologies to handle, the Sendai tsunami is not a “Black Swan event for two reasons: tsunamis are, to some extent, anticipated by the Japanese people (whereas it is impossible to even forecast the possibility of Black Swans by definition); and that most damage, economic and otherwise, is localized. Noted is the relatively small percentage of Japanese GDP that damage costs represent. They also mention that on the natural side, climate change is closer to being a Black Swan (think Dust Bowl during the Depression), and on the financial, the fall of Lehman Brothers or Bear Stearns was pretty close. The phenomena of “securitization and “derivativation could, in effect, lead to the largest catastrophes. “We may all be safer living downwind from Yellowstone [source of a Ëœsuper-volcano’ 600,000 years ago] than near a downdraft from Wall Street, they write.

I’m completely with them up through that last sentence; that may be going too far. Would you really rather die instantly from a natural disaster than suffer a hit to your investment funds or loss of your job? I think not. But it’s a rather unarguable fact that tsunamis on their own may not be “Black Swans earthquakes, volcanoes, even meteor strikes all have happened before and CMI has a point that looking at it in economic terms, it doesn’t come close to being “unforecastable”; we should just be careful equating financial messes with mass death. Along those lines, the writers leave out one crucial consideration nuclear power plants coming into contact with “acts of God.” While the source(s) of Black Swans could be very murky, the effects of nuclear plant breakdown and fallout are just as mysterious. Put them together, just as we’re seeing in Japan today, and we could well have a Black Swan on our hands.

Check back in with MetalMiner tomorrow for more coverage of how Japan’s nuclear plants’ situation affects the metals sphere.

–Taras Berezowsky

Comments (2)

  1. Peter says:

    The insurance expression “act of God” is quite apt, given that Taleb espouses a “God of the gaps” philosophy.

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