[http://metaphoricalweb.ning.com/profiles/blogs/future-proofcatching-black]
Recently an earthquake hit the town of L'Aquila in Italy, collapsing a
number of buildings, killing more than a hundred people and leaving
several thousands stranded. Last year Hurricane Ike slammed into
Galveston, Texas, leaving many parts of the coastal community
submerged. In the news of late have been the "one-time write-offs" that
banks are taking because of the extraordinary credit crisis.


The one thing that all three of these things have in common is that
they appear to be "Black Swans", a term that economist and
mathematician Nassim Taleb used to describe events that seem wildly
improbable, yet nonetheless do occasionally happen. The term derives
from the saying that, as all swans are white, the term "as rare as a
black swan" means something that is so improbable that there is no way
that it could happen.. Of course, eventually a species of black swan
was eventually discovered in Australia, which was Taleb's point -
beware of assuming that simply because events are rare, they will never
happen - and when they do happen, they tend to cluster.

To understand why black swans are not as rare as one may think (and to
anticipate their appearance), it's worth going back to the abstraction
model proposed a couple of posts ago. Almost all complex systems exist
at multiple levels of abstraction. One way of thinking about this is to
envision the human body as being made up of subsystems - organs - each
of which in turn are made up of tissues. which are in turn made up
cells. A person in peak health has all of her subsystems (organs)
operating more or less optimally.

However, one day a carcinogenic agent enters the body - tobacco smoke,
asbestos, environmental steroids, the list is rather depressingly long.
A cell in her breast mutates in the presence of the carcinogen, losing
the ability to "shut off and die", which most cells do after they've
reached a point where their internal mechanisms are no longer
sufficient to do the job efficiently. The cancer spreads, every time
the cell would undergo normal meiosis. If the woman is lucky, a routine
examination would find this cancer when it is fairly small, at which
point the best solution is to remove the cancerous tissue.

If the woman is unlucky, the cancer would grow until it found a conduit
(typically a lymph node or a blood vessel). Cancer cells that broke
free from the mass would be transported by the conduit until it ends up
somewhere else in the body, at this point it would attach itself to
other tissue and continue spreading. The cancer cells crowd out other
cells, choking off access to blood vessels or waste channels, and other
cells either become cancerous in turn or they become necrotic - dying
but not being removed by the body's defenses. The woman becomes tired
more easily as energy that would normally be going to maintenance of
the body is increasingly co-opted by the cancer cells. Tissue becomes
tender and inflamed, and pain caused by cancer cells crowding in on
nerve endings becomes more endemic.

If the cancer spreads to the lungs, then breathing becomes more
difficult and becomes an emphysema. If it spreads into the lymph system
then the woman has more trouble fighting off infections, and becomes
sicker more often. If it spreads into the bone then normal stresses may
cause the bone to snap.

The broken bone is a black swan event - it seems unlikely that a bone
would normally break under typical stress actions, but in point of
fact, this isn't a typical stress action. The system has been
compromised, and the cancer has spread out in a spider-web like fashion
through much of the body. An aggressive fight against the cancer by
irradiating it or using poisons (chemotheraphy) may be able to remove
the tissue, but typically it does so by further weakening the ability
of the body to function.

The body does not die because of the cancer. Instead, the cancer causes
each system in turn to become less efficient, and ultimately to fail
because it can't get the energy necessary to continue. Once one organ
fails, it increases the likelihood that other systems that are
dependent upon that organ will also fail. The unfortunate woman dies of
system failure.

This rather detailed and morbid description still serves as a metaphor
for other systems. Complex systems are made up of simpler ones, which
are made up of simpler ones still. Corruption usually occurs fairly far
down in a given system, but most complex systems are generally fairly
effective at catching and eliminating the obvious points of corruption
(or worst case scenario, sequestering them off in isolation) .
Corruption here simply means a subversion of the normal functions of
that particular abstraction - an bridge inspector signing off an
inspection report with only a peremptory check of the bridge, an
employee stealing supplies from the supply cabinets, a student cheating
on an exam or a businessman cheating on his taxes, a radical publishing
seditious tracts, to name a few of the many, many examples.

Physical system analogs would be areas of snowfall on a mountain that
gets more sun than normal but is also supporting other areas of
snowfall, a particularly warm, dry, dust-laden wind coming off the
Sahara into the Atlantic Ocean, the gradual creep of increasing
temperatures in an area that hasn't faced them pushing flowering and
bee pollenation behaviors slowly out of synch.

The point about most such corruption (i.e., regions of potential
instability) is that, for systems in quasi-equilibrium, the corruption
usually has comparatively little impact over the short term. Most
systems have regulating mechanisms that tend to correct for such
instabilities - the office manager notices that one department is using
more supplies than the other, and a bit of surveillance reveals that
one employee is using dramatically more than he should be. At that
point, the employee is summarily fired, and a new employee hired to
replace him, and the message is made clear - you steal, you're gone.
This tends to move the system back into equilibrium.

The regulation and action is not a normal event - it is only undertaken
when corruption is noticed. It's a small "collapse", one that may
result in some disruption of activities and hence impact the efficiency
of the abstraction - and for the employee it results in a significant
disruption from the way things were. However, such feedback cycles
normally keep the system relatively stable.

However, over time, the corruption can become more endemic, and at a
higher level of abstraction. The managing bridge inspector is lax in
checking on reports, and the inspectors under him avoid looking at
those places on the bridge that are awkward to get to or would require
getting especially dirty, the comptroller in a company works with one
or two accounts to falsify the books, the teacher at a university
starts accepting bribes and sexual favors for grades, a company
provides campaign donations to a politician in order to give them a tax
break or special legislative consideration.

Note in this case that there are two levels of abstraction involved in
all of these scenarios. Generally the role of a manager is to act as a
governor or regulator on the actions of others, to provide negative
(damping) feedback to minimize corruption in a system. When that
feedback is subverted, it amplifies the corruption rather than reducing
it, and it makes it increasingly likely that the feedback will start to
compromise the stability of the abstraction layer.

One of the more interesting phenomena that takes place in systems of
abstraction is the paradox that the longer a system remains in
equilibrium, the more likely that it will become unstable. In order to
understand why, consider that most corrective feedback occurs only
after a problem has reached a crisis point - the office manager finds
that supplies she just ordered are gone, and she can't think of any
legitimate reason why they would be. As she is responsible for her
budget, she knows that she has less lattitude if excess pilferage is
reducing her budget (and that she could face "corrective action" if
such thefts continue to be unexplained.

However, as the organization gets larger, the office manager has more
responsibilities, and tracking down pilferage drops down the list. The
attitude begins to form that office supplies are fair game, and people
begin more inclined to take supplies whether they need them or not -
and those office supplies begin to move towards bigger ticket ideas
like computers and projectors. Expense accounts start to become padded,
and pretty soon begin to become a significant part of a person's
income. Eventually the amounts begin to become high enough that it
impacts the bottom of the line of the company, particularly if the
comptroller and his friends in accounting are in on it (getting
kickbacks for equipment that's disappearing).

What makes this worse is that it has gone from being an isolated
instance to becoming pervasive and endemic. You can't fire everyone
without bringing the company to its knees. Eventually you are forced to
fire the comptroller, establish a new-tight accounting system for all
internal goods and services, alienate a number of your employees who
had come to see the office supplies as a right, and then spend several
months searching for a new accounting team.

Stability breeds complacency, which breeds instability. Hyman Minsky,
an economist in the 1960s, laid out this hypothesis for financial
systems, but it holds in most complex multi-layered abstraction
systems. Deregulation of the banking industry, low interest rates on
the part of the Federal Reserve and a push towards home-ownership in
the early 2000s meant that bankers could make higher risk mortgage
loans to increasingly unqualified buyers then sell these loans to other
financial institutions. These financial companies would combine these
mortgages in novel (and dangerous) ways and sell them as financial
vehicles to investors. The investors would then use these securities as
collateral to build increasingly unsustainable leverages, while
insurance companies sold "black swan" insurance that they never
expected to pay off in order to make these securities palatable to
accountants. Meanwhile, the real estate agents worked with the
appraisal firms and builders in order to get the largest payback in
fees, and homeowners in turn found themselves forced to take out ever
larger loans for the same properties.

Low initial rates on loans were reset after a specific period to a much
higher rate, and people began to fall behind on their payments, in
time, the cascade of defaults and jungle mail cascaded through the
system. The rapidly receding value of these assets caused a Minsky
Moment in September 2009, as a key investment bank, Lehman Brothers,
was allowed to go bankrupt. Because of the unwinding of the positions
that Lehman had held, this created the financial equivalent of a heart
attack as credit disappeared from the market overnight.

Starved for credit, companies could no longer sustain regular payroll,
watched their energy supply (cash inflow) dry up as consumers pulled
back abruptly in spending and soon were forced into rapid liquidation.
Abstractions were unwound as energy (in the form of credit) disappeared
from the system. Unemployment shot up as millions of people were forced
out of work, accelerating the crisis, while attempts to recapitalize
the banks have so far fallen short of solving the systemic problems.

Instabilities - turbulence - disrupted each layer of abstraction. This
process is still ongoing, and will likely take one to two more years in
order for the turbulence to dissipate to a level that new structures
can start to form again, at a lower energy level.

The lesson for futurists - first, disruptions do not happen without
reason. Most disruptions occur when a stable (complacent) abstraction
becomes corrupt and brittle. In a recently stable scenario, external
stimulae impinge upon the system all the time, but the system is
resilient enough to ward them off. As systems become more mature they
become more fragile, and their ability to adapt becomes increasingly
compromised. Eventually, a stimulus occurs that causes a breakdown of a
particular part of the system, and the system has become so
interdependent that this shock then gets passed on, destructively, to
other subsystems. The subsequent loss of system integrity can prove
fatal, and the system will unwind to a less energy intensive state as
energy bleeds into turbulence.

In general, you cannot predict what the shock will be that will
ultimately send a system over the edge, and its futile to try. What's
important is to examine whether, given a shock, a system is resilient
enough to absorb it, or whether the shock will prove devastating. The
role of both analysts (who are futurists) and regulators is to do the
research to determine what organizations are too fragile, and then to
examine the consequences that a shock to the system will have.

One final note here: a good place to look are organizations that are
deemed "to big to fail". Most likely once a company (or a government)
reaches that point, it is definitely overdue for an earthquake.

--
Posted By Kurt Cagle to Metaphorical Web at 5/07/2009 09:58:00 AM

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