The 2008 Financial Collapse and Black Swan Events
Guest post by Alan Cunningham
The phrase, “complex systems can contain the seeds of their own destruction,” is a phrase that appears in Ted Lewis’ 2006 book Critical Infrastructure Protection in Homeland Security: Defending a Networked Nation; with this word, Lewis means that the system destroys itself, “because the nonlinearities that become apparent only when the system is under stress”.
In my opinion, what Lewis is doing is that there are systems and methods used by governments to secure national security/defense infrastructure and platforms that are open to attack in a way that only becomes apparent after they are attacked.
For example, in the early 2000s, the phrase “Too Big to Fail” was commonly thrown around when discussing business and the financial industry, with the phrase getting the idea, “a company that exists in the global economy to fail. would be a disaster…[the word “Big” does not refer to the size of these companies] but involvement in many economies”. This idea also has the connotation that this large financial industry, due to the need for the government and the world economy to be active, must be protected by government entities to ensure a safe and productive society. However, finally, in 2008 the market housing, which had long been considered one of the most stable, collapsed. This collapse was preceded by, “an expansion of mortgage credit earlier, including for borrowers who would previously have difficulty obtaining a mortgage, which both contributed to and facilitated the rapid increase in housing prices … high risk mortgages are available from mortgage lenders. by repackaging into pools that are sold to investors. New financial products are being used to share that risk, with private label mortgage-backed securities (PMBS) [also known as MBS] providing most of the funding for subprime mortgages…When house prices peak, refinancing mortgages and selling houses become less viable ways of settling mortgage debts and the rate of mortgage losses begins to rise for lenders and investors”.
In 2007, “a sharp drop in the value of MBS has caused large losses in many banks, hedge funds, and mortgage lenders and even forced some large and important companies to liquidate the hedge funds that have invested in MBSs, to appeal to the government for loans, to find merging with healthier companies, or declaring bankruptcy. Even companies that are not directly threatened with billions of dollars in losses, as heavily invested MBS are now being downgraded by credit rating agencies, becoming “toxic” assets (those with no use) and the crisis worsened when many subprime lending companies ceased operations, causing banks to stop lending money to subprime customers because the banks, “could no longer fund subprime loans through the sale of MBSs …[this in turn] discouraged from buying houses even among consumers with prime credit ratings, sales and prices are more depressing”.
Due to the fact that many financial giants now have toxic assets in store, many “investors are selling investment stocks”. When investment securities firm Bear Stearns became unstable, the federal government “brokered, and partially financed, a deal for its acquisition by JPMorgan Chase”.[6]This was followed by the federal government’s bailout of Fannie Mae and Freddie Mac (“government-supervised mortgage guarantors”), the investment securities company Lehman Brothers, and AIG, financial and insurance companies and other damages only stopped after the Bush administration acted. in the form of economic stabilization laws and “quantitative easing measures”. In the end, “in [U.S.] the stock market collapsed, wiping out nearly $8 trillion in value between the end of 2007 and 2009. Unemployment rose, reaching 10 percent in October 2009. Americans lost $9.8 trillion in wealth as home values fell and retirement accounts evaporated… [while globally] The Great Recession caused a loss of more than $2 trillion in global economic growth, or a drop of almost 4 percent, between the pre-recession peak in the second quarter of 2008 and the low hit in the first quarter of 2009”. financial analysts and economists note that safeguards are in place to try to prevent another crisis and limit the damage.
To my mind, this is an example of what Lewis does in his text when he discusses how complex systems contain “the seeds of their own destruction”; The financial system is a very complex system and requires a keen understanding of economics, geopolitics, and finance to understand how the system operates on a large, national and global scale. Very few before the end of 2007 saw nonlinearity in the financial system and it appeared only when subprime lending companies, like Countrywide Financial or New Century Financial Corporation, began to falter. The affairs of the financial system in the early 2000s also contained the roots of the destruction that would bring the financial system down and nearly cause a disaster worse than the Great Depression of the 1930s. Not only did this have a negative effect on the financial performance of the United States, but this event widened the divide between the poor, working class, white Republicans and the wealthier, upper class, Republicans, which led to a lack of confidence in the US. government and hostility toward elected officials by the American public, the birth of the Tea Party and the growing appeal of Libertarianism, and the divide among ordinary Americans over fundamental political issues.
The Black Swan event is best described in the mathematician and risk analyst Nassim Nicholas Taleb’s 2007 book The Black Swan. He wrote, “What we call here a Black Swan … is an event with the following three attributes. First, it is an outlier, because it is outside the usual expectations because there is nothing in the past that can convince us of its possibility. Second , bring extreme impact. Third, despite its more extraordinary status, human nature makes us create explanations for events after the fact, so that they can be explained and predicted. I stop and summarize the triplet: rarity, extreme impact, and retrospective prediction (although not prospective). Taleb also argued, “because black swan events are unpredictable because they are rare, but have catastrophic consequences, it is important for those who always consider black swan events to be a possibility, whatever, and try to consider the plan accordingly, “while also capitalizing on the financial crisis of 2008,” he argues that if the broken system is allowed to fail, it actually strengthens the disaster of aca ra black swan winter. They also argue that, systems that are embedded and isolated from risk end up being more vulnerable to catastrophic losses during rare and unpredictable events. This same article also agrees that the 2008 financial crisis was a Black Swan event.
Examining the facts of the matter, it is true that very few foreswing bubble housing as in the nature of possibility. To quote from the University of Pennsylvania’s Wharton School of Economics online business journal Knowledge@Wharton, Wharton finance professor Franklin Allen, “[argues] that many economists use mathematical models that fail to take into account the critical role that banks and other financial institutions play in the economy… Over the past 30 years, economics has been dominated by “academic orthodoxy” that says the economic cycle is driven by players in the “real economy” – producers and consumers of goods and services – while banks and other financial institutions have been assigned little importance…But it is financial institutions that fomented the current crisis, by creating risky products, encouraging huge debts among consumers. and engaged in high-risk behavior of his own, like accumulating large positions in mortgage-backed securities,” while succinctly stating, “Not only he [economists] missed, he positively denied it would happen”. Other professors interviewed for the piece agreed that economists underestimated the magnitude of the collapse the world experienced in 2008 despite much of it in common sense analysis and forecasting.
Of course, the financial crisis of 2008 brought an extreme impact, making it one of the worst financial crises since the Great Depression of the 1930s. The New Yorker generally wrote, “millions of Americans lost their homes to mortgage foreclosures, and in the summer of 2010 the unemployment rate rose by nearly ten percent”. To give a better perspective on the impact of the 2008 financial crisis on the United States and the world, Pew Research summarized its findings in 2010, writing, “US households lost an average of nearly $5,800 in income due to reduced economic growth during the acute phase of the financial crisis from September 2008 to the end of 2009. The cost to the federal government due to the intervention to mitigate the financial crisis amounted to $2,050, on average, for each US household. In addition, the combined peak loss from declining stock and home values amounted to almost $100,000, on average- average per US household, during the period July 2008 to March 2009”.
Brian Duignan, senior editor at Encyclopædia Britannica, writes, “In 2012 the St. Louis Federal Reserve Bank estimated that during the financial crisis, the net worth of American households had declined by about $17 trillion in inflation-adjusted terms, a loss of 26 percent. In a 2018 study, the Federal Reserve Bank of San Francisco found that, 10 years after the beginning of the financial crisis, the country’s gross domestic product was approximately 7 percent lower than if the crisis had not occurred, showing a loss. of $ 70,000 in life income for about 7.5 million jobs were lost between 2007 and 2009, representing a doubling of the unemployment rate, which stood at nearly 10 percent in 2010. Although the economy slowly added jobs after the start of the recovery in 2009, reducing the unemployment rate to 3.9 per cent in 2018, many jobs added are cheaper and less secure than lost…People who suffer the most – millions of families who lost their home, business, or savings; millions of workers who lost their jobs and faced long-term unemployment; millions of people fell into poverty-continuing to struggle years after the worst of the turmoil had passed”.
Finally, many readers of this incident have tried to explain the crisis and make it predictable. The Financial Crisis Inquiry Commission, in January 2011, called the crisis avoidable and the fault of “Wall Street bankers, regulators, government officials, and even homeowners”. National media organizations and local newsgroups also supported the idea that the 2008 financial crisis was preventable and predictable. Journals and academic institutions have also adopted this idea, publishing commentaries and collapsing examinations that have a predictable attitude when discussing the crisis.
I would be very accurate to call the 2008 financial crisis a Black Swan event, examining how Taleb defined the event when examining the beginning, impact, and consequences of the 2008 crisis. In fact, in my own opinion, the same argument can be made that the current COVID-19 pandemic is Black Swan events (with the only obstacle to this classification being that many people in the epidemiology and immunology community see other. However, while many agree that the 2008 financial crisis was an event, there are some outliers that contradict this reading.
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