
Nassim Taleb: End Bonuses For Bankers - saturdaysaint
http://www.nytimes.com/2011/11/08/opinion/end-bonuses-for-bankers.html?_r=1&pagewanted=all
======
Dbkasia
As a former banker with 18 years experience, this article is 100% on the ball.
Having worked as a senior executive during the times of Global Crossing and
Enron I saw how the system was gamed!.

Working at this large institution I saw how the bonus system, made the
supposedly senior bankers act like a group of Mary Kay cosmetic sales girls,
seeing how they could optimize their bonuses by playing the game, and how they
got the lower levels of the pyramid to play along because of the partial
subjectivity and discretionary aspect of the bonus system. Because of this
discretionary aspect, lower levels of the pyramid, we're unlikely to question
the creation of complex and funky new products specifically designed to
overcome impediments to maximize that short term bonus.

When this giant "ponzi" scheme began to collapse, I saw how those same greedy
senior executives proceeded to panic and destroy significant strategic parts
of the business solely to stop the leakage of their bonus pool and try and
cosmetically dress up the banks short term results to justify and maintain
those 6-8 figure bonuses they had thought they were going to receive.

Many of these executives later "resigned" or were "retired" by their boards
who should have been accountable for the damage reaped by these masters of
gaming. Most of them(I think all of them!) retained huge bonuses all at the
expense of the shareholders and employees. Writing off 100's of millions of $
of shareholder and depositor value. With middle class retail shareholders,
depositors, and employees paying the price of this borderline criminal
behavior.

Most galling to me is that one of these executive used some of his "hard owned
bonus" to have a faculty/ building at my alma mater named after him. I believe
this was probably more driven by ego than guilt!

Nassim is 100% on the ball. Nothing has really changed and history repeats
itself, and unless government starts to listen then I fear the outcome will
either be financial collapse or revolution (#occupywallstreet?).

~~~
Maro
As publicly traded companies (eg. Goldman, Morgan Stanley), don't the
executives have legal obligations towards the shareholders? Isn't it illegal
for them to game the rules to maximize their bonuses at the expense of the
company's long-term viability? Why don't the shareholders fire these guys out
of simple self-interest to protect the value of the stock they're holding?

If I were the owner of a company and the CEO I hired to run it for me were to
put my company at risk for his bonuses I'd be hitting my head against the wall
and firing him. No gov't regulation required.

~~~
damoncali
Nobody wants to ruin the party. You're asking someone to stand up and say
"stop making so much money, this isn't sustainable" when EVERYONE is making
money hand over fist. Sure, it may be the right thing to do depending on your
point of view, but nobody will do it because they will be laughed out of the
room and cast aside.

Retail share holders are ignorant, so they don't matter. Big share holders
know that there is a time frame that they care about that is as short as they
want it to be. They don't care about the long term. The board of directors (in
theory) should, but even they are short-timers. Asking them to stop making
money in the short term to help the long term is counter to their personal
interests. It's just a flaw in the system, and a major argument against going
public.

Interestingly, the handful of folks I know who have served as directors for
public companies all share certain personality trais: A strong extroversion
(in that they seem to care a lot about what others think of them), a tendency
towards overconfidence, and an aloof demeanor. Not sure if that's universal,
but it's something I've noticed. It probably doesn't help.

~~~
Maro
> Big share holders know that there is a time frame that they care about that
> is as short as they want it to be.

It's always said that the it's the "public" [through centralized funds like
retirement funds] that get the short end of the stick at the end of a bubble.
It seems to me these _are_ big share holders and they _should_ care.

~~~
damoncali
Everyone should care. But the reality is that almost nobody does in the public
market system.

------
wtvanhest
I love hacker news for discussions about business and about learning about how
the smartest programmers in the world think about programming.

When articles that deal with the world outside of startup finance appear on
Hacker News, the articles and comments usually have so little knowledge behind
them they are practically unreadable.

It would be nice if this community could keep the articles they post based on
VC funding, angel funding, debt funding for start ups, option pools, etc.

The comments here are more representative of political ideals and not based on
facts.

(Also, I understand that is not entirely true as some comments are actually
quit interesting, but I have to wade through so much garbage to find them that
it isn't worth it.)

~~~
Dbkasia
I would tend to disagree that this article is not relevant, startup finance
and access to funding for startups is highly dependent on the health of the
financial system, and this article deals with the economics and the gaming of
that system.

~~~
wtvanhest
You mentioned how bankers you worked with gamed the system in your other post.
If gaming the system is so easy as a banker, please tell us how much money you
gamed?

If you were there for 18 years as you said you were then you should have gamed
a ridiculous amount of money out of the system and you would have been through
at least 1 if not 2 recessions, 1 of which as a fairly senior banker.

~~~
Dbkasia
I never said the game was easy and yes I saw several economic cycles, at
several different institutions, on both the credit side (when Glass-Steagal
actually meant something) and the investment banking side. I was well rewarded
for the efforts I put in becoming a junior partner/MD and receiving adequate
bonuses a year before the first collapse. Not everyone was consciously gaming
the system, but you started to realize it when on successful deals like Global
Crossing, which went from (a market cap of US$ 5 bn to chapter 10 bankruptcy
the following year), senior exec were taking 20 million+ bonuses, and then
being fired a year later. A clear indicator that there was something
significantly wrong with the corporate governance bonus systems then.

Now 10+ years later when you see things like the 2008 recession, the current
bankruptcy of MF Global and some of the Internet IPOs that are being pitched
and sold to smaller institutions and retail investors, and the fees that are
being taken, you have to wonder whether anything has really changed and really
see how such compensation systems are not in the interests of a healthy
financial system. Especially when taxpayers and shareholders have to bailout
or bear the economic costs of the distortions created by these bonus systems.

Don't get me wrong there is nothing wrong with people being paid good bonuses
and good compensation but as Nassim indicates the amounts being paid are
excessive and don't truly reflect the risks being taken.

I don't know how relevant any compensation number would be to the point I am
making. But if you did your research amongst the sec filings I am sure you
will raise your eyebrows about how much money has been gamed and how
disproportionate this is compared to the costs borne by taxpayers and others.

~~~
wtvanhest
As a banker please recommend SEC filings that would be helpful in determining
"gaming". Typically the media likes to use ridiculous numbers like average
salary or average bonus per employee etc. (I've never seen a gaming loss
section on a 10-K)

You do not need to take risk to make a lot of money in the United States. That
is what makes us the greatest economic power house in the world. (yes, far
greater than China who's average income is less than $5,000 per day) and
especially Europe who is transferring all of their wealth to US treasuries to
prevent loosing their money.

The rest of the world isn't even worth mentioning.

------
wsetchell
This sounds like we're tackling a symptom not the disease. Instead of figuring
out how to stop bankers from being paid so much in bonuses, we should answer
ask why a few times.

"Why can banks pay their employees so much?" - because they make so much
money, and have so few employees.

"Why can banks make so much money?" - I'm not sure but it seems like banks can
take risks, but pass off the real risk to others.

"Why can banks take risks, but not have to worry about the downside of those
risks" - ...

I think if you follow that train of thinking you'll get to some structural
problem in our current system. It doesn't seem like there is an easy fix here.

~~~
rhizome
Well, it used to be that banks were prohibited from taking risks. 100 years
ago banking was a boring job.

~~~
FJim
In fact 100 years ago it was quite the opposite.

<http://en.wikipedia.org/wiki/Panic_of_1907>

------
RyanMcGreal
Or the US could simply re-regulate financial institutions the way it did
during the period from the 1930s through the 1990s.

~~~
j_baker
I do like this idea, but I'm a bit skeptical that a relic of the 1930s would
work in our modern economy. Thus, I suspect the answer is a bit more complex
than "Bring back Glass-Steagall".

~~~
cynicalkane
I think the economics is pretty timeless, actually. A lot of the regulation
was aimed at preventing catastrophic bank failures, before the idea of Too Big
To Fail was invented. Glass-Steagall contains the idea that a commercial bank,
which gets major regulatory freebies by virtue of being a commercial bank
(FDIC, Fed access, &c), shouldn't have access to unfettered financial markets.
And so on.

------
rdl
Another option is for banking (of the high risk investment banking kind) to be
conducted by partnerships, with only natural persons as members, rather than
corporations. One's ownership would be long-term, and actions could claw back
previous upside.

Goldman Sachs was a partnership until its IPO in 1999. A lot of finance houses
were closely held partnerships until the late 20th century.

~~~
flourpower
That would work if we wanted to stop banks from transferring losses to
shareholders - the real problem is that they transfer losses to taxpayers.
Pre-IPO Goldman Sachs was probably considered "systemically important" enough
for their losses to have been covered in the event of a large trading loss.

~~~
rdl
Yeah, there needs to be a clear distinction in advance between entities which
can be bailed out (and thus must be highly regulated) and entities which can
experiment/innovate freely (but which can't socialize their losses).

LTCM would have clearly been "not bailed out", except it was. Admittedly not
directly by the USG/FR, but at the direction of the Federal Reserve.

~~~
flourpower
And even then it's tricky, because a non-regulated entity can make a bet with
a regulated one and end up getting bail-out money by virtue of that bet. That
seems undesirable, but you also can't really stiff the non-regulated entity,
because then nobody will ever want to bet with the regulated one again,
thereby destroying its ability to hedge.

~~~
rdl
I wonder what the costs to the economy would be if we had Canadian levels of
regulation of the financial industry, or even greater (something like how
utilities themselves are regulated).

~~~
greeneggs
Canada believes in allowing only a few, highly regulated banks. Since there
are only a handful of banks, it makes it very easy to regulate them.

But this model does hurt the little guys. Since Canadian banks form an
oligopoly, they charge _you_ for lending them money; account maintenance fees
are standard. This hurts the smallest savers the most. Similarly, there is
minimal competition in setting interest rates. Finally, financial innovation,
done right, does help people---think Vanguard, index funds, ETFs, etc. All
much more limited and much more expensive in Canada (I think).

In contrast to Canada, I think we would be better off with many small
institutions, lightly regulated. Then they can compete for your business and
do not need taxpayer support when they fail. When they become too big, break
them up.

~~~
jellicle
The banking system in Canada is not significantly different than the United
States, except that it is just a banking industry. The U.S. has a
banking/gambling industry. Actually it's more of a gambling industry with a
small banking sideline.

------
jcampbell1
I think a better solution for "too big to fail" banks would be to require
bonuses are paid in restricted stock. That way if the bank needs a bailout,
then bonuses would be automatically clawed back. The bigger the bank, the
larger the portion that is required to be RSUs. This would give a recruitment
advantage to smaller banks, thus serve as an automatic limiter to bank size.

~~~
fleitz
An even better solution would be to just allow the market to take its course.
Thinking up ways to allow to big too fail institutions to keep existing is
counterproductive. Just allow it to fail and people will stop doing those
things. If your bank doesn't exist you can't very well collect a bonus from
it.

I bet you if the big money families started losing big chunks of their
fortunes that there would be serious reform. Same with retirees and their
pensions.

How do you think the prosecution of bankers would go if bankers put the DOJ
pension at risk?

~~~
pspeter3
We already tried this in the 1930s and that didn't go so well. Banks are
different than other business because they act like a heart to pump cash
through our economy. Allowing banks to fail would only make it harder for new
businesses to find cash and for people to trust saving their money.

~~~
fleitz
Actually in the 30s we did exactly what we're doing now, deflating our
currency, passing a bunch of legislation to prevent competition, disallowing
people from holding solid investments, paying people to be unproductive, a
massive expansion of government predicated upon a weird interpretation of the
commerce clause, and surprise surprise, it's having the same effect it did in
the 30s.

Keep in mind that the economy 'failed' in 28, but it wasn't until FDR that
things really got bad.

~~~
thecage411
Are you sure?

I just pulled up the a graph of US GDP from Google:
<http://www.housingbubblebust.com/GDP/Depression.html>

FDR took office in March of 1933, which looks like when things got better.

------
ihodes
This is absurd. Regulating private companies' compensation? Instead, the
government should either make sure companies don't get "too big to fail", or
make it very clear that banks don't have the Geithner Put option.

Simple and unobtrusive.

~~~
jwallaceparker
>> the government should either make sure companies don't get "too big to
fail"

Exactly. And the best way to do that? Never bail them out.

~~~
jshen
"Never bail them out."

Even if it destroys the economy for everyone?

~~~
bydesign
Bailing them out is the same as adding RAM to a server to fix a memory leak.

The problem isn't a temporary, transitory state - it's a systemic design flaw
in a system filled with rogue actors.

~~~
jshen
Right, you need to combine saving the financial system with systemic change.
Letting them fail is equivalent to letting the system crash and the doing
nothing.

~~~
nickik
I just dont understand why people talk about the "financial system". Its a
bunch of banks and some of them fail. The only banks that failed are those who
are bad.

~~~
sethg
A financial panic is not an avenging angel that slays the wicked and leaves
the righteous untouched.

Without the possibility of a bailout, if, say, Citbank went under, this would
not only screw Citibank’s depositors—most of whom were hardly in a position to
audit Citibank’s books before opening their accounts—but also every bank that
had loaned money to Citibank. If a bunch of people who deposited money with
Citbank owe money to Wells Fargo, then Citibank’s failure hurts Wells Fargo.
And if Citibank’s failure led the depositors at Bank of America to get nervous
and withdraw their money, then BoA would be at risk _even if_ it had been
prudently managed up until the crisis. And then BoA’s and Wells Fargo’s
creditors... etc., etc., etc.

~~~
nickik
Well yes some banks can be hurt in the process that are not acctully bad but
history shows that in most cases bank runs happen on banks that are really
bad. If you are a conservative bank you will acctully get a lot of cash (this
happend in switzerland) witch you can then lend at high rates to banks that
need it (if there wouldn't be the fed pushing the intrest rate down). Witch
banks acctully are in a bad place and witch are not will be the task of
bankers and private investors. The banks that are acctully good will probebly
get survive. So yes there will be some collateral damage but that just cant be
avoided in a cycle. It would be much better then the mess we are in know.

That all beeing said in a system where you have fractional reserve banking
(witch is a bad idea anyway) there is a case (not one that I totally agree
with) to be made that we need a "lender of last resort". But beeing a "lender
of last resort" is quite diffrent then what the fed did. They literly flooded
the hole bankingsystem with cash, knowbody knew what was going on, how will be
saved who want, witch banks acctully are still liquid and witch will bust when
the flow of cash stops. Why should banks lend to each other if the get free
money. If I would get free money, I too would just sit around and wait until
the worst is over. If every body does that we acctully have a bigger problem a
long rescession instead of a short crash.

------
jwallaceparker
>> I HAVE a solution for the problem of bankers who take risks that threaten
the general public: Eliminate bonuses.

I'm sorry but that's not the solution.

The solution is for the government to stop bailing out private institutions,
regardless of whether they are deemed "too big to fail."

There are some incredibly elegant natural laws built into the fabric of the
universe, one of which is expressed through economic systems in which corrupt,
reckless institutions are eliminated because they go broke.

The only way corrupt, reckless institutions are allowed to persist are when
they are propped up by taxpayer money.

~~~
tptacek
And if tens of thousands of people lose their jobs because the corporate
credit markets freeze and otherwise-profitable companies can't fund their day-
to-day operations, well, "externality" is just a fairy-tale idea thought up by
ivory tower economists?

I'm sorry to be so glib, but if the answer isn't as simple as "end bonuses",
it also isn't as simple as "just let the banks fail".

~~~
jwallaceparker
>> I'm sorry to be so glib, but if the answer isn't as simple as "end
bonuses", it also isn't as simple as "just let the banks fail".

But there is a "simple" difference between philosophies of how to address
corruption in financial markets.

>> And if tens of thousands of people lose their jobs because the corporate
credit markets freeze and otherwise-profitable companies can't fund their day-
to-day operations

There is no way to avoid the day of reckoning.

Don't pretend that any crises that were avoided in 2008 won't be that much
larger when they eventually materialize.

~~~
drusenko
>> There is no way to avoid the day of reckoning.

That would be true if it weren't for the fact that a good bit of our economy
relies on confidence and trust. Confidence that there isn't a huge recession
or depression in the near future, and trust that others will remain in
business if you deposit/lend them money/invest.

So in a very real sense, a panic, even if it isn't based on anything
fundamental, can set you back very significantly.

------
Aloisius
There are plenty of fine ways of reducing risk for companies which pose a
systemic threat the US economy, eliminating bonuses is probably not one of
them.

The most obvious is, if a company ever becomes Too Big To Fail, you simply
force them to break up. We do this with monopolies because they could harm
competition. We have plenty of experience with it. Surely we could do it with
companies that represent a massive threat to our economy.

The second one I see is to force any Too Big To Fail company to hold a very
large percentage of their value in a bond they hold with the government. Now,
they could be a standard federal bond or a special insurance bond, but it
would basically mean that if the sh*t hit the fan, there would be enough
company assets in safe holding to fail in a more controlled manner.

~~~
anamax
> The most obvious is, if a company ever becomes Too Big To Fail, you simply
> force them to break up.

Surely that also applies to GSEs (such as Fannie Mae and Freddie Mac), govt
programs, and even govts themselves.

If not, why not?

------
T_S_
This fails because it ignores the root cause. All banking crises are
informational in nature. Circulating more of the right kind of information is
nearly all the regulation you need. What information? Positions, live or
daily, in detail. No more too big to fail, and many other problems simply
disappear.

In contrast, most regulatory proposals betray a belief in installing a tough
cop of some kind to combat 'evildoers'. Guess what, the evildoers are just
people doing their jobs. We need to tweak the system to stabilize it, and for
a regulated industry like banking the government has all the power it needs to
do so.

~~~
jonhendry
What about accounting tricks which seem to move risks off an institution's
books, but don't actually do so, and nobody notices until it's too late?

~~~
T_S_
What I am suggesting is to allow the public and analysts to see the detailed
positions of the institution and make accounting superfluous. We can view
accounting as an extremely flawed model that lacks timely updates. By
operating in the sunshine an array of activities permitted by information
hoarding will no longer be sustainable.

------
HSO
Mixed feelings about this article.

> The potency of my solution lies in the idea that people do not consciously
> wish to harm themselves; I feel much safer on a plane because the pilot, and
> not a drone, is at the controls.

What about myopia, self-delusion, panic, sheer intellectual dishonesty or even
disability, and all the other assorted biases that afflict human judgment?
Humans hurt themselves all the time. In fact, there are instances when putting
more pressure or increasing the (financial) incentives _hurts_ performance and
_increases_ risk.

> I believe that “less is more” — simple heuristics are necessary for complex
> problems. So instead of thousands of pages of regulation, we should enforce
> a basic principle: Bonuses and bailouts should never mix.

Having said that, I'm still all for the use and (re?)discovery of heuristics
in regulation, combined with judgment on the part of the enforcer. It's high
time we moved past the game of who can outlawyer who. There is a reason that
posts like yesterday's knife maker capture the attention of many people these
days and why firms like Apple or Leica are so successful these days. Life is
becoming so complex, we can't write every contingency into a law; so much is
becoming possible today that we need more and more conscious, i.e. editorial
constraint.

------
gallerytungsten
The problem that Taleb unfortunately doesn't address is that the bankers have
captured the political system. For this reason his solution unlikely to
transpire.

------
uwe
I like the general idea of linking the consequences of some actions to the
actors involved to prevent cheating and bad behavior. The examples from
Babylon and Rome were probably much more effective in this than cutting the
bonus of a banker (ie they paid with their lives).

I had a similar thought when I started reading about fracking
(<http://www.propublica.org/series/fracking>). A simple solution there for the
pollution caused by the wastewater is to force the executives and their
families from the companies doing fracking to live in the communities they
affect and use/drink the water they claim is safe.

------
brown9-2
_Instead, it’s time for a fundamental reform: Any person who works for a
company that, regardless of its current financial health, would require a
taxpayer-financed bailout if it failed should not get a bonus, ever. In fact,
all pay at systemically important financial institutions — big banks, but also
some insurance companies and even huge hedge funds — should be strictly
regulated._

I'd really like to see someone attempt to express such a condition in the type
of legalese that appears in legislation.

How do you ban something based on a hypothetical possibility? How do you write
this condition down?

------
endtime
>The asymmetric nature of the bonus (an incentive for success without a
corresponding disincentive for failure) causes hidden risks to accumulate in
the financial system and become a catalyst for disaster.

I think this claim contains a pretty elementary mistake. No bonus is a
disincentive, because base salaries can be relatively low; not receiving a
bonus is a large opportunity cost. If I could get a 400k salary, but I instead
opt for a 200k salary with a 400k expected bonus, then if I don't get my bonus
I'm 200k behind where I could have been if I just took the salary.

~~~
wmf
This is true, but the downside is capped: a bonus can't go below zero. Thus
traders may become insensitive to the amount of money they lose and thus
increase risk.

~~~
endtime
A bonus can go "below zero" if you need to get a >0 bonus just to reach your
market salary.

~~~
flourpower
But it can only go as far below 0 as the amount in salary you sacrificed in
exchange for a potential bonus.

~~~
endtime
Yyyyes...? What is your point?

Edit: To clarify (since someone downvoted me), you are making a true
statement, but I don't see how it is in conflict with anything I'm saying, or
what other point it supports.

~~~
flourpower
What Taleb is saying is still true. If I have a 400k market salary and I give
up 200k of it for the right to 1% of the profits I generate, then I still
maximize the expected value of my compensation that year by maximizing the
size of my bets. I could bet a billion dollars on a coin flip, get 9.8 million
(after recouping foregone salary) on heads and lose 200k on tails. Moreover,
there is a well established history of traders that lost large amounts of
money finding gainful employment regardless. See Boaz Weinstein, for example.

------
MKT
If you don't pay bonuses, do you give a managing director at a bank a 1
million dollar salary independent of performance? How is that a good thing?
And if you tried to pay her very little, the bank would just turn itself into
a shadow bank and proceed as before. Remember, GM was not a bank, at least
nominally, and it was bailed out

------
mbesto
In order to understand why bankers get such massive bonuses it would probably
be good to read this first:

Michael Lewis - Liar's Poker

[http://www.amazon.com/Liars-Poker-Michael-
Lewis/dp/039333869...](http://www.amazon.com/Liars-Poker-Michael-
Lewis/dp/039333869X/ref=sr_1_3?ie=UTF8&qid=1320795652&sr=8-3)

------
3d3mon
I think strict regulation is the way to go. Banking in a modern economy is
really a utility like gas, electric, and water.

Another solution that is more long term oriented and market based: create
rival capital-formation pools outside of Wall and Broad, say in the Midwest,
South, and West Coast. That way if one pool blows up, we can let them fail and
it won't take out the whole economy. It also removes single points of failure
from the system. I think the crowdsourcing bill floating in Congress is a
great start as it decentralizes capital-raising.

------
pkaler
The real solution is to either disintermediate the banks or eat away at their
profits. LendingClub, Covestor, SecondMarket, Simple, Square, WePay, and Mint
come to mind.

~~~
mkramlich
agreed. it's simple and it only requires direct action on the part of the
"little guys", and doesn't require Congress. also, shift more money into
credit unions rather than traditional banks. generally, if we as a society
make less money available for the Wall Street types to play with, they'll have
less to play with, and the chance/magnitude of them fucking with the
normal/base/productive part of the economy will be lessened in the future.

------
zanny
The fundamental problem is that when a corporation has so much money they can
throw tons of it at the upper management and executive, and not go out of
business because they are undercut by a competitor that doesn't waste money
like that, then something is wrong with capitalism at that point. That is the
problem you try to fix, you don't just throw more regulation on the banks that
will backfire like software patents.

------
radikalus
Not everyone who works at a bank is a "banker" -- going after bonus structure
holistically without regard to station/role seems impractical bordering on
impossible.

Beyond even that, one might imagine that if US banking regulations get
extremely prohibitive, banks will just move offshore. (And still be too big to
fail with regard to the US economy)

I think that a little divide-and-conquer is needed to fix some of the smaller
sub problems...

~~~
inthewoods
Part of the issue you're highlighting has to do with banks being able to
engage in risky behavior - the traders that argued, after the collapse of,
say, AIG, argued that they still deserved their bonuses. End the mixing of
risky and non-risky behavior and you put most of that problem to bed.

Banks moving offshore isn't really realistic - you can't avoid, at the moment,
having America as part of your bank - too much of a market. So even if, like
UBS, the bank isn't in the US, it doesn't mean that they wouldn't be subject
to regulation.

------
jprobert
How about structuring bonuses more like an earn out. When companies are
acquired an earn out is typically included so that the owner of the acquired
company has an incentive to run the company in the most profitable way. If
bankers bonuses were based on earn outs that are paid over 3-4-5 years then
they will reconsider risk since compensation is deferred.

------
mey
Bonuses are incentives. What they are giving bonuses for is wrong. Not the
bonus concept itself. Eliminate the bailouts, require a certain percentage
liquidity, force assets to be marked to market on a certain interval. Suddenly
the bank's finance sheet to it's investors won't be so rosy, investors will
demand change, change will happen.

------
bandushrew
You cannot control payment to employees like that, companies just find a way
around those kinds of laws.

Better to regulate the institutions themselves so that they dont get 'to big
to fail', don't get to combine access to cheap money with access to the
financial markets, don't get to insure themselves and so forth.

------
OllieJones
Nassim Taleb is making an argument about the structure of the banking system's
risk management schemes. This is an attractive article for us to comment on
because, doh, we'd like to punish somebody for the 2005-2008 Collateralized-
debt-obligation and Credit-default-swap Cluster-f __* (I'll call that the C3F
from here on). And, surely it would be good to hold somebody accountable for
what happened. Not that they'll be able to fix it. But still, it will feel
like justice.

But that's not Mr. Taleb's point.

The real C3F problem is of TREMENDOUS professional interest to creative
software folks. Most of us work on systems that can aggregate lots of
measurements to try to get a big picture of the system. Some of us look at
video and audio signals. Others of us look at web server logs. Today, I'm
trying to troubleshoot slow DBMS performance. Our brothers and sisters in
banking and trading look at measures of risk.

And we all know what we do to make sense of these measures. We average them.
We sometimes throw out the outliers. We measure their standard deviations, or
maybe their quintiles if we're sophisticated. And then we track the averages
and other aggregates, assuming that it's sound to do so.

My boss asked me today, "is the average query time going up?" I responded,
"wrong question! we need to look at the outliers."

This approach to averaging measurements feels like something we got from our
mothers' milk as infants. But it's based on Gauss's Central Value Theorem,
which shows that independent (repeat INDEPENDENT) measurements tend to have a
normal bell curve distribution. (We call that a Gaussian distribution in honor
of the Central Value Theorem).

So, what the heck, let's sell mortgages to poor folks, and huge mortgages to
rich folks. They can't ALL fail to pay, can they? The ones who fail to pay
will be the outliers, won't they? The Central Value Theorem teaches us that
the average person will pay up. So we can manage the two-sigma risk by buying
a credit default swap (you have AIG's phone number, call them!), and all is
well.

Except for one thing. Mortgage defaults aren't independent of each other. When
one property on the block goes into default, it becomes harder to sell the
others or refinance them. So the Central Value Theorem's premise of
INDEPENDENT measurements fails. Big time. Lo and behold, C3F.

Mr. Taleb's point is that in the real world of risk management, things aren't
Gaussian. The events he calls black swans are long-tail events (that is, their
probability curve falls off far slower than the Central Value Theorem
predicts).

Why is this relevant to HN? Because we can easily deceive ourselves by
ignoring outliers (black swans) in our fields of work. Hopefully it won't be
as catastrophic as C3F, but we should beware.

Seriously, if you haven't read Mr. Taleb's book The Black Swan, it's worth
your trouble.

~~~
bwanab
You are correct in most of your points, but it's worth pointing out that for
the 25 or 30 years prior to 2007 mortgage defaults did tend to be
uncorrelated. During that entire time frame, if you were a trader who chose to
insure yourself against black swan events, you were not likely to have kept
your job for long since the cost of that insurance would have been
prohibitively high cutting deeply into your profits.

There's a great line (one of many) in Andrew Ross Sorkin's book "Too Big To
Fail" in which Jamie Dimon, the CEO of JPMorganChase told Hank Paulson, at the
time the Treasury Secretary, "You've got to make us do it". It's essentially
the prisoner's dilemma. It would be advantageous for all the banks to
institute a given change, but none of them can do it by themselves without
being chewed into little pieces by the others.

------
geogra4
Taleb is an excellent writer and not (as someone here has stated) someone
completely delusional. He, in fact, worked in the financial industry for many
years and I thoroughly enjoyed reading his book "The Black Swan"[1] about how
we've basically all been duped by large banks that expose us to risk and keep
the profits for themselves.

[1]<http://www.fooledbyrandomness.com/imbeciles.htm>

------
spacefungus
Taleb rocks. The funniest thing is that he hates the NYT but is able to
recognize the chance for a big audience.

~~~
spacefungus
Why did this get downvoted?

------
fennecfoxen
A debate with some merit, but not "hacker news". I say flag it.

------
kahawe
What people seem to often forget is... during the financial crisis following
the housing crash governments (especially in the USA) passed out significant
amounts of bailout money for all those banks but completely failed to get them
under control - so banks just used that bailout money to temporarily guarantee
their vital liquidity and once things were looking up again a few months
later, they just kicked them out and went right back to their old business,
including bonuses and everything.

There were even farce attempts to "get them under control" and the banks
themselves would have votes in these decisions HOW they were going to be
controlled and regulated. Excuse me??? That is like putting the mafia on trial
and making their family the grand jury.

"Too big to fail" has proven time and again to be the absolutely best way of
gaming the system almost any way you want. We even bent the very rules of
capitalism and free market backwards multiple times to accommodate for these
behemoth institutions and to this day, justice hasn't happened and nobody has
ever been responsible for this mess.

------
shareme
The problem is what we are attempting to regulate culture wise does not view
at as a problem..to change that culture requires some heavy duty court
convictions and jail time...if Obama get his 2nd term some of those court
cases in fact come to trial via the DOJ and SEC, etc.

~~~
jpadkins
What evidence do you have that Obama administration will prosecute their
campaign financiers in the 2nd term?

They had more (electoral) incentive to prosecute in the first term... They
have no reason in their 2nd term.

------
anonanon123
End Bonuses For Software Engineers!

------
marze
In a Ponzi scheme, you give money to the Ponzi operator, the operator does
"complicated" things with it, those who withdraw early do well but at some
point there is no money.

How is this different from the bailed-out banks, or an over leveraged banking
system in general?

~~~
Ant11
In a Ponzi scheme you have to actually participate to get burned.

~~~
fleitz
If you don't participate in the global economy you can't get burned by it.
People who subsistence farm are largely immune to problems in the global
economy.

------
pyoung
I like the decimation idea. Before they can be bailed out, capital punishment
should be randomly applied to one-tenth of the bankers of the failed
institution. The lottery can be weighted based on bonus size, to ensure that
the big wigs are fairly represented in the sample.

------
MaxHop
The author of the article and the people who advocate his opinion are
delusional! Giving bonuses is how banks work these days.

~~~
RockyMcNuts
Because it currently is thus, therefore it must be efficient and optimal, and
any attempt to change it is delusional... you sound like an economist! But I
think a lot of HN is about challenging incumbents and the status quo...

~~~
RockyMcNuts
It exists, therefore it must be optimal (unless government is involved) - The
economists' credo

