Category Archives: Risk and risk management

Ballooning Finance: How Financial Innovation Produces Overgrowth and Busts

Yves here. It’s a welcome surprise to see economists devise a model that delivers generally sensible results. Here, three economists looked at how financial innovation leads to an bloated financial sector as well as greatly increasing the risk of meltdown.

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Summer 2007 Deja Vu: Banks and Short Sellers Dump Risk on Chumps Via Complex Products

NC contributor Michael Crimmins flagged a Bloomberg article yesterday that described the proliferation of complex synthetic structures, depicting it as return to some of the bad risk-shifting of the blowout phase of the last credit bubble.

The amusing bit is the headline was toned down after the post was launched (you can tell by looking at the URL, which almost certainly tracks the original). The current version is the anodyne “JPMorgan Joins Goldman in Designing Derivatives for a New Generation.” But the very first paragraph flags the troubling resemblance to the last hurrah of the pre-crisis credit mania:

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“A Financial Casino Would Be a Step Up From What We Have”

This is a terrific and very accessible interview with Boston College professor Ed Kane, who is a long-standing critic of the failure to rein in financial firms that feed at the taxpayer trough. At one point in the talk, Kane and his interviewer Marshall Auerback discuss how casinos are well aware of the fact that the house can lose and they monitor gamblers intensively to make sure that no one is engaging is sleight of hand. Thus if we treated our banking system like the financial casino that it has become, we’d be much better off than we are now.

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Only Now Does Influential Bank Group Complain That Low Volatility is Producing Too Much Risk-Taking

The spectacle of banks wring their hands about how low volatility is leading them as well as investors to take on too much risk bears an awfully strong resemblance to a child who has killed his parents asking for sympathy for being an orphan.

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New York Fed Worried About Gambling in Casablanca, Um, Ethics Problem at Big Banks

This story would be funny if it weren’t so pathetic. Yesterday, the Financial Times reported that the New York Fed woke up out of its usual slumber and realized that the crisis has changed nothing and that banks still are in the business of looting have unaddressed ethics issues.

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US Port Strike Threat Highlights Supply Chain Risk

One issue we’ve raise over the year is the ways that the corporate fetish for offshoring and outsourcing greatly increases business risk. Even when savings are realized (and as we’ve discussed, in many cases, the main result is a transfer from factory/lower level workers to managers and executives), they are seldom weighed properly against the increased fragility of the operation, and the resulting exposure to big losses. For instance, extended supply chains entail more communications across the chain, longer production cycles, more shipping, all of which increase the odds of writeoffs via having too much inventory or inventory in the wrong place, and those occasional losses can swamp the savings over time.

Those supply chain risks have come into focus, as the Financial Times reminds us, as the possibility of West Coast port strikes looms.

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Financial Interconnectedness and Systemic Risk: New Fed Report Flags 7 Behemoths

Yves here. This post addresses a topic near and dear to my heart: the importance of financial interconnectedness, or what Richard Bookstaber called “tight coupling” in his book A Demon of Our Own Design. Tight coupling occurs when the processes in a system are so closely linked that when certain types of activities begin, they propagate through the system and cannot be halted. Or as Bookstaber put it in 2011:

Non-linear systems are complex because a change in one component can propagate through the system to lead to surprising and apparently disproportionate effect elsewhere, e.g. the famous “butterfly effect”….

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Are Neocons in Iraq Thinking Like the Banks that Blew up the Global Economy?

Yves here. For the normally anodyne OilPrice to run an article, Obama Fiddles While Iraq Burns, that is openly frustrated with US conduct suggests that there is considerable consternation in the oil industry about the lack of a coherent policy in Iraq. One school of thought has been that the US wanted a breakup, but history like the dissolution of Yugoslavia shows that they are ugly, bloody affairs that hurt the population and infrastructure. Both are bad for business, such as drilling for and refining oil, which was apparent reason we occupied Iraq in the first place.

I’ve discussed with Lambert the difficult of coming up with a coherent rationale for the US stance towards Iraq.

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Wolf Richter: Bank Regulator OCC Details Crazy Risk-Taking, Blames Fed

Yves here. Former Fed Chairman William McChesney Martin famously said that the job of the central bank was “to take away the punch bowl just as the party gets going.” That line of thinking went out of fashion under Alan Greenspan. Now we have the perverse spectacle of the most bank-cronyistic regulator, the Office of the Comptroller of the Currency, berating the Fed for spiking the punch via overly accommodative monetary policy.

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New Zealand: The Shell Company Incorporation Franchises: Round-Up

In a series of recent posts on shell company incorporation scams, we reanalysed the New Zealand entities incorporated by GT Group (Ian Taylor), New Zealand Company Incorporators (Michael Taylor) and The Company Net (Glenn Smith). Curiously, some modest and uncontroversial reforms have yet to be enacted.

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Global Food Security Needs States to Ally with Family Farmers

Yves here. If you live in an advanced economy, and are at least middle income, you probably don’t give much thought to the availability of food. Expect that to change in the coming years. Agribusiness is a major driver of food insecurity. Successful experiments show that relocalization of food production can be an effective remedy.

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