How financial economics should evolve, from this point onwards

I read this in Temple Grandin's new (and often quite interesting) Animals Make Us Human: Creating the Best Life for Animals:

She [Jane Pruetz] spent four years just habituating the chimpanzees to her presence before she could study them.  Then she spent three summers observing their lives.  She discovered that some of the chimpanzees make spears out of tree branches and use them to spear bush babies inside hollow trees.  Bush babies are small furry animals.  The chimpanzee breaks a branch off the tree, strips off the leaves, and sharpens one end to a point with its teeth.  Then it stabs the spear violently inside the hollowed trunk to kill any bush baby that might be inside.  This discovery is so revolutionary that it has caused a big controversy in the field of primate research, because it is the first documentation of an animal using a tool as a weapon for hunting.

But alas we are told:

Animal research is getting more and more what I call "abstractified."  Instead of people studying the real animals in their natural habitats, researchers use fancy statistical software to construct statistical models, and then they study the models.


Financial econ fieldwork?

"Quants in the mist"?

Watch out for the silverback traders...they'll charge at you to show their dominance.

Financial econ modelling included a lot of very fancy data mining (observation of chimpanzee group behaviour). Now that approach has proved humiliatingly inadequate, practitioners are indeed likley to retreat into abstractification. That will pay less well, do less damage and possibly offer elegance as compensation for uselessness.

Such practitioners as wish to do something useful will need to learn to search properly for the evidence that might falsify their models and/or make the representation of potentially key variables a great deal more robust. In a word, be scientific.

Sounds like global warming modeling.

"Tonight on the BBC,a special trip to the wild jungles of Upper Manhattan, with anthropologist David Gregory, as he will explain the odd mating behaviors of a primitive species known as the "Junior-Executive"-Wall-Street Banker. A much younger and immature variant of the stodgy anti-social banker that existed in previous epochs.

"Notice his delicate mating call, 'Hey,Bitch I make 210 grand a year. YEEAH.' He can both subtly explain his role in the ecology of the city and offer his mate a superficial offer to have awful teenager-like sexual intercourse with him.

Too bad "bankrupting" is made up.


Remarks like mine are intended to shame quants into staying in the game. But they have to learn: "For a successful technology, reality must take precedence over public relations, for nature cannot be fooled." Richard Feynmean said that in a famous Annex to a Reprt after a much smaller disaster when some of the rocket scientists also had a pretty good idea of what was wrong before the crash - the Challenger explosion.

Black-Scholes was published in a convenient gaussian form. If you took the money to apply Black-Scholes, you also took on responsibility to to do so in a form which did not lead to disaster. That meant sweating over difficult maths, but it could and should have been done. And the reason it was not done is that the Black-Scholes models were not tested against data capable of showing their limitations.

Leaving aside that they are trying ;-), remember that climate models become (include) economic models as they attempt to predict GW results in future decades. They take as input economic models of growth, consumption, energy intensity, etc.

You know, starting about a month ago I've tried to confront my cognitive dissonance on Taleb vs the economists. I had read Fooled by Randomness back in the day, and The Blacks Swan more recently. Those books clicked with me, with what I'd experienced of amateur futurists (peak oilers). We can't really predict the future, but even knowing that, we have a great drive to do so. We have a great ability (or need) to suspend our disbelief and listen to people who assert a future. Extreme environmentalists do that when they readily accept worst case and non-scientific stories of climate doom. And of course the opposite fringe of anti-environmentalists do that when they seize on every shred of evidence that there might not be a problem after all.

But really the problem is bigger than that. We listen to people who say the economy will turn this summer, or by the end of 2009, not because we really believe them, but because we want to know anyway. Dissonance.

I think the real answer, and it's a hard one without practice, is to back off and accept uncertainty. We have to admit we don't know, and plan accordingly. If we don't know where our changes to climate are leading, Taleb says we should back off on making changes. Again, that clicks.

(And maybe it isn't foolish to keep a chunk in FDIC insured accounts, after all.)

Evolution requires isolation as Darwin outlined, the researchers have isolated the study group which then causes them to evolve to do things they normally wouldn't do in their natural habitat.






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