Biological Nature, Big Banks & Complexity

Lord Robert May [http://en.wikipedia.org/wiki/Robert_May,_Baron_May_of_Oxford], a fellow of The Royal Society, and a former President of the Royal Society, a highly respected Australian born academic, a man of great intellect in the scientific world especially in the area of biology and complex systems, has used his work and knowledge to look at the complexities in finance and financial products & instruments. This work is very much related to the global financial crisis as the work of Lord Robert May has shown that nature is based on simple mathematical models with very complicated dynamics, it is exactly these principles too, that have also resulted in the grotesque chaos of our financial markets.

A 2012 working paper from The Bank of England, co-authored by Lord May [http://www.bankofengland.co.uk/publications/Pages/workingpapers/2012/wp465.aspx] discusses the relationship of the size and complexity in financial systems.

What this work is effectively saying, is that while banks get bigger (balance sheets grow), they follow nature and become more complicated in structure, and this then results in massive risk. Due to the size of the bank and thus its overall complexity, a problem in the investment arm, this could spill over into say the retail operation, and bring the whole bank down. Thus one bad trade (like a rotten piece of fruit) could cause cross-contamination.

Thus we see the debate about banks being too big to fail.  Alan Greenspan, the former chairman of the US Federal Reserve has said that large organisations should be deliberately broken up: “If they’re too big to fail, they’re too big”. The former Governor of the Bank of England, Mervyn King, is quoted to have said that “If some banks are thought to be too big to fail, then, they are too big.”

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