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One Nuclear Bomb Can Ruin Your Whole Day

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Monday, 07 June 2010 04:35

Robert Samuelson tells us that the problem behind the Gulf oil spill and the housing bubble meltdown is not the corruption of industry and regulators, but rather complacency born of success. In the case of the oil industry, Samuelson noted that the industry has been drilling close to 1.6 million barrels a day, with only a few hundred barrels a year being spilled. He makes a similar argument about the financial sector, noting the sharp decline in daily stock market volatility.

It is worth noting that the sort of bad events that one expects in these sectors are almost by definition going to be very rare (we will not have huge spills or financial collapses on a weekly basis) and very costly. Any regulator must understand this fact and if they are competent would not allow their judgment to be affected by the absence of a bad event for a long period of time. The cost of the economic meltdown will be at least $5 trillion in lost output in the United States alone. By contrast, the benefits from reduced daily volatility are trivial. (How much do you care if you risk buying a stock at a price that is 0.2 percent too high, when you have an equal probability of getting it at a price that is 0.2 percent too low?)

So, if our regulators cannot understand the potential harm from extremely rare, but extremely costly, disasters, then the country has a very serious problem.

 

Comments (5)Add Comment
MAD - Mutually Assured Destruction
written by izzatzo, June 07, 2010 8:14
It is worth noting that the sort of bad events that one expects in these sectors are almost by definition going to be very rare (we will not have huge spills or financial collapses on a weekly basis) and very costly. Any regulator must understand this fact and if they are competent would not allow their judgement to be affected by the absence of a bad event for a long period of time.


So what is the Cheney One Percent Doctrine to applied to for high risk, low incident events? It imposed huge costs in terms of invading the wrong country, undermining civil liberties and putting in permanent place an enormous military-security complex designed to benefit the private sector.

Would Samuelson call that complacency due to success rather the obvious incompetency and corruption it was? Bush 43 is trying to revive it as a story of success for his legacy that kept the US "safe", and Greenspan says one percent risks are worth it. Nothing like destroying the village to save it.

Earthquakes, Katrina, bird flu, Three Mile Island and Chernobyl, electricity and water outages, computer network outages, etc should also qualify as risks to be regulated under the one percent doctrine, in addition to the housing bubble and BP oil spill.

Management by crisis has been the rule rather than the exception from both the right and the left, which is systematically going down a road of mutally assured destruction as the US bounces from one crisis to the next, due to both market and government failure that play on each other and make things worse.

Whatever's coming next, it's going to have to be big to change things, otherwise the US is paralyzed and on top of that, in a deep recession in terms of jobs. As Keynes said, we all dead in the long run, and matters of high-risk low-incidence are about the long run, not the short run. Nobody cares. Fix the economy first.
We had been on top of the problem
written by John Emerson, June 07, 2010 8:28
Except for this one, per Wiki, all of the 15 biggest oil spills were at least 18 years ago. Regulation seems to have worked.

BP was famous for cutting corners on safety -- it was a matter of policy for them. The Bush regulatory regime was likewise lax as a matter of policy. Essentially a well-functioning system was sabotaged. This doesn't mean that there never would have been a big oil spill again, but without very strong arguments to the contrary I think that we can assume that this spill could have been avoided. There seem to have been several violations of the industry's best practice.

Samuelson seems to be comparing this with NASA's Russian-roulette overconfidence as described by Feynman (the O-Ring problem) but that's not really right. it wasn't as innocent as that. (Actually, I think that the problem there was politicl pressure from the Reagan administration, not simple overconfidence, but never mind).

As I understand, every dollar subtracted from safety is added directly to profit -- all companies sell oil for the same price, so the ones who get it out cheapest profit the most, and the ones who cheat the most on safety are rewarded. So regulators and companies are very sharply in conflict by nature, probably more so than in other industries.
Bubble mania, not complacency
written by skeptonomist, June 07, 2010 8:57
The problem of a financial bubble is not one of "complacency" because of a lack of disasters recently, although the recent memory of crashes tends to make people more careful. The signs of bubbles are usually quite clear to those who look for them and crashes do not happen with no warning. A collective mentality affects peoples judgement in a bubble and until this phenomenon is recognized for what it is (it is not "rational") bubbles and crashes will keep occurring.
...
written by Dr. Bill, June 07, 2010 5:15
The oil spill, just like the financial meltdown was, a Black Swan. In other words, an event with a very small probability but huge effect. Nassim Taleb has written two very good books on this subject. Black Swans may be very rare, but they always occur eventually. Even the last point out on the Bell curve happens sometimes.
timberland shoes store
written by timberland for you , September 11, 2010 3:47
Tucked away in our timberland for you subconscious is an idyllic vision. We see ourselves on a long trip that timberland 6 inch spans the continent. YQ

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Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.

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