Last night, I was one of two panelists at a Global Association of Risk Professionals (GARP) symposium on Systemic Risk at Fordham Business School in New York. We were to be a moderator with three panelists, but one canceled at the last minute, presumably to stay home and watch the Yankees lose to the Phillies last night. The room was on the 12th floor in a mid-60's squat tower accessible from two elevators among a bank of six in the stone cold open and office-like lobby. Twelve is the top floor in the building, with a Rockefeller penthouse atmosphere. Black marble floors, mahogany paneling, subdued sixties swank.
The symposium room was longer than wide, seated classroom for one hundred in three neat blocks. We panelists were paired on a white-clothed-table with microphones we didn't need. The moderator introduced us both; the NYU Business School professor and the IBM Data Governance guy. The audience looked half-asleep, and the first question rolled out on the table, "What is Systemic Risk?" Our gracious moderator had prepared a raft of intelligent questions for us that evening, but we would only get through two in the brief hour we digested.
What is Systemic Risk? The professor told us it was the result of exogenous market conditions that created upper atmospheric bubbles in complex derivative instruments capable of devastating global economies. It could be measured in the up and down-swing of aggregate equity performance and controlled through the central banks he currently advises. He saw Systemic Risk as a macro-economic phenomena, the product of weak government regulation, greed on Wall Street, outrageous compensation packages, and unnecessary complexity in financial markets.
Before the event, I wasn't quite sure what I was going to talk about. It was a hectic Monday full of ten conference calls on twenty different topics. I left late, had traffic on the Grand Central, got lost at Lincoln Center looking for parking, and there was no coffee when I arrived. I'm not an evening person un-caffeinated, and perhaps not the best morning person in the same condition. But droll media babble passed as tenured professorial wisdom will rouse me on the sleepiest of days.
Systemic Risk is the probability of loss to a system. It is not actually a thing that can be calculated. It is a series of things that result in a loss event with causality and impact. Systemic Risk is not only about macro-economic catastrophe, because to say so is to say that we are not involved in Systemic Risk accept as victims. And that ain't true. Insofar as all of us, The People, are members of communities, parties, religions, nations, and environments we are part of a System. We are inter-related, inter-dependent, capable of causality, errors and omissions, losses and claims. Each incremental failure can cascade and result in systemic exposure.
The Credit Crisis is the result of a series of public policy mistakes from 1999 to 2006 that encouraged bad business practices at many different stages of the mortgage underwriting and securitization process. These were incremental failures that contributed to loss events that destroyed parts of the economic systems upon which markets rely. The lesson to humanity from this experience is that We The People are all members of SYSTEMS large and small that can fail as a result of incremental policy mistakes. Actuarial Science has for too long focused on the probabilities of contained loss events.
My body is a SYSTEM and Cancer is a systemic risk to me. It causes a
chain of events which can result in organ failure and death. Your company
is a system, and bankruptcy is a systemic loss event. If bees die,
plants won't be pollinated, and that can be causality to a systemic
risk to our ecoSYSTEM. The BBC Reports
(http://news.bbc.co.uk/2/hi/science/nature/8338880.stm) that record
numbers of plants, mammals, and amphibians are under threat of
extinction. This is a systemic risk. When entire species of frogs in
remote places like Tanzania become extinct in the wild, humans take
note - this incremental failure is closer to your role in the food
chain than you may think.
Every System has risk. Every person in every system has a role.
If we accept the gossip-press gospel that the Credit Crisis is purely
the result of greed on Wall Street, and can only be fixed by wise regulators in Washington, shame on all of us for missing the opportunity to internalize the economic externalities. It is not an academic exercise to study the risk in every system large and small. Systemic Risk is a real-world imperative for all of us.
Bees and Frogs