7/27/2019 Public Input Vital in Decision-making Process

1/3

3 of 4 DOCUMENTS

The Straits Times (Singapore)

April 14, 2009 Tuesday

Public input vital in decision-making process

BYLINE: Alex Tham

SECTION: REVIEW - OTHERS

LENGTH: 1108 words

ALMOST 90 years ago, the economist Frank Knight distinguished between risk and uncertainty. Risk, according tohim, could be assigned a probable value, whereas the cost of uncertainty was essentially unknowable.

The proliferation of sub-prime mortgages, collateralised debt obligations and credit default swaps was largely due to the

assumption that the risks they carried were measurable with the aid of mathematical models. But while these models

might have been able to quantify the value-at-risk, given a certain time horizon, they were unable to account for the

extreme possibility of a crisis occurring. Nassim Taleb, author of The Black Swan, warned that these disastrous outliers

occurred with far more frequency than we assumed.

Instead of managing risk for profit, financial firms were in effect gambling with uncertainty. The recovery of the global

economy now hinges on our replacing uncertainty with manageable risk.

In a dynamic and competitive environment, uncertainty over future profits can threaten to overwhelm prudent risk

management. Deregulation of the financial sector created a Hobbesian world where self-seeking firms fought among

themselves for the spoils of capital. Corporations like Citigroup became megalithic entities and generated competitive

pressures for other firms to grow bigger as well. Risk management was consigned to the sidelines.

The numbers that mathematical models churned out took on the aura of oracles. Senior management made decisions

based on the output of these black boxes without due consideration of their limitations. In doing so, they neglected the

fact that risk management also involved qualitative judgment.

To redress the balance between risk and uncertainty, governments have actively intervened in markets and will play a

bigger role in regulating them. This is in line with what Thomas Hobbes wrote in The Leviathan, where he prescribed a

common power to keep men obedient and 'direct their actions to the common benefit'.

However, people will find creative ways to circumvent restrictive rules in their quest for profit. Worse still, outmoded

regulation could hinder innovation and productivity. Moreover, it should not be taken for granted that governments are

best placed to determine what constitutes the 'common benefit'.

In the United States, the Glass-Steagall Act that separated commercial from investment banking was repealed in 1999

during the Clinton administration. Ironically, one of the arguments in favour of its repeal was that it would facilitate the

diversification of risk through securitisation. Instead, uncertainty was transferred to the public whose insurance,

pensions and life savings were invested in toxic assets like mortgage-backed securities.

In 2004, the US Securities and Exchange Commission removed the net capital requirement for several major banks,

Page 1

7/27/2019 Public Input Vital in Decision-making Process

2/3

7/27/2019 Public Input Vital in Decision-making Process

3/3

PUBLICATION-TYPE: Newspaper

Copyright 2009 Singapore Press Holdings Limited

All Rights Reserved

Page 3Public input vital in decision-making process The Straits Times (Singapore) April 14, 2009 Tuesday