Sunday, July 22nd 2012, 6:25 AM EDT
Reading an article Black-Scholes: The maths formula linked to the financial crash on the BBC website today, the oft-mentioned link between prosperity and global temperature came to mind (from William Herschel’s 1801 observation that when there were fewer spots, wheat prices were higher to, at a stretch, links with the Dow Jones here).
The article describes how the development of an equation and models that provided the financial world with a way out to calculate value of future options and all kinds of other financial assets led to over-reliance on such methods. Replace the terminology in places with that of climate science and you’ll get what I mean:
Stewart says the lessons from Long-Term Capital Management were obvious. “It showed the danger of this kind of algorithmically-based trading if you don’t keep an eye on some of the indicators that the more conventional people would use,” he says. “They [Long-Term Capital Management] were committed, pretty much, to just ploughing ahead with the system they had. And it went wrong.”
“It was abuse of their equation that caused trouble, and I don’t think you can blame the inventors of an equation if somebody else comes along and uses it badly,” he says.