In his new book The Illusion of Control, Jon Danielsson is about our love-hate relationship with finance. For an economy to grow, banks need to accept the right amount of risk. The problem is, no one knows what that level is. Danielsson complains about “risk theater,” such as the European Central Bank’s measurements of risk to the sixth decimal place. He further points out that systemic financial crises don’t happen often enough to develop institutional memory of them. Danielsson’s solution is to favor diversity over monoculture and a move away from “best practices.”
- Infrequent systemic financial crises are a reason why it is difficult to predict and prevent them.
- In order for economic growth to occur, banks must not only accept the lending risk, but choose the correct amount of risk as well.
- While there is an acceptable level of risk that won’t result in the system crashing, we aren’t sure what that level is.
“Over the subsequent 250 years, we have had many other similar crises.”