Bubblecasting: Questionable Quest?

Can physics give us new tools to predict and control economic upheavals?

A consortium of scientists have written an open letter to the billionaire hedge fund wizard George Soros urging him to support bold new interdisciplinary initiatives to model the economy and prevent crises, according to the New York Times. They are inviting him to be a "galleon figure" (figurehead?) in their application for a major EU interdisciplinary grant.

Sounds like a good idea. Except that Mr. Soros and many of the other hedge fund gurus made their fortunes with proprietary software for discovering and exploiting inefficiencies in markets, even if it's true that none of them has been a consistently strong market timer. Hedge fund shareholders expect the secret sauce to stay that way.

The Times article quotes President Obama's chief economics advisor, Larry Summers, on the need to fortify financial structures. Now he tells us. In April, ex-President Bill Clinton declared on national television that

his Treasury Secretaries Robert Rubin and Lawrence Summers were wrong in the advice they gave him about regulating derivatives when he was in office.

"I think they were wrong and I think I was wrong to take" their advice, Clinton said on ABC's "This Week" program.

Their argument was that derivatives didn't need transparency because they were "expensive and sophisticated and only a handful of people will buy them and they don't need any extra protection," Clinton said. "The flaw in that argument was that first of all, sometimes people with a lot of money make stupid decisions and make it without transparency."

One problem with the econophysicists' project is -- as critics of forecasting have long noted -- another effect well known in science, feedback loops, one of Mr. Soros's favorite themes. A glimpse of the future would so change business, investment, and consumer behavior that it would alter the economy, possibly amplifying rather than damping the bubble, like the howl of a badly tuned PA system. Thus when the head Treasury Department economist Alan Krueger says "If you have better monitoring systems for earthquakes, you can take precautions and evacuate the population if a tsunami is about to occur," isn't he implying that everybody will "evacuate" their holdings at the warning signal? And what about the false alarms that have plagued some earthquake warning programs, part of a broader technological false-positive syndrome that affects medical, security, and oil drilling programs as well?

But the real objection is that bubbles, for all the misery they cause, are also -- like earthquakes and volcanoes -- as much creative as destructive. The beauty of San Francisco and the Bay region is the direct consequence of the same active tectonic forces responsible for the city's earthquake. No earthquakes, no Nob Hill, no cable cars.

Of course Mr. Summers is right that financial structures, like California buildings, might be seismically strengthened. On the other hand, the irrational exuberance of the 1920s, and the real estate securitization that it helped produce, gave us New York City's enduring monuments, in particular the Waldorf-Astoria Hotel, completed in 1931. And it's often observed that nineteenth-century railroad manias and the late 1990s dot-com bubble helped build vital infrastructures, even if those were little consolation to hapless investors.

Technology may have its own Malthusian scissors. The complexity of the engineered world is likely to continue growing geometrically, while our tools for modeling it improve arithmetically. Or as a science magazine cartoon caption once put it years ago, below two researchers gazing into a crevasse, one of them shrugging and saying: "I don't know. The Richter scale fell into the earthquake."