A nice paper on the topic.
Archive for June 15th, 2012
Andy Haldane once again. I mean how he keeps coming up with one terrific speech after the other.
In his latest speech/paper Haldane looks at the history if normal distribution. He goes into historical details of how the distribution came up, how and why it was given the name normal, how it moved from sciences to social sciences and finally into economics. And he links all this in a typical Haldane style connecting finance/economics to many things in nature.
Just like other papers this one is so good that it is difficult to summarise the thoughts. At a very broad level the idea is not to be blinded by the beauty of the normal distribution curve. This has been suggested by many other econs particularly Taleb.
Infact, there is very little in economics and finance that resembles normal distribution with thin tails. What we have mostly is fat tails which make the probability of extreme events much higher. Once finance starts using fat tails, we realise we were underestimating the costs of many products and overall costs and capital ratios should be much higher.