 The Nature of Disaster
by Bryon W. King
The Daily Reckoning
Sep 25, 2006
The Daily Reckoning PRESENTS: What constitutes a financial "disaster"?
What causes these disasters? Below, Byron King reviews a book,
History of Financial Disasters, which looks to answer those questions
- and more. Read on...
What is a disaster? The Latin
roots of the word are "dis" and "astro."
Literally, the two combined words mean "ill-starred."
In ancient times, if you offended the gods, the deities would
align the stars against you and bring a bad set of events down
upon your house, if not upon your head. So the word itself has
come to mean, according to the Oxford English Dictionary, "a
sudden or great misfortune; an event of ruinous or distressing
nature; a calamity; complete failure." Let's look at some
examples, just to illustrate the point.
In classical times, there was
hardly a more disastrous event, or an event with more calamitous
outcome, than the Athenian invasion of Sicily in 415 B.C. This
disaster was chronicled by no less than Thucydides in his classic
work, The Peloponnesian War. The short version of the story is
that the Athenians had been fighting the neighboring Spartans
for many years and eventually decided to attempt to break what
had turned into a military stalemate. The Athenians determined
to outflank their enemy by sending an army halfway across the
Mediterranean Sea to Sicily and raising a threat to Sparta's
rear.
But talk about offending the
gods? Someone sure did. (Thucydides said that it was Alcibiades,
but who really knows?) The Athenians were filled with hubris
at the prospect of their own success. But their distant expedition
met with trouble from the outset, encountering almost every form
of problem that a distant military campaign could have. And once
the Athenians had landed on the shores of hostile Sicily, things
went from bad to worse. After losing a major battle at the Sicilian
town of Syracuse, the Athenians were thrown into headlong retreat.
Eventually, the soldiers of Syracuse caught up with the main
body of Athenians at the Assinarus River, on the southeast coast
of Sicily. There, according to Thucydides, the thirsty Athenians
were slaughtered in droves as they trampled each other trying
to get to the water.
Thucydides summed up the expedition
to Sicily in sad words, but words that still convey the sense
of total loss. In the end, he wrote, "They were destroyed,
as the saying is, with total destruction, their fleet, their
army, everything was destroyed, and few out of many returned
home. Such were the events in Sicily." Now there is a disaster
for you.
"But mankind has moved beyond these sorts of things,"
some people still say. Yes, of course. Except that we humor ourselves
when we say such things. The same sorts of calamities still occur.
We suffer from the same sense of hubris that doomed the Athenian
army and the good ship Titanic and its captain. Mankind still
has that almost willful blindness to exercising the vision to
forecast and avoid disaster in the making.
For an example of a modern
disaster, no one who was around at the time could ever forget
the famous words broadcast from NASA's Mission Control on Jan.
28, 1986, perhaps the understatement of the age: "It appears
we have had a major malfunction of the vehicle."
"A major malfunction?"
Space shuttle Challenger had just exploded, less than two minutes
after liftoff. The vehicle was destroyed. The crew was killed.
Debris rained down from the sky, falling into the blue sea offshore
Cape Canaveral. And it was all on television, live and in color,
no less.
The immediate cause of the
Challenger disaster was a faulty device called an "O-ring,"
part of an otherwise tight seal between two sections of one of
the solid rocket boosters. When cooled to a freezing temperature,
as had occurred on the cold night before the deadly launch, the
rubber in the O-ring lost its resilience and became somewhat
brittle. During the stress of launch, the exhaust from the solid
rocket booster literally burned through the O-ring, causing the
rocket booster to shift from its proper position in flight, resulting
in a sequence of failure events that led directly to the explosion
that destroyed Challenger and killed the crew.
So can we really say that a
disaster results from just the single triggering event? Of course,
every disaster has its penultimate cause. In Sicily, the Athenians
lost a battle at Syracuse. The O-ring on one of Challenger's
booster rockets burned through. But is this the end of how to
think about it? Not by a long shot. Thucydides, for example,
writes his history but does not shirk from detailing a chain
of errors and misjudgments on the part of the Athenian leaders
who sent their army to its doom in Sicily.
In the case of the Challenger
explosion, no less a mind than Richard Feynman, physicist and
Nobel Laureate, noted that the source of the explosion was a
pervasive cultural disease within the institution of NASA. Feynman
noted that NASA had evolved away from its roots as a scientific
and engineering agency within the U.S. government to become a
vast bureaucracy that allowed safety standards to slip, and which
permitted grievous errors to go unnoticed for years at a time.
To paraphrase Mahan, NASA had become a "system" that
allowed its bureaucratic nature to "pervert standards."
Now that we have discussed
a couple examples of famous disasters, let's take a look at the
idea of "financial disaster."
"What is a financial disaster?
The phrase brings to mind images of panicked merchants huddled
around an exchange waiting for the latest news to arrive via
post, telegraph, or computer, of stock market crashes, of unemployment
and charts showing a precipitate drop in the price of shares,
indexes, or currencies."
The foregoing comes from the
introduction of a remarkable three-volume set of books entitled
History of Financial Disasters 1763-1995, released in April 2006
by the London-based firm of Pickering & Chatto.
As the title implies, these
three volumes review the origins and consequences of the Western
world's most important financial crises in the past quarter millennia.
The editors have chosen to highlight and delve into 19 seminal
economic crises between 1763-1995. Rare public and private papers,
offering trenchant firsthand accounts from some of the principal
insiders, offer rich source material and penetrating background
on the events that occurred. In addition, the editors have culled
the stacks of academic literature to assist the reader in interpreting
these events and in drawing conclusions and lessons for our own
time.
There are only a few people
in the economic world that could have assembled this type on
insightful collection. The general editor of this important historical
review is Mark Duckenfield, an accomplished economist and historian
at the London School of Economics. With the able assistance of
co-editors Stefan Altorfer and Benedikt Koehler, also accomplished
economic historians, Dr. Duckenfield has cast a broad net to
gather what are among the best source materials that could be
found in the world.
In general, the editors follow
the definition of "financial crisis" established by
the great analyst Charles Kindleberger. That is, financial crises
are "associated with changed expectations that lead owners
of wealth to try to shift quickly out of one type of asset into
another, with resulting falls in prices of the first type of
asset, and, frequently, bankruptcy."
Thus, according to the editors, financial crises are a product
of sudden alterations of expectations, rooted in reality or imagination.
If you are looking for a way to avoid financial disaster, this
is the key level of understanding. The impending alteration of
people's expectations sends a glaring signal to which you should
train your mind to react.
In these three volumes, and
for each of the financial crises that bears examination, the
editors provide the reader with a look beyond the immediate crisis
itself, and a view of the series of events that constituted the
whole disaster. Here is the true value of this set of books.
The editorial approach is similar
to the way that one might view the onshore wreckage caused by
a hurricane, and from which natural disaster the recovery efforts
can take years to come to fruition. In other words, the landside
wreckage is only the most visible feature of a natural phenomenon
that had its origins far out to sea. To avoid the impact of the
storm, you should learn to forecast the weather. And then prepare
yourself for the hit, if not just plain get out of the way.
The editors use a broad conception of financial disasters that
includes objectively describing the origins and resultant consequences
of the phenomena. But the editors go many steps further as well
by presenting information about how each disaster related to
broader themes of the times. This includes providing the reader
with fascinating information about the historical context, changes
in the view of government intervention in the economy, the development
of broad economic thought, the role of the media, and the openness
(or what we now call "globalization") of markets.
Large-scale changes could be
triggered by the dawn of a realization that a government's currency
policies were highly inflationary. As an example, the editors
review both the French Assignat inflation of the 1790s and German
Weimar hyperinflation of the 1920s, and what followed when people
came to realize that their currency was plummeting to worthlessness.
Or people may begin to perceive that a government might have
less political stability than had previously been thought, such
as occurred with the Mexican peso crisis of 1994. On occasion,
the financial meltdown begins not with overt monetary inflation,
but with the pricking of a credit balloon and associated asset
price bubble, such as the New York crashes of 1929 and 1987.
Or there could be a herd mentality when investors respond to
rumors and fears of insolvency, as with the collapse of the British
entity of Overend & Gurney in 1867.
In addition, no one can consider
himself or herself knowledgeable about the origins of modern
monetary policy, and, in particular, the role of the U.S. Federal
Reserve, without a solid grounding in the events of the Crisis
of 1907. This section alone ought to be required reading for
anyone who wants to understand the Fed and its origins, as well
as its future direction as the U.S. dollar continues its century-long
decline in value.
Every disaster has its proximate
cause, the roots whence it grows. The Athenians lost a battle
at Syracuse. The Titanic hit an iceberg. The O-rings of space
shuttle Challenger became brittle in the cold. But as we discussed,
there were deeper causes and origins, not to neglect the general
human affliction of hubris.
Until next we meet,
Byron W. King
for The Daily Reckoning
P.S. History
of Financial Disasters 1763-1995 is a treasure chest of historical
perspective on the subject of economic and monetary disasters,
and a valuable tool in your personal workbench of financial and
historical knowledge. These books give you insight into the origins
and consequences of financial disasters.
As I said at
the beginning of this review, if your goal is to avoid something
whose effects are not good, it certainly helps to know what that
particular something looks like, and to understand its nature.
Then at least you can get your money off the table and get yourself
out of the way when it is headed in your direction. You could
not do better than to read these three outstanding volumes and
work to acquire the financial insight that might make all the
difference in the world to you and to your family when the economic
ship hits the next iceberg.
Purchase your
copy by clicking here:
History of
Financial Disasters 1763-1995
http://www.isecureonline.com/Reports/905SHFD/E905G900
Editor's Note:
Byron King currently serves as an attorney in Pittsburgh, Pennsylvania.
He received his Juris Doctor from the University of Pittsburgh
School of Law in 1981 and is a cum laude graduate of Harvard
University. He is a regular contributor to the free e-letter,
Whiskey and Gunpowder, which covers resources, oil, geopolitics,
military history, geology and personal freedom. To get your free
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