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As promised, a quick thread as to why it’s highly likely that CBs interventions will lead to (catastrophic) unintended consequences. And which ones?

Cc @ISABELNET_SA @nntaleb @hussmanjp @AlainRENARD_MTL @pierreaussi @JMJancovici @OIL_MEN

1/n
The chart below from RiskPrep.com shows two distributions of IDENTICAL variance σ (the red is a normal distribution). The blue curve's central bell (the “centre”) is narrower than the red. If those distributions are, for example, stock market returns... 2/n
... this narrower centre is narrower because someone (CBs) have it "under control" i.e. have managed to make the neighbourhood of the returns around the mean less volatile (more predictable). If CBs had perfect control of the events, σ would be zero for this neighbourhood. 3/n
Now, let’s assume humans are unlucky and the world cannot be “controlled” forever and everywhere, i.e. that risks cannot be reduced to zero. E.g. let’s imagine that the TOTAL variance of events in our universe is actually hard-coded in nature. 4/n
Maybe youll be able to tweak part of it a bit to the left or to the right but over a long enough period of time, σ is mean-reverting. Also there is a good chance that this uses energy which has the bad idea to come limited. What happens once you’ve reduced it locally? 5/n
As σ is assumed constant, The locally reduced volatility has got to be found somewhere else. And as you can’t control the whole shape of the PDF, you mechanically end up with, I shit you not, fatter tails (higher kurtosis)! Sporadically lower volatility will have to be paid...6/n
... back later in time. CB interventions, by reducing crises probabilities locally and kicking out black swans locally, actually INCREASE the likelihood of extreme events. That’s important because it’s the exact opposite of conventional wisdom. 7/n
By the way there are solid arguments as to why variance is mean reverting. CBs limited skills and resources means that their action has necessarily got to be focused on a limited scope of events around the mean. Beyond a certain threshold there is nothing they can do. 8/n
Call me a conspiracy lover but it’s well documented that since 2000 there has been constant increase of fat tail events. 9/n
We’ve seen conventional oil peak (2008); we will see shale oil peak fairly soonish; and now climate change is joining the party. 10/n
You can dream of “solving” economics as much as you like. What about solving everything else? Crises will come that have little to do with your every day job, especially if you are a CBanker. Get ready the “impossible” is coming

(Credit on Kurtosis: riskprep.com/all-tutorials/…). n/n
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