What we do not know

By Paul Sullivan,
Georgetown University

The English writer G. K. Chesterton wrote:
“The real trouble with this world of ours is not that it is an unreasonable world, nor even that it is a reasonable one. The commonest kind of trouble is that it is nearly reasonable, but not quite. Life is not an illogicality; yet it is a trap for logicians. It looks just a little more mathematical and regular than it is; its exactitude is obvious, but its inexactitude is hidden; its wildness lies in wait.”

Thinking economists, philosophers, mathematicians, investment managers, military leaders, diplomats and others could have many conversations about this quote. They really should. It strikes a discordant note with those who like to live their lives in the certainties of their probability calculations, their sense that they know the differences between risk and uncertainty, and their arrogance that they really know what will happen next. Some do not even think there is a difference between risk and uncertainty, but life often teaches you there are many differences.

For those who see the uncertainties of life and the extreme complexities of making decisions within uncertainties that could be great Mr. Chesterton’s words have a powerful meaning. What they may say to such a person is: be careful of the things you do not know. The traps may be waiting there.

We all have to make decisions based on what we think we know. However, often we make decisions based on what we think we know, but we really do not know. Indeed, the sun will most likely rise tomorrow. Indeed, the earth will continue to spin. Indeed, the moon will continue to revolve around the earth. Indeed, tomorrow will be tomorrow. That sort of certainty is comforting to astronomers. However, the best of astronomers realize that in the big pictures of the universe there is a lot of uncertainty and there are lots of things that are not known. Oceanographers who are really thinking about things need to think about what they do not know. Some of least known regions of human knowledge include something right on this planet: the deep oceans. However, when we look at the sea we think we know what we are looking at.

Leaders who think in mathematical terms with certainties and probabilities to the third scientific digit after the decimal point worry me. They may be environmentalist leaders or military leaders. They could be investment advisors thinking about where to put the billions of dollars their investors have trusted them with.

I am bemused when I see studies of global climate change that have exacting numbers. Global climate is an extremely complex phenomenon. It is also nearly impossible to get a handle on intellectually if one is really thinking about the massive amounts of moving parts involved. Consider just one small part of it; water. 

According to most recent estimates about 97.5 (not the exactness, well it really is not so exact, but people like it that way) percent of the water on the earth is salt. Of that 2.5 percent left 67 percent is ice in glaciers in places like the Tibetan Plateau, the ice caps in the poles, and so forth. Most of the rest is to be found in rivers, aquifers, plants, the soils, fauna and more.

With a growing population of the world and increasing demands for that fresh water we had better be right about the numbers. However, guess what, we really do not know how much groundwater there really. No group has really gone out and gotten exact measurements, as if that were possible with the constant flows and changes in rain patterns and percolation into the soils. Then there are the “oddities” like the discovery of massive amounts of fossil ground water under Darfur in Sudan, where people are dying of thirst. Then there is the partial knowledge out there that climate change has happened a lot in the past. Evidence for this could be found in the massive water reserves under the Sahara Desert in Africa and even the discovery of a whale skeleton in the middle of the Sand Sea in Egypt. Many of these discoveries have been made in the past few decades. What else could there be that we do not know? It is likely vast.

Consider the fact that General Rommel lost his battles during World War II in the Libya deserts in part because he ran out of fuel for his tanks and trucks. We now know that the area he was traveling in holds billions of barrels of crude oil.

Just a few years ago a major debate about natural gas was how we were going to import more of it. This year the debate is about how and whether to export large quantities of it. A few years ago I was in a serious conference in Scotland looking into peak oil issues. This year in the United States were are pumping more and more oil, and finding more and more reserves, regularly in unconventional sources.

Robert McNamara was a Secretary of Defense in the United States during the Vietnam War. He was famous for his quantification of probabilities of victories, exacting numbers of enemy troops, and even cold calculations of the likely losses of troops, civilians and more. Vietnam was a very complex place. Human nature is very complex. Weather patterns during battles can shift in a moment. Once McNamara claimed with great precision and with a commanding voice what he thought were the numbers of North Vietnamese battalions in the south. He was off by a factor of three. Also, in a guerilla war numbers of battalions have a different meaning in a Napoleonic conflict. Also, there were old ladies and men on beaten down bicycles also in the fight, and young people willing to sacrifice all. How does one measure the human ability to sacrifice? How does one measure the level of defiance and fighting spirit of an enemy? Anyone have a formula for this? If you do I could find the best way to use that paper with the formula on it—wrapping fish.

There are many investment houses that rely on people called quants. These are Ph.Ds. from MIT, Yale, Stanford, CalTech, Cambridge, etc. who think those stocks, bonds, derivatives, and other financial securities can be analyzed to the point that pretty much exact probabilities can be discovered. Some think the “real” price of a security can be discovered mathematically. In many countries the financial markets are dominated by the mathematical trading algorithms of the quants. Very few understand that is inside these sometimes millions of lines long computer codes that can trade securities at picoseconds, one trillionth of a second.

When I look at the history of the firm that had two Nobel laureates and a pile of some of the smartest quants, Long Term Capital Management, I see the arrogance of certainty in a curiously unpredictably uncertain world. Someone can be smart and feel certain, but life can still whack you over the head with its uncertainties coming out of the things one does not know. When the Russians defaulted on their debt in 1998 Long Term Capital Management’s mathematical precision got the best of them. The company went bankrupt with tens of billions of dollars in debt and nearly brought a good part of the financial system to a halt. They needed a bailout.

So much for the idea of “certainty”, especially when one looks at the unknowns of human nature in the marketplace. A good book to see on this is called “When Genius Failed” by Roger Lowenstein. This book also reminded me of the G.K. Chesterton quote above.

When looking at investing, science, and war, for but a few examples, the things that could trip us up are the things we do not know we do not know. If we are unwilling to admit there are things we do now know, and may never know, then surprises and failures may wait, but not even these are certain.

We also often make judgments of what the future might bring given what the past was like. Climate change scientists often do this. Military and other leaders often do this. Investors often do this.

However, do they really know what the future might bring? Do they really know in this complex world with its flowing feedback systems how it will all work out? Some things can be judged with a degree of certainty at one moment, yet that degree of certainty can change in the next given the new circumstances.

Could anyone guess what the costs of the next set of wars in the world will be? If not, then are we really deciding properly about what to do next?

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