Complexity in Financial and Economic Systems? Adding Clarity

Complexity is all around us, but do we really understand what it means? And how are financial markets and economic systems affected by it? In this post, Dr. Giovanni Siepe takes a systemic perspective.

What is a system and what does complexity mean?

There are many conversations taking place about complexity and complex systems. In order to start any conversation about Complex Systems we should agree on the basic definition of what that means.

A system is a set of interdependent components that work together towards a common goal. Without a goal we do not have a system (W. Edwards Deming).

A system that we are not able to describe with a simple approach, i.e. by looking at its parts separately, is evidently a Complex System. This means that interdependencies and interactions exist within it, and the dynamics they display are non-linear.

Financial System and complexity?

We often hear people saying that “our economic and financial systems are extremely complex”.

First, I would argue that neither the present economic system, nor particularly the financial system, represent a system. Do the various elements in this environment have a common goal? I don’t believe they do.

This is, in my opinion, the main reason why financial markets are so unpredictable. The goal of these markets is, as anyone can easily confirm, not a common one, but rather a collection of local goals and a manifestation of the saying “every man for himself”. Everybody is just trying to pursue their own goals, often at the expense of someone else.

People are always looking for a good tip, or the best mathematical formula, to make a good investment (and make some good money). 

Unfortunately, the solution to complexity is not “simplicity”. It is not a matter of simplifying things, but rather of understanding how to “manage” complexity. 

We cannot manage complexity unless we deal with the system as a whole; we must understand its parts and the interdependencies, and take into account the variation that affects it (entropy). 

Making predictions through complexity

However, complexity does not imply unpredictability. We can make very good predictions for complex systems, even in the presence of “chaotic” behaviour (chaotic dynamical systems show a predictable pattern).

Predictability, which should be the essence of any managerial activity, doesn’t mean that we know with extreme precision the outcome of a series of actions, but only that we can “statistically” predict, with a good level of confidence, the range of oscillation of the results.

One of the most precise, thorough and sophisticated approaches to market analysis was devised by Benoit Mandelbrot. He used to say that his “fractal approach” was not intended to let people make more money, but rather to allow them to keep their losses “under control”.

This may look like a conservative approach, but its value lies in the acknowledgement of the extreme unpredictability of the dynamics of financial markets (they are not systems), driven by the personal behaviours of many people: how can we cope with and take into account the mood, the culture, the habits, the mental models, and the beliefs of thousands of different people from all over the world?

I believe that instead of making “lists of recommendations” on how to deal with the complexity of financial markets, we should come to terms with the fact that Economics is a Social Science, and the goal of any economist should be the distribution of wealth, and not its accumulation in the hands of a few privileged people. 

Thinking differently for systems

We need to start thinking in a different way. Hundreds of years ago the world was much less interconnected, we could still think about just taking care of ourselves and survive. Today this is no longer true. What we do, here and now, can and will affect someone on the other side of the world. A “fair” distribution of wealth is the only way in which the “world as a system” can survive.

When we talk about a “sustainable economy”, we are really talking about survival.

When markets will finally be driven by this kind of vision and understanding, sustainable wealth will emerge as a property of the network of the economies around the world. We have the science and we have the systemic tools and methodologies to change our thinking and implement systemic solutions. There is no time to lose.

This post is by Dr. Giovanni Siepe, a partner of Intelligent Management. Dr. Siepe has a background in theoretical physics and industry management. He has been working with the Decalogue Management Methodology for the last decade.  

For further discussion of systemic thinking for systemic action and relevant tools, see our new business novel+website, ‘The Human Constraint’. 2 free chapters available for download.