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Tuesday 22 Aug 2017 | 10:14 | SYDNEY
Tuesday 22 Aug 2017 | 10:14 | SYDNEY

Reader riposte: Complex systems

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COMMENTS

17 November 2008 13:43

Chris Skinner adds some valuable context to my brief remarks about Treasury Secretary Ken Henry's observations on financial complexity:

Ken Henry identified three dimensions of the global financial system:

  1. Complexity and its cost;
  2. Risk and uncertainty; and
  3. Regulation and governance.

All of these are applicable, in the same way, to any interconnected large scale system. His comments could apply just as well to the internet, the international criminal intelligence system or the command and control system of military forces. There are significant commonalities in these three dimensions, and that should be the source of insight to better manage the system.

It should also be noted that the formal study of complex systems is of long standing and has produced such concepts as chaos theory and emergent behaviour. The latter is very applicable to this case: essentially, the concept holds that when the level of complexity passes a threshold, the behaviour of the system can no longer be described fully by analytical or descriptive means. This then dictates that the behaviour of the system is no longer predictable in all respects. The behaviour that arises that has not been predicted is called emergent behaviour.

Risk and uncertainty are also about the likelihood and impact of unpredictable but nevertheless feasible events. We acknowledge that some detrimental events can arise for which there is some notional probability of occurrence; or we state an acceptable (small) probability that we can accept. This can be applied to the emergent behaviour arising from complexity.

Regulation and governance is about applying constraints on behaviour to prevent it extending outside acceptable limits.

The three dimensions are all about the behaviour of complex systems and how we manage to live with that behaviour. This approach is familiar to control systems engineers and the principles developed over the last 40-plus years are just as applicable to the global financial system as any other complex system.

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