“This Current M&A Surge Is The Most Stupid Thing”

This M&A surge is a "nonsense", according to Nassim Nicholas TalebNassim Nicholas Taleb developed the theory of the Black Swan

Quick and provocative, Nassim Nicholas Taleb (he insists on the presence of his second name to emphasize his Christian origins) is a machine in generating headlines. This was the Lebanese investor, resident in New York, who in 2007 developed the theory of the Black Swan, an unexpected event which changes the chain of events and which can only be rationalised after the event. Since then he has become a financial guru who dresses his ideas in striking concepts: Antifragility, psuedo stability, pseudo experts … We talk to him in Madrid, where he has travelled at the invitation of the Institute of Internal Auditors.

Question: Admirable people are those who have skin in the game and risk something. There is a whole industry developed around risk and managing it. Apart from having products and schemes to protect ourselves what else can we do?

Answer: People working with risk have no idea about it. You cannot separate risk from decision-making and those who usually understand decision making don’t get into the risk business.

Q:Does it make sense to be covered against a risk even if this is very remote?

A: Lots of people start assessing likelihood to risks and we have no idea about likelihood. You structure things in a way to be more robust. But if you are too large you are not going to survive. So be small or die. Think about the S&P500: the survival rate today is 11 years; it used to be 60. So basically if you want to survive be a medium size company, not a large one.

Q:And yet we are seeing an M&A surge…

A: And it’s the most stupid thing. There is no evidence that M&A has the pay-off that people think it has. The idea of economies of scale is the biggest nonsense in the history of Economics because it doesn’t show in the data. Family business survive, medium companies survive. Large companies don’t except in Spain and Europe where they get large so they can leach on a state. They get privileges from the state.

Q: Many big companies in Europe are not being subsidized and yet they are in good shape.

A: Directly or indirectly the state helps them to become large.

Q: Can you give me an example to prove your thesis?

A: I don’t want to. We have sponsors at this conference. But the idea is that if a company is large it won’t survive. The German miracle comes from medium-sized companies. And empirically large size is a suicide for corporations.

Q: I can think of many counterexamples.

A: OK, but eventually they will all disappear.

Q: So for you this wave of M&A is a mistake?

A: Beyond a mistake. People do it because there are gains for investment bankers to do it or because the chairmen make some money.

Q: Explain the concept of antifragility.

A: There is always a local property and unless you have it you die. If I protect someone from germs they die. Anything shielded from market forces is going to collapse and if you don’t let the economy have periodic swings there is no real improvement because the selection mechanism becomes completely distorted. Antifragile is a larger framework to analyze complexity.

Q: Which companies can be called antifragile?

A: Typically companies are robust or fragile. Systems are antifragile. The restaurant business is antifragile. The banking business is fragile.

Q: Banks have been around for centuries and have always emerged from one crisis after the other.

A: Thanks to the state. Without the state the banks would be bankrupt.

Q: You can be fragile and necessary at the same time…

A: That is my point: they are not even necessary. Banks are into lending. Lending has not been proven. Take Sillicon Valley. How much lending cost Silicon Valley?

Q: Silicon Valley is a very specific ecosystem, though

A: No, no, no. All the revolutions we’ve had come not from lending but from equity. Lending by banks has a cosmetic effect. It actually burdens people with debt. I can understand some lending as mortgages for housing but… Well, any firm that has debt is fragile.

Q: You were praising small firms before. How can they operate without loans, the system trusting them?

A: They don’t need loans. They need equity. You eat your own cooking. Historically the revolution happened without debt. Debt has generally been a recourse for states at war, for example, the King of France used it to declare war on Spain. At a modest level, it can function in some systems, but the task of banks is principally to guarantee transactions between individuals. The banks were effective with the old system of letters of credit. The letter of credit is not exactly a debt, it facilitates transactions between parties who do not trust each other, and having this mechanism allows transactions. But I believe that banks are of such little importance to the economy, that they are only essential for bankers to get rich. People live with the illusion that banks are essential, but they are not. Monetary policy in the US achieves nothing, apart from helping the banks.

Q: Supposedly they functioned as a transmission mechanism for liquidity ino the real economy.

A: No. There was no injection of liquidity into the economy by the Fed. It didn´t happen. This is what they say but it is argument that does not stand up to mathematical or intellectual scrutiny. The monetary expansion was used above all to reconstruct the banks´ balance sheets.

Q: I get your aversion to debt. But what do we do with the debt that has built up? Now, between public and private debt, and including the financial sector, debt is at 247 billion dollars, 318% of global GDP.

A: Let people go bust. Let the mechanism of bankruptcies function. Let things break because eventually they are going to break so the earlier they do, the better, like in California.

Q: Every system is built on confidence. If you let it go bust…

A: That’s what bankers say. The system is built on money and transactions.

Q: Ultimately, money and transactions are essentially built on confidence.

A: A healthy system is a system that doesn’t need to rely on confidence. People have the illusion that investment causes returns and it’s the other way around.

Q: What do you rely on then?

A: You rely on healthy demand, a healthy economy, healthy companies.

Q: Of course, this would be perfect

A: Debt becomes a mechanism that is full of agency problems. You want to minimize the agency problem: the person who writes a check for debt – it is not his or her money and he or she ends up not having to pay for the consequences of their mistakes.

Q: That is your idea of skin in the game.

A: Yes, the idea is that bankers didn’t have to pay for the mistakes and eventually we paid the price.

Q: Anyone who takes his or her own risk is good for the system. You have said that the banks should be treated like utilities and forbidden to take risks wich could destroy third parties. Yet the the risk professionals and and risk capital should be let off free. And short selling. Why here is there no risk?

A: Manipulation should be banned because it’s disrupting the system. But without shortselling companies don’t know what to do.

Q: You apply this criticism to the political arena.

A: Exactly. Politicians don’t pay for their mistakes, so they don’t learn from experience. A plumber does.

Q: In politics the price is paid at the ballot box. Are you not worried that your words will not be used to support the populist narrative?

A: Who invented this notion of populism? Bureaucrats? This is democracy and people say what they want. They call it populism when they want to escape their system, because they are unelected bureaucrats. So you’ve been making decisions on behalf of the public without being accountable to them and then you accuse them of populism. The first thing is governance. Once you have a democracy you have to let people decide. You cannot say: ok, they are not voting for intellectuals, therefore it doesn’t go, you have to go with the democratic system.

Q: If you had to name three big risks right now…

A: Debt would be the first one. The second one, the ageing of the population, with the drain on pensions. And the third one is the reaction to ebola. It was so disappointing that I think that in the case of an epidemic- and eventually we will have one- we’ll see. We know that antibiotic resistance is coming… and it’s not negligible. In Singapore they have set up systems to deal with it should it happen. Other countries have not.

Q: Is there a risk of working with machines and, while it may seem redundant, having to teach them how to weigh the risks?

A: The greater risk is of someone taking control of things. The hacking of computers system will increase, so we need to focus on that. But this we can manage. The meta risk has always to be managed by humans, not machines.

Q: Following this saying “a bird in the hand is worth two in the bush”… Eurozone banks prefer to hoard 700bn euros at the ECB instead of trusting the interbank market. Companies are sitting on piles of cash instead of than investing or increasing their pay out… Does this make sense?

A: It’s defensive, it’s very wise for companies. The reverse of that is borrowing. It’s a way of dealing with uncertainty or lack of information. If you receive a package from an unknown source, would you open it? I would not. The more uncertainty there is in the world the more cash I should have in the bank, rather than try to predict better.

Q: So like Warren Buffett you would not invest in cryptocurrencies…?

A: No, I would actually invest in them. Simply because I don’t want to miss out on it… What if it’s a great thing? I come from a different milieu than Buffett. I come from trading, a more skeptical world and I think that cryptocurrencies will have one advantage as a concept, which is to reduce the influence of central banks. So for me it’s quite good for the system.

Q: What are your concerns about the Fed?

A: I don’t like Greenspan and Bernanke, they were incompetent. Both didn’t see the accumulation of risk in the system and Bernanke tried to write a paper explaining that risk was gone! How could you appoint him again? Volker was the real thing. But since him there has been no central banker in America… How could the financial system in the world depend on the judgement of one man?

Q: There are international bodies to supervise central banks

A: They are all pseudo experts. Forecasts are random. All these institutions are random. I am blunt about it. They still produce their forecasts because it’s what they are paid to do. They have no skin in the game. Business people have skin in the game. So we need low dependence on people who don’t have skin in the game. It’s very Hayekian, distributed knowledge. A good combination should be competition between central banks and crypto

Q: You became famous with your black swans theory in 2007, when we could not even imagine the magnitude of the crisis, but there have always been unexpected events…

A: Exactly we always have the feeling that our time has more risks than any other because History is cleaned up and filtered. But we are the ones who survived so we have an underestimation of the risks of that.

 Q: Donald Trump was a black swan for many analysts. For you too?

A: Actually for a part of America he is pretty normal. There is a class of pseudo experts for whom it was impossible because they think that because they went to Harvard, people who get elected need to be Harvard-educated. But the American public views things differently. Now we have one group of people trying to work out: when is it that we failed the public? And another group of people that is still complaining that the public is stupid. In the real world you don’t judge your customers. If you sell tomatoes you don’t judgethe people who buy them green or red. In politics they want to judge their clients and it doesn’t work that way.

Q: What do you make of president Trump’s work in office so far?

A: It depends on the policies. With Saudi Arabia, I don’t like it. Attacking Iran, I don’t like it. Being firm on trade, yes, I like it. Because basically you had a bunch of people trying to… there was an asymmetry: like you sell stuff to Germany, Germany has customs duties on American goods but not the reverse. It doesn’t work that way. Trump is not fully into autarchy but he has certain ways to manage trade, it’s not 100% free but it’s not 0% free. It’s 99% free, that is where the story is: we are talking about the 1%, or may be 5% that is being subjected to his actions. I think he should be a little more aggressive in simplifying the tax code. With Trump you have to look at what he does.

Q: Wall Street is happy indeed…

A: Yes, and business people too. A lot of people are happy with him. Immigrants are happy with Trump, people don’t say it. I don’t want to hear from the intellectual crowd, I want to hear about Trump from the consumers. Some people judge Trump on his Twitter habits… I grew up in a Mediterranean culture where there was dignitas and gravitas. He doesn’t have the gravitas. But his rivals have pseudo-gravitas. They are all flawed.

Q: And with his reduction of the state of liberties as well …

A: Yes, because of Helsinki. Trump had the guts to go against the military establishment. We don’t need a war to satisfy arms vendors. And a lot of propaganda against Trump comes from these people. Anyway he promised to drain the swamp but he din’t do much about lobbies. The problem in Washington is that no matter who the president is DC is run by insiders and to break that is very hard. The only thing is that you don’t need a new president in America: you need to move the capital to Iowa and hire new people.

 

 

 

 

 

 

 

About the Author

Ana Fuentes
Ana Fuentes is The Corner Editor-in-Chief. Currently based in Madrid, she has been a correspondent in New York, Beijing and Paris for several international media outlets such as Prisa Radio, Radio Netherlands or CNN en español. Ana holds a degree in Journalism from the Complutense University in Madrid and the Sorbonne University in Paris, and a Masters in Journalism from Spanish newspaper El País. You can contact her at: anaf[at]thecorner.eu