Riscus

Riscus - "Difficulty to avoid in the sea."

The ancient Greeks had a word for it, ριζα, which made its way to the Latin, Riscus.  The original meaning was a metaphor for “difficulty to avoid in the sea.”  Ancient mariners traveling along the islands that dot the Mediterranean, the Aegean and the Tyrrhenian Seas knew all too well what it meant.  Over time, the word made its way to Italian – risico, rischo, and rischio; to French – risque, and to Spanish – riesgo.  Starting in the 16th century, middle-high-German adopted the term Rysigo in a business sense: “to dare, to undertake, to hope for economic success.”  This weekend, we witnessed an ironic collision of these two uses of the word: a €450M ship ran aground and ‘mostly’ sank – of all places – off the very coast where the ancients learned what ‘riscus’ is all about.

I adopted the cover of Peter Bernstein’s excellent book Against the Gods as the primary image for this blog because of this intertwined history: risk management and humanity’s attempt to conquer the seas is intricately intertwined and is rife with lessons about how to go about improving our odds of success.  It’s also a great story.

It wasn’t until the Renaissance that we started quantifying risk and making any use of mathematics to help mitigate it.  Early on, when the Ancient Greeks and Romans sailed the Tyrrhenian, they assumed that the uncertainty of survival on the seas was caused by the whims of gods like Zeus and Poseidon.  That argument – that gods cause something – has a modern counterpart: “the computer told me so.”  Both are black-box solutions to the problem that conveniently avoid the need for any real understanding.  Both employ a very unsatisfying ‘Deus ex Machina’ to overcome the problem.  Peter Bernstein made this point in Against the Gods with an analogy between the Oracle at Delphi and the modern computer: people believe the output of each because of its established authority, suggesting that trusting modern computers is as dangerous as trusting the Oracle’s advice.  I wrote to Peter objecting to this line of reasoning because modern computers have verifiable benefit, while the Oracle at Delphi was just one in a long line of superstitious beliefs that have distracted people with comfort over reality.  He didn’t budge: about as many people today, he told me in the late 1990’s, understand the output of computer risk models as back then understood that the Oracle was nonsense.  For everyone else – the severe majority of people – they are dangerously equivalent.

But such is the course of progress.  Today’s airline passengers need not understand the Bernoulli principle to take advantage of international flight.  Today’s medical patients need know nothing of molecular biology to benefit from their daily prescriptions.  Similarly, today’s investor should not need worry about Martingales or Lévy distributions to avoid catastrophic losses in their portfolios.  But we’re not quite there yet.  We’ve gotten past the belief in gods, but as I’ve said many times in this blog, we haven’t yet found the underlying dynamics that would allow us to declare a fundamental understanding of these investment waters we keep trying to sail.

The story of risk – of humanity’s struggle against the gods – is, as Pater wrote, remarkable.  The Costa Concordia accident is a vivid reminder that even with the most modern equipment and procedures, risk is very much with us, even in the same waters where the word originated.

4 Responses to Riscus

  1. Eugene Stakhiv says:

    I liked your article, weaving historical lessons with current realities. There is a counterintuitive axiom embedded somewhere in risk assessment methodology: as society works on reducing ‘normal risks’, through the introduction of various technologies and risk reduction behavior, and the probabilities of those failures are reduced significantly, the failures that we do ultimately experience, and the cosequent costs, become larger and larger. I.e. the catastrophic failures (like the recent Costa Concordia or the Exxon Valdez) have much greater liability costs because society expects much more in terms of compensation when one of these events does occur. Society holds the corporations and owners of the technologies to a much higher standard than the old sea-faring days.

    • Some Dude says:

      “Society expects much more in compensation” because the costs of disaster are higher and spread over more people. 500 years ago, if the Dutch East India Company lost a ship to pirates or storm or shipwreck, this was disastrous for the sailors and their families, a major setback for the company, and a loss for its investors, but no direct effect on the people of, say, Indonesia, or of their livelihood. The costs of the loss or wreck were fairly directly priced in to the decisions of the affected actors — shippers knew the risks and the fees accounted for that; sailors and their families knew they might not return, and chose that trade accordingly.

      Now, by contrast, the risks of the Costa Concordia releasing its 2,500 tons of fuel oil and fouling the Tuscan coast, or of the Exxon Valdez spilling a half-million barrels of crude into Prince William Sound are borne by people who have no direct involvement in the ship’s activity and are not directly compensated for taking on that risk — in fact, there is no good mechanism for pricing that risk. Think for a moment about, say, a third-generation shrimp fisherman in the Gulf of Mexico — oil drilling in the Gulf (which is a latecomer to the Gulf’s financial ecosystem), as we saw so clearly in 2010, has the potential to devastate his livelihood, yet the financial benefits that inure to Halliburton or BP by failing to take appropriate risk-avoidance measures (see, for instance http://www.boemre.gov/ooc/press/2011/press0914.htm) are not shared with him. The risk is not priced fairly across all participants. This is now the rule and not the exception, whether it’s shipping, or many other industrial activities: the Union Carbide plant in Bhopal, the TEPCO reactor at Fukushima, and on and on. This has nothing to do with the probabilities of failures, it has to do with the separation of financial incentives and potential costs. The Union Carbide plant manufactured carbaryl (Sevin) using the riskier but less-expensive of at least two possible manufacturing processes. Presumably this benefited their stockholders; presumably as well, there were not many of those among the over 3,000 people downwind of the plant who died.

      Interesting parenthetical note, since you mentioned the Exxon Valdez: I was unaware that after its shipwreck, it was repaired and returned to service, re-flagged under the Marshall Islands, then Panama, and in recent years restricted mostly to East Asia, since the US and Europe no longer allow single-hulled oil tankers. It was in another collision last November and is now somewhere in China. In the meantime, it took Exxon nearly 20 years to begin paying damages, and it has still not fully paid out the terms of the judgment.

  2. Some Dude says:

    Thanks for an interesting post.

    What I find intriguing, as you note in an aside, is that it took so long between the development of commercial navigation (movement of goods by sea for hire or investment) and the development of insurance, in the sense of measuring the risk and allowing it to be separated from the underlying investment. While there were some of what could be recognized as insurance contracts in 14th-15th century Genoa, an insurance market didn’t flower until 17th century London. This seems like a long time to me.

    What is noteworthy about the Costa Concordia wreck, at least for those of us with some interest in the insurance market, is that it appears likely to be the largest insured loss in maritime history.

    • It did take a rather long time to develop the insurance industry — Peter Bernstein does a nice job in his book describing how death notices started being published in the London broadsheets after the Fire of 1666, from which people started collecting death statistics. Using mathematics to evaluate and describe the physical world took off earlier that same century – Galileo did his thing in 1609 – so it’s not long after that insurance was invented. What bothers me is all those lost years between the Romans and the Renaissance when we could have been making progress. Se la vie.

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