Page - 19 - in options, Volume winter 2017/2018

winter 2017/18 ◼ options 19www.iiasa.ac.at “If you tax systemically risky transactions, you give banks an incentive to avoid them, making the system more resilient.” Stefan Thurner T he last Roman emperor of the west, Romulus Augustulus, was deposed in the autumn of 476 AD. As the grapes ripened on the vines that year, the Roman Empire in western Europe, a system that had lasted for 500 years, collapsed. The Dark Ages began. From the Roman Empire to international banking crises, human history shows that even vast networks, affecting billions of people, can be at risk of collapse. Their size does not protect them, and simple weaknesses, built into the system, can bring the whole structure down. Financial collapse The risk of system collapse—known as systemic risk—came under close scrutiny from scientists after the bankruptcy of the Lehman Brothers in 2008 sent shockwaves through the financial world and connected banks began to fall like dominoes. Governments scrambled to reduce the impact, but the world slipped into a global recession. In the wake of the crisis, IIASA researchers developed a method of measuring how risky each financial transaction is—in other words, how much it contributes to the chances and costs of system collapse. Equipped with this knowledge, it is possible to tax transactions according to the risk they pose to the system. “If you tax systemically risky transactions, you give banks an incentive to avoid them, making the system more resilient,” says IIASA researcher Stefan Thurner, who spearheaded the approach. And testing with models indicates that it is extremely effective— when the tax is introduced, the system rewires itself into a form that is basically free of systemic risk. Not only that, but it does so without reducing the amount traded. Taxes like the “Tobin tax”—proposed as a response to the 2008 crisis—reduce the number of transactions overall because they are charged indiscriminately on every transaction, rather than targeting those that increase risk. “The fascinating thing about systemic risk tax is that it does not reduce the volume of transactions, but just re-shapes the network,” says Thurner. The idea has yet to be put into action in a real-world banking system, but it has already gained attention from the world’s central banks, who are interested in calculating the risks associated with their own transactions. While the financial crisis focused attention on systemic risk, researchers can study numerous systems—from epidemics to food security to governance—using the same principles. “When we study these systems we are looking at networks of nodes and links,” says Ulf Dieckmann, Evolution and Ecology Program director at IIASA. “In a financial Highly interconnected networks are everywhere in our world, from finance to ecosystems: How can we strengthen them against collapse?