Andrew G. Haldane ,  Executive Director for Financial Stability of the Bank of England, delivered a remarkable paper at the April 2009 meeting of the Financial Student Association, in Amsterdam. Entitled, “Rethinking the Financial Network”, its deserved acclaim in the world press concerns its reliance on the study of complexity in natural systems: from epidemiology and infectious disease, to ecological erosion of natural habitats from fisheries to rainforests— to assess the collapse of international financial markets.

Haldane’s analysis of market failure begins in the cloning of organizational practices across market players. Such “best practice” has had the effect of maximizing benefit within individual organizations by reducing balance sheet risk— with the effect of creating homogeneous industry practices, together with a critical diminution of diversity.  Together with this house-cleaning, the dangers of risk were extruded, through complex derivative transactions— with claims ultimately impossible to track through tangled skeins of multiple linkages.

The effect was to jeopardize the financial system while its discrete players felt secure. Because of the high degree of global interconnection, both between industry players and between risky off-balance-sheet transactions,  financial organizations became increasingly fragile and vulnerable to magnified effects of risky transactions. These concretized as market failure with the collapse of Lehman last year.

What commentators have missed in their enthusiasm for this systems analysis, is Haldane’s reliance on principles of organizational behavior and behavioral finance to act as a firewall in mediating future catastrophe. Notably, is his reliance on Herbert Simon’s use of structured hierarchies in establishing internal organizational boundaries. Haldane’s concrete recommendation is the establishment of hub-and-spoke structures for counterparty transaction. Such structures insure the location of transacting parties while guaranteeing accountability lost through deregulation.

Haldane’s suggestions mirror Simon’s advocacy of three components within executive functioning: leadership, communication, and collaboration. At the core of Haldane’s recommendations, and reliant on  recent work in behavioral finance, is that the sense-giving of authorities, of leaders, acts to shape individuals’ psychological states.

Haldane views the role of authoritative story-telling by leaders that “might head-off future bouts of clinical depression in the financial system.” (Actually, Haldane might have credited President Obama’s  demonstrated capabilities in pursuing these ends. His skills have been extraordinary!) As important, however, are the regulatory structures that insure integrity both within and between financial organizations; as well as transparent communication between systemic boundaries.

Haldane not only describes the systemic imperatives of the present, but the structural and narrative aspects of behavioral mediation that problem-solve the dilemmas as they become clear to us.

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