the level is appropriate for a bright kid or moderately technical reader

From:

"Information Processing

Steve Hsu

Professor of physics at the University of Oregon. Homepage. Archive (list of posts, by date and category).

View my complete profile

Wednesday, May 27, 2009

Fermi problems

Princeton University Press sent me a copy of Guesstimation: Solving the World's Problems on the Back of a Cocktail Napkin, by professors Lawrence Weinstein and John A. Adam. The book is a compendium of Fermi problems -- that is, problems which are simply stated and whose answers can be estimated at the order of magnitude level through simple logic from a few factual inputs.

The classic Fermi problem is: How many piano tuners are there in Chicago?

When I took my oral exam as a first year graduate student at Berkeley, theoretician Geoff Chew (a former student of Fermi's) asked me:

1. How many blades of grass are on your front lawn?

2. What is the ratio of paved to unpaved surface area in Iowa? (He had earlier asked where I grew up.)

Luckily I got them both right. The experimentalist in the examining pair, Paul Richards, held up a cylindrical metal device of some sort and asked me what it was. He let me hold it; it was heavy. I stared at him blankly. To this day, I still don't know what the gizmo was :-) I suppose I was destined to be a theorist!

Physicists are constantly solving Fermi problems in the course of their work, because it's the first step in sizing up any potential project, theoretical or experimental. When I talk about entrepreneurship I emphasize the same kinds of problem solving in business or technology: how many servers will we need? how fast will sales grow? how much capital should we raise? ...

Watching someone work out a Fermi problem in real time reveals a lot about their brainpower. Wall Street firms, consultancies like McKinsey, Microsoft, and even small startups have been known to ask these kinds of questions of job applicants. This book discusses similar problems in a business context.

The difficulty of most Fermi problems is limited, unless the problem requires some specialized knowledge. But I like them slightly better than puzzles or brain teasers which rely on esoteric tricks that the solver either gets or doesn't get. A former collaborator of mine came up with the following (slightly broadening the genre) one evening while I was visiting U Chicago:

1. If the sun stopped radiating energy, what temperature would the surface of the Earth cool to?

2. In the above scenario, could humans survive using current technology if given enough time to prepare?


Weinstein and Adam's book is a nice collection. None of the problems require any specialized knowledge of math or physics; the level is appropriate for a bright kid or moderately technical reader.

Posted by Steve Hsu"

Me:

Don said...

Steve,

Is this a Fermi Problem?

How much wood would a woodchuck chuck if a woodchuck could chuck wood?

Don the libertarian Democrat

1:44 PM

The fact was, however, that the assumption about correlation was just that: guesswork

TO BE NOTED:

"Information Processing

Steve Hsu

Professor of physics at the University of Oregon. Homepage. Archive (list of posts, by date and category).

View my complete profile

Thursday, May 21, 2009

Gillian Tett at LSE

Highly recommended: FT journalist Gillian Tett, a PhD in social anthropology, discusses her book on the financial crisis: Fool's Gold, at an LSE public lecture.

I haven't read the book yet, but it's on my list :-) Here are two nice excerpts that appeared in the FT. She does a great job of covering the birth and development of credit derivatives, CDOs, etc.

Genesis of the debt crisis

How panic gripped the world's biggest banks

Below is a discussion of correlation from the first excerpt.

The problem with correlation

Demchak was acutely aware that modelling the risks involved in credit derivatives deals had its limits. One of the trickiest problems revolved around the issue of “correlation”, or the degree to which defaults in any given pool of loans might be interconnected. Trying to predict correlation is a little like working out how many apples in a bag might go rotten. If you watch what happens to hundreds of different disconnected apples over several weeks, you might guess the chance that one apple might go rotten – or not. But what if they are sitting in a bag together? If one apple goes mouldy, will that make the others rot too? If so, how many and how fast?

Similar doubts dogged the corporate world. JP Morgan statisticians knew that company debt defaults are connected. If a car company goes into default, its suppliers may go bust, too. Conversely, if a big retailer collapses, other retail groups may benefit. Correlations could go both ways, and working out how they might develop among any basket of companies is fiendishly complex. So what the statisticians did, essentially, was to study past correlations in corporate default and equity prices and program their models to assume the same pattern in the present. This assumption wasn’t deemed particularly risky, as corporate defaults were rare, at least in the pool of companies that JP Morgan was dealing with. When Moody’s had done its own modelling of the basket of companies in the first Bistro deal, for example, it had predicted that just 0.82 per cent of the companies would default each year. If those defaults were uncorrelated, or just slightly correlated, then the chance of defaults occurring on 10 per cent of the pool – the amount that might eat up the $700m of capital raised to cover losses – was tiny. That was why JP Morgan could declare super-senior risk so safe, and why Moody’s had rated so many of these securities triple-A.

The fact was, however, that the assumption about correlation was just that: guesswork. And Demchak and his colleagues knew perfectly well that if the correlation rate ever turned out to be appreciably higher than the statisticians had assumed, serious losses might result. What if a situation transpired in which, when a few companies defaulted, numerous others followed? The number of defaults required to set off such a chain reaction was a vexing unknown. Demchak had never seen it happen, and the odds seemed extremely long, but even if there was just a minute chance of such a scenario, he didn’t want to find himself sitting on $100bn of assets that could conceivably go bust. So he decided to play it safe, and told his team to look for ways to cut their super-senior liabilities again, irrespective of what the regulators were saying.

That stance cost JP Morgan a fair amount of money, because it had to pay AIG and others to insure the super-senior risk, and those fees rose steadily as the decade wore on. In the first such deals with AIG, the fee had been just 0.02 cents for every dollar of risk insured each year. By 1999, the price was nearer 0.11 cents per dollar. But Demchak was determined that the team must be prudent.

Posted by Steve Hsu"

Me:

Don said...

"The number of defaults required to set off such a chain reaction was a vexing unknown. "

Here's where I disagree with Tett and a lot of others. It is not that the CDSs actually defaulted. What happened was that the rise in the foreclosure rate led to uncertainty about the solvency about CDSs, and this led to credit downgrades and calls for more capital.

What then followed is what I call a Calling Run, following the ideas of Irving Fisher on Debt-Deflation. Many people decided to Flee to Quality, cash or its equivalents, all at once. This included investors not even directly hit by the CDSs or foreclosure problems. A perfect example is China moving from Agencies into Treasuries. Why did they do that?

At this point, in a Calling Run, assets are revalued according to safety and liquidity. On that basis, CDSs and CDOs, etc., lost value precipitously because they are very low on the Flight to Safety Chart, where low isn't good.

For two good papers on this:

Read Irving Fisher's "The Debt-Deflation Theory Of Great Depressions" here:

http://fraser.stlouisfed.org/docs/meltzer/fisdeb33.pdf

And:

http://www.frbatlanta.org/news/CONFEREN/09fmc/gorton.pdf

Slapped in the Face by the Invisible Hand: Banking and the Panic of 2007+
Gary Gorton

Having said that, I'm going to read her book and listen to her lectures, as I read everything that she writes in the FT. Big Felix Salmon also interviewed her for Reuters about this book.

Don the libertarian Democrat

PS I'm going to eventually do a series of posts on whether a robot can discover that it's a robot. But ponder this: The Many-Worlds View proves that there is free will, since any action that can occur, does.

I've always found his writing and argumentation to be exceptionally clear, at least for a philosopher

From Information Processing:

"50 years of John Searle at Berkeley

To find a 90 minute podcast of this gathering, which is remarkable for the quality of the speeches given in honor of philosopher John Searle, search under "searle 50 berkeley" at iTunes U (or follow this link).

John Searle’s 50 Years at Berkeley—A Celebration

A celebration of John Searle’s 50 years of distinguished service to the UC Berkeley campus, with reflections by Tom Nagel, Barry Stroud, Robert Cole, Alex Pines, Peter Hanks, and Maya Kronfeld.

While I disagree strongly with Searle's most famous philosophical construct -- the so called Chinese room argument against strong AI (see also here) -- I've always found his writing and argumentation to be exceptionally clear, at least for a philosopher ;-)

See also Paul Graham against philosophy.

Posted by Steve Hsu at 12:59 AM

Me:

Don said...

Searle was my mentor at Cal in college and graduate school, along with Hubert Dreyfus, George Lakoff, and Gregory Vlastos. From him I developed the following:

Don's Hermeneutics: Like Rabbi Yishmael's Rules, Only Not
"Searle's Sagacity":

"If a person can't explain something simply, then they don't know what they're talking about. The only exception being Kant."

"Corollary to Searle's Sagacity":

"questions should be simple and comprehensible, and meant to elicit a simple explanation."

I also knew Paul Feyerabend, Bernard Williams, and William Craig, well, although I knew Craig too late to learn much from him.

I am a follower of Austin, Wittgenstein, and Merleau-Ponty. I write like them as well, which explains why I'm not an academic. Searle was an excellent teacher.

I'd discuss philosophy, but I want to mention a physics class that I had at Cal in college that taught me two important lessons. It was called "Physics for Poets", and the teacher was Owen Chamberlain.

The TA told me at the beginning of the class that the class was too easy for me since I was sitting in on the Honors Physics class with a couple of my friends. I audited a large number of courses.So I decided to read a few philosophy of physics books instead of paying any attention to the class. I managed, I was quite good at this, to talk Chamberlain into helping me.

One book that I studied was by Max Jammer. I got Chamberlain to read a chapter. When we met to talk about the book he told me that he couldn't understand Jammer because he used a weird mathematical notation and seemed very obscure. I learned then that I couldn't expect even a Nobel Prize winner to have the background to understand everything presented to him about physics.

I learned one other lesson: when the final was held, it was much more mathematical and difficult than I expected. I passed, but it wasn't easy. I never took a class for granted after that.

Don the libertarian Democrat

1:30 PM

"The story that Einstein was a poor student is appealing, but entirely untrue."

From Steve Hsu on Information Processing:

"Confirmation bias and the Einstein myth

The story that Einstein was a poor student is appealing, but entirely untrue. It's yet another example of confirmation bias -- the tendency to embrace information that confirms our preconceptions (in this case, confirms some romantic notion about how human achievement works), and to reject information that contradicts them( DOESN'T THIS APPLY TO ALL THOUGHT? ). The truth is that Einstein was (unsurprisingly) a brilliant student.

See pages 37-39 of the magisterial biography Subtle is the Lord (Google books) by eminent physicist (and IAS colleague of Einstein) Abraham Pais.

At age 4-5 Einstein became fascinated by the workings of a compass. As an adult he still remembered the moment as the first miracle in his intellectual development. The second miracle was his discovery of the beauty of Euclidean geometry at age 12: "the clarity and certainty of its contents made an indescribable impression on me" -- the reaction of an average 12 year old? Einstein taught himself calculus between the ages of 12 and 16. He regularly ranked first in his classes in elementary, middle and high school. From age 10 to 15 he had weekly discussions about science and philosophy with a university student and family friend named Max Talmud. Does this sound like a slow learner?

Pais even writes (p. 38): "The preceeding collection of stories about Einstein the young boy demonstrates the remarkable extent to which his most characteristic personal traits were native rather than acquired."

Posted by Steve Hsu at 10:39 AM 30 comments Links to this post

"Thank goodness! Finally a big brain will run the agency that funds our national labs and basic energy research. "

Which reminds me that Steve Hsu on Information Processing likes the new Energy Secretary:

"Steve Chu, Energy Secretary

Steve Chu, currently director of LBNL, is Obama's pick for Energy Secretary. Thank goodness! Finally a big brain will run the agency that funds our national labs and basic energy research.

Chu won the Nobel prize for his work on laser cooling of trapped atoms. This technique is now a fundamental tool in atomic physics. Chu did his PhD at Berkeley under brilliant experimentalist Eugene Commins (who was still around when I was a grad student). When Chu won the Nobel my mother received several phone calls from well wishers -- "I heard your son the Berkeley PhD won the Nobel Prize in physics!" :-/ (Hsu, Chu, what's the difference?) Sorry ma, don't get your hopes up!

Chu: "I told my boss .... `Guess what? I just trapped an atom.' He said, `Great. What are you going to do with it?' I said, `I don't know, but it's great!'"

Posted by Steve Hsu at 6:37 PM "

An excellent appointment. Go Bears!

"A rare snowfall "

I've come to be a fan of Steve Hsu's blog Information Processing. Here's a fun post:

Snow in Eugene

A rare snowfall -- it's already starting to melt away. These were all taken from inside :-)"

I'm up in Washington, but I have a similar feeling.

"The short answer is their business model does not depend upon a belief system — of solvency, liquidity, profitability or risk management."

Steve Hsu on Information Processing with an interesting post:

"Which raises the question: Why [no] runs on semis or software companies? The short answer is their business model does not depend upon a belief system — of solvency, liquidity, profitability or risk management.

It wasn’t a crisis of confidence that did the iBanks in, it was a crisis of competence.

That was the element CEOs like Dick Fuld, Hank Paulson, Stan O’Neal and Jimmy Cayne failed to consider: When you are a bank, your existence depends upon the confidence of your clients, investors and counter-parties. Anything you do that puts that at risk is extremely dangerous. If you want to run lots of leverage, push the envelope, well, then, you better hope nothing else goes wrong. At 35X, you do not leave any room for error.

It is inexcusable that the investment CEOs did not seem to realize this. It was unconsionable that the firms had been purposefully put into a risk taking position in extremis. That the CEOs blamed short sellers and rumors, but exonerated themselves, only serves to emphasize their own failures, their lack of comprehension of what they had dome to themselves. It was their own incompetent stewardship that purposefully and unknowingly placed these firms at such grave danger of destruction.

Macro modelers take note: no realistic results without accounting for ape psychology. "

This is an important point. I interpret it in the following way:

If the banking system is perceived as unsound, then it is in big trouble, whatever the real situation is. However, I believe that the banks did not believe that the government would let the banking system be perceived as unsound. They believed that any bank large enough to signal such a situation would be saved. They were correct, but the effect of not saving Lehman was to raise doubt about that belief. Once that step had been taken, there was a rush by people to cover their positions in case the government was going to actually let the system take big hits.

This is one reason that there was no option to the government intervening. The idea that the large unsound banks should be left to fail, and that would have no effect on confidence in the banking system in general, just doesn't make sense to me. In this situation, there was no practical choice but intervention. What I fault the Fed and Treasury Department for is not confronting this situation head on and adopting a series of policies that haven't been able to stop the fear and aversion to risk precipitated by this crisis. Sadly, some of their actions, by seeming so panicked and seat of the pants, might well have made the crisis worse.

When you confront a Belief System, you must know the underlying context, presuppositions, and beliefs, that are underlying it. A competent and effective response can't come without that knowledge.