Chaotic systems can be described in many ways but the one I remember from my youth was dubbed ‘the butterfly effect,’ Loosely put, it describes the phenomenon that the flapping of a butterfly’s wings on one side of the world can dramatically influence the weather on the other side of the world. The idea, pioneered by Lorenz and others, has found widespread application in so called deterministic chaos models.
Deterministic chaos models theorise that very small differences in initial conditions or inputs (for example a butterfly flapping its wings) can provide widely different and unpredictable outcomes in different scenarios (the weather on the other side of the world). Such models are quite different from our linear traditional finance models where a small change in inputs usually generates a small and predictable change in outputs.
I am reminded of all of this today because events on one side of the world have just had a major consequence on the other. The flapping wings was not from a butterfly but a very much larger beast, which is why markets have been, and beneath their now calmer exterior are, so worried.
It is possible that you were surprised to hear that the specialist deposit taker and lender to venture capital firms in so-called Silicon Valley, rather originally named ‘Silicon Valley Bank’ was the 17th largest in the USA. Ironically though, that name will now likely disappear.
