Cascading Black Swans – 2018

Space Shuttle Discovery LI-900 silica tiles – Hold on! It’s going to be a bumpy ride.

December 30, 2017

By Richard L. Wottrich, Senior Consultant, International Services 

There are shadows in 2018 that are contradictory.

Central banks are turning off the stimulus spigots at an excruciatingly slow pace. Yet the entire U.S. yield curve is flattening and a steep credit market correction is in the cards. A Danish energy company just issued a 1,000-year bond with a maturity date of 3017, and some corporations are selling negative interest rate bonds. Global stock markets are at record highs, yet extraordinarily low volatility across most asset classes belies investor worries.

Total global debt has topped 325 percent of total GDP as government sovereign debt jumps past $63 trillion [Pew Research Center analysis of International Monetary Fund data]. China’s shadow banking assets grew more than 20 percent in 2016 to 64 trillion yuan ($9.8 trillion), equivalent to 86.5 percent of GDP. The U.S. unemployment rate has fallen to a 50-year low, yet wages have hardly budged.  And Congress just passed a corporate tax bill that blows a hole in the U.S. budget.

Yet no one seems to be concerned. As Alfred E. Neuman said, “What me worry?”

What are the “Black Swan” risks and events that could cause this ‘Alice in Wonderland’ world to collapse. Or is that just foolish worry. Has exploding technology taken the risk out of humanity’s endeavors? This is our take on plausible Black Swan risks on the horizon.

Electromagnetic Pulse (EMP) Event 

Governments are concerned about North Korea’s burgeoning nuclear weapons program. We however are far more concerned about their ability to create an EMP event, which would detonate a nuclear device in the atmosphere over the United States. This would cause catastrophic damage to the nation’s electricity grid and server farms, resulting in long-term, national power and Internet outages.

You will note that North Korea’s recent intercontinental missile tests go far higher than necessary to deliver a conventional nuclear weapon. But they are just right to deliver an EMP device. North Korea famously has an almost nonexistent electrical grid, which means they are somewhat impervious to an EMP counter attack.

But such an EMP device need not reach the U.S. South Korea is the twelfth largest GDP in the world at $1.5 trillion. Exploding an EMP over Seoul would throw its economy into chaos and rock markets worldwide. Or detonating an EMP over Tokyo would throw the third largest GDP in the world into a tailspin that would demand an immediate counterattack by the U.S. We would be in world war three.

2018 Probability – .37%

Nano Drone Terrorism

The proximate cause of modern terrorism was the coupling of international commercial airlines and smart phones. Suddenly anything was reachable and possible.

Today we are facing the development of inexpensive Nano drones, posing the question, “How can military or security forces cope with swarms of tiny intelligent Nano drones skimming but inches above land or a body of water?”

Imagine if you will a barge loaded with ubiquitous yellow rubbish containers moving slowly up the River Thames through London. One of these containers could be filled with 500,000 Nano insect drones. At an appointed time, a terrorist utilizing a GPS controller and a cell phone could remotely activate aerosols that fill the container with Anthrax spores. The container top could then be opened remotely as the Nano insect drones are activated. With a light wind blowing the Nano cloud of drones could be widely dispersed across London. Even if just five percent of the drones find human targets the potential for 25,000 drone disease agents making contact in a densely populated city is quite high. This is the unknown danger of drone technology in the wrong hands.

2018 Probability – .50%

Tactical Nuclear Weapon Detonation

Pakistan today has the world’s fastest growing nuclear stockpile with over 100 nuclear weapons, according to a report published in 2015. The production of its nuclear stockpile has been associated with an unusual feature: most nuclear warheads produced by Pakistan in the last decade are thought to be low-yield tactical weapons.

It has been speculated for years that small tactical nuclear weapons could fall into the hands of terrorists. Pakistan has faced some devastating attacks on its defense apparatus by jihadists in the past decade or so. This internal chaos, coupled with perpetual tensions with its eastern neighbor, India, makes Pakistan the most dangerous Black Swan in the world.

A tactical low yield nuclear weapon could, for example, be smuggled aboard a freighter and then detonated five miles offshore of Tel Aviv. Estimated casualties could be as high as 10,000, plus the dynamic effects of a tsunami battering 50 miles of coastline. What could we expect Israel to do in retaliation?

2018 Probability – .75%

These examples are just riffs on the theme of terrorism. The fact is, most Black Swan events are unimagined, or as Donald Rumsfeld famously said, “Unknown unknowns.” And more disturbingly, most Black Swan events are the culmination of an unimagined series of unrelated events that cascade into catastrophe.

Cascading Black Swan Events

Imagine a unique electrical vault failure under Manhattan that shuts down electronic trading on Wall Street. North Korea, sensing an opening, triggers an EMP event over Tokyo that shuts down Japan’s electrical grid for 48-hours. While losses cascade across global markets, credit markets freeze up, causing most trading floors to shut down. Now enters the unknown unknown – Iran decides this is a good time to drop a nuclear weapon on Israel. Armageddon.

Farfetched? Perhaps. But in order to plan for unforeseen Black Swan events we need to first imagine them:

  1. Include rather than exclude.
  2. Accept that the improbable will occur, and that the effects may be wide-reaching and not now fully understood.
  3. Understand as much as possible about the conditions under which these improbable effects will become visible.
  4. Define those conditions where cascading effects will occur – trace these linkages through the social fabric to know where the breaks will occur – especially when the impact seems minor at first, so that you can identify it as early as possible
  5. Be alert to gathering evidence that the situation is growing much worse very quickly in multiple areas.

Our Prediction 

Our prediction regarding possible cascading Black Swan events in 2018 is quite simple:

FED overshoots – ECB runs out of ammunition – China’s Shadow Debt crashes 

There you have it – Global Financial Meltdown.

2018 Probability – 5.00%

As Alice said in Alice in Wonderland, “I see nobody on the road.” The King replies, “I only wish I had such eyes; to be able to see Nobody! And at that distance too! Why, it’s as much as I can do to see real people,”

Richard Wottrich, Blog Author –