The expansionist post war era has been characterised by the development of the FIRE economy (finance, insurance and real estate), with a greater and greater dependence on leveraged risk. A necessary consequence has been increasingly sophisticated mechanisms for operating at financially rarified levels far removed from any basis in real wealth. As the network of economic and financial connections has broadened exponentially, and become increasingly complex, greater attention had been paid to apportioning and diverting risk, and to anticipating and avoiding losses through insurance.
Insurance is the equitable transfer of the risk of a loss, from one entity to another in exchange for payment. It is a form of risk management primarily used to hedge against the risk of a contingent, uncertain loss…The transaction involves the insured assuming a guaranteed and known relatively small loss in the form of payment to the insurer in exchange for the insurer’s promise to compensate (indemnify) the insured in the case of a financial (personal) loss.
The use of, and dependence on, insurance has spread throughout society in developed countries, and has led to changes in the perception of risk. Rather than addressing risk directly through prudent behaviour or due diligence, risk management has become highly abstract. Being able to pay to officially offset risk can lead to the perception that risk has somehow disappeared. The supposed insulation, or buffer, adds to the comfort level of operating at high levels of leverage, in the same way that driving a vehicle with many safety features can lead to people driving more recklessly, because they feel more secure in taking risks they feel they control, or have paid to minimise. Continue reading “Risk Management And (The Illusion Of) Insurance”
People occasionally comment that we only consider the circumstances of the relatively wealthy in articles like, for instance, our Lifeboat Primer. It is true that by no means everyone can achieve the ideal circumstance of holding no debt, having cash on hand and having some control over the essentials of their own existence, however there are many other important factors in play that may decide the balance of advantage.
It seems important to consider explicitly the plight of those lower down the financial food-chain. The decisions people have to make will depend critically on their personal circumstances. However unfair it may be, all of us face constraints grounded in where we find ourselves in life, and we do not all have the same options available to us. This may seem overwhelmingly to favour the currently better off, but this is not always the case by any means. There are different ways of being well off besides the conventional monetary definition. Continue reading “The View from the Bottom of the Pyramid”
We have often said here at The Automatic Earth that there are many things that – still – function today, but once a trickle becomes a flood, will cease to function. Bank runs are the most obvious example – as soon as more than a handful of people withdraw their deposits, banks close their doors. Those who expect to be bailed out by deposit insurance are in for a nasty surprise, as deposit insurance won’t be worth the paper it’s written on in a systemic banking crisis. It’s all merely a confidence game in the first place – a mechanism to convince you that there’s actually nothing to worry about. If it worked there would never be any bank runs. However, if (when) the bluff is called, it will be game over. Continue reading “Trickles, Floods and the Escalating Consequences of Debt”