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The Skin In The Game Heuristic for Protection Against Tail Events

Author

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  • Taleb, Nassim N.
  • Sandis, Constantine

Abstract

Standard economic theory makes an allowance for the agency problem, but not the compounding of moral hazard in the presence of informational opacity, particularly in what concerns high-impact events in fat tailed domains (under slowness of convergence for the law of large numbers). Nor did it look at exposure as a filter that removes nefarious risk takers from the system so they stop harming others. (In the language of probability, skin in the game creates an absorbing state for the agent, not just the principal). But the ancients did; so did many aspects of moral philosophy. We propose a global and morally mandatory heuristic that anyone involved in an action which can possibly generate harm for others, even probabilistically, should be required to be exposed to some damage, regardless of context. While perhaps not sufficient, the heuristic is certainly necessary hence mandatory. It is supposed to counter voluntary and involuntary risk hiding — and risk transfer — in the tails. We link the rule to various philosophical approaches to ethics and moral luck.

Suggested Citation

  • Taleb, Nassim N. & Sandis, Constantine, 2014. "The Skin In The Game Heuristic for Protection Against Tail Events," Review of Behavioral Economics, now publishers, vol. 1(1-2), pages 115-135, January.
  • Handle: RePEc:now:jnlrbe:105.00000006
    DOI: 10.1561/105.00000006
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    Cited by:

    1. Ángel Estrada & Christian Castro, 2021. "Function and application of the new macroprudential tools available to the Banco de España," Financial Stability Review, Banco de España, issue Spring.
    2. Teh Tian Huey & Daniel Chin Shen Li, 2016. "Measuring bank risk-taking behaviour - The risk-taking channel of Monetary Policy in Malaysia," IFC Working Papers 16, Bank for International Settlements.
    3. Friesz, Melinda & Váradi, Kata, 2023. "Your skin or mine: Ensuring the viability of a central counterparty," Emerging Markets Review, Elsevier, vol. 57(C).
    4. Emily Skarbek, 2014. "The Chicago Fire of 1871: a bottom-up approach to disaster relief," Public Choice, Springer, vol. 160(1), pages 155-180, July.
    5. Mueller, Paul D., 2021. "Adam Smith on moral judgment: Why people tend to make better judgments within liberal institutions," Journal of Economic Behavior & Organization, Elsevier, vol. 184(C), pages 813-825.
    6. Ángel Estrada & Christian Castro, 2021. "Function and application of the new macroprudential tools available to the Banco de España," Financial Stability Review, Banco de España, issue Spring.
    7. Bent Flyvbjerg & Alexander Budzier & Daniel Lunn, 2021. "Regression to the tail: Why the Olympics blow up," Environment and Planning A, , vol. 53(2), pages 233-260, March.
    8. Gaute Wangen, 2015. "Conflicting Incentives Risk Analysis: A Case Study of the Normative Peer Review Process," Administrative Sciences, MDPI, vol. 5(3), pages 1-23, July.
    9. Teh Tian Huey & Daniel Chin Shen Li, 2017. "Measuring bank risk-taking behaviour: the risk-taking channel of monetary policy in Malaysia," IFC Bulletins chapters, in: Bank for International Settlements (ed.), Statistical implications of the new financial landscape, volume 43, Bank for International Settlements.
    10. Phillips, Emir & Desmoulins-Lebeault, Francois, 2018. "An FSB board member can better align corporate governance with SIFI sustainability," The Quarterly Review of Economics and Finance, Elsevier, vol. 70(C), pages 112-120.

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