Extreme Events in Finance

Chapter 26Bounded Rationalities, Routines, and Practical as well as Theoretical Blindness: On the Discrepancy Between Markets and Corporations

Laurent Bibard

Management Department, ESSEC Business School, Cergy Pontoise, France

26.1 Introduction: Expecting the Unexpected

The 2008 subprime crisis abruptly awakened people as well as specialists about the dangers and vulnerability of the financial market. People had forgotten about the difference between risk and uncertainty as the economist Knight understood it. Knight posits that whereas risk may always be evaluated, even though most often only on the basis of probabilities, uncertainty cannot be evaluated and measured (Knight, 1921). Actually, nowadays, uncertain situations have become normal, and managing (in) the unexpected has become quite ordinary. Indeed, people need to learn again how to manage the unexpected (Weick and Sutcliffe, 2007). The real truth is nevertheless that the economic and financial world has never been only a risky world but always an uncertain one. The 2008 financial crisis surprise is not due to something that might have changed suddenly in the daily business life; on the other hand, people were quite naïve about it. The problem is in the human belief that the world can be totally measured, evaluated, and predicted. Such a belief favors potential crises, such as the 2008 one.

In his book Risk, uncertainty, and profit, Knight (1921) distinguishes between risk and uncertainty. Risk characterizes situations ...