Thursday, January 13, 2011

People on Wobbly Bridges

This article essentially relates the Millennium Bridge incident to the behavioral aspect of we the human beings and relates it to aspects of behavioral finance. A nice read to go through, I enjoyed reading it.

London Millennium Footbridge , was inaugurated by Queen Elizabeth on June 10, 2000 . On that day the bridge was included in a charity walk on behalf of “Save the Children” . Approximately 90000 people were participating in the walk and were eager to be among the first ones to step on this engineering marvel. Design of this bridge was result of a competition organized in 1996 , inviting everyone to  come up with a design which would mark the beginning of the new millenium . The winning entry was an innovative “blade of light” design, not very different from the ones seen in movies like Star Wars. The construction began in 1998 and two years and 18.5 million pounds after, it was opened for public use. Before the bridge was opened, designers hailed it as “a pure expression of engineering structure” and engineers called it “an absolute statement of our capabilities at the beginning of the 21st century.”
But what transpired on the opening day proved to be an eloquent argument for the  need to assimilate  human behavior in to any design, be they engineer structures, regulatory frameworks of markets, social networks, curriculum design in educational institutions etc. This might seem a bit farfetched; however I hope to present a convincing argument to prove my point using the example of Wobbling Millennium Bridge.

Here is what happened: close to 90000 people crossed the bridge that day, approximately 2000 people walking on it at any given point of time. Within minutes of official opening, the footbridge started to vibrate and sway alarmingly, forcing some pedestrians to clutch the railings. Authorities closed the bridge for the day. Next day when it was reopened, with a strict limit on number of pedestrian crossing it at the same time, it began to shake again. The bridge was shut again. It was reopened two days later but with the same result, and the source of wobble a mystery, the bridge was closed for indefinite period.
A few suspected the foundation of the bridge, others an unusual pattern of air. But the real problem was “positive feedback phenomenon” also known as Synchronous Lateral Excitation. When hundreds of people streamed over the bridge, the bridge began to sway just slightly. To adjust to this slight swaying motion of the bridge, people adjusted their gait, walking like ice skaters, planting their feet wide and pushing out to side with each step, left-right-left in near perfect unison. This is the basic way human maintain their balance. It is achieved by changing the position of foot placement for each step, based only on the final displacement and speed of the centre of mass from the previous step. The initial slight wobbling of the bridge forced the pedestrian to alter their gait to achieve balance and all began walking in unison, transferring further energy to the swaying motion of the bridge. Naturally swaying motion of the bridge intensified.
What does it have to do with financial markets or curriculum designs of educational institutes? Most of the time markets are calm, transactions are orderly and participants can buy and sell in large or small quantities without affecting the market. But when the crisis hits, the biggest players – banks, hedge funds, financial institutions-rush to reduce their exposure. Buyers disappear. Where previously –before the crisis- there was diverse views on the movement of the market, suddenly one finds almost perfect unanimity, everybody’s moving in lockstep. This process becomes self enforcing. All the virtuous elements of the market – diverse points of views, large number or buyers or sellers- disappear. Like pedestrians on the bridge everyone adjusts to the swaying motion of the market by moving in lockstep.
Though the movement of pedestrian on the bridge is biological phenomenon , to regain balance on the swaying bridge pedestrians had to adjust their gait in similar ways, however disappearance of diverse views in markets has cognitive and psychological aspects.
On calmer days, ostensibly, diverse viewpoints are present in the market but their origin has less to do with genuine difference of opinions and more to do with difference in risk appetite of participants. Hedge funds typically have higher tolerance for risk as compared to a commercial bank. However the theory being used to measure the risk by different participants is almost the same. Almost similar assumptions underlie the models of investment used by all market participants.
The reason of small clutch of theories being used by all participant, stem from the curriculum design of the educational institutes. Most institutes recommend and use same text books to students for the fear of being labeled as inferior to other institutes. What follows is the classic case of regression to the mean. Each institute compares it’s curriculum with other institutes. And industry professionals while interviewing a prospective employee , ask questions based on the theories and model they studied during their student days, which in the case of finance has barely changed in last two decades. Other management disciplines like marketing and branding do not really fare any better.
So financial market participant while measuring the risk, essentially use the similar theories and models, therefore risk assignment to various scenarios is more or less the same, but the risk appetite may differ. From here it doesn’t take much to understand why market participant begin behaving like a herd at the first whiff of crisis. What we really need is the encouragement for diversity of opinion at school and college levels. The best bet for stability is simply the presence of different opinions on the same set of events and information.
Anand Mishra
Assistant Professor