Some say the root cause of the global financial crisis was a few regional financiers selling risky mortgages to poor people. How can that be? The subprime mortgage market is a fraction of the U.S. mortgage market, which is a fraction of the U.S. credit market, which is a fraction of the global credit market. How can defaults in a sub-sub-submarket destroy banks on two continents and send several countries to the brink of bankruptcy?

In his landmark analysis of the Three Mile Island nuclear accident, sociologist Charles Perrow argued that that meltdown was not caused by any particular component or operator failure. Rather, it was caused by a number of small component failures that interacted in unpredicted ways. Those failures ranged from a pressure-relief valve that didn’t reseat properly to a meter that gave deceptive information to some perceptual errors by operators.

If a system has high interactive complexity, then by definition it is hard to predict the impact of a particular action on other elements within the system. If the system is tightly coupled, to use Perrow’s terminology, an action at one point propagates rapidly throughout. Perrow argued that systems with high interactive complexity and tight coupling are more prone to systems accidents.

The financial sector meltdown in the fall of 2008 was a systems accident. However, rather than failures interacting, the byproducts... To read the complete article, login or sign-up using the form below.