Why Do Sovereign Borrowers Seek to Avoid Default? A Case of Self-Compliance With Contractual Terms.

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Every form of debt is typically a contractual agreement between a lender and a borrower. The former initially pays a money amount to the latter, the latter promises regular interest payments in the future (ct) for a certain time period (n years) and then return of the whole nominal value of the contract (C). This practically means that the owner of the contract (creditor) acquires a right on a future stream of payments and the contract a present value for the same reason. In a general case, the present value of the contract is given by the following formula (r is the discounting rate):

PV = ∑t=1n ct/(1 + r)t + C/(1 + r)n

Put simply, the equation gives the present value of the liability discounting all future anticipated payments. Default is by definition any ex post change in the stream of current and future payments on the debt contract. This change makes the contract less valuable to the creditor, reducing its present value for non-execution of the agreed payments.

In the case that the borrower is a private firm (or a household), law and related third party enforcers (including but not limited to the courts) guarantee the execution of the contractual terms. If the borrower in the international financial markets is a sovereign state, things are quite different as the third-party enforcement is typically futile. Sovereign borrowers may voluntarily choose to self-comply to the contractual terms; nevertheless, if not, there is no typical third-party enforcement on the international level. Even in the case that the debt contracts are subject to foreign law, the enforcement powers of the foreign courts are limited. The case of Argentina is indicative enough. As it is now well known and widely discussed, the court judgment of Thomas P. Griesa determined that the Argentine government should pay the holdouts pari passu despite the fact that the great majority of creditors had agreed to a restructuring. The decision had its results and triggered a new mini-default, but by no means could typically enforce a policy change to Argentina. In the relevant literature, this is usually called fundamental asymmetry of the sovereign debt market. In the mainstream misleading analytical context (where states, firms, and households are treated as coherent agents acting on a cost/benefit basis and pursuing the optimum position) the key question is the following: why do sovereign borrowers comply with the contractual terms much more often than expected?

Sovereign borrowers avoid default and self-comply with the contractual terms because the strategic benefits from a default do not exceed the anticipated losses. There is truth in this argument. For instance, a sovereign default would heavily affect the domestic financial system, which is usually not only exposed to domestic sovereign debt but would also face serious impediments in its organic connection to the international markets (in the case of a developed capitalist economy, this implies extra financial costs for the private sector and thus serious macroeconomic consequences for employment and growth). One should also take into consideration the economic and political consequences of a default, since negotiations with the creditors take considerable time. The list of cost/benefit analysis can be quite long, but this train of thought misses the crucial factor: the very nature of contemporary capitalist power.

Cost-benefit analysis takes a concrete form only within the contemporary context of capitalist power. International financial markets do not curtail the range of state sovereignty – they reshape the contour of capitalist power. Contemporary capitalism (the term “neoliberalism” is too restrictive to capture all its aspects) amounts to a recomposition or reshaping of the relations between capitalist states (as uneven links in the context of the global imperialist chain), individual capitals (which are constituted as such only in relation to a particular national social capital), and “liberalized” financial markets. This recomposition presupposes a proper reforming of all components involved, in a way that secures the reproduction of the dominant (neoliberal) capitalist paradigm. From this point of view, contemporary capitalism comprises a historical specific form of organization of capitalist power on a social-wide scale, wherein governmentality through financial markets acquires a crucial role. The new condition of governmentality (reproduction of capitalist rule) thus takes the form of a “state-and-market” type of connection. Regardless of the results of cost-benefit calculus, the organic inclusion of the economy in the international markets is a critical premise for the organization of capitalist rule. On the other hand, it is also clear that a recomposition of the relation to international markets (national self-sufficiency) can easily incite the most regressive and authoritarian forms of state governance, if it is not accompanied by a radical shift in the class relations of power.

Conjuncted: Gadamer’s Dasein

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There is a temporal continuity in Dasein. This is required for the revelation of a work of art through interpretation, both as understanding which already was, and as the way in which understanding was. Understanding is possible only in the temporal revision of one’s standpoint through the mutual relations of author and interpreter which allow the subject-matter to emerge. Here, the prejudices held by the interpreter play an important part in opening an horizon of possible questions.

Subsequent understanding that is superior to the original production, does depend on the conscious realization, historical or not, that places the interpreter on the same level as the author (as Schleiermacher pointed out). But even more, it denotes and depends upon an inseparable difference between the interpreter and the text and this precisely in the temporal field provided by historical distance.

It may be argued that the historian tries to curb this historical distance by getting beyond the temporal text in order to force it to yield information that it does not intend and of itself is unable to give. With regard to the particular text in application, this would seem to be the case. For example, what makes the true historian is an understanding of the significance of what he finds. Thus, the testimony of history is like that given before a court. In the German language, and based on this reason, the same word is used for both in general, Zeugnis (testimony; witness).

Referring to Gadamer’s position, we can see that it is in view of the historical distance that understanding must reconcile itself with itself and that one recognize oneself in the other being. The body of this argument becomes completely firm through the idea of historical Bildung, since, for example, to have a theoretical stance is, as such, already alienation; namely, dealing with something that is not immediate, but is other, belonging to memory and to thought. Moreover, theoretical Bildung leads beyond what man knows and experiences immediately. It consists in learning to affirm what is different from oneself and to find universal viewpoints from which one can grasp the thing as “the objective thing in its freedom,” without selfish interest. This indicates that an aesthetic discovery of a thing is conditioned primarily on assuming the thing where it is no longer, i.e., from a distance.

In this connection, we can extend critically Gadamer’s concept of the dynamism of distanciation from the object of understanding which is bounded by the frame of effective consciousness. This is based on the fact that in spite of the general contrast between belonging and alienating distance, the consciousness of effective history itself contains an element of distance. The history of effects, for Ricoeur, contains what occurs under the condition of historical distance. Whether this is either the nearness of the remote or efficacy at a distance, there is a paradox in otherness, a tension between proximity and distance which is essential to historical consciousness.

The possibility of effective historical consciousness is grounded in the possibility of any specific present understanding of being futural; in contrast, the first principle of hermeneutics is the Being of Dasein, which is historicity (Geschichtlichkeit) itself. In Gadamer’s view, Dasein’s temporality, which is the basis for its historicity, grounds the tradition. The last sections of Being and Time claimed to indicate that the embodiment of temporality can be found in Dasein’s historicality. As a result of this, the tradition is circularly grounded in Dasein’s temporality, while also surpassing its borders in order to be provided by a hermeneutical reference in distance.

We must study the root of this dilemma in so far as it is related to the sense of time. This is presupposed by historical consciousness, which in turn is preceded essentially by temporality. This inherent enigma in the hermeneutics of Dasein’s time led Heidegger to distinguish between authenticity and inauthenticity in our relation to time. The current concept of time can never totally fulfill the hermeneutical requirements. Ricoeur considered that time can be understood only if grasped within its limit, namely, eternity, but because eternity escapes the totalization and closure of any particular time, it remains inscrutable.

On the other hand, a text can be seen as temporal with regard to historical consciousness since it speaks only in the present. The text cannot be made present totally within an historical moment fully present-to-itself. It is in its a venir that the presence of the text transpires, which can be thematized as revenir (or) return.

Based on this aspect, each word is absolutely complete in itself, yet, because of its temporality, its meaning is realized only in its historical application. Nevertheless, historical interpretation can serve as a means to understand a given and present text even when, from another perspective, it sees the text simply as a source which is part of the totality of an historical tradition.

For Heidegger, the past character of time, i.e., the ‘pastness’ (passétité) belongs to a world which no longer exists, while a world is always world for a Dasein. It is clear that the past would remain closed off from any present were present Dasein not itself to be historical. Dasein, however, is in itself historical insofar as it is a possibility of interpreting. In being futural Dasein is its past, which comes back to it in the ‘how’. This is the ontological question of a thing in contrast to the question of the ‘what.’ The manner of its coming back is, among other processes, conscience. This makes clear why only the ‘how’ can be repeated. According to Ricoeur, history presents a past that has been as if it were present, as a function of poetic imagination. On the other hand, fictive narration imitates history in that it presents events as if they had happened, i.e., as if they occurred in the past. This intersection between history and fiction constitutes human time (le temps humain) whence an historical consciousness develops, where time can be understood as a singular totality.

Since the text can be viewed temporally, interpretation, as the work of art, is temporal and the best model for hermeneutical understanding is the one most adequate to the experience of time. Nevertheless, against Ricoeur, Gadamer found the identity of understanding not to be fixed in eternity. Instead, it is the continuity of our becoming-other in every response and in every application of pre-understanding that we have of ourselves in new and unpredictable situations. On this issue, it can be asked whether there is a way to reconcile Gadamer and Ricoeur on the issue of hermeneutical temporality.

The authentic source in the eternal return to Being can be discovered in Heidegger’s position: the eternal repetition of that which is known as that which is unknown, the familiar as the unfamiliar. The eternal return introduces difference which is disruptive to our conceptions of temporal movement. However, identity and difference must be destabilised in favor of the performance of a new concept of hermeneutics. In this a temporal event requires that one cross over to another hermeneutics of time that cannot be thought restricted only in temporalization since it is beyond when one begins. This concept is called by Heidegger the nearness of what lies after.

In addition, understanding is to be taken not as reconstruction, but as mediation in so far as it conveys the past into the present. Even when we grasp the past “in itself,” understanding remains essentially a mediation or translation of past meaning into the present situation. As Gadamer states, understanding itself is not to be thought of so much as an action of subjectivity, but rather as the entering into an event of transmission in which past and present are constantly mediated. This requires not detaching temporality from the ontological preconception of the present-at-hand, but trying to distinguish that from the simple horizon phenomenon of temporal consciousness. The event of hermeneutics never takes place if understanding is considered to be defined in the arena of the temporalization of time in the past in itself. 

Gadamer sees one of the most fundamental experiences of time as that of discontinuity or becoming-other. This stands in contrast to the “flowing” nature of time. According to Gadamer, there are at least three “epochal” experiences that introduce temporal discontinuity into our self-understanding: first, the experience of old age; second, the transition from one generation to another; and finally, the “absolute epoch” or the new age occasioned by the advent of Christianity, where history is understood in a new sense. 

The Greek understanding of history as deviation from the order of things was changed in medieval philosophy to accept that there is no recognizable order within history except temporality itself. (Nonetheless, the absolute epoch is not to be taken merely as similar to a Christian understanding of time, which would result in a technological conception of time in terms of which the future is unable to be planned or controlled.) The new in temporality comes to be as the old is recalled in dissolution. In recollection, the dissolution of the old becomes provocative, i.e., an opening of possibilities for the new. The dissolution of the old is not a non-temporal characteristic of temporalization.

High Frequency Markets and Leverage

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Leverage effect is a well-known stylized fact of financial data. It refers to the negative correlation between price returns and volatility increments: when the price of an asset is increasing, its volatility drops, while when it decreases, the volatility tends to become larger. The name “leverage” comes from the following interpretation of this phenomenon: When an asset price declines, the associated company becomes automatically more leveraged since the ratio of its debt with respect to the equity value becomes larger. Hence the risk of the asset, namely its volatility, should become more important. Another economic interpretation of the leverage effect, inverting causality, is that the forecast of an increase of the volatility should be compensated by a higher rate of return, which can only be obtained through a decrease in the asset value.

Some statistical methods enabling us to use high frequency data have been built to measure volatility. In financial engineering, it has become clear in the late eighties that it is necessary to introduce leverage effect in derivatives pricing frameworks in order to accurately reproduce the behavior of the implied volatility surface. This led to the rise of famous stochastic volatility models, where the Brownian motion driving the volatility is (negatively) correlated with that driving the price for stochastic volatility models.

Traditional explanations for leverage effect are based on “macroscopic” arguments from financial economics. Could microscopic interactions between agents naturally lead to leverage effect at larger time scales? We would like to know whether part of the foundations for leverage effect could be microstructural. To do so, our idea is to consider a very simple agent-based model, encoding well-documented and understood behaviors of market participants at the microscopic scale. Then we aim at showing that in the long run, this model leads to a price dynamic exhibiting leverage effect. This would demonstrate that typical strategies of market participants at the high frequency level naturally induce leverage effect.

One could argue that transactions take place at the finest frequencies and prices are revealed through order book type mechanisms. Therefore, it is an obvious fact that leverage effect arises from high frequency properties. However, under certain market conditions, typical high frequency behaviors, having probably no connection with the financial economics concepts, may give rise to some leverage effect at the low frequency scales. It is important to emphasize that leverage effect should be fully explained by high frequency features.

Another important stylized fact of financial data is the rough nature of the volatility process. Indeed, for a very wide range of assets, historical volatility time-series exhibit a behavior which is much rougher than that of a Brownian motion. More precisely, the dynamics of the log-volatility are typically very well modeled by a fractional Brownian motion with Hurst parameter around 0.1, that is a process with Hölder regularity of order 0.1. Furthermore, using a fractional Brownian motion with small Hurst index also enables to reproduce very accurately the features of the volatility surface.

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The fact that for basically all reasonably liquid assets, volatility is rough, with the same order of magnitude for the roughness parameter, is of course very intriguing. Tick-by-tick price model is based on a bi-dimensional Hawkes process, which is a bivariate point process (Nt+, Nt)t≥0 taking values in (R+)2 and with intensity (λ+t, λt) of the form

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Here μ+ and μ are positive constants and the functions (φi)i=1,…4 are non-negative with associated matrix called kernel matrix. Hawkes processes are said to be self-exciting, in the sense that the instantaneous jump probability depends on the location of the past events. Hawkes processes are nowadays of standard use in finance, not only in the field of microstructure but also in risk management or contagion modeling. The Hawkes process generates behavior that mimics financial data in a pretty impressive way. And back-fitting, yields coorespndingly good results.  Some key problems remain the same whether you use a simple Brownian motion model or this marvelous technical apparatus.

In short, back-fitting only goes so far.

  • The essentially random nature of living systems can lead to entirely different outcomes if said randomness had occurred at some other point in time or magnitude. Due to randomness, entirely different groups would likely succeed and fail every time the “clock” was turned back to time zero, and the system allowed to unfold all over again. Goldman Sachs would not be the “vampire squid”. The London whale would never have been. This will boggle the mind if you let it.

  • Extraction of unvarying physical laws governing a living system from data is in many cases is NP-hard. There are far many varieties of actors and variety of interactions for the exercise to be tractable.

  • Given the possibility of their extraction, the nature of the components of a living system are not fixed and subject to unvarying physical laws – not even probability laws.

  • The conscious behavior of some actors in a financial market can change the rules of the game, some of those rules some of the time, or complete rewire the system form the bottom-up. This is really just an extension of the former point.

  • Natural mutations over time lead to markets reworking their laws over time through an evolutionary process, with never a thought of doing so.

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Thus, in this approach, Nt+ corresponds to the number of upward jumps of the asset in the time interval [0,t] and Nt to the number of downward jumps. Hence, the instantaneous probability to get an upward (downward) jump depends on the arrival times of the past upward and downward jumps. Furthermore, by construction, the price process lives on a discrete grid, which is obviously a crucial feature of high frequency prices in practice.

This simple tick-by-tick price model enables to encode very easily the following important stylized facts of modern electronic markets in the context of high frequency trading:

  1. Markets are highly endogenous, meaning that most of the orders have no real economic motivation but are rather sent by algorithms in reaction to other orders.
  2. Mechanisms preventing statistical arbitrages take place on high frequency markets. Indeed, at the high frequency scale, building strategies which are on average profitable is hardly possible.
  3. There is some asymmetry in the liquidity on the bid and ask sides of the order book. This simply means that buying and selling are not symmetric actions. Indeed, consider for example a market maker, with an inventory which is typically positive. She is likely to raise the price by less following a buy order than to lower the price following the same size sell order. This is because its inventory becomes smaller after a buy order, which is a good thing for her, whereas it increases after a sell order.
  4. A significant proportion of transactions is due to large orders, called metaorders, which are not executed at once but split in time by trading algorithms.

    In a Hawkes process framework, the first of these properties corresponds to the case of so-called nearly unstable Hawkes processes, that is Hawkes processes for which the stability condition is almost saturated. This means the spectral radius of the kernel matrix integral is smaller than but close to unity. The second and third ones impose a specific structure on the kernel matrix and the fourth one leads to functions φi with heavy tails.

Mania of the Revisionary Narratives. Note Quote.

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For if Lacan is either symptom or agent of a theoretical turn, it is far from the “care of the self” imagined by this proposition because the French return to Freud explodes any ready notion of self-care. It also removes the props for identity politics. Poststructural psychoanalysis has been the key provocation of a turn to the identity-destabilizing work of the unconscious that, along with an unlikely ally in historicism, has galvanized the transition from transparent to unstable, internally divided, and overdetermined identity categories. The tense debates of the 1980s and 1990s between feminism and poststructuralism have without much fanfare yielded to a tacit consensus that, rather than invalidating politically engaged analysis, psychologically and historically mobile conceptualizations of gender make intellectual and political alliances possible across previously hostile discursive terrains. As self-difference opens the door to other differences, theorizations that emanate from one racial or sexual or class turf are more likely to provoke new questions than old accusations from competing grounds. We are just at the beginning of a generative process that encompasses not only the particularization that results from historical refinement and nuancing but also the elaboration of revisionary narratives: what happens when the dark plantation son retells the story of the primal horde, or when the racial shadow falls across the mirror stage, or the queer encounters and reforms the melancholic? Fracturing the subject has also poked holes in the walls that have divided psychoanalysis and history, launching a potentially interminable analysis.