“The test of a first-rate intelligence is the ability to hold two opposing ideas in mind at the same time and still retain the ability to function.”
— F. Scott Fitzgerald
We do not often, or easily, think in terms of probabilities, because there are not many situations in which this style of thinking is useful. Probability theory is a marvellous tool for games of chance – such as spinning a roulette wheel. The structure of the problem is comprehensively defined by the rules of the game. The set of outcomes is well defined and bounded, and we will soon know which outcome has occurred. But most of the problems we face in the business and financial worlds – or in our personal lives – are not like that. The rules are ill-defined, the range of outcomes is wider than we can easily imagine and often we do not fully comprehend what has happened even after the event. The real world is characterised by radical uncertainty – the things we do not know that we do not know.
We deal with that world by constructing simplifying narratives. We do this not because we are stupid, or irrational, or have forgotten probability 101, but because story-telling is the best means of making sense of complexity. The test of these narratives is whether they are believable.
And this part, which reminds me of Nassim Taleb’s comments:
The rise of quantitative finance has led people to squeeze many things into the framework of probability. The invention of subjective or personal probabilities proved to be a means of applying a well-established branch of mathematics to a new range of problems. This approach had the appearance of science, and enabled young turks to marginalise the war stories of innumerate old fogies. The old fogies may have known something after all, however.