Stories like this about the sudden unwinding of the yen carry trade had me thinking.

Financial markets are some kind of dynamical system. This system has stable and unstable modes. Clearly, the unstable modes are best not to be touched, yet there are few (or not enough) regulations or systematic constraints to keep a path from falling into those.

Common experience from systems design seems to say that you have to be willing to give up some efficiency in exchange for stability. That’s why there are currency pegs (or trading bands), reserves ratios, and interest rate targets. But these are too crude. There needs to be systematic tools in all markets to damp system dynamics to a time constant on the same order as that of economic reality. You cannot have capital flooding in and out of markets and currency flooding in and out of countries at rates that cannot be absorbed or sustained by the national economies. Sure, that is “efficient”, but it also makes no sense. This is the point at which free market and market efficiency fundamentalists need to take a step back and look at the big picture and see where they are so obviously wrong.