There is a final twist in this story of the dark side of integration and information. Fat tails and short minds can combine in uncomfortable ways. Myopia generates under-insurance against future risks, especially tail risks which seem remote. Yet, courtesy of integration, these tail risks may be on the rise. In other words, systemic risks may be rising at precisely the time societal insurance against these risks is most needed. Why institutions matter If so, then policymakers face a dilemma – catastrophe risk rising, but catastrophe cover falling. In these circumstances, the public good of system stability, locally and globally, socially and economically, may be at risk. How should policymakers respond? One response would be to turn the tide, reversing the paths of integration and information. Since the crisis, there have been some signs of just that. Chart 2 shows one measure of global capital market integration over the past century – the correlation between national saving and investment rates in a set of countries. A value of one signals financial autarky – countries fully reliant on domestic saving to finance investment. A value of zero signals perfect financial integration – countries financing local investment globally. For much of the 20th century, global financial integration, so measured, was very low. In the early 1980s, after decades of post-war financial liberalisation, this was seen as a “puzzle” (Feldstein and Horioka (1980)). Yet at precisely that point, the puzzle began to unravel. Correlations between national saving and investment began falling.

In particular, I wish to argue that the twin forces of integration and information may have increased the severity of the tail risks facing global systems, as recently evidenced by the global financial crisis. Insuring against those rising tail risks may call for a fresh policy response – for example, a strengthening of public policy institutions. Integration and systemic risk Consider first the relationship between integration and systemic risk. It is well-known that deeper integration of a network does not have a straightforward impact on its stability. Integration can be a double-edged sword – and the greater the degree of integration, the sharper this sword. This is sometimes known as the “robust-yet-fragile” property of connected webs (Watts (2002)). The intuition is beguilingly simple. Within limits, connectivity acts as a shock-absorber, a riskspreader. Links in the system act as a mutual insurance device as risk is distributed and diversified away. That results in connected networks appearing “robust” to shocks. But when shocks are sufficiently large, the same connectivity serves as a shock-transmitter. Risksharing becomes risk-spreading. Links in the system act as a mutual incendiary device as risk is amplified across the wider web. Connected networks become “fragile”. In short, connected networks tend simultaneously to be stable and unstable, calm and turbulent, robust-yet-fragile. They sit atop a cliff-edge, on one side of which are the sunny uplands of stability, on the other the stormy lowlands of fragility. The more connected and integrated the system, the more precipitate this cliff-edge (Acemoglu et al.