ONTONIX

Hidden fragility of corporations, markets and of the economy in general, is a result of rapidly rising and unmanaged complexity. There are many concurrent mechanisms which lead to increasing complexity. One may point out globalization, trading of sophisticated derivatives and speculation. However, a growing and healthy economy may also contribute to increasing complexity.

But what is complexity? Complexity is a function of interdependency and uncertainty. Systems such as corporations or markets may be characterized by hundreds or even thousands of interrelated parameters, forming huge networks in which information constantly flows in all directions. Quite often, this information is “fuzzy”, i.e. not precise, and the flow is chaotic. It is precisely due to the presence of uncertainty that highly complex systems are capable of delivering surprising behavior. This is why they are difficult to understand and manage. This is why with all things being equal a less complex system is preferable to a more complex one. A fundamental hallmark of highly complex systems - such as the “Too Big To Fail” corporations – is that they are inherently fragile. Corporations with a fragile structure can suddenly collapse without early warning and do so independently of the state of their finances. Precisely because excessive complexity is the source of structural fragility it is important to know measure and monitor complexity. Today this can be done for systems of corporations as well as for markets or nations.

Complexity cannot grow indefinitely. In fact, every system possesses the so-called critical complexity, in the proximity of which it becomes chaos driven, fragile and unpredictable. Therefore, it is undesirable for a business or a national economy to function close to this limit. Because of the existence of critical complexity, the value of complexity must be viewed not as an absolute measure but be confronted with this limit. The critical complexity of a system may be increased by structural changes or, for example, via mergers and acquisitions.

Complexity is a single number which provides a comprehensive measure of structural fragility of a corporation, a market or an economy. It is computed based on parameters which reflect the functioning of a given system. In the case of a corporation, financial statements provide a good starting point for measuring its complexity. When analyzing national economies, macroeconomic parameters are ideally suited for the purpose.

Complexity possesses the following important characteristics:

Rapid and uncontrolled rise in complexity is observed prior to a crisis or collapse.
Increasing complexity accompanied by the increase in critical complexity generally points to a healthy and evolving system or economy.
Rapid decrease in complexity generally points to an economy that is slowing down.
The magnitude of a crisis is proportional to the magnitude and rate of change in complexity.
Near-critical complexity corresponds to high risk of contagion, fast stress propagation and conditions of pronounced turbulence.
In absence of deliberate and piloted structural changes, increasing complexity reflects a state of intense interdependency, uncertainty and turbulence.
Highly varying complexity points to a situation of low stability.

Complexity-based fragility quantification focuses entirely on structural aspects not on financial performance. The current economic crisis has exposed the need to look not only at corporations but also at markets and national economies as interconnected and interdependent systems. A complexity-based systems approach may expose characteristics and properties of corporate and market dynamics that conventional techniques cannot.

The structural fragility of an economy is stratified into five levels.

(1) Very High: The economy has a weak structure. Exposure is very high. It is very difficult to make forecasts and define realistic goals. The system lacks resilience.

(2) High: The structure of the economy is fragile and difficult to steer. Exposure is high. It is difficult to make forecasts. Resilience is low.

(3) Medium: The economy has a moderately stable structure. Exposure is limited and forecasts may be attempted.

(4) Low: The structure of the economy is stable. Exposure is low and it is possible to make forecasts.

(5) Very Low: The structure of the economy is stable and controllable. Exposure is low.

A synthesis of structural fragility ratings is provided in the table below.

Fragility Rating	Structural Resilience	Exposure	Predictability
Very high	Very weak	Very high	Very low
High	Weak	High	Low
Medium	Moderate	Moderate	Moderate
Low	High	Low	High
Very low	Very high	Very low	Very high

Data Source

The present report is based on quarterly macroeconomic data published and available at the Eurostat website at the following URL:

http://epp.eurostat.ec.europa.eu/portal/page/portal/eurostat/home

The following macro-economical parameters have been incorporated in the analysis:

External balance of goods and services
External balance - Goods
External balance - Services
Gross value added (at basic prices)
Gross domestic product at market prices
Gross operating surplus and gross mixed income
Compensation of employees
Taxes less subsidies on products
Taxes on production and imports less subsidies
Final consumption expenditure
Individual consumption expenditure of general government
Final consumption expenditure of households
Household and NPISH final consumption expenditure
Final consumption expenditure of NPISH
Collective consumption expenditure of general government
Domestic demand
Final consumption expenditure of general government
Gross capital formation
Gross fixed capital formation
Changes in inventories
Changes in inventories and acquisitions less disposals of valuables
Acquisitions less disposals of valuables
Exports of goods and services
Imports of goods and services

Computational Method

The computation of structural fragility is based on the distance which separates a system from its critical complexity. The method, which is model-free, i.e. it doesn’t require the formulation of a mathematical model, has been developed by Ontonix and is proprietary.

How to read these graphs

The report focuses exclusively on structural aspects of a country’s economy. By structure it is intended the network of correlations between the above macroeconomic parameters. An example of such structure is illustrated below in Figure 1. The underlying idea is that the state of health (fragility) of a country’s economy is intimately related to the structure of the above mentioned data.

About Ontonix

Ontonix is the World's first company to have developed a technology to actually quantify and manage the biggest threat to a sustainable economy and global society - complexity. Complexity is rapidly increasing in all spheres of social life and constitutes a formidable source of fragility, exposure and inefficiency. Our goal is to make decision-makers aware of the fact that complexity can be measured, and managed. The vision we share is that through the use of our Internet-based Complexity Management Service, corporations and businesses worldwide will become less complex, hence more competitive, healthier and less fragile, contributing to a sustainable global economy and society.

Eurostat in Quantum4D

Users can now register to navigate Ontonix's models of complexity applied to EuroStat Data in Quantum4D.

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