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The Custom-to-Failure Cycle

Steven L. Schwarcz

Duke University School of Law

Lucy Chang

affiliation not provided to SSRN

December 21, 2012

Duke Law Journal, Vol. 62, No. 3, 2012

In areas of complexity, people often rely on heuristics — by which we broadly mean simplifications of reality that allow us to make decisions in spite of our limited ability to process information. When this reliance becomes routine and widespread within a community, it can develop into a custom. As long as such a heuristic-based custom reasonably approximates reality, society continues to benefit. In the financial sector, however, rapid changes in markets and products have disconnected some of these customs from reality, leading to massive failures; and increasing financial complexity is accelerating the rate of change, threatening future failures. We examine this “custom-to-failure cycle,” considering how law can help to manage the cycle and mitigate its failures. In that context, we also analyze whether individuals and firms who follow heuristic-based customs should be subject to liability if the resulting failures harm society.

Number of Pages in PDF File: 29

Keywords: market risk, value at risk models, rating agencies

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Date posted: August 4, 2012 ; Last revised: December 28, 2014

Suggested Citation

Schwarcz, Steven L. and Chang, Lucy, The Custom-to-Failure Cycle (December 21, 2012). Duke Law Journal, Vol. 62, No. 3, 2012. Available at SSRN: http://ssrn.com/abstract=2122467

Contact Information

Steven L. Schwarcz (Contact Author)
Duke University School of Law ( email )
210 Science Drive
Box 90362
Durham, NC 27708
United States
919-613-7060 (Phone)
919-613-7231 (Fax)
Lucy Chang
affiliation not provided to SSRN
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