Can quantum computers predict financial crises?

One of the reasons for the excitement around quantum computing is the hope that it will spawn the creation of very powerful computers that can look far into the future. When or if that will happen is up for debate. Will the necessary technology develop rapidly or – like the energy of nuclear fusion – will the promise of useful quantum computers remain awfully close but just slightly out of reach? And even if we can build super-fast machines, will they be much better at predicting?

These are such difficult questions that perhaps to answer them we need a quantum computer. (This joke is an updated version of a remark by Robert Peel during an 1848 House of Commons debate on Charles Babbage’s Analytical Engine, in which he suggested that the apparatus “be set to calculate the when it would be useful”.)

Either way, the Bank of Canada is forging ahead regardless and recently hired quantum firm Multiverse Computing to investigate whether a quantum computer could predict a financial crisis in Canada. The only problem, according to Multiverse CTO Samuel Mugel, was that “the Canadian economy, in their view – and I hope it’s true – is too stable to have a high probability of financial crashes. So basically they said any financial crash that we predicted would probably be wrong.

In other words, the central bank was way smarter than any of these new quantum devices. But while this sounds like great news for Canadians, you don’t need a quantum computer to realize that the Canadian economy isn’t as stable as the bank thinks it is. And the reason has to do with another quantum technology – our financial system.

A math thing
The word “quantum” comes from the Latin for “how much”, which is what anyone says when they look at the price of a house in Toronto, Vancouver or just about anywhere in Canada these days – although ‘it is usually pronounced “How? ‘Or’ What a lot?”

The common story about house prices is that they are the inevitable result of supply and demand. Canada has a lot of immigrants, and they’re not building houses fast enough. As Finance Minister Chrystia Freeland explained in April 2022, “it’s just a math question, Canada has the fastest growing population in the G7.” Unfortunately, Freeland uses the wrong kind of math.

Demography only partly explains the growth in real estate prices. An international study found that “if population growth increases by one percentage point, house price growth increases by 1.4 percentage points”. In the five years from 2016 to 2021, Canada’s population grew by 5.2%, but house prices rose about 10 times in many cities.

So obviously something else is going on. And that thing is money creation by private banks.

As explained in my book Money, Magic, and How to Dismantle a Financial Bomb, which applies the tools of quantum probability to the financial system, money has a real/virtual dual nature and relies on a fuzzy and unstable link between value and the price. . In particular, money creation through lending is a dynamic process that can lead, through positive feedback, to rising asset prices. As the value of a “real” home increases, so does the amount of virtual money that can be created, but the two are still linked.

And a property of positive feedback is that it can work both ways – money (and value) can be destroyed as easily as it was created.

Since house prices in Canada have been rising steadily for about three decades, barely shaken even by the financial crisis of 2007-2008, most Canadians have become accustomed to the idea that prices can only go up. . After all, these immigrants need to live somewhere! But what is less often noticed is that mortgage interest rates have also seen a fairly steady decline over the same period.

This not only meant that existing mortgage holders saw their payments go down over time, but new buyers could afford to pay more for the same home.

As in many countries around the world, house price growth has been encouraged by government and central bankers as it serves as a partial substitute for real income growth. In July 2020, the Governor of the Bank of Canada, Tiff Macklem, even went out of his way to announce that: “Our message to Canadians is that interest rates are very low and will remain so for a long time.

If you have a mortgage or are planning to make a major purchase, or are a business and planning to make an investment, you can be sure that rates will be low for a long time.

Unfortunately, inflation – initially labeled as “transitional” – started to spike in 2021, then exploded higher, dragging interest rates down with it.

Housing bubbles are financial versions of runaway nuclear devices. We don’t need a quantum computer to tell us that the Canadian economy – like many others around the world – appears less stable than it has long appeared on the surface. But what needs a long overdue update is our financial mathematics.