Worth Thinking About

Mark Buchanan, a theoretical physicist, is the author of "The Social Atom: Why the Rich Get Richer, Cheaters Get Caught and Your Neighbor Usually Looks Like You". A former editor of Nature and now a columnist for Nature Physics, Buchanan writes about efforts to use physics concepts to understand dynamics of biology and the social sciences, and is at work on a new book about the physics of finance. He writes (8 April) on Blomberg HERE

“Economists Have a Lot to Learn From the Weather”

“Almost five years after a financial crash nearly thrust the world into depression, a peculiar paradigm still dominates economic thought.

Known as the neoclassical school, it aims to give Adam Smith’s notion of the invisible hand its mathematical form. It asserts that markets naturally seek an equilibrium that harnesses individual self interest to allocate investment capital in an optimal way. Even if that perfectly efficient ideal is never reached, the logic goes, markets work better insofar as they approach it.

Anyone who thinks our recent financial travails would have discredited this vision is underestimating the mental inertia of theoretical economics. To this day, the Federal Reserve and the European Central Bank go right on making plans using so-called general equilibrium models of the economy. In these models, financial firms don’t exist, asset bubbles are inconceivable and there’s no such thing as an international market in derivatives -- despite the obvious reality of one with a total notional value of around $700 trillion.

The economics profession hasn’t tried too hard to develop more realistic alternatives. But history tells us they can be found. In the 1950s, even as economists lashed themselves to the mast of equilibrium thinking, scientists studying the movement of air in the atmosphere turned in a very different direction.

Dominant Paradigm
How does air move around the planet? Back in 1735, an English lawyer and amateur scientist named George Hadley suggested a model that became the dominant paradigm: Warmer air near the equator should rise skyward, flow toward the poles in the upper atmosphere, and then descend and cool near the poles, afterwards flowing back toward the equator at the surface.

This balanced equilibrium explained many observations, such as the trade winds -- steady westerly flowing winds near the equator -- on which navigators had depended for centuries. Indeed, Hadley’s balance was so satisfying that it took about a century for scientists to notice that it was mostly wrong, or at least seriously incomplete.

In fact, the looping flow Hadley described stretches only from the equator out to about 30 degrees latitude -- that’s around Florida in the northern hemisphere, and South Africa in the southern. In the mid latitudes beyond, there’s no stable balance, but ceaseless change, storms and weather fronts, meandering cyclones and anti-cyclones.

The basic story identifying the source of all this turbulence emerged only in the 1950s … The weather is a tough problem, because nothing in it can be reduced to a state of balance or equilibrium (as a simple atomic nucleus can). Therein lies the key insight for atmospheric flow.

Storms and weather fronts aren’t accidental and unimportant “details” of the atmospheric flow at all. They are central to the way the Sun’s energy, once absorbed on Earth, flows about the planet. … Ultimately, this phenomenon, arising from something called baroclinic instability, creates large swirling vortices of air that drift through the middle latitudes, transporting huge quantities of heat and water all over the planet, and causing our unpredictable weather.

No mathematician can “solve” the complex equations for air in the atmosphere. … I]n 1955 … Norman Phillips used an early computer to simulate a virtual atmosphere based on a crude approximation of the equations of fluid dynamics. …

The simulation, which took 12 hours to run, showed that baroclinic instability really does account for the fundamental character of atmospheric flows. Stable flows always fell apart, creating cyclonic storms and weather fronts just as we see.
It’s natural to wonder if a similar mechanism might be driving the financial crises and business cycles that typify the economic “weather” we’ve experienced over the centuries. Unfortunately, today’s equilibrium theories refuse to entertain the possibility.

… One year before Phillips’ experiment, economists Kenneth Arrow and Gerard Debreu offered mathematical proofs that an abstract market model really does have an equilibrium with certain “optimal” properties. Yet when studies in the 1970s found that this equilibrium is generally unstable -- and so should tend to fall apart just like Hadley’s looping flow -- theorists for the most part simply ignored this inconvenient fact and went on as before. Most still do.

American economist Milton Friedman set the tone. “The study of the stability of general equilibrium is unimportant” because “it is obvious that the economy is stable,” he was quoted as saying. … I’m not sure [Friedman] really believed what he said. But most economists today act as if they do.

This is too bad, because a focus on the origins of instability just might help financial economics achieve a conceptual liberation akin to that which atmospheric scientists achieved in the 1950s. Economists might come to accept that equilibrium doesn’t describe everything, or even very much, and that natural elements of instability and turbulence drive the outcomes that matter most.”

Comment
I long since ceased believing in “equilibrium” economics. Even Adam Smith is alleged to have believed in equilibrium economics, though the evidence is muted, and if he did believe it in the abstract, he did not describe it in practice. He was a long way from Pareto’s Welfare theorems and Debreu’s General equilibrium (Mark Blaug) and he described a British economy that was also a long what later economists called ‘perfectly competitive’. For Smith, a freer economy compared to the existing mercantile economy, was an aspiration, not a description of reality. He described “market” prices (“the central price”) “continually gravitating” towards “natural” prices, and “continually tending towards it”, either from above or below them (WN I.viii.15: 75).

But this is a long way from the real economy generating equilibrium in all markets for all commodities. Modern economics aspires to scientific rigour, but fails because it treats economic variables as well behaved, when in practice they are anything but well behaved or mathematically predictable. Our universities turn out economists who are brilliantly conversant with a model economy that does not exist, and, sadly, are often woefully ignorant of the real world (bang goes some more Christmas lists that I am dropped from).

I am mindful of reading a book in the 1960s by Norman Macrae of The Economist, called "Sunshades in October" (I think) which captured the errors of government economists at the time. Follow the link for Mark Buchanan's full argument.

“Do economists know any more than us? ~ No damn way!”

Kevin McKern of Ashfield, New South Wales, writes News Kontent and posts a long piece by Nick Fraser who asks and answers: “Do economists know any more than us? ~ No damn way!”

It is a most informative article with which I agree (well, most of it). It is not a rant, nor the meanderings of someone ignorant of the subject. It is a considered exposition on the state of our subject. Nick clearly is very familiar with the state we economists are in, brought to the fore by the vapid response of the profession to what is going on.

Frankly, no one seems to have a clue, and governments are thrashing about trying to appear in charge. I strongly recommend that you follow the link HERE: and read the whole piece – it’s rather long but never loses its tempo.

I just wish one of our noisy academic media types (you know of whom I speak) would write so honestly of the fine mess that modern economics has brought us to.

Be clear, economists are not the cause of the crisis; they are just too damn silent about the failure of their certainties about their so-called ‘hard science’, superiority over other social sciences, and their right to sit (well paid and pensioned) near the centre of decision-making, whether in corporate enterprise or Big Government and its international agencies.

For a taster, here is a sort of postscript:

‘What we now suffer in economics is a hardness of intellect, a meanness of spirit, a narrowness of vision and a rigidity of thinking that utterly distorts the role of what economics in our society should be. Instead of economics being our tool for societal advancement, happiness, health, and sustainability, the profession has lost its way in econometrics, neo-liberal cant and equlibrium theory. It has become little more than cheerleaders to our enslavement to a towering edifice of debt, consumption and greed and the mouthpiece of vested interests. Unless repudiated we face not only economic but soceitial and ecological collapse.’

To which I am tempted to add: ‘Amen’.

Non-History of a Famous Economist

Politonomist - Kelowna,B.C.,Canada, writes “A History of Famous Economists”, HERE:

“1776 marks the beginning of what most consider to be the birth of economics - the legendary Scottish Adam Smith publishes his lassiez-faire-supporting-invisible-hand-equilibrium work, An Inquiry into The Nature and Causes of the Wealth of Nations - colloquially known simply as, The Wealth of Nations. The work is unquestionably canonical in economics, so much so that one economist we interviewed bravely claimed “it’s more important than the Bible; even to non-economists!”

Smith, in the Wealth of Nations proposed a disproportionate number of ideas about the organization and performance of markets that survive today - nearly 300 years later, and an economic revolution or two after the publication. The concept of an “invisible hand,” which Smith barely even mentioned in his book, is widely associated with the text and Adam Smith himself. The invisible hand referred to the market structure that simply appears to organize itself, and, furthermore the simple organization of a market, even after a catastrophic or unexpected economic crash - generally returning itself to pre-disasterous state with no intervention by a greater body, whatsoever.

The book is a difficult read for modern economists, so much of the knowledge extracted from it is passed along to future economists through other, more modernized theories. At the time, there was no field of economics, there was no conception of “capitalism,” and feudalism was still a rampant force leftover from the middle ages in Europe. Much of what is discussed in the book makes very little sense in a modern context - but still, the concept of an equilibrium market, where various negative forces may be applied, generally from interventionism and negative economic situations, holds strong to this day.

Many economists question whether classical economics is truly the foundation for neoclassical economics based on a number of common rejections - particularly the development of Smithian value theory, where a distinction is made between market price and natural price. If, for example, neoclassical economics is the current development of classical economics - when did each start and end? Economic historians do clearly define these periods, focusing on the response to other rejections, as we do here."

Comment
Parts of this summary are almost correct; others are not correct at all.

“Adam Smith publishes his lassiez(sic)-faire-supporting-invisible-hand-equilibrium work, An Inquiry into The Nature and Causes of the Wealth of Nations”

Smith did not support ‘laissez-faire’, nor did he express an “invisible-hand-equilibrium work” (wrong on both the “invisible-hand” and on “equilibrium”).

Wealth Of Nations is not “a difficult read for modern economists”, unless they are illiterate. True, it is a different read to the common modern textbook because it is not an economic textbook.

“The concept of an “invisible hand,” which Smith barely even mentioned in his book, is widely associated with the text and Adam Smith himself. The invisible hand referred to the market structure that simply appears to organize itself…”

The invisible hand was not a concept – it was a metaphor – used only once in Wealth Of Nations, which at a stretch could be deemed to be “barely even mentioned”, though why “Politonomist” doesn’t just say “once” is surprising.

The invisible hand metaphor when used once by Smith did not refer to “market structure” at all, nor was it about a structure that “appeared to organize itself”. If anything it conformed to the arithmetic rule that the ‘whole is the sum of its parts’.

Smith’s writing on markets did not have “the concept of an equilibrium market”; it noted that the market price would ‘gravitate towards' natural price, sometimes undershooting, sometimes overshooting which is not an equilibrium. Prices are determined by the ‘higgling and bargaining’ of real people who are not governed by pure rational thinking – that’s why they ‘higgle and bargain’!

“Much of what is discussed in the book makes very little sense in a modern context” can only be believed if the author does not realize what the Wealth Of Nations was about.

Much of what Smith wrote about is still with us – the damaging role of the State in a commercial economy, when its legislators and those who influence them were guided by false doctrine of ‘mercantile political economy ‘ (still with us!), monopoly practices (still with us!), tariff protectionism (still with us!), problems of balancing the needs of public expenditure and the ability to bear taxation (still with us - perhaps even worse today!), wars for unimportant ends (sometimes still with us!), and meddling and unnecessary interventions in micro-management of people’s lives, under the influence of politicians (still with us, only more so!).

It is not clear what is meant by “the development of Smithian value theory”.

If it is meant to be the distinction Smith draws between ‘natural and markets prices’, then this may misunderstand what Smith was on about; basically the difference between how buyers and a sellers observe their interests to the value in exchange – buyers are not interested in a seller's costs, only in price; sellers are interested in their costs because price must cover their costs plus a profit.

If it is about Smith’s theory of exchangeable value, this is probably the most misunderstood element of Wealth Of Nations, mixed up as it often is with a supposed Labour Theory of Value, which Smith did not extend to commercial society because of the role of property once mankind left the forests.

Adam Smith cannot be understood by reading modern accounts of what he is supposed to have written, plus quotations from him at second, or tenth, hand, often out of context.

Politonomist should, I respectfully suggest, read Wealth Of Nations (and Lost Legacy).