April 2, 2013

The Good, The Bad, the Optimally Efficient in a Given Environment Subject to Change

This is a guest post today from our friend "Blue". Enjoy!

Economists are often accused of physics envy. This is likely valid. Often the alternative suggested is meteorology, implying a limited capacity to forecast the future. That may be a useful perspective as well, but I’d like to suggest a better, and what I consider more realistic, academic brother: genetics.

Like the economy, genetics is concerned with the survival of entities in a competitive environment. They both attempt to explain the behavior of those entities in terms of what is efficient or useful for their success. They both use lots of statistics and game theory, so at minimum you know they are fun.

Let’s back up, dear reader, and discuss the motivation for this discourse. Many economists believe that what economists are doing is describing inherent laws about the way exchanges work. The Austrians often call this “praxeology” which they roughly define as the deductive human behavior in exchanges (for “exchanges” think big markets where people are buying and selling stuff). Though they will say otherwise, the “human” part is not that all important. Rather the exchange itself gives rise to necessary actions a human must take. Thus the study of economics is, in their view, a study about the immutable characteristics of these markets, the laws that govern them and so on. We see when these exchanges/markets are functioning efficiently and say ‘this is good.’ Functioning well is good. The naturalness of it is right, it to behave as we are naturally intended to. While the Austrians are the easiest to pin down here, many, and in a way most, economists are sympathetic to this view, subconsciously if not explicitly. This is the physics envy, the aspiration of mathematical purity, the dogma.

Then there are the economists who say “whoa there buddy, ol’ pal, maybe it is not so immutable after all.” They suggest that perhaps the mathematical elegance of these endeavors should be put to the test. Let’s see how all that deduction matches up with the data, which is ultimately how physicists test their theories anyways. Of course it turns out most if not all of the theory is just awful at describing the real world. Capital flowing from poor countries to rich? Deregulation leading to more stability?

And these economists say, “well, maybe the immutable aspirations are a little too high, let’s just talk about what’s going on in the short run.” Here the models and theory are a little more useful. They seem to tell us how things work when everything is going fine, but of course they never see the crisis until it is upon us. Like meteorologists we know some immutable characteristics of what we are talking about, much as they know how high and low pressure systems will affect weather patterns, but when any specific storm will come is harder to say. This, to some extent is a legitimate aspiration for economists. Like detecting low pressure air, precipitation, temperatures, macroeconomists can say “ah, yes, look at all that accumulating debt, that hyper-inflated stock market and the exchange rate risk, a crisis is likely.” This seems to me useful. Though ultimately more art than science, it may at least have some claim to legitimacy. What is good then is nothing more than nice weather. We don’t want storms, we want pleasant skies and maybe the occasional breeze for kite flying.

But now, I’d like to turn to my proposal. Genetics. Why is this a better or more appropriate aspiration for economists? Let me first persuade you of its relevance. Both studies, economist and genetics, concern themselves with the dynamics involved in the competition of many heterogeneous entities in a given environment. Yes, genes look to replicate and businesses look to accrue profits, but exchange babies for wealth and we are starting to get there. Funny that both genes and socially constructed business strive for survival, immortality really, perhaps there is something philosophical to be said there, but I digress.

And what, then, if anything, can genetics teach economics? In genetics what is good in one environment may spell disaster in another. The march of evolution is not necessarily progress as much as it is adaptation. It’s contingent, conditional, contextual, the opposite of immutable. Indeed what evolution fosters is not necessarily good or bad; it simply creates utility at a given time and in a given environment. What is natural has no sanctity, it will save your life in the forest only to crush you on the grass lands. What is natural is neither good nor bad, it is simply happenstance, the accrual of millions of interactions between entities, their environment and randomness.

And so then the deep questions, the first principles of economics, are open once again for debate. What does a good economy look like? Just because something is good for an individual, does that necessarily mean it is good for society? What are meaningful metrics for these things (the average lifespan of a small business is 8.5 years)? Can a business live forever? What is similar or different about how humans and businesses interact with the giant, dynamic, evolving, idiosyncratic, instructionally contingent monetary environment we call the economy? Indeed.

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