Lars P. Syll — Ergodicity: a primer

Paul Samuelson once famously claimed that the “ergodic hypothesis” is essential for advancing economics from the realm of history to the realm of science. But is it really tenable to assume — as Samuelson and most other mainstream economists — that ergodicity is essential to economics?

Assuming ergodicity in economics limits the scope of the model pretty much to the conceptual world of the model. Since human beings not like atoms and are organized into complex adaptive systems subject to reflexivity and emergence, generalized behavior is observed to be non-ergodic. This implies that most approaches to econometrics are of limited scope, and if they representative of human behavior in society (the real world), it is with respect to special cases.

Moreover, scale counts. Micro economics could be more susceptible to analysis based on assuming ergodicity than macroeconomics. For example, it is typical in micro to model exclusively economic behavior that can be reduced to rational maximization of "utility." But how many issues in life fall into this category, especially at the macro scale? For example, the political process is replete with examples of voters voting against their economic interests as a class, presumably since non-economic values supervene in individual choices of similar demographic groups.

Lars P. Syll’s Blog
Ergodicity: a primer
Lars P. Syll | Professor, Malmo University

Lars P. Syll — The ergodicity problem in economics (wonkish)

Less wonkishly, the basic problem here can be viewed in terms of the logical fallacy of hasty generalization. Hasty generalization involves extending one's one's position, or that held by one's group, universally. In philosophy this result in claims of naturalism to humanity as a whole. For example, natural law is often reducible to a particular set of Western values that is generalized. The "laws" of economics are largely of this sort, and homo economicus as a rational agent that carries them out is basically a reflection of the economists that posited them, assuming all to be like them.

This fallacy has been a temptation from ancient times, but it culminated in the scientific age with the discovery of invariant laws of nature, in physics and astronomy in particular, in that these discoveries could be rendered universally using mathematical expressions. Subsequently, this formalism became a criterion of truth that prevailed for formalists above empirical observation. Owing to the success and prestige of the natural sciences, would-be scientists in other fields, and philosophers as well, sought to emulate the formalism of the natural sciences.

However, the great success of the natural sciences in discovering invariant lays in the ergodicity of the subject matter, which is rendered the mathematical expressions and formal models time-invariant. Lacking ergodicity of subject matter, this would not apply strictly. There is a significant difference between a general case and specific cases. In Economics Rules: The Rights and Wrongs of The Dismal Science, Dani Rodrik argues that of the art or craft of economics is being able to discern which model applies in which case. The natural sciences are not concerned with this kind of decision in the same way. There is a clear difference among theoretical science, experimental science, and engineering.

There is an old joke about some engineers and an economist shipwrecked with nothing to eat other than canned food. The engineers set about trying to figure out how to open the cans by applying their theoretical expertise and practical experience. The economist chimed with, "Let's just assume a can opener."

This actually happened in a less dramatic way. In effecting his synthesis of Keynesian and neoclassical thought, Paul Samuelson was confronted with Keynes having posited future uncertainty at the foundation of the "moral sciences," which we now call social science, including economics.

Samuelson solved the difficulty by assuming ergodicity as a methodological convenience for tractability, as had neoclassical economics in assuming equilibrium. This view became orthodox in conventional economics. The follow-up retort to heterodox objections then became, "The methodological debated is already settled." As Paul Krugman asserted, equilibrium and maximization as a framework.

This doesn't mean that economics or the other social sciences are not scientific or cannot be scientific. It just means that they are not the same as natural sciences and that making claims that approach this are unjustified.

Moreover, there is a difference between the meaning of being a science and being scientific. Being scientific just means observing the scientific method. Engineering is scientific in its approach, but this is applied science.

Being a science assumes a framework in terms of which theories can be compete. For example, the framework of physics includes the conservation laws, which are universal and independent. Of course, there is change over time in physics owing to motion and entropy, for example. But these phenomena are explained using models that data supports. The explanation (formula) is time-invariant, even though the data change.

Economics has no such framework, which is why there are competing views of how to approach economics in the first place. "The law of supply and demand" is not the same as the conservation laws in physics, and the assumption of equilibrium is not ergodicity.

Not being ergodic, economics is not a natural science, which is not the same as saying that economics cannot discover universal invariances that data support regardless of time series, economics, like the other social sciences, being historical. Moreover, social systems are complex adaptive system subject to reflexivity (learning from feedback) and emergence (change that is unforeseeable based on priors).

So the next time someone says, "Where's your model," ask them, "Which one?" 😀

Not one in business or finance takes forecasts as the same as or similar to the physics, and no one confuses weather forecasts to astronomical invariances. But economic forecasts and the reasoning which they are based are often treated as dogma in policy circles. That's a problem.

Lars P. Syll’s Blog
The ergodicity problem in economics (wonkish)
Lars P. Syll | Professor, Malmo University

Lars P. Syll — What is Post Keynesian Economics?

Paul Davidson's view.

Lars P. Syll’s Blog
What is Post Keynesian Economics?
Lars P. Syll | Professor, Malmo University

Math Problems

Assessing this is beyond my math chops to assess, but it is an interesting criticism of the use of math in economic by two math guys. 

Somewhat wonkish, but all verbal explanation. No math, although some familiarity with the context is required. Even without knowing the details, anyone should be able to catch the drift of these relatively short posts without being familiar with the references. 

The claim is that "mistakes were made."

Nassim Nicholas Taleb Blog
Inequality and Skin in the Game

Nassim Nicholas Taleb, scientific adviser at Universa Investments

This was posted in 2011 but it is still relevant.

Rick Bookstaber Blog
A Crack in the Foundation: An error that has wended its way through economics for 77 years

Rick Bookstaber | Research Principal in the Office of Financial Research

Lars P. Syll — What is ergodicity?

The post explains what this means.

Lars P. Syll’s Blog
What is ergodicity?
Lars P. Syll | Professor, Malmo University

Jason Smith — On the use of hypotheses: or, what do you get when you assume non-ergodicity?

Jason Smith replies to Lars Syll (and Paul Davidson).

What comes out of assuming ergodicity? All of basic thermodynamics and much of basic economics. If we assume economic (or thermodynamic) systems aren't ergodic -- what does that give us?

Essentially, assuming non-ergodicity is analogous to the assumption that I(A) < I(B) in the information transfer framework (ergoditicy is the assumption that I(A) ≈ I(B) ... the information in the two macro observable is the same, from which you can derive supply and demand). 

What can we get from the assumption I(A) < I(B)? Nothing. 

That is to say that while ergodicity is a useful assumption, non-ergodicity is a completely useless assumption. It doesn't prove that economies are quasi-periodic chaotic systems or that they are some other kind of complex system -- you need evidence for that! Show us a model that that is empirically successful. Or at least more empirically successful than assuming ergodicity.

Yes, that's a point that Keynes made and which Davidson and Syll elaborate:

Many thanks for sending me your article I enjoyed it very much. I am sure these matters need discussing in that sort of way. There is one point, to which in practice I attach a great importance, you do not allude to. In many of these statistical researches, in order to get enough observations they have to be scattered over a lengthy period of time; and for a lengthy period of time it very seldom remains true that the environment is sufficiently stable. That is the dilemma of many of these enquiries, which they do not seem to me to face. Either they are dependent on too few observations, or they cannot rely on the stability of the environment. It is only rarely that this dilemma can be avoided.
Letter from J. M. Keynes to T. Koopmans, May 29, 1941

Of course, that is a bit of a hand wave but Keynes is much more specific about it in other places. But the idea is that the basis for neoclassical assumptions is too non-representation of the subject matter to yield a useful methodology. Neoclassical methods are not useful for telling us what we really need to know, in particular for policy formulation. Keynes proposed a new economic method based on a monetary production economy in which money is non-neutral and uncertainty dominates.

Keynes was not only a theoretician but an economic "engineer" who are active in the world of policy at the time of the Great Depression and his ideas are credited with saving the day — other than by neoclassical economists that have sought to "correct" this, for which the world is now suffering another prolonged contraction.

In the Keynesian view, econometric models are essentially a waste of time. According to old Keynesians and Post Keynesians, Paul Samuelson "bastardized" Keynes by introducing key assumptions that Keynes specifically rejected.

In this view, macroeconometricians should be doing something else, like looking for types of models that actually are useful, like the stock-flow consistent approach developed independently by James Tobin and Wynne Godley, and set forth in Godley & Cripps, Macroeconomics (1983) and Godley and Lavoie (2007, 2nd ed. rev., 2012). See Lavoie (2010).

Information Transfer Economics
On the use of hypotheses: or, what do you get when you assume non-ergodicity?

Jason Smith

Peter Radford — Where’s the Structure?

This general perspective is why I abhor most economics. One of the most important aspects of reality economists have tossed overboard in their pursuit of perfection is the existence of structure. They ignore time and space. Or, rather, they abuse it. They compress it into nothing and thus absolve themselves of the task of explaining structure. They treat transactions with a disdain unbecoming to a science with transacting at its heart. They assume a weightless, frictionless, and certain coincidence of supply and demand that takes place outside of time and space. They ignore all the evidence of the need for structure because structure requires them to step back from their ideal and step within the complications of reality. And those complications, with uncertainty underlying them, are the root cause of structure. 

Order itself, of course, implies structure. And, in this case, structure is the transmitter of information. It is the origin of information. It is the end of information. Without structure there is no information for there is no way of telling one thing apart from another.
Yet economists pluck order from nowhere. It just appears. There are no processes, no spaces, no time elapses, no sources of potential disruption. It just appears. The information within the economy is assumed into place. It is dropped in situ all at once. It does not evolve, mutate, alter in any way. It just appears as if by magic. The props necessary for this magic are nowhere accounted for. And if, or when, they are encountered they too are assumed to be in place ready to play their role with their history or origin unquestioned. With reality so determinedly set aside most economics has no need of structure. There is no need of support to hold the edifice together because, well, it just is. 

So most economics cannot ever explain why an economy came to be. It cannot provide a history. It cannot account for change. It cannot explain difference. Economies, in the mainstream account, just appear. Most economics posits economies as being born miraculously without gestation, created as if by a divine hand, all magic and no substance. 

Then, subsequent to this magical appearance, economists settle down to explain the economy’s operation. But without, let me repeat, having any account of how it arose in the first place. The entire theoretical approach is a tautology.
All because they want to ignore structure and the reasons for structure. Which, in turn, they ignore because they assume away uncertainty [by imposing ergodicity, as Paul Davidson pointed out]....

Economics is not rocket science (ergodic). It's more like weather forecasting (chaotic), or evolutionary theory (complex).

The economics profession is divided into those who assume naturalism and ergodicity and those who assume historicism and institutionalism, which are subject to uncertainty, those who favor formalism and those who favor realism, those who favor mathematics and those who favor accounting.

Fundamentally the dispute is over methodology. The criterion for comparing theories is fundamentally pragmatic. Which is more useful in dealing with the uncertainty of the future by getting it more closely correct in retrospect as events unfold.

The Radford Free Press
Where’s the Structure?
Peter Radford

Lars P. Syll —Do people have rational expectations?

If we want to have anything of interest to say on real economies, financial crisis and the decisions and choices real people make [in a non-ergodic world not amenable to stochastic modeling], it is high time to replace the rational expectations hypothesis with more relevant and realistic assumptions concerning economic agents and their expectations.

The post shows why.

Do people have rational expectations?
Lars P. Syll | Professor, Malmö University

Paul Davidson — What is Post Keynesian Economics?

Paul Davidson summarizes PKE.

PKE rejects ergodicity, gross substitutability, and money neutrality.

Lars P. Syll's Blog
What is Post Keynesian Economics?
Paul Davidson in International Encyclopedia of Social Sciences

Lars Syll — Why assuming ergodicity makes economics totally irrelevant

...the assumption of the equality of these different averages — technically known as the assumption of “ergodicity” — is considered a given by most of contemporary economics. It makes the mathematics easier in the financial portfolio theory that influences countless investors and in frameworks for designing regulations to keep financial risks at acceptable levels. Unfortunately, this error systematically underestimates prevailing risks.

It also may encourage overly optimistic ideas about the ability of an economy to recover from a crisis. For example, those who support policies of fiscal austerity believe that companies, in seeking to maximize their profits, will naturally drive an economy back to steady growth. The economy will spring back if companies and individuals have confidence that their investments will pay off. If that’s the case, why aren’t businesses investing globally when interest rates are at historic lows. What’s holding them back?

The fairly obvious answer is serious downside risk, which makes the reticence entirely sensible — if you live in the real world where time matters.

Lars P. Syll's Blog
Why assuming ergodicity makes economics totally irrelevant
quoting Mark Buchanan

Dirk Ehnts and Miguel Carrion Alvarez — The Theory of Reflexivity – A Non-Stochastic Randomness Theory for Business Schools Only?

Abstract:

According to George Soros (1987) – the author of “The Alchemy of Finance”, a book on the workings of financial markets -
“has found a place in the reading lists of business schools as distinct from economics departments. (2003, 4)"

The theory of reflexivity, which is at the center of the book, states that interdependence exists between the cognitive and manipulative functions of market participants. While Soros claims that imperfect knowledge rules on financial markets, academic orthodoxy assumes perfect knowledge and hence displays – in the absence of external shocks – financial markets as efficient.

Reviewing the published work of George Soros on both reflexivity and the Great Financial Crisis (GFC) we find that his theory can be interpreted as a rough theoretical edifice not too different from the (Post-)Keynesian perspective. Using the GFC as a background we explore the explanatory power of the theory of reflexivity. In our conclusion we make the argument that economic theories build on non-stochastic randomness should form the basis of a new discipline that should be taught at both business schools and economics departments.

Global Economic Intersection
The Theory of Reflexivity – A Non-Stochastic Randomness Theory for Business Schools Only?
Dirk Ehnts, Berlin School of Economics and Law, and Miguel Carrion Alvarez, Miguel Carrion Alvarez, Senior Risk Analyst, Grupo Santander (Math PhD)

Important. Basically, perfect knowledge that is time-dependent is impossible when feedback influences the future. Open complex systems are non-ergodic. Conventional economists pretend (assume) this is not the case in creating ergodic models as a methodological convenience. Alvarez is an expert in complex systems. This article is not wonkish however.

Lars P. Syll — Modern macroeconomics – like Hamlet without the Prince

Simon Nixon: "the most important contribution to the debate is an essay by Claudio Borio, deputy head of the monetary and economics department at the Bank for International Settlements, published last moth and titled: “The Financial Cycle and Macroeconomics: What have we learned?”

"In Mr. Borio’s view, the 'New Keynesian Dynamic Stochastic General Equilibrium' model used by most mainstream forecasters is flawed because it assumes the financial system is frictionless: Its role is simply to allocate resources and therefore can be ignored. Although many economists now accept these assumptions are wrong, efforts to modify their models amount to little more than tinkering. What is needed is a return to out-of-fashion insights influential before World War II and kept alive since by maverick economists such as Hyman Minsky and Charles Kindleberger that recognized the central importance of the financial cycle."

Lars P. Syll's Blog
Modern macroeconomics – like Hamlet without the Prince
Lars P. Syll

See also Useless stochastic models (John Hicks)

Lars P. Syll — The state of modern macroeconomics – indescribable misery

Lars explains in some detail what is wrong with dominant neoclassical approach to macroeconomics and what needs to be done. It really comes down to Paul Davidson's criticism of assuming ergodicity in modeling a non-ergodic environment, which is akin to trying to sledgehammer a round peg into a square hole.

Unlike physical systems, social systems operate in terms of feedback and so the future does not necessarily resemble the past in a predictable way, no matter how sophisticated the statistical analysis — as Keynes pointed out decades ago in his criticism of econometrics. Economies, being people-based hence reflexive, are organic rather than mechanistic, so mechanistic modeling does not apply. Methodological atomism is a dead-end.

Lars P. Syll's Blog

The state of modern macroeconomics – indescribable misery

Lars P. Syll | Professor of Social Studies and Associate professor of Economic History at Malmö University

Macroeconomics is not a pure science. It is a policy science, or better, an aspect of poli sci, to the degree it can be called a science. It is also normative in addition to positive, in that it is concerned with policy issues to the degree that government is involved, which in modern economies is in a huge way. As such it is a part of policy studies in general and need to be approached as such.

Here is a slightly edited response in an email exchange with Roger Erickson yesterday that speaks to this:

Roger: "How do you get people to explore their options? Clarity of purpose first! Then any and all methods become coincidental, rather than ideological. The same message is enshrined today in OBT&E. However, if left to name only, every named effort is always in danger of becoming it's own form of religion - rather than retaining it's function."

In my view, this requires a meta-disciplinary approach to policy studies. The departmental model of the university is in the way of this. It results in the compartmentalism of knowledge, with the result that knowledge workers end up working in closets instead of forums.

This is being realized in the area of consciousness studies, where a new field is emerging and attracting the whole range of scholars from the sciences, humanities and arts. Realization of the need for this unified approach came about for several reasons.

First, consciousness is foundational to experience, hence our awareness of self and world. It is also involved in our personal and social construction of the "world," which is not merely given but structured, for instance, in accordance with the prevailing cultural worldview as colored by subcultural affiliations and personal tendencies.

Secondly, the so-called hard problem of consciousness is reconciling quantity and quality in a comprehensive explanation. How color is perceived as qualitative based on quantifiably measurable differences in wave frequency and interference is a simple instance of this as yet unexplained conundrum. Science is essentially quantitative in its approach to a fundamentally qualitative world. Hence, the question arises as to whether a scientific explanation of consciousness is even possible when it is the field on which quantity and quality meet.

So the two major issues are the nature of consciousness and how it works in relation to a subject as a "person" and the object(s) for the subject as "reality." The problems involved in explaining consciousness are far from resolved but now there are a lot of very smart people working together on potential solutions. 

On thing is quite certain. Consciousness involves complexity and therefore emergence. It is fundamentally non-ergodic even though "rational." "Rational" cannot be equated with "ergodic" unless one is willing to hold also that consciousness is inherently non-rational, which is anti-humanistic. Most scientists are humanists, so that is not palatable to them. This dilemma is quite comparable to the state of most orthodox economists, which they "solve" by positing a rational representative agent.

A similar approach to the current approach to consciousness studies is needed to policy studies, in that many similar issues arise with respect to how consciousness manifests in various societies and the ways in which individuals contribute to manifesting social phenomena, where both consciousness and context are determinative. The challenge lies in capturing the relevant information and using it to its full potential for social optimization. Presently, there are a number of different fields that are concerned with aspects of this but there is little if any integration.

At present, policy is determined by policy wonks well versed in poli sci and history, academic economists using assumption-based models, business people applying business principles to government, and politicians interested in the next election, where the criterion is fundraising ability. These people are mostly working at cross purposes, and they are neither listening to heterodox opinion in their own fields, nor acquiring information and advice from other relevant fields like sociology. Moreover, there is no reconciliation of monetary economics with the rest of policy studies.

Economist Kenneth Boulding is an interesting example. Working from the Forties into the Eighties to develop an integrated approach that also brought in monetary economics, he quickly realized that he was going to make no headway in the economics profession, so he went his own way and co-founded General Systems Theory.

"Systems theory studies the structure and properties of systems in terms of relationships, from which new properties of wholes emerge. It was established as a science by Ludwig von Bertalanffy, Anatol Rapoport, Kenneth E. Boulding, William Ross Ashby, Margaret Mead, Gregory Bateson and others in the 1950's. Systems theory, in its transdisciplinary role, brings together theoretical principles and concepts from ontology, philosophy of science, physics, biology and engineering. Applications are found in numerous fields including geography, sociology, political science, organizational theory, management, psychotherapy and economics amongst others." — Bertalanffy's General Systems Theory by Gregory Mitchell

General Systems Theory is being applied in psychology and consciousness studies, where Boulding is well recognized. How many economists have even heard of him? Interestingly, through Randy has and has written on his work.

So the groundwork has already been done in systems theory and monetary economics and the foundation laid. No the question is how the superstructure gets built on that foundation, considering the powerful interests heavily vested in the status quo and therefore aligned against change, especially holistic change that runs counter to privilege and favoring special interests. Here is where issues of power come in. See, for instance, Michael Perelman, "The Power of Economics and the Economics of Power," and The Power Elite by C. Wright Mills.

I would be pessimistic about change in the face of these obstacles if were not for the vise that is tightening, one face of which is looming resource shortage as the emerging world comes on line and the opposing face is the increasing pace and attendant consequences of global warming. Given the fragility of the financial system due to lack of understanding of monetary economics and rampant corruption, this trend could be greatly exacerbated. Humanity is at make or break it moment, and a whole lot of younger people globally realize this, and see their futures hanging in balance. So there is reason to hope that sense will prevail and humanity will pick up the tools that it has already developed and are available.

Lars P. Syll — Ergodicity – probabilistic thinking gone awry

Simple explanation of ergodicity and why using ergodic economic models purporting to be representational in planning or policy formulation is a very bad idea, as the recent crisis showed.

Economists have long relied on the equality of ensemble and time averages, assuming that the probabilities they deal with often have this feature. But the multiplicative growth process involved in any situation of repeated gambles is necessarily not ergodic. Go broke at one time step, and you are permanently out of the game, stuck at wealth = 0, a situation never captured by the ensemble average, which assumes continued exploration of the space of outcomes.

When continued exploration of outcomes and the tendency to equilibrium are assumed, the risk of catastrophic loss and persistent instability is discounted unrealistically and therefore imprudently.

Lars P. Syll's Blog
Ergodicity – probabilistic thinking gone awry
Lars P. Syll | Professor of Social Science, Malmo University

Chris Dillow — Inequality, Evolution & Complexity

Again, it's the complexity, stupid.

Using ergodic equilibrium models to model complex adaptive systems is not only a methodological mistake, it is the basis of special pleading and propaganda with respect to policy formulation. As long as we rely on neoclassical economics to inform policy, we are so screwed. It's giving the key to the treasury to the thieves.

Stumbling and Mumbling
Inequality, Evolution & Complexity

Chris Dillow | Investor's Chronicle (UK)

Vlad Tarko — Ergodicity for Dummies (via Lars Syll)

... you obtain two different results: one statistical analysis over the entire ensemble of people at a certain moment in time, and one statistical analysis for one person over a certain period of time. The first one may not be representative for a longer period of time, while the second one may not be representative for all the people. The idea is that an ensemble is ergodic if the two types of statistics give the same result. Many ensembles, like the human populations, are not ergodic.

Lars P. Syll
Ergodicity for Dummies
Vlad Tarko in Statistics & Econometrics, Theory of Science & Methodology

See also On Bayesianism, uncertainty and consistency in “large worlds”

Joshua Wojnilower — Macro Theorizing in a Non-Ergodic World

More on the ergodicity assumption.

Bubbles and Bust
Macro Theorizing in a Non-Ergodic World
Joshua Wojnilower

Lars P. Syll — Ergodicity – the biggest mistake ever made in economics

Paul Samuelson claimed that the “ergodic hypothesis” is essential for advancing economics from the realm of history to the realm of science.

But is it really tenable to assume – as Samuelson and most other neoclassical economists – that ergodicity is essential to economics?

The answer can only be – as I have argued here, here, here, here and here – NO WAY!

Lars P. Syll's Blog
Ergodicity – the biggest mistake ever made in economics
Lars P. Syll | Professor of Economics, Malmo University

See also Mauboussin on Strategy: Shaking the Foundation: An interview with Ole Peters challenges some of the foundational assumptions in economics and finance, Legg Mason Capital Management, and Towers Watson: The Irreversibility of Time: Or Why You Should Not Listen To Financial Economists
(hat tip Rick Bookstaber)

See also Paul Davidson: Is economics a science? Should economics be rigorous?

Lars Syll — Paul Samuelson and the ergodic hypothesis

Paul Samuelson claimed that the “ergodic hypothesis” is essential for advancing economics from the realm of history to the realm of science.
But is it really tenable to assume that ergodicity is essential to economics?
The answer can only be – as I have argued
here
here
here
here
and
here – NO WAY!

Read it at Lars P. Syll's Blog
Paul Samuelson and the ergodic hypothesis
Lars P. Syll

Lars Syll — Keynes and Knight on uncertainty – ontology vs. epistemology

Report of a conversation between Lars and Paul Davidson on the philosophical underpinning of probability and its relevance in economics and finance.

Keynes and Knight both asserted uncertainty but their concept of it were different. Keynes asserted ontological non-ergodicity, whereas Knight assumed ontological ergodicity and asserted only epistemological non-ergodicity.

Lars and Paul Davidson explore the implications of this distinctions and come down on the side of Keynes.

These distinctions are key in understanding the fundamental difference between the mainstream and Post Keynesianism.

Read it at Lars P. Syll's Blog
Keynes and Knight on uncertainty – ontology vs. epistemology
Lars P. Syll