I’ll be very interested to see Keen’s model, especially to see how it copes with randomness, the existence of black swans (unknowable events with a big impact) and reflexivity (people changing their behaviour in response to events that become predictable). Presumably this is what complexity theory is supposed to be good at, because attempts have certainly been made in the past to construct full working models of the economy, such as Oscar Lange’s socialist planning supercomputer, which was much criticised by Hayekians amongst others for being unable to cope with the subjective nature of the tacit information held by the ‘man on the spot’. The Philips machine was another dubious effort at trying to model the economy within a closed system. I’m sure Keen’s model will be far more sophisticated.Emergent Economics
#Minsky (April 9, 2012)
Dan Gay
Dan Gay holds a PhD in economics, a Masters degree in economics, a Masters degree in political theory and an Honours degree in politics, philosophy and economics. He works as a consultant for the United Nations and other development agencies in the South Pacific, East Asia, Central Asia and Africa.
Perhaps I am wrong, but I do not believe that the point of incorporating nonlinear dynamic systems theory into economics is to model black swan phenomena and the like. The black swan picture is just another version of the equilibrium + "shocks" form of modeling. Nonlinear dynamics on the other hand can be used to model situations that are inherently unstable or chaotic, or where mathematical catastrophes occur as part of the natural deterministic evolution of the system.
ReplyDeleteConsider a mountainside rock formation over which flows a stream that gradually erodes the rock while laying down a sediment of sand on top of the rock. The system can be stable for a long time at a certain macro level. Every day, the rock is eroded some constant fraction of a millimeter. Every day a constant additional load is added to the rock as more sand is deposited on top of it.
But eventually, the stresses and strains in the rock increase toward dangerous levels, and then finally the rock breaks free. The day it breaks free, nothing weird happens. The mountain doesn't have to be hit by an earthquake or an unusual gust of wind. No black swan event occurs to destabilize the "equilibrium".
That's Minsky's insight I believe: capitalist finance is inherently unstable. The seeds of its own eventual critical failure are built into the everyday functioning of the system. The cycle of robust finance to hedge finance to Ponzi finance to collapse is built into the system and will transpire in that way unless there is outside governmental intervention to stabilize the system.
The rock doesn't break free from the mountain because something "goes wrong" with or "shocks" what should be a stable system in equilibrium. The catastrophic collapse is the natural outcome of the dynamics of that particular evolving system. If you want to prevent the rock from breaking free you need to intervene. For example, you can send a guy up to shovel away sand and inject down some kind of cementing seal every day.
Economists have to break away from these stifling mental models based on the notion of equilibrium. When capitalist financial systems have these collapses - which are routine occurrences in their history - it's not because it is hit by the economic equivalent of an asteroid.
"Shock" theory sounds a lot like "chaos" theory. A butterfly beats his wing somwhere and the fine tuned (resource restricted) "equilibrium" falls down like a house of cards.
ReplyDeleteI remember a Feynman quote along the lines of: the reason we're interested in linear systems is that they're easy to solve.
ReplyDeleteBut there is actually a decent size literature in economics devoted to studying economies with non-linear and chaotic dynamics.