Complex Economics: Individual and Collective Rationality (The Graz Schumpeter Lectures)
Language: English
Pages: 272
ISBN: 0415594243
Format: PDF / Kindle (mobi) / ePub
The economic crisis is also a crisis for economic theory. Most analyses of the evolution of the crisis invoke three themes, contagion, networks and trust, yet none of these play a major role in standard macroeconomic models. What is needed is a theory in which these aspects are central. The direct interaction between individuals, firms and banks does not simply produce imperfections in the functioning of the economy but is the very basis of the functioning of a modern economy. This book suggests a way of analysing the economy which takes this point of view.
The economy should be considered as a complex adaptive system in which the agents constantly react to, influence and are influenced by, the other individuals in the economy. In such systems which are familiar from statistical physics and biology for example, the behaviour of the aggregate cannot be deduced from the behaviour of the average, or "representative" individual. Just as the organised activity of an ants’ nest cannot be understood from the behaviour of a "representative ant" so macroeconomic phenomena should not be assimilated to those associated with the "representative agent". This book provides examples where this can clearly be seen. The examples range from Schelling’s model of segregation, to contributions to public goods, the evolution of buyer seller relations in fish markets, to financial models based on the foraging behaviour of ants.
The message of the book is that coordination rather than efficiency is the central problem in economics. How do the myriads of individual choices and decisions come to be coordinated? How does the economy or a market, "self organise" and how does this sometimes result in major upheavals, or to use the phrase from physics, "phase transitions"? The sort of system described in this book is not in equilibrium in the standard sense, it is constantly changing and moving from state to state and its very structure is always being modified. The economy is not a ship sailing on a well-defined trajectory which occasionally gets knocked off course. It is more like the slime described in the book "emergence", constantly reorganising itself so as to slide collectively in directions which are neither understood nor necessarily desired by its components.
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Yet this is not what happens at all. Bees have different threshold temperatures and they are either on, beating at 11,400 beats per minute, which produces their distinctive buzz, or off. As the temperature rises more bees join in. Thus collectively with very simple 1, 0 rules the bees produce a smooth response. This sort of coordination, with each agent doing something simple, can be explained only by having a distribution of temperature thresholds across bees. Aggregation of individuals with
different approach and use the topological structure of the underlying characteristics space to define the notion of distance. Thus, agents nearer in characteristics communicate more directly. Translating this into a network structure means attributing links to those people who are closest in terms of some common characteristic. To an economist interested in how trading relationships are established, this seems a little perverse. In general, the possibility of mutually profitable trade increases
again, this is a story of interaction and interdependence and the breakdown of relations of trust which had emerged and not one of an external shock to a stable market. So, the question is not to find an alternative explanation as to how the economy arrives at an equilibrium in the classic sense; it is rather, what sort of framework has it developed to achieve all of the coordination that we do observe and how does that self-organisation sometimes lead to major phase changes? There are therefore
the same utility functions but they may hold one of two views as to the evolution of the exchange rate. Thus the driving force behind the dynamics in this model will be the variations in the proportions of those following each of the forecasting rules. The next thing to choose is the set of forecasting rules. In order to simplify matters consider two types of rule, fundamentalist and chartist but, in fact, any finite number of rules would fit into the same framework. Now, think about the investor
traders in one or the other country can determine the evolution of the exchange rate. In the simulations of this model what happens is that the proportions of the fundamentalists go to the extremes in the two countries but are not necessarily synchronised. If the fundamentals are not completely correlated in the two countries, as is the case in this simulation, then when fundamentalists dominate in both countries neither has correct expectations. Thus, in 150 Complex Economics contrast to the