Tag Archives: economics

Cyprus: A blessing in disguise?

The United States, the Eurozone and even our own administration here in the United Kingdom have shown us that we are fast approaching the time for a major rethink of the Democratic Model.

The Global Economy is becoming permanently unstable and  far too technical to be in the hands of gifted amateurs. Or, in the case of the United Kingdom:  the “Gentleman Politician”.

By all means, allow the Elected Ones to fanny about with the politics but sharp-end economics should now be in the hands of professionals who do not constantly keep one eye on the opinion polls and the other on their next election.

There have already been attempts to install  Technocrats, e.g. Italy and Greece  – but these were no more than economists dressed as politicians, who were then expected to play politics. Inevitably, they crashed and burned.

Cyprus is the latest to demonstrate that politics (of any flavour) coupled with an absolute inability to Manage at Macro level is slowly killing economies.

Some may repeat the “But it’s those bankers” mantra…. and to a certain extent they are correct. However, the Root Cause is the politicians’ inability and unwillingness to manage the banks, themselves and the economy.

Cyprus should not only be a very loud wake-up call but also a watershed moment for Western politics.

ECONOMIC CHAOS ?

The piece below is over 2000 words long and I have just completed it for a client .

It is about the random nature of an economic system.

Have you ever wondered why ALL economic predictions are wrong? Have you noticed that in spite of a proven record of error, economists and politicians continue to bang their heads against the forecast-wall and refuse to do anything else but continue to predict outcomes which by now, they must realise will be incorrect?

They certainly use all the latest computer models which have been empirically derived and used for many years.

So, are there any incorrect assumptions about “fundamentals”?

Is the economic process Stochastic (a sequence of random variables)? Or is it Deterministic (when the output of a system is totally dependent on its initial state and  subsequent inputs – and therefore, predictable)?

(Mind you, to add to the confusion, deterministic systems may occasionally produce random  and therefore unpredictable results. )

Is economics a question of Stochasticity v Determinism?

Why do I ask the question? Because there appears to be a total absence the ‘stable equilibrium’ predicted by classical economists.

On the contrary, Market Economics behaves like a collection of dynamically unstable systems. The instability is attributed to external ‘shocks’ rather that any fault in the basic concept. There is what can only be described as ‘non lineality’.

One solution to this ‘non-lineality’ is CHAOS THEORY!

So far, no real evidence has been produced of ‘low – dimensional’ Chaos in economic processes but there are definitely discrepancies between the ‘expected’ according to classic economic models and the ‘observed’. Just look at any economic prediction within your memory. It was probably incorrect.

We still have a ‘mechanistic’ view of the world and economics as a ‘hangover’ from 18th century SCIENCE.

Scientific thinking is very simple: ‘Measure, predict and adjust until you no longer have any more surprises. Then keep measuring to confirm that what you measured in the first place can be replicated’.

Economics was conceived on that same principle . It was established as a ‘science’. That’s where the Determinism crept in.

It was at this time that man first considered the possibility of his own intellect being so unconstrained that he would eventually understand the ‘Universe and everything’ through the medium of scientific reasoning.

This principle was applied to all sorts of activities and thinking – including economics.

The so-called ‘Enlightenment Policy’ would help man in his pursuit of happiness. Especially in the sciences. Science was cool and now in the early 21st Century it is enjoying a bit of a revival.

Of all the subjects on offer, Physics became the admired Paragon for Enlightenment and so it continues.

The way Physics works is simple: Carefully describe an environment and you should be able to predict the outcomes of any experiment conducted within that environment.

Likewise in Economics:  Know the initial environment and you should be able to predict outcomes based on subsequent inputs.

The belief stemming from that philosophy is that EVERYTHING is governed by ‘NATURAL LAWS’ which are a set of ‘cause-effect’ regularities. That means that everything can be predicted.

These same principles have been applied to Economics.

A simple scientific rule is that ‘The state of any system is a consequence of what it was in the preceding moment…..and so on.’

In the beginning, random occurrences had no place in such linear thinking. Everything was governed by Mathematics and Laws.

However, there is one major flaw in the way that we ‘do’ science: That is our ignorance of the CAUSES which generate phenomena and events.

For instance, we know the effects of gravity – which we can measure but we don’t really know the CAUSE.

However, in spite of our ignorance of the exact causes of events added to the imperfection of our analyses, we still cannot have 100% certainty about the vast majority of phenomena.

Economists also appear to have forgotten both the imperfection of analysis and their ignorance or (at best) of the exact CAUSES of events.

What is the solution? What is to be done about our comparative blindness?

Our ‘crutch’ is the science of probability. Chance.

Current economic thinking is a throwback. In economics, the world is still viewed as totally deterministic.

‘STOCHASTIC’ is non-existent – as is uncertainty because uncertainty is treated as ignorance or a failure to understand the deterministic rules of a very complex system.

Yet, with ALL our processing power, no-one has yet been able to establish those rules which should  predict outcomes.

So, as Chaucer wondered in The Nonnes Priest Tale – Travelling from A to B:  Freewill or Predestination?

Looking at the unpredictability of economic outcome, we move from linear to non-linear dynamics, from certainty to probability, from Economic Theory to Chaos Theory.

Theories of economics have been shaped by the assumption of ‘Rational Man’ who behaves in accordance with a known set of rules.

The evolution of economics into a science was ‘booted’ into becoming a science when it was ‘mathematicised’. Formulae arrived and suddenly, it became a bona fide branch of Applied Mathematics.

Many of the original people who translated economics into a mathematical form were physicists, engineers and mathematicians…… and it still shows. At that time, their view of the world was ‘linear’.

Does that work in economics? The short answer is ‘no’. That is why economists are struggling, interpreting and making excuses.

Marshall in his ‘PRICIPLES’ compared the study of economics to the study of tides. The number of variables affecting tides means it is impossible to create a consistent dynamic picture.

Even nowadays, there isn’t enough processing power to generate an accurate picture of such a dynamic system, especially as the number of variables affecting such a system is, for all intents and purposes – infinite.

Imagine random stones being thrown into the sea or small outcrops of rock or variations in the seabed. They all have an effect on the ‘shape’ and speed of the tide.

And so it is with an economic system: lots of rocks, stones and other variables.

It is not possible to formulate or predict a picture of such an infinitely dynamic system.

Currently, economic theory appears to predict that any shock to such a dynamic system will (obviously) have an effect on the system but that it will ultimately converge-to or seek either a new equilibrium or ‘tend’ towards its original equilibrium because, after all – that’s what ‘systems’ are supposed to do!

Economic Theory assumes a tendency towards stability and equilibrium with certain ‘oscillatory happenings’ on the way.

So we have a situation where economic thought was (and still is, in most cases) linear, deterministic and quasi-dynamic. That is to say, the ‘set-in-concrete’ notions of certainty, invariant economic laws and sameness……………..rather than approximation, probability and infinite variety.

For instance, the Bank of England  predicts an inflation rate one year ahead, based more on hope than fact or perceived fact. But when such predictions are (always!) wrong, there is no revisiting of the thought process, merely another prediction with little or no basis in anything-in-particular.

Often, both ‘inputs’ and predicted outcomes are decided by committee and vote!

All predictions appear to be based on an assumption of an ultimate convergence of economic process to stability, via those periodic cycles which, although not understood are treated with a certain sense of fatalism.

Chancellors are so locked into predictions based on erroneous facts that they will even massage their outcomes in order to land somewhere near the expected landing point – purely in order to retain credibility not only for themselves but also for ‘the system’.

What cannot possibly be countenanced are the random fluctuations of what is most likely a permanently unstable economic system. We don’t do that sort of thing because it may suggest a lack of control!

Let’s have a look at non-linear Economic Dynamics.

Actual (REAL) economic results indicate little resonance with the symmetry and regularity suggested by a linear mechanistic dynamic system. (Something that moves predictably along a pre-determined path).

On the contrary, fluctuations and movements are totally unpredictable. That means that regular Deterministic Laws cannot apply.

If we look at an economic situation in say, the Eurozone at a particular point in time, we may try to predict an outcome in say, 10 years’ time.

However, a small variant or an incorrect assumption in our analysis of the initial economic situation will have an effect on the ultimate outcome. The earlier that variation occurs, the more devastating will the effect be.

For instance Greece’s hidden debt at the time of its accession to the Eurozone, undetected at the time, is having a huge effect on the Eurozone’s economic outcome.

Meanwhile,  the economists, bankers and politicians crave and need the comfort of ‘stability’.  They know that the further the Eurozone travels from the initial conditions at Greece’s entry into the Euro, the more anomalies“The Greek Effect” will generate. It’s a self-amplifying issue.

Consequently, the bulk of the  work of Eurozone politicians is  now concentrated on creating a series of ‘faux’ stabilities.

It is the fallout from Stochasticity which is causing  fear with Determinism being their comfort and shelter.

It was only 60 years-or-so ago that stochastic considerations were appended to classical economic theory.

But the so-called New Classical Macroeconomics was no more than a compromise. “Let’s introduce a Factor X because we can no longer ignore it.”

Yet, the economists still needed their ‘models’ – because deep down they were still the mathematicians and physicists of old.

A formula was devised (SLUTSKY) which took the linear dynamic business cycle model and added random (not necessarily economic) terms which attempted to explain the real ‘actualités’!

At last, an attempt had been made to explain ‘exogenous shocks’ to an economic system by the introduction of nothing more than random error terms.

But  what was REALLY missing in classical economic reasoning was the concept of  NON-LINEARITY.

So, the battle was between a Linear Model with a Stochastic Term (a fiddle factor) versus a pure Non-Linear Model.

Obviously by now – 200 years from the beginning, we have to assume that the evidence for linearity in economics has been overestimated!

So, if we agree that we do need a new non-linear model of econonomics, what are we searching for? What are the other ingredients and how do we ‘work them in’?

Do we want a synthesis of economics, psychology, politics and sociology? Or do we simply stick to the notion of determinism?

Human evolution is viewed as a random process (although the way it is often expressed makes it seem as if scientists view it an ‘inevitable linear’).

The evolution of an economic system is also pretty random, except that, applying psychology, politics and sociology, it can never be a system that can develop naturally. (For example, Survival of the Economically Fittest).

Mind you, economists have already had several attempts at introducing the concept of non-linear economics.

Followers of Keynes developed theories which generated Real Business Cycle Theory but any exogenous shocks to the new non-linear system were considered as merely ad hoc disturbances.

Economists could NOT break away from LINEAR THINKING. Linear thinking was being applied in an attempt to imprison a loose and free system, which tended to CHAOS.

The result? More economic models that you can shake a stick at!

It is only fair to say that our understanding of economic phenomena has been greatly enhanced by all these models and formulae…… but still no cigar. No General Theory of Economics. No equivalent of E =mc2….+εe

So Chianella, Pun, Goodwin, Kaldor, Baldrin, Woodford, Barmal, Benhabib etc have all done their bit but we’re still NOT QUITE there.

Unfortunately, for all intents and purposes, many of the models did no more than introduce the concept of economic ‘white-noise’.

Chaotic systems generate their own randomness without need for external input. Therefore in a chaotic system, predictions can ONLY be very short term and even if there were deterministic rules within such a chaotic system, an inability or failure to 100% ‘book’ the initial conditions of the system will always yield forecasting errors.

This all suggests that economic forecasting (except that on a very short time-scale) is a nonsense. PLUS – the bigger the system, the bigger the CHAOS.

That would suggest that a proposal such as a EUROPEAN ECONOMY is a flawed concept because there is very likely to be an exponential amplification of Chaos.

The dynamic of a mega-economy is very different to a housewife balancing the books at home – although economists are still applying the same principles to both.

Unfortunately so far, classical economists continue to resist economic chaotic concepts.

The reason for this apparent intransigence is simple: it is very difficult to extract evidence of chaotic dynamics from economic data – especially on a meaningful scale. Especially if another dose of chaos is injected into the ‘mix’ by erroneous or spurious data.

In order to predict in a chaotic system a VAST (infinite) amount of data is required – far more than is normally available and so far, the search for Chaos in economics has not been successful.

Meanwhile it is Chaos which is making long-term economic forecasting totally impossible and increasingly sophisticated and precise measurement of ‘initial conditions’ incredibly difficult and potentially prohibitively costly.

If we imagine an economy to be like a cloud – subject to all those forces that clouds are subject to, we can  see the impossibility of a mathematical model which can predict the size, shape and exact direction of the cloud or even its shape and volume as it travels.

Its ultimate shape will always remain a mystery.

Politicians, bankers and economists ought to be able to say ‘I don’t know’ without us constantly expecting magic answers which do not exist.

For example: ‘Mr Chancellor or Mr Banker – what will be the effect on the economy of billions in Quantitative Easing?’ Correct answer? ‘We don’t know.’

“The initial conditions of a system are always uncertain, while Chaos guarantees that these uncertainties make prediction impossible.”  (Heisenberg)

THAT is the essence of Chaos within an Economics System.

Oil be damned!!

oil-tank.jpg“All species expand as much as resources allow and predators, parasites, and physical conditions permit. When a species is introduced into a new habitat with abundant resources that accumulated before its arrival, the population expands rapidly until all the resources are used up.”
– David Price, Energy and Human Evolution

Then they die.

It has been demonstrated on numerous occasions that all species suffer population collapse or species extinction if they overshoot and degrade the carrying capacityof their ecology.

For instance, in 1944, 29 reindeer were brought to St Matthew Island . Initially there were abundant food sources and the reindeer population increased dramatically. There were no predators to cull the population.

About 20 years after they were first introduced, the reindeer had overshot the food carrying capacity of the island, and there was a sudden, massive die-off.  About 99% of the reindeer died of starvation.

The human race has its own St Matthew Island – it is called Earth. We have no predators to keep our population is check, so we self-regulate in a very limited way by occasionally carrying out our own culls through the self-designed joint mediums of war and disease.

The reindeer on St Matthew Island ran out of food – and although we are also running out of food, it is oil and gas that we regard as our most precious resource. Just like the reindeer which died after munching their way through the very last bits of moss, we are about to pump and burn our way through the last droplet of oil and final whiff of gas .

The reindeer of St Matthew island will have ended their days scratching  at the earth looking for moss in places where they had never looked before. No doubt they would have found scraps which kept them going for another few days.

When a commodity has a high-enough value, it is worth looking for it in places where you possibly would not have bothered when there was lots of it available.

—————–

THE ANTARCTIC OIL

Two years ago, Ali Bakhtiari, a former senior adviser for the National Iranian Oil Company, said at a meeting of international Antarctic specialists in Hobart that pressure to drill in Antarctica could soon become irresistible – and  he was right.

“I hope it will not happen because that would create enormous difficulties, but when you have the enormous price increase that I can foresee governments and companies will want to find oil anywhere,” he said in 2006.

“There is now only one frontier province left and that is Antarctica,” he was quoted as saying by Australia’s national news agency AAP.

Bakhtiari predicted the world’s oil production rate would peak at 81 million barrels per day and decline to roughly 55 million barrels per day by 2020, pitching oil prices to “stratospheric levels“.

Even two years ago , he could not have foreseen the damage that a combination of supply (OPEC’s intransigence, Nigeria’s instability and America’s untidy foreign policy),  speculation (George Soros and his troupe of keyboard-bashing monkeys)  and demand (India, China),  could do to the current (2008) price of oil.

In 7 or 8 years about one-third of the world’s remaining oil supply will be gone and the “stratospheric” price of oil and gas will probably cause a world recession on such a scale as to endanger our lives. Hopefully that will signal the wake-up call that stops us all being so parochial and we develop a concept of cross-border responsibility which is not driven by charity and the West’s brand of one-sided economics, waste and ugly self-interest.

Seven countries have made territorial claims in Antarctica, but not all countries recognize these claims. No change there !

The 1961 Antarctic Treaty established the legal framework for the management of Antarctica and has 28 decision-making members, including the seven that claim portions of the continent. Imagine Antarctica as a large cake with seven  greedy schoolboys gathered round it – who will get the biggest piece?

The Magnificent Seven  are Argentina, Australia, Chile, France, New Zealand, Norway, and Britain.

The United States and Russia have reserved the right to make claims and the US does not recognize the claims of others. The playground bullies know that no-one will dare reach for a slice of cake until they have given permission!

Antarctica is protected from mineral exploration under the Madrid Protocol, which bans mining, but the prohibition can be changed at any time if all 28 signatory countries agree.

We can look forward to lots of countries sticking lots of flags  in the snow. That will be followed by lots of flags being kicked over and moved and more meetings.

THE ARCTIC OIL

Currently, it looks as if both the top and bottom of the earth are about to be plundered because an estimated 90 billion barrels of undiscovered but technically recoverable oil — three years of world consumption — lie north of the Arctic Circle, the U.S. Geological Survey reported this week.

While the oil, along with vast quantities of natural gas, will be extremely difficult to extract, the promise is enough to make the frozen north the new — and maybe last — frontier for world energy producers.

According to geology and probability, undiscovered oil and gas are thought to be present . If they’re further confirmed, they will become  reserves and (hopefully) some of OPEC’s smugness will fade.

Currently, the five nations that border the Arctic — the United States, Russia, Denmark, Canada and Norway — all have their eyes on what geologists say is about a quarter of the world’s undiscovered but technically recoverable oil, natural gas and natural gas liquids.

According to the new survey, the Arctic Alaskan Province, which includes offshore seabeds, has the greatest potential for undiscovered oil  – an estimated 30 billion barrels.

Mark Myers, the director of the U.S. Geological Survey, said he hoped that the new estimates would contribute to future energy decisions.

“Before we can make decisions about our future use of oil and gas and related decisions about protecting endangered species, native communities and the health of our planet, we need to know what’s out there,” he said in a statement. They always say stuff like that just before digging holes.

Look out elks and Inuits.

Geologist Donald Gautier, who led the study, added, In our judgment, the Arctic Alaska Province is the most obvious place to look for oil north of the Arctic Circle right now.”

While Arctic Alaska has the greatest undiscovered energy potential, other big stocks are thought to lie in the Amerasia Basin north of the two continents and also east of Greenland.

The West Siberian Basin contained the most undiscovered natural gas, with 651 trillion cubic feet, followed by the East Barents Basins, with 318 trillion cubic feet, and Arctic Alaska, with 221 trillion cubic feet.

The geological survey didn’t consider the cost of recovery, but will publish an economic analysis of likely costs next year, said Brenda Pierce, the coordinator of the agency’s Energy Resources Programme.

Energy companies have already identified more than 400 oil and gas fields north of the Arctic Circle. High energy prices and global warming are making the forbidding region more inviting than ever.

The next ten years-or-so will prove challenging.  There will be reports, commissions, meetings, summits, signatures and threats.

That will be followed by the USA declaring a “war on ice” and attempting to take what it needs.

China will then look up from its workbench, flex its muscles, crack its knuckles and then we’ll all find out if that bloke who predicted Armageddon was right.