"Tivo-ifies the web" Paul Kedrosky

Soros and Reflexivity

George Soros is the economics equivalent to Stephen Wolfram and physics. Wolfram is a wealthy businessman who discovered a big idea independently of others, that isn’t new or original but that appears to be correct – that the world is based upon algorithmic feedback loops rather than equations. Soros’ equivalent idea is Reflexivity a model of economics based upon feedback loops in an open system – money flows into a system held far from equiibrium which grows, becomes more complex and has periods of turbulence.

Until recently, Soros was considered a maverick, at least academically, proposing that the economy was an open system regulated by events which are provably unpredictable, if deterministic. The alternative and wideley accepted system of economics that people like Greenspan practiced was based on the idea of economics as a closed system which would tend to equilibrium in a free market. It assumed that turbulence was the result of external impediments to smooth free market influences.

When I found out that this was the case, I nearly fell off my chair. It meant that the economy was being run based upon scientific ideas that come from the age of steam engines.

The economy is an open system with a scale free system of interconnected attractors. It means, among other things that the current crisis was a statistically innevitable event and that another crash crash capable event is just as likely to happen tomorrow (just like having thrown a six in a dice throw does not reduce the chances of throwing a six again). This counterintuitive notion, is the same for earthquakes which were found to follow a pattern which was not the result of the release of built up tension and suggests that the economy is similarly susceptabe to events which are removed from simplistic chains of direct cause and effect.

Understanding these phenomena are crucial to our survival as a species, so we shouldn’t waste time even listening to people who are unaware of them. People like Greenspan or many other practitioners of economics, the dismal pseudo science. Soros, on the other hand, has economics ideas that are at least based on science which is less than 100 years old. Here he is at Davos, where James Bond villains hang out and decide how to run the world.

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7 comments on “Soros and Reflexivity

  1. Tony C. says:

    “…another crash is just as likely to happen tomorrow (just like having thrown a six in a dice throw does not reduce the chances of throwing a six again).”

    That strikes me as obviously wrong, and the analogy is poor. Crashes occur when bubbles burst, and bubbles cannot follow immediately one after another. In other words, the market must inflate before crashing, and that obviously takes some time.

    The analogy is poor because dice are inanimate, and no matter who is ‘invested’ in the outcome of the roll, they have zero influence on it. In markets, the investors’ emotions play a huge role.

  2. admin says:

    This is why it is counterintuitive.

    Until recently the standard model of earthquakes was that pressure between two plates built till they slipped, but then people who had been analysing critical failures in systems as simple as piles of sand realized that the distribution of earthquakes showed a pattern that was actually independent of environmental changes. It meant that the chance of an earthquake the size of the April 18th 1906 one in San Francisco was exactly the same on April 19th 1906, but the chances of a earthquakes still follow a pattern based on their rarity. For some reason our brains are callibrated to find this paradoxical. If we get heads five times in a row we think its more likely we will throw a tail.

    This doesn’t mean that an external trigger isn’t necessary to burst a bubble, but that all bubbles don’t burst at the same time. In other words, all systems will grow like bubbles, but our bubble would still have been a bubble if it burst a year ago, five years ago or five years from now. Saying its a bubble that burst actually makes no prediction of future behavior. What caused the bubble to burst was a random but statistically likely event of small proportions that became magnified and perhaps was something that normally would not have caused such chaos.

    The only thing that has changed with this bubble is the overall size of the system due to globalization and therefore the magnitude of a statistically normal but catastrophic event.

    Johh Gribbin’s Deep Simplicity is a much better explanation of what I am trying to say.

  3. You need a forest for a forest fire. Once the forest burns there is no more potential for a fire.

    To the credit of “Reflexivity”, it would seem to prescribe the avoidance of bubbles rather than their maintenance with “consuming to prosperity”.

  4. admin says:

    @Ashley. You spotted the correct flaw. The forest fire is the right analogy. The point being that after a lightning strike and forest fire another lightning strike is equally likely, but the potential damage is indeed dependent on the number of trees. However, we are a long way from a crash which has wiped out all of the people, like a fire that leaves plenty of trees, so the natural firebrake effect of the crash may be smaller than we would like.

    Unlike dice throwing, there is a feedback loop at work. However, forest fires are unavoidable events which are sometimes exacerbated by attempts to prevent them. A free market, and attempts to prevent crashes will not necessarily work any better than trying to predict the weather beyond a few days, and any attempt to treat the economy as a closed system is to be a greenhouse keeper rather than a forester.

  5. admin says:

    @Tony. I going to eat crow on this and admit I was being pompous, trying to exaggerate for effect, and got caught out.

    The earthquake story is true, but the sleight of hand is that we associate the word earthquake with disaster just like we associate crash with economic disaster. But the two things are not equal (and there is of course the feedback effect caused by the animate effect of human influence – albeit smaller than usually hoped).

    An earthquake is the event that leads to damage, whereas a crash is the damage itself.

  6. Nat Pierson says:

    The embedded video has died…

  7. Debunkr says:

    Finally!!! I’ve been waiting for someone to notice that Wolfram’s framework has direct application to the financial markets. Your corollary to Soros’ Reflexivity is a good one. You should also bring in Taleb’s Black Swans into this line of thinking as well. The financial models that assumed event independence didn’t take into account that as certain bubbles inflate, the dependence of events actually increases over time until, I would argue, the probability of a crash equals 1. It’s the only way to correct the system. The markets are collections of algorithms, not master equations. Sometimes the markets are composed of large, homogenous pools of algorithms so that it’s easy to model the market behavior with economics. However, over the last 10 years the complexity contained in markets has increased to the point that the economic models are now useless. Studying complexity theory here would be very helpful. In fact, I wish Obama’s administration had a lot more complex system theorists than economists.
    I believe this is why none of the proposed solutions have held much water in the court of public opinion. They’ve come from traditional economic schools of thought. We don’t need to find the right economic school, we need to find a different university department to find the answers.

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