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What Computer Science Can Teach Economics
eldavojohn writes "A new award-winning thesis from an MIT computer science assistant professor showed that the Nash equilibrium of complex games (like the economy or poker) belong to problems with non-deterministic polynomial (NP) complexity (more specifically PPAD complexity, a subset of TFNP problems which is a subset of FNP problems which is a subset of NP problems). More importantly there should be a single solution for one problem that can be adapted to fit all the other problems. Meaning if you can generalize the solution to poker, you have the ability to discover the Nash equilibrium of the economy. Some computer scientists are calling this the biggest development in game theory in a decade."
Polynomial time approximate, probabilistic or special case solutions to NP problems are wide spread. The problem is that real human being in economics can not be easily described by an equation - and when they can be, they quickly change their behavior based on that knowledge. What both computer scientists and economists need to learn is stop being geeks addicted to a single theory and start dealing with people.
Here's a proof that detecting "toxic assets" is impossible (or at least NP)
Did you mount a military-grade, variable-focus MASER on an unlicensed artificial intelligence?
Except that investors routinely bet more than they have, and in fact, this is a fundamental tenet of a modern economy. This is how banks manage to make money; they loan out money they do not technically have, with the understanding that in most cases they will get it back with a profit. Many businesses operate in this way, taking out loans for periodically required large investments (like fertilizer and fuel for a farm), making enough of a profit to repay the loan, with interest, and pay their employees, but not enough of a profit to stop the loan cycle. In general, it is OK to take these risks...
The real issue is determining what level of risk is too high. If a bank issues too many loans, and there is a difficult economic year, the bank may find itself short of money to issue when you make a withdrawal; usually this means the bank will take a loan to cover its position, but if all the banks are in the same position, there is a financial crisis. The recent crisis happened, in part, because of the issuing of derivatives on loans -- contracts that amount to an insurance policy on loans -- which substantially magnified the impact of declining housing prices (because the insurance policies were being paid out too quickly, and the companies that issued them found themselves unable to cover their positions). If you are wondering how such a thing could happen in a country where the government decides the maximum amount of money banks can loan out, the answer is that the derivatives (credit default swaps) were not being regulated in any meaningful way.
The moral of the story? Relying on high risk investments as a major source of income is a stupid idea. High risk investments should constitute a small fraction of revenue, and should be backed up by lower risk investments.
Palm trees and 8
The biggest problem we face is post-scarcity technologies of abundance wielded by scarcity-obsessed people, because things like biotech, robotech, infotech, nanotech, nucleartech, and so on make terrible, if ironic, weapons. It is ironic to use military robots to fight over economic issues the robots make obsolete. It is ironic to use nuclear missiles built with advanced materials to fight over oil supplies that nuclear power or solar energy make unimportant. It even takes more electricity to produce a gallon of gasoline than an electric car takes to go the same distance, if you really want some deep irony -- we'd use less electricity if we switched to electric cars. So, as an example of post-scarcity thinking, considering that and safety issues, our society would save money and have lower taxes if everyone got a free-to-the user safe luxury electric car.
http://groups.google.com/group/openmanufacturing/msg/09eb7f4c973349f2?hl=en
From Post-scarcity Princeton:
http://www.pdfernhout.net/post-scarcity-princeton.html
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* Some comments on the PU Economics department and related research directions from a post-scarcity perspective
The PU economics department, of course, should be abolished as part of this transition. :-)
OK, that will never happen, so it should be at least "strongly admonished" for past misbehavior. :-(
What misbehavior? Essentially, the PU Economics department has taken part in a global effort to build an economic "psychofrakulator". How does a psychofrakulator work? Consider a paraphrase of something Doc Heller says in the movie Mystery Men:
http://www.imdb.com/title/tt0132347/quotes
Dr. Heller: It's a psychofrakulator. They used to say it couldn't be built. The equations were so complex that most of the scientists that worked on it wound up in the insane asylum [in Chicago]. ... It creates a cloud of [dollar denomiated] radically-fluctuating free-deviant chaotrons which penetrate the synaptic relays [via television]. It's concatenated with a synchronous transport switch [of values from long term seven generation life-affirming love of caring to short-term immediate profit and immediate gratification suicidal death-affirming love of money] that creates a virtual tributary [back to large corporations]. It's focused onto a biobolic reflector [of the elite controlled mass media] and what happens is that [economic] hallucinations become reality and the [global] brain [and global ecosystem] is literally fried from within.
Or in other words:
"Screwed: What 30 Years of Conservative Economics Feels Like"
http://granby01033.blogspot.com/2008/04/screwed-what-30-years-of-conservative.html
Or:
http://en.wikipedia.org/wiki/Post-autistic_economics
And:
"Obituary: Conservative Economic Policy"
http://tpmcafe.talkingpointsmemo.com/2007/10/19/obituary_conservative_economic/
Conservative economic policy is dead. It committed suicide. Its allegiance to market solutions, tax cuts and spending cuts, supply-side nonsense, manipulative and corrosive ties to industry and the rich, have left it wholly unable to cope with the challenges we face. Its terribly limited toolbox simply cannot address the economic insecurities and opportunities generated by today's global, interconnected, polluted, insecure, dyna
A 21st century issue: the irony of technologies of abundance in the hands of those still thinking in terms of scarcity.
That experiment where people are asked to split $100 and the other person sometimes wants none of it is shown as example of irrational behavior, but I don't think it is. If someone chooses to split it $80/$20 and the other person says no, knowing they will then get nothing, that isn't necessarily irrational: they might just value punishing the other person more than getting $20 themselves. So it's perfectly rational. Perhaps you considered this and that's why you put irrational in quote marks.
I agree with you otherwise.
Disclaimer: IANAL. This post is, however, legal advice, and creates an attorney-client relationship.
But economics is not a zero-sum game. I give you $150 and you give me an hour of labor. We've both benefited by the trade.
In all but the world's oldest profession, I'm inclined to disagree.
Here's one:
Person A runs a tavern. Person B (after a few beers) drives his car into that of Person A. Person B pays $150 to Person C to fix the scratches on Person A's car. Person C uses his $150 income at Person A's tavern.
Who profited by the exchange of $150? Are all three people better off?
Here's another: Person B drinks at Person A's bar. Person A runs a farm to grow barley. The farm uses water that slightly increases (~1%) water prices for 100k other persons. Are person A and B both economically better off for their trade? (Yes). Are persons A,B, and the 100k others all better off? (They might or might not all agree, but what if their generation's children do not!). Even more interestingly, the 1% cost will manifest as slight increases in other goods. Eventually someone will be holding the hot potato...
In examples with larger populations, the zero-sum exists but is more blurry. Fundamentally, most economists seem to think that the optimal solution for a 2-person economy is optimal for an n-person economy. Well, logical induction doesn't work way! (The implication from "n" to "n+1" doesn't exist!) It is well known in Mathematics that optimizing a function with multiple variables not the same as finding the set of variables where each individually optimize the function.
I'm not saying that there isn't value to distributing tasks across people that are specialized at them. I just don't buy the argument that economics is never a zero-sum game. I think in all but the most ideal circumstances, it is indeed zero-sum game. Often the case, the true cost is hidden in the form of time. If the costs do not happen at the same time as the benefits, people only see the benefits for a long time and then lament the cost later.
I realize I may sound like the reincarnation of Marx. Well, I don't like Communism either.
Well, one thing they could learn from open source is that it can be rewarding to forgo profits altogether. Now that WOULD be a revolution.
Just because it can't make perfect predictions all of the time doesn't mean that it is useless. You're right, people aren't rational and random chance plays into most things. If you ever take an Econometrics class, you'll learn that predictive Econometric equations always include a random error variable.
Furthermore, in your example, I don't think that showing that people don't take the most selfish path is a "useless" finding. What they did was generate data about how people usually behave. Concepts from Psychology such as empathy and the norm of reciprocity may help to explain this behavior (and the data is capable of reinforcing these theories). The data can be used to predict how people will behave in the future. THAT is invaluable.
Despite what you say, game theory is very intriguing and Econometrics is incredibly useful. You just have to be aware of the limitations, and know how to use the tools in your toolbox effectively.
That is what the World of Warcraft should do:
A) Allow players to go into debt
B) Allow players to have credit
C) Create things like derivatives that players can trade around.
Would be interesting to see what happens and how they manage it. They could also try to have one AH across all the servers (likely technically problematic). They all ready have the numbers for a pretty grand experimental in virtual economics, the closer they model reality, the more interesting it would be to see how things react.