Economic cosmology – Equilibrium

Although most of my interest in integrating evolutionary biology into economics concerns treating people as evolved (or evolving) animals, I consider that economists can also learn a lot from the dynamic analysis of biological systems. This thought is shared by John Gowdy and colleagues and is the subject of their third economic cosmology, equilibrium, in their article Economic cosmology and the evolutionary challenge from the Journal of Economic Behavior & Organization special issue, Evolution as a General Theoretical Framework for Economics and Public Policy (the first two cosmologies, the rational man and the invisible hand, are the subject of two earlier posts).

As Gowdy and colleagues put it, ecosystems are complex, often out of equilibrium and rarely tend towards an equilibrium state. It was not always seen that way and some of the equilibrium mind-state remains (particularly in common conceptions), but an equilibrium view of ecosystems has been abandoned. That is not to say that individual agents or groups within an ecosystem should never be treated as tending toward an equilibrium (say, a gene moving to fixation), but as a whole, ecosystems do not maximise anything.

Gowdy and colleagues suggest that economic concepts of equilibrium should be seen in the same way, and discarded as was the concept of harmonious natural order in biology. I am sympathetic to their argument, although Gowdy and colleagues pick some interesting points with which to make it.

Their first relates to Milton Friedman’s The Methodology of Positive Economics (worth a read), in which Friedman argued that inefficient firms will be driven out of business, leaving only the efficient profit maximising firms in the competitive market. This allows firms to be treated as pure profit maximisers. Gowdy and colleagues suggest that the problem with Friedman’s approach is not that it is evolutionary, but rather that it is not evolutionary enough. This is a fair enough point, as adaptionist hypotheses such as this require testing to move beyond a ‘just-so’ story. For example, Gowdy and colleagues refer to studies suggesting that firms that are narrowly focussed on profit are more likely to go out of business. However, this might not be evidence that profit maximisation does not lead to firm success, and could point more to the complexity of running a business in a modern economy. Gowdy and colleagues highlight this complexity when they relate Nelson and Winter’s important point that firms shape the environment themselves, adding a further layer of complication to any strategic consideration.

More importantly, however, what does this mean for the concept of equilibrium? Even though an ecosystem may not maximise anything, the individuals within it may do. In studying them, the biological agents are often treated as maximisers. Similarly, an economy doesn’t maximise, but treating firms as maximisers may serve some purposes. This allows us to get to the more substantial point. In a complex, shifting landscape, as firms struggle to maximise profits with varying strategies and degrees of success, changing the environment as they go, there is no guarantee that they will maximise profits across the economy at any time. A strategy that maximises profits at one moment may not the next. And even if profits tend to be maximised, what of general wellbeing or other economic measures?

The flip side to this observation is the massive increases in wealth of the last 200 years. Even though there is no guarantee that an economy will tend towards an equilibrium that maximises wellbeing, modern economic structures have done a pretty good job of creating stable upward growth.

Gowdy and colleagues focus more attention on the policy implications of overturning the concept of equilibrium than they do for the other two cosmologies. They note that although there has been a marked increase in material prosperity driven by market competition, there has been increased risk taking such as environmental degradation and resource depletion. Myopia, biased time preferences or other behavioural anomalies may drive that risk-taking, with Gowdy and colleagues noting that markets have not yet constrained them.

Further, they consider that evolutionary theory may be of use in managing threats to prosperity. This could be through an understanding of how small groups interact (a subject of a later article in the special issue) and of the constraints that must be applied to self-interest to achieve the common good. It is on this point that I am more skeptical. While we should take the lesson of biology that equilibrium is a shaky concept, the lack of equilibrium does not immediately point to the benefit of economic interventions. After all, if firms can’t even maximise their own profits, we need to be humble about our ability to control higher level outcomes. Our experience in trying to manage ecosystems suggests that ‘managing’ an economy is a difficult task.

John M. Gowdy, Denise E. Dollimore, David Sloan Wilson, & Ulrich Witt (2013). Economic cosmology and the evolutionary challenge Journal of Economic Behavior & Organization, 90S DOI: 10.1016/j.jebo.2012.12.009

My series of posts on the Journal of Economic Behavior & Organization special issue, Evolution as a General Theoretical Framework for Economics and Public Policy, are as follows:

  1. Social Darwinism is back - a post on one of the popular press articles that accompanied the special issue, a piece by David Sloan Wilson called A good social Darwinism.
  2. Four reasons why evolutionary theory might not add value to economics - a post on David Sloan Wilson and John Gowdy’s article Evolution as a general theoretical framework for economics and public policy
  3. Economic cosmology – The rational egotistical individual - a post on John Gowdy and colleagues’ article Economic cosmology and the evolutionary challenge 
  4. Economic cosmology – The invisible hand - a second post on Economic cosmology and the evolutionary challenge 
  5. Economic cosmology – Equilibrium (this post) – a third post on Economic cosmology and the evolutionary challenge

I will extend the list and put up links to the other posts as I develop them.

Comments

  1. says

    I don’t know why they emphasized Friedman over Alchian, even though they mention Alchian. This is all closely connected to the Lamarckian style evolution later endorsed by Hayek, which is far from a just-so story, even if it is difficult to operationalize.

    In any case, I obviously don’t always love the excessively economistic way of looking at things, but sneering at any profit-maximization-in-equilibrium is far too often an excuse to just say whatever you want. This is the primary method of achieving falsifiability (such as it is), after all. What exactly here cannot be fixed by changing the z-goods specified in the utility function? Is that not the modern way of looking at things? Is that approach not 40 years old?

    • says

      I’m not sure why they emphasised Friedman either. Biologists regularly treat individual agents as maximising fitness or fitness related traits. The question of whether a proximate objective of maximising profits directly maximises firm fitness could be interesting, but it takes a while to work that into a story about equilibrium. I suppose if you wanted to change the z-goods, an evolutionary approach could help you define them, but again, how much of that is a story of equilibrium? To the extent they were going to use it, I think the Friedman piece would have been better put in the rational man and invisible hand sections of their cosmology, and gone to Alchian (as you suggest), Veblen, maybe even some Marshall, and Nelson and Winter for their equilibrium critique.

      • says

        The question is just how much of the story relates to equilibrium issues versus out-of-equilibrium issues. The equilibrium issues comprise a very large degree of what is interesting, and as we’ve both said one can just keep that in the standard paradigm with z-goods.

        It’s hard to operationalize anything out of equilibrium. Sure there are ways of making such processes “dynamic” within the standard paradigm, but then the objection becomes that isn’t what “true” out-of-equilibrium is. I won’t really disagree with that position. But the sheer number of directions you can take it – in addition to the names you gave, throw in Kirzner and Schumpeter – and how do we determine which direction is important? But I guess what I’m really getting at is that these are all critiques that have been around forever, and it’s been incredibly difficult to make them tractable in such a way that explains the real world. Too often going out-of-equilibrium just grants you license to excuse to run in the ideological direction of your preference. In my experience, that is true about both Gowdy and DSW.

  2. says

    I find it interesting that the economists are borrowing ideas of out-of-equilibrium from biologists, I have recently done the exact opposite. Although verbal theories in evolution often talk about things being out of equilibrium or far from equilibrium, most formal theories — especially ones on static fitness landscapes — tend to assume that organisms are at a local fitness peak (or evolutionary equilibrium) or reach one quickly. This is similar to how an economist in a verbal theory might say “oh yeah, of course the whole economy is away from equilibrium” but then (at least in the neoclassical context) will still use equilibrium assumptions in their mathematical model. In econ, theoretical computer scientists (i.e. people working in algorithmic game theory) have recently showed this to be mathematically unjustified by proving that finding a Nash Eq (or an eq in many other common economic models) is a PPAD-complete problem. I decided to use the same techniques to show that evolutionary dynamics on static fitness landscapes (in particular in the NK-model) is PLS-complete (PLS is a cousin of PPAD, in the game theory literature it is usually seen when we consider games that are guaranteed to have a pure equilibrium, like routing games). Since you are interested in complex systems, I thought you might enjoy this reverse direction from econ to evolution (both through cstheory) in questioning equilibrium assumptions even in static environments.

Comments, thoughts, suggestions?