Economic Balance Can’t Come from Sovereign State Policy Makers

Today’s strategy+business article, A Continuous Quest for Economic Balance, discusses what countries must do to balance their economies. It starts, in its first sentence, revealing a bias by focusing on “what cracks the storm [the economic crisis] revealed in the foundations of national economies.”

I think there is a larger crack that appeared during the financial crisis, one that revealed itself in protectionist policy and the resurgence of economic nationalism around the world (covered well by the Economist back in February 2009 – The return of economic nationalism). The problem is that no nation has the ability to manage its own economic destiny. The disproportionate abundance of resources to the number of people able to consume those resources created false models of sustainable supply and demand that no longer hold in the vastly more populated, more connected and more aware world.

Interdependent supply chains and reciprocal economic leverage and dependency mean that we have moved beyond negotiating trade accords that offer quid pro quo between individual nations. Despite the existence of international efforts, such as the WTO’s Doha Development Agenda, the dialogue remains stilted by sovereign nations vying for the best deals to serve near-term interests. And when such efforts fail, either because emerging forces raise bigger issues, or they can’t get what they want, they walk away from the negotiations.

In order to move forward effectively, we must see the world, its economic, human and national resources, as an ecosystem. We must understand the feedback loops that cause turbulence. We must see bubbles, like the housing bubble in the US, as a global threat caused by local short-term optimization that feeds into long-term global instability. Local national interests in economic isolation are by their nature unsustainable. Only more holistic models can capture the subtleties and interdependencies of the global economy, and even those will be limited, currently, by our ability to understand the models, and to build functioning simulators of them.

In order to create a sustainable economy, we need to invent a new form of economics that incorporates what we know about feedback systems and chaos, complexity and the role of knowledge. It will be uncomfortable to move from a consumer-driven industrial economy, but it may prove even more uncomfortable to stay in one as our consumerism spreads to new economies, accelerating the sins of neoclassical economics, further eroding global stability in markets and in states as local control fails to produce results.

Economists, and even more so, politicians, want to predict the future. They want to assure people of a prosperous economic future and assure themselves of a robust and lengthy career. The current economic crisis may have created a crack so large in the predictive power of economics that political issues around the world, including those currently underway in the Middle East, will force politicians to find new platforms, perhaps ones that embrace chaos and non-linearity, and ultimately, more realistic views of the interdependencies and unpredictability of local economies, especially when trying to sub-optimize for local, sovereign issues.

Back in December of 2001, Artrem Prokhorov at Michigan State University (now at Concordia in Canada), wrote a paper called Nonlinear Dynamics and Chaos Theory in Economics: a Historical Perspective in which he concludes:

Evidently, chaos represents a somewhat uncomfortable state of affairs in science and, in particular, in economics. First, its presence makes forecasting almost impossible and the remedy relying on the increased precision of measuring the initial conditions and on the reduction of computation errors does not help in practice, as the exponential rate of error propagation implies that in order to obtain a marginal extension of the prediction horizon, one might incur astronomical costs. Second, with the economic time series available at this time, it has been proven impossible to find convincing evidence that nonlinearities in economic time series are caused by chaotic dependencies. The development of chaos in economics has therefore been influenced by the high technical difficulty and high costs of looking for something that may not exist in a useable form whereas one might more successfully explore other variants of nonlinear dynamics that can improve predictability. The history of chaos research in the timeframe between its enthusiastic outset and today’s fadeaway suggests that economists have largely chosen to shift to a less troublesome research agenda.

Perhaps it is time for economists to revisit chaos just as it has visited them – and help states learn not how to balance their economies, but what needs to be done to create a functional global economy that takes into account the non-linear distribution of resources across global political islands.

Note: I found an interesting deeper explanation on this topic in the Post Carbon Institutes Energy Bulletin: The Economy is an Ecosystem by Jon Rynn, which interestingly, was written in March of 2007, before the economic crisis (see note below).  About: Energy Bulletin is a program of Post Carbon Institute, a nonprofit organization dedicated to helping the world transition away from fossil fuels and build sustainable, resilient communities.

Note: the Energy Bulletin is no longer being published. You can find some of their top articles via this post from Renogy that also covers the history of the Energy Bulletin.