Google Owes Me A Pony

I was always fascinated by economics... but every time I tried to study it I was put off by the sheer idiocy of it all. Pretty much every founding principle of economic theory is complete and utter crap, and it infuriated me that educated people bought into it. Economists totally tarnish the nobility of the Nobel Prize...

That was before I picked up the amazing book The Origin of Wealth, which is about a new field called complexity economic theory. Complexity theory states pretty clearly that "traditional" economic theory is crap... and replaces it with a vastly more enlightened model. The economy cannot be modeled with automatons with perfect knowledge buying widgets; its based on the principles of complex, dynamic, evolutionary systems... and has many emergent properties that are impossible to predict, although clearly not random. Its pretty academic, but if you have a basic understanding of physics, computer modeling, and evolutionary biology, its a must read.

Anyway, In the book the author tries to answer the only economic question worth asking:

  • How is wealth created?

Traditional economic theory states that by specializing in a trade -- or a product -- you can create wealth... I make axes, you make clay pots, we trade, and wealth is created... but why? What is this thing we call "wealth," and how exactly does trading and commerce create it?

We should emphasize here that the economy is not a zero-sum game... Many used to believe that there is a fixed amount of wealth in a country, determined by the natural resources a country has, its labor, and its ability to turn the two into wealth through technology. Nope. The economy is not a big pile of gold. People shouldn't have to lie, cheat, or steal to get their share... That philosophy is called mercantilism (thanks solistics), and is rejected even by traditional economists... although tradition economists could never get the math to work out to explain how wealth was actually created...

To illustrate further... On occasion, a king, a country, or an organization stops innovating, and simply coasts on the capital from previous glories. At this point, the local economy does resemble a zero-sum game, and no economic progress is possible. In fact, if the competition (ie, other countries) continues to innovate, the organization will get poorer. Throughout history, closed societies (North Korea, Fundamentalist Muslim nations, Ancient Sparta) failed economically, whereas their "open" counterparts (South Korea, Dubai, Ancient Athens) became economic powerhouses.

Throughout history, zero-sum thinking has caused wealth to stagnate... whereas sharing, cooperation, and innovation always generated new wealth. By following win-win situations, new wealth can be created almost by definition... But how on earth does it work? What could explain it all?

Wealth Is "Fit Order"

The author put forward a pretty cool theory: wealth is fit order. By this, he means that wealth has little to do with natural resources, capital, or labor... its not even so much about technology. Instead, wealth and knowledge are fundamentally the same thing!

Note: raw data is insufficient to create wealth... This difference is partially semantic, but it's important. Knowledge needs to be transferable and useful to others. Thus your religious faith and supernatural beliefs have personal value to you, but no economic value... In fact, they can have serious negative value if you listen to shady preachers or TV psychics...

True wealth only occurs when a piece of physical technology and a piece of social technology mix into a "business plan." In addition, implementing the plan needs to create higher levels of order from available raw materials... pedantically speaking, a plan must be thermodynamically irreversible, decrease local amounts of entropy, and thus consume lots of energy. I have my doubts if this is a requirement -- deleting embarrassing emails and demolishing buildings can alone increase wealth -- but for now I'll agree.

In the next step, the information -- or "order" -- is tested out in the "economy" to see if it is "fit". Beinhocker provided a wealth (har!) of data demonstrating that the economy is an evolutionary system, which means it adheres to a basic evolutionary algorithm:


10 differentiate()
20 replicate()
30 selectForFitness()
40 GOTO 10

This is survival of the fittest. Most ideas are slight variations on existing ones, and on occasion you see radical new ones. The radical ideas are more likely to fail, but every once in a while they completely change the economic landscape.

If the business plan is copied by others, it replicates. Now, sometimes the business world is trendy, and people copy ideas for no good reason... but if the idea lasts over a few years, it can be considered fit. Fitness, naturally, is dependent on your environment: a polar bear is a rock star on the ice, but wouldn't survive long in the Sahara...

Fit order creates wealth.

Skeptical? Consider this: did the invention of marketing create wealth? How about public relations? What about customer service, or human resource departments? Do any of these things produce physical objects of material value? NO! But do they produce wealth? YES!

How do we know? Well, corporations that adopted good practices in these "service" areas outperformed their competitors. They got better employees, better customers, better products, and better market capitalization. In the dog-eat-dog world of capital markets, companies with these services attracted and generated more capital. If additional wealth wasn't generated by these activities, no corporation would implement them for long.

Clearly, service industries generate wealth just as agriculture and manufacturing. Simple as that!

All of these are examples of fit order. Marketing is a good way to make a bad piece of technology sell better, or to help inform people about good technology. Public relations keep you out of trouble when the news is bad, and helps you toot your horn when the news is good. Customer service ensures your customers are happy, and willing to pay a premium for your product. Finally, good human resources ensure you locate and retain the best employees.

The job of a computer geek is even more abstract... we string together ones and zeros into applications that make our customers feel stupid, then we mock them. By some bizarre chain of events, the economy appears to prize this career over the creation of food... Similarly, school teachers are vital for our next generation, but they don't make nearly as much money as sports stars... Adam Smith called this the diamond/water paradox: water is essential to human life but is nearly free, whereas diamonds have little to no value and yet cost a lot... Price is all about supply and demand, and has little to no bearing on the actual value of something.

Ummmmm... So Why Does Google Owe You Anything?

If Beinhocker is correct, and there's a direct correlation between wealth and knowledge, then public data stores like Google are modern wealth-creation engines... This idea in general was covered by The Economist and Jimmy Guterman at O'Reilly recently, but I don't think either understood the full implications...

When the modern banking industry began, very few people saw it as the wealth-creation mechanism that it was. Many saw it as a wealth protection and re-distribution system. Investors saw them as a "safe" place to put their money. Bank managers understood profit, loss, and risk... which meant charging the right interest in order to make a profit for the bank and its investors... however, many still regarded the economy as a zero-sum game.

Since Google stores so much information, they can mine it to find new kinds of ideas, new concepts, and create new knowledge. Thus, they can sift through the cruft and chaos on the web to find the order. Since Google tracks everything, they can watch trends, and monitor the popularity of certain ideas. Thus, they have their fingers directly on the pulse of what kind of order is fit.

If wealth is actually "fit order," then giving information to Google is like putting money in a bank, but not getting interest! That's why Google owes me money... or at the very least they owe me a few good ideas. However, I already have more ideas than I need, so I'll settle for a pony.

The Economist compared Google to some of the original banking families... not because they do the same things, but because they both wield tremendous power. Well, Google indeed holds the same power... not by coincidence, but because Google is creating wealth in the same way the Rothschilds and the Warburgs did. It by no means a coincidence that they wield the same power: if Google was not instrumental in the creation of wealth, they would be on the ash-heap of history by now.

An older article in The Economist asks how a company like Google can be so big, and yet claim to not be motivated by money. I believe the answer is simple: Google isn't motivated by cash; Google is motivated by wealth. Cash is only one mundane variation of wealth, which becomes less and less useful every year. What use is your gold in a world with Star-Trek replicators? It isn't worth nearly as much as your ideas are... and desktop replicators are closer to reality than you may know...

As such, Google might just understand things about the new economy that others fail to grasp... or perhaps they just stumbled ass-backwards into one of the greatest wealth generation systems since J.P Morgan.

Either way, good for them.

And gimme my pony.


Related Posts:

Nobel & Google

Very interesting, I'll have to check it out. Two points:

1. There is no Nobel Prize in economics. There is a "Nobel memorial prize" awarded at the same time to cheapen the real Nobel prizes.

2. You never get information from Google?

-Jeff

Re: Nobel & Google

1. Correct... I read about that in "A Beautiful Mind," but didn't want to get into the details here. When John "Totally Nuts" Nash won, the entire "Nobel" prize was almost scrapped in protest. I wish it had happened...

2. Let me put it this way... if Google uses my email/analytics/search history for targeted ads, and they get $1000 per year (or whatever) to target me, then I'd argue they owe me a slice of that. Now, Google provides many free services in exchange: search, email, analytics... so is that a fair trade?

The question is this: what is a fair "interest" rate for my information? That's a complex question that will take a long time to answer... however, like everything, the market will slowly migrate towards an effective solution.

Once people come to realize how wealth is generated, next-generation search engines may actually wind up paying you to use their free services, and allow yourself to be tracked. If so, then other companies will have to follow suit, or they'll not survive in the market.

Economic Theory Is Wrong?

Your post makes sense, but I'm confused as to what parts contradict the "founding principles of economic theory". I'm quite sure no economist in the last several hundred years has ever said that the economy is zero-sum, for instance. How is this "traditional theory"?

economists ignore what they can't explain

They might never admit they believe the economy is zero-sum... but they certainly never created the mathematical models to describe wealth creation. And in fact, assuming that the economy grows pretty much invalidate most "traditional" assumptions: perfect knowledge, no delays in communication, points of equilibrium, etc...

Even those that follow Nash, and non zero-sum game theorists, still believe in equilibrium. By definition, a dynamic, growing system is never in equilibrium, not even as a first approximation. There are, at best, "strange attractors" that make systems tend towards a state that only appears to be an equilibrium point.

I'd recommend reading the first 1/3 of Origin of Wealth. That gives a good overview of the gaps in traditional economic theory... Beinhocker explains this stuff waaaaay better than I can ;-)

origin of wealth

I'll take a look at Origin of Wealth. In exchange, I recommend taking a look at a normal Econ 101 textbook. Nearly all of what you've said (and what I gathered from the Amazon reviews) is compatible with my Economics textbook from college, and a lot of it is directly present. I think Beinhocker may be overstating the weaknesses of "traditional economic theory," bashing theories hundreds of years old instead of looking at what economists currently believe.

But then again maybe Mankiw isn't a "traditional economist". ;-)

interesting...

In that case, you might get more out of the next 2/3 of the book... I've always stated that "good economists" always used intuition to discover the workings of the world, but they could just never get the math to work out.

When did Mankiw write his "Econ 101" textbook? Complexity theory started in the mid-90s. Ostensibly because a bunch of Physicists flooded the "market" of economics after the cold war ended... and were appalled at the state of economic theory. They injected chaos math and evolutionary biology theories, things became a lot more realistic, and the math suddenly started to make sense.

I'm curious... what is a "traditionalist" model for wealth creation? I've never seen one, and Beinhocker claims none exist.

"new economics"

I believe Mankiw's textbook ("Principles of Economics") was written in the 90s. Wikipedia says, "More than one million copies of the books have been sold in seventeen languages." But I don't think anything in it is earth-shatteringly different from older textbooks, although there's plenty (as anywhere in economics) that's debatable.

The idea that "the economic system is a zero-sum game" or that "the economy is a big pile of gold" is called Mercantilism, and was fashionable in the 16th through 18th centuries. But economists haven't thought that way for hundreds of years. Adam Smith's The Wealth of Nations (1776) was one of the first major criticisms of mercantilist thought. It wasn't completely correct in a lot of places, but the idea that "sharing, cooperation, and innovation generates new wealth" has been around at least as long as Adam Smith.

I would recommend checking out Wealth of Nations for a better view on "the traditionalist model for wealth creation". My summary will likely not do it justice, but the general idea is that wealth is created by division of labor and specialization, along with free trade (allowing those with a comparative advantage in their specialty to trade with those with an advantage in a different field, thus benefiting both parties). And self-interest is not necessarily bad, because combined with division of labor and free trade, it can often result in the best outcome for both parties.

This may sound surprisingly similar to Beinhocker's "Differentiate, Select, Amplify" process. Beinhocker probably makes some good points, but I doubt his book is quite as revolutionary as you make it out to be.

but nobody did the math

To clarify: I know that traditional economic theory claims specialization can create wealth. Both this book and The Undercover Economist have several examples of how that happens... however, Beinhocker 's main point was that traditionalists could never get the math to work out! They have no evidence, no proof, and no models that accurately represent reality.

That's what I meant when I said I've never seen a traditionalist model that explains wealth creation.

Some models describe processes as "random" -- such as the stock market -- when there is ample evidence that the systems are too dynamic to be random. Other models were based on abstract concepts like utility -- I prefer apples, but at what price do I buy oranges instead? -- which required "perfect knowledge" in order for the models to function. Others have an artificial boundary between systems -- macroeconomics and microeconomics -- when in fact they're the same thing. Also, Beinhocker provides proof that capital markets are fundamentally inefficient. I've never heard an economist say that before... maybe its a part of a secret handshake. ;-)

One question: how would a "traditional" economist explain why Russian people are poorer (on average) than Europeans? It has a highly educated population, free markets, and tremendous natural resources... every explanation I've heard is blather about trade policy, but no math. Beinhocker's book uses some pretty cool computer models to provide evidence about why this might happen. Naturally, there is no proof, because its a unpredictable emergent property of a deterministic system... but at least he can explain how it could happen from base principles...

It might not be as groundbreaking as I claim... since this theory is 10 years old. However, this it the fifth book of economic theory I've read, and it's the only one that even came close to answering any of the questions I consider important.

there's plenty of math in my textbook

traditionalists could never get the math to work out!

I'm not sure what you mean by this. Do you mean, "the mathematical models that economists have used over the past fifty to a hundred years are inadequate to accurately portray reality, because reality is too complicated to be portrayed by simple mathematics," or do you mean, "the mathematical models that economists have used are inadequate, and Beinhocker produces new mathematical models that have much greater predictive power than traditional models"?

If the first, I'll happily agree with you--but I'd imagine so would every economist who ever lived. That doesn't mean we don't have some approximations that provide decent results. If you mean the latter, on the other hand, this is a much more interesting claim.

Some models describe processes as "random" -- such as the stock market -- when there is ample evidence that the systems are too dynamic to be random.

I'd recommend "A Random Walk Down Wall Street" for some in-depth discussion regarding what economists mean when they say "the stock market is random". (Hint: they don't mean random.)

Others have an artificial boundary between systems -- macroeconomics and microeconomics -- when in fact they're the same thing.

They're the same thing in principal, but they follow very different mathematical models. It's like looking at the behavior of the electrons in an atom, versus the behavior of a gas inside a container. It's all "the same thing" at some level--if you know all the atomic movements you can know the movements at the higher level as well--but the reality is that the behavior at a high level has much simpler mathematical forumulas because a lot of noise simply falls out of the equations. Same thing with micro/macro-economics.

One question: how would a "traditional" economist explain why Russian people are poorer (on average) than Europeans? It has a highly educated population, free markets, and tremendous natural resources

I confess I'm not an expert in this field, but I would guess that an economist would say that, on average, the population is less educated, the markets are less free, and there are fewer resources than in Europe. Russia may be on the rise, but you can't deny that it is still far from a laissez-faire economy.

math, etc.

Regarding math, I mean both. Beinhocker presents research that uses computer "agents" (like The Sims) with simple rules to re-create complex economic systems from scratch. "Laws" about scarcity and supply-and-demand occur as an emergent property of the interaction between agents... but they look different than older models predict. The researchers claim their mathematical models about "emergent" properties are not only significantly more accurate, but they are also strongly grounded in "real world" assumptions of human behavior and dynamic systems.

Regarding Wall Street, I believe Beinhocker criticized "A Random Walk Down Wall Street" on a few items. He also demonstrates with agents that huge swings in the market are an inevitable by-product of allowing people to have buy/sell orders for stock. These swings are 100% deterministic, yet impossible to predict. Its dynamic -- or chaotic -- but not random. As you probably know, if stock swings really were random, then we could make predictions ;-)

Regarding the macro/micro distinction... I believe this is where you may think Complexity Economics is backwards. They like the micro- world to be based on very simple yet valid assumptions, and program them into agents... also, the macro- world doesn't really have any valid simple approximations. Using your gas analogy, perfect atoms have simple properties, and things like pressure and volume are high-level approximations of the system based on statistics and averages... however there is no emergent behavior in a perfect gas. Thus, such macro- level approximations don't really have a real-world analogy in economics... The macro behavior is more complex, not less, and any approximation is no better than an educated guess.

Regarding Russia... he never approached it specifically, but he did cover a lot of African nations. This is where they dove into sociology concepts like "social capital," and their role in wealth creation. In general, the more your population trusts random people, the more wealth a country has. He demonstrated the validity of this theory with (again) computer agents. The USA is an anomaly, since Americans don't seem to trust people much... However, they do have trust in the legal system to settle disputes. Capitalism and free trade vastly improve the speed of innovation, but not necessarily wealth.

Anyway, I found a copy of Principles of Economics on Amazon for $10... I'll take a peek at it next.

Sorry but I had to stop at

Sorry but I had to stop at the end of the third paragraph under your little "How is wealth created?" piece.

...well for two reasons:

One, this is really long

and Two, because Ancient Sparta crashed because they fought and defeated Athens, who was the economic powerhouse at that time, and didn't step up to take leadership. They just wanted to shut the Greeks up.

And the reason that Athens was an economic powerhouse is because they were taxing all those other areas for money to build up a strong navy, but when Persia never came back to attack them, they basically stole all that money and used it for art and architecture to increase their wealth.

It really had nothing to do with strategic economics. I dont know if you knew this or not, but if that is what the book told you, I think that book is a bit inaccurate.

perhaps...

Yes, this post is long, but not as long as that book is ;-)

Second, there were many ups and downs in who held power in ancient Greece... The Athenians became the economic powerhouse in the Delian League for multiple reasons. The primary reasons was accidental: nations in the league needed to supply either money or warships to be in the league. Stupidly, and almost every country preferred supplying money (other than Athens). As a result, they "financed their own slavery" because after a while, nobody could challenge Athens.

However, that raises the question as to why the Athenians were the only ones to step into that power vacuum to try to fill it... just as they did during the Ionian revolts, back when nobody had a clue who the Athenians were. Why did the Athenians and the Mesopotamians able to gain so much power? Why were the Spartans -- relatively speaking -- so weak? In fact, if you put a Spartan on a boat, or mixed them in with troops from other nations, they were worse than average... some accounts say that a Spartan warrior was only good in Sparta, where there are no temptations or scary new technology to distract them.

Its an oversimplification, but societies that are more likely to challenge "the way things are," and take reasonable chances, are the ones who will out-compete against their neighbors. This applies equally to economics, warfare, and geopolitics.

mis-phrased

I think you may have mis-phrased some statements here. You stated that when companies adopted marketing techniques, wealth was created. This is wrong. Wealth was transferred to the company from an increased number of customers attracted to the company because of its ads. The only way to create wealth is to add resources to an economy - raw materials, workers, manufacturing facilities, etc. Knowledge alone does not create wealth, It is the appropriate implementation of that knowledge to increase the resources of an economy that creates wealth.

depends on your definition of "marketing"

If you think of marketing as merely "manipulation," then you are correct. This is merely a transfer of wealth. This is like Coke versus Pepsi kind of marketing.

However, if you think of marketing as "education," then I disagree. In that case, you have a great product that is needed by the market, but the market doesn't know that it needs it... or perhaps it doesn't know which one of several that it needs. In which case, "marketing" is simply trying to get your product into the hands of people and businesses who would be better off with that product. In many cases, this can free up labor and capital, as well as create wealth.

Wealth Creation

I am unsure where you got the idea that modern economics can't explain wealth creation, but it is extremely possible mathematically, and common sensically, if you will. For the basics of the idea, try: http://en.wikipedia.org/wiki/Comparative_advantage

If you're speaking more about wealth creation in a financial sense, try: http://en.wikipedia.org/wiki/Fractional_reserve

Re: Wealth Creation

I'm familiar with the principles of absolute advantage and comparative advantage... that's just basic distribution of labor... For example, imagine a manager who is an amazingly fast typist. It's still a good idea for the manager to have an assistant typist, even if the typist is slower than the manager... because that frees up the manager's time to do other things that only a manager does.

Yes, its a great theory explaining how time and energy can be saved... but that doesn't fully explain how wealth is created. That's the point I'm trying to make there... classic econ could only explain how to save money, or grow new kinds of wealth. But it fails to describe what wealth actually is.

I think the principle of "fit order" is the best explanation of what wealth actually is better than anything else I've seen.

Wondering why the economy is messed up?

If you want to know why the economy is so messed up, I'll tell you.

Money is less than worthless. Money used to be backed by gold and other precious materials. If everyone with US currency went to the government right now and demanded their IOU be settled (yes, money is an IOU), the government would not be able to give everyone what they're owed. In fact, they would ask YOU for money.

Enter our 11.3 trillion dollar debt. Guess what people, if you're a US citizen, you owe some other country money. Each and every one of us owes approximately $37,000. Don't have that kind of money? Hmm, why not?

Let's look at another reason why money fails; permanence. Money doesn't just disappear. Sure, you may never see your money again after you spend it, but it GOES somewhere and that somewhere is UP. The problem is, it never comes back down. But why doesn't it circulate?

I'm sure you've heard the saying 'the rich only get richer'. It's more true than you think, since being rich not only saves you money, it MAKES you more. Only small amounts of what wealthy people make actually go back into circulation. Most of it is tied up in assets and bank accounts, where it can't be touched by anyone else. What this does is create a vacuum that prevents other people from becoming wealthy, unless they work for the people that are already wealthy.

You might be thinking 'bah, anyone can make money if the work hard!'. So let's pretend everyone works hard and makes lots of money. Do you think everyone can be rich? What happens if we all try to make $250,000 a year? Who will mow the lawn and how much will THAT cost?

So where am I going with this? Well, basically, it all leads up to competition. People think competition makes our capitalistic society work, but they're dead wrong. It keeps the rich, rich and the poor, poor. See, fair trade and a stable economy is about trading wealth. You can't trade wealth if everyone has the same thing.

The only way our economy can ever become stable is if people STOPPED competing and started working together.

Yeah, like that will ever happen.

Re: Wondering why the economy is messed up?

Some criticism:

Enter our 11.3 trillion dollar debt. Guess what people, if you're a US citizen, you owe some other country money. Each and every one of us owes approximately $37,000. Don't have that kind of money? Hmm, why not?

The US "Debt" is in the form of Treasury Bills that must be paid off some point in the future... which raises the questions who owns the US debt? The reality is, that about 75% of the nation debt is in the hands of Americans. The Social Security Administration and Medicare have trillions in Treasury bills, and US-government held US debt is about 50% of the total. About 25% is in the hands of Americans and American businesses. The remaining 25% is held by foreign banks. Japan, China, Luxembourg, and England being the major holders.

You might be thinking 'bah, anyone can make money if the work hard!'.

I certainly don't believe that. Most Americans are hard workers, but few are rich... but that is explained with simply supply-and-demand. If the supply of hard workers is so high that it exceeds the demand, then the wages will naturally be low for "hard workers." In order to have a chance at wealth, you will also need to learn a skill that is in high demand, but short supply. Do that, then you'll certainly make a lot of money.

Of course, you'll probably need to re-evaluate every 5 years to see if your skills are becoming common... and then you'll need to learn new ones to keep earning high wages.

There's nothing wrong with competition; as long as the players know all the rules.

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