First encounter
andrea.parisi | Published: 27 Jun 2023, 10:38 p.m.
Many years ago, I was studying for my PhD in the United Kingdom. While studying, news of a financial crisis were circulating on major news sites. I had heard the words 'financial crisis' already when I was a kid, but beyond noting them, they had little meaning to me: I was within my family and really when you are a kid and in your family your only worry is to play and eat cakes!
Hence, this was my real first experience of the uncertainties and worries linked to a financial crisis: will I find a job once I finish my PhD? Will I earn enough to sustain myself? The sources of information were news outlets available online or on paper. Most of the articles I read suggested that the financial crisis was the result of people not having enough money and, thus, companies being unable to sell. The general suggestion was that salaries had to be higher than their current level. Well, this to me seemed to be good news: after all, rising salaries should not be hard to achieve, should they not? Curious as a physicist might be, I imagined how a company could rise salaries, and I immediately hit the problem that it needed to rise earnings and prices as well. Well, I thought, if the private companies cannot increase salaries immediately, certainly the Government can! Note how naïve I was! A Government can do anything: it can support individuals out of jobs, so why should it not be able to support higher salaries? Of course, I knew little about economics, but this is hardly surprising. Unless you went to study Economics at University, you are out of basic economic notions: in my infancy I only had a glimpse of economics (mostly that you work to earn money and buy stuff) in some primary class, but after that I was immersed in Literature, Maths, Sciences, Latin, History, Geography, Philosophy... but no Economics whatsoever. And yet, economics is at the heart of our choices: we need to decide about our jobs, we are supposed to decide about the economic measures taken by politicians on election day... Really, how can we take any decision without knowing the basics? I would learn later that history was shaped by economic events rather than battles and revolutions: the latter were just the results of economic choices. The fall of the Roman Empire, the French revolution, the rise of dictatorships in Germany, Italy, Portugal and Spain after World War I, were consequences of economic mess.
After briefly delving into the subject, I quickly learned one fundamental law of Economics, the one that defines a price as the ratio between monetary mass and quantity of products: \begin{equation} P=\frac{M}{N} \end{equation}
Such a law made it clear that the increase in prices was the consequence of an increase in monetary mass. For the unfamiliar to the above law, it states a very intuitive fact. If I produce apples and you produce oranges, and each of us sells 1 kg of our production, and we have €10 each, I cannot sell my kilogram of apples at €10,000 because you cannot buy them as you do not have that amount of money: no exchange will occur. Since I want your oranges and you want my apples, we need to set prices that are commensurate to the amount of money that is circulating. Thus, setting the price to €10 for both products ensures we can make the exchange without resuming to barter. Playing a bit with this kind of reasoning, you can explore what would happen if I produce and sell 2 kg of apples and you produce and sell 1 kg of oranges. What would the prices be? What if production increases? It is relatively easy to conclude that the above law holds.
Moving from this basic understanding, I decided to study more. One year later, on a visit to my home city, I bought a book of economics from a specialized University Bookshop. The shopkeeper suggested a couple of titles, and I chose “Economics” by P.A. Samuelson and W.D. Nordhaus. At the time I did not know who the guys were, but I saw they were actually Nobel laureates, and I immediately bought the book.
The idea of learning economics was directly linked to my attitude as a physicist for at least two reasons. The first is the fact that I am curious, and interested in learning new things, especially when they have some connection to what I do, my life and my hopes. Given work availability was fundamental to my future, trying to understand a bit more about it was just natural. The second is that physicists have an excellent knowledge of mathematics. To place things in context, physicists use mathematics at a level which is unrivaled in any other science, except, of course, mathematics itself. The complexity of the methods that physicists use has no equivalent in other sciences: many complex methods and concepts used in chemistry, in biology, in medicine, in social sciences, and even in economics originate from Physics. Think for instance to the Markov Chain Monte Carlo method, a method widely used in so many domain of science: it was developed to solve neutron diffusion problems in Physics. In fact, mathematicians and physicists may work together, and there is a healthy exchange whereby physicists produce new methods to deal with the strange features of Nature, and mathematicians build the foundations for a well-defined development of those methods with new mathematics. When I was studying in Rome for my university degree, a friend of mine who was studying economics told me one day that they had studied the logarithms - and I smiled because as physicists we eat logarithms for breakfast. We do not just know what a logarithm is: we know what it implies, what processes underline its presence in a phenomenon. Considering all of this, when I decided to study economics I thought that, given my background, it would not be too hard to understand, at least from the point of view of the math. Of course, the logic and the theory itself were a different story, and I was fascinated already by what I had seen. What I wanted now was an in-depth understanding of the basics I had seen, and a glimpse of what economic theory had to offer.
Reading the book, however, was not as exciting as I thought. On the contrary, an ever-increasing sensation of confusion appeared. Concepts, formulas, stated economic laws were just weird, discussions were superficial, and sometimes the stated laws seemed just wrong. Of course I was looking at the text with the eyes of a scientist, and that meant pulling out all sorts of things. The way economics was exposed differed from anything I had seen in science.
Economics is a social science, but it stands a bit away from other social sciences like History, Geography, Law or Sociology, because it makes heavy use of mathematics, describing theory through mathematical laws. For example, geography makes use of maths when dealing with maps: every plane geographical map is a projection from a three dimensional spherical Earth surface to a two dimensional distorted representation, and geography helps by studying which projections are best in different conditions or towards different aims. I used mathematical methods in geography for what is known as “redistricting” (often known also as “political redistricting”) which is the optimal re-partitioning of a geographical area in order to optimize some specific feature. For instance, dividing a county into districts such that their populations are similar. History, on the other hand, has not made big use of mathematics until recently. The most typical use of mathematics was to calculate the lifespan of monarchs. However, some interesting applications of recent developments in science led to interesting outputs. For instance, in 1988, P. Bairoch, J. Batou and P. Chèvre published a book titled “La population des villes europennes: banque de donnees et analyse sommaire des resultats 800-1850”. This book took a huge list of data sources estimating the population of cities in Europe between 800 AD and 1850 AD, and used recent advances of a branch of science known as self-organized criticality (a theory originating from Physics), to validate the data and estimate missing values. More recently, network analysis has been used to infer relationships between historical data. Sociology and psychology also use mathematical statistics to infer relationships between data sets: is schizophrenia correlated with certain environmental conditions? If used correctly, statistical analysis can provide very useful insights into how certain states, conditions, social issues may be inter-correlated.
What about economics then? In economics, the story is different. While all the examples I mentioned above use mathematics to learn about data and its implication, economics attempts a further step by providing forecasts. We hear it on the news every day: the Government forecasts the industrial output for next year, the Federal Reserve forecasts the rate of price inflation for the forthcoming three months, the Bank of England forecasts the GDP growth for next year. The very fact that they are making forecasts means that there is a mathematical “model” on which these forecasts are based. That makes it interesting because producing mathematical models to describe observed data is the domain of natural sciences. Indeed, economists are social scientists that seem to act as “hard” scientists or scientists using rigorous methodologies. Yes, because as soon as you start producing “models”, then you are bound to be rigorous, otherwise your model may lead to completely incorrect or nonsensical results. This is a fundamental tenet of research activity which needs to be made absolutely clear. Imagine, for instance, that you want to describe the motion of an object, like a stone. Now, if you push the stone, it will move. If the stone is big, you will need to push a lot, and the stone will move at a certain speed. Thus, push (or force exerted) produces a movement at constant speed. As soon as you remove the force, the stone stops. That is the theory behind the movement of objects that Aristoteles provided 2,300 years ago.
Nowadays we know that this is a wrong model. Why? Well, if you put the same stone on an iced lake and push, the object will move at constant velocity without the need for a continuous push. That is what makes ice-skating fun. Thus, a stone can move at constant speed if no force is applied. An applied force produces an acceleration, however a stone moves at constant speed on the ground because of a balance between the applied push and the friction with the ground, that renders the net force null. Yet, Aristotele's theory was “the” theory for almost 2,000 years, until Galileo Galilei provided a method to make sure that we can reach the true description: that method is known as “scientific method”, and is a well defined set of steps that need to be followed in order not to produce silly theories. Unfortunately, as I discovered in my delving into it, economics does not follow such rigorous method and, consequently, my impression of it is more that of an Aristotelian theory, rather than a modern product of scientific research. Is this so relevant? Well yes, it is—because governments, finance ministers and central banks all act and take decisions that affect our daily lives based on weird economic theories. We normally devolve fundamental economic decisions to them because they are the ones who know, the ones that have the knowledge we lack, the ones that have devoted their lives to the understanding of the best way to support production, employment and salaries. And yet, what if the theory they developed was based on wrong assumptions? What if, in our modern world where scientists are able to send spacecraft on distant comets with unparalleled precision, economics was still in the dark age? What if in a world where we are able to move individual atoms to produce nano robots, economics was based on shaky foundations?
It might seem preposterous to advance such ideas, especially if I was the only person in the world to suggest that something is not right in economics. In reality, despite the world being dominated by the 'mainstream' economic school that has produced a range of highly regarded Nobel laureates, there exist various economic schools each with its own view of how economics should evolve, and each with its own accusatory finger pointed to mainstream economics. On the other hand, it is undeniable that 100 years of modern economic theory have failed to solve the problems the theory set out to solve: namely full employment, stability of prices, economic progress. The increase of wealth inequality, of poverty, and the loss of the middle class, are all phenomena that have exacerbated over the last 50 years at least in the most developed countries that were supposed to be driven by economic theory. Indeed, there is a growing movement that is pressing academia to teach the alternative (and up to now ignored) theories produced by the other economic schools, in the hope they might provide a better basis for economic theory.
The clash between economic schools can be, at times, quite astounding: you may have schools that preach completely antagonist approaches, which makes searching for a reliable framework quite challenging. As I delved into mainstream economic theory, I could see that something did not add up, despite being unable to clearly identify what made it so. Maybe the contradiction between what the theory said and what the real world did or, more likely, the way mathematics was used, made me uneasy. It took me a long time to get an understanding of what made economic theory so different from other scientific theories. Here, I am presenting a set of articles, with thoughts and ideas, with the hope of unravelling economic theory, and provide a, possibly, different insight into economics.
