Saturday, October 07, 2006

Micro-Economics is to Macro-Economics as Quantum Physics is to ...

A recurring trope in politics is explaining the national economy as if it was a household budget. Magaret Thatcher was particularly good at this, her hustings schtick was to give presentations on the economy in gorcery stores.

Some (but not all) of the points Thatcher raised were valid. Deficit spending was one of the causes of the inflation of the 1970s and inflation was one of the causes of the recession.

But the comparisons can be misleading. National deficits have bad effects, household deficits have bad effects but the causes and effects are very different. There are even (rare) situations when a national economy should be spending more than it takes in. The inflation of the 1970s was caused by the money supply being too loose. The depression of the 1930s was caused by the money supply being too tight.

Economics works rather differently at the large and the small scale. This is very much like Quantum mechanics and Newtonian physics. In aggregate particles behave according to familiar laws. But something very different is happening at the level of the individual particles. As Feynman remarked, if you don't find Quantum mechanics wierd then you don't understand it. Particles are not particles at all, rather they are a random wave sort of affair with infinite extent that only interacts with other particles as discrete events.

The main difference between physics and economics is that in physics we are familiar with the problem in aggregate and must struggle to deduce the individual case, in economics the reverse is true.

In the 1930s Keynes invented the modern science of economics by applying the engineering science of control theory. While a large part of modern economics is complete bunk (not least their insufferable habit of turning simplifying assumptions into immutable laws) they do seem to have a better understanding of how the small scale effects lead to the large scale results. Collaboration across that divide could be mutually beneficial.

No comments: