Quote of the Day: The Energy Available to a Society Depends on the Organizational System

Civilizations based on conquest inevitably decline when they meet their match…or just run out of energy. Civilizations that expend their energy building huge monuments have little energy left to defend themselves against invaders or other challenges. But perhaps most often, civilizations die like humans, from the inside out. They develop power structures, aka government, with almost exclusive monopolies on the use of violence. Then, elite groups get control of the government and use it to shift more resources and energy to themselves. The rich get richer. That is why government is fundamentally a reactionary institution; it is almost always used to protect existing interests. Future interests don’t vote…children don’t stab you in the back…and tomorrow’s industries don’t make campaign contributions. In effect, government moves energy from the future to the past…from what will be to what used to be…and finally, to what will be no more…

Joseph Tainter, in his Collapse of Complex Societies, believes the decline in civilizations can be traced to problem solving. Each challenge, he says, leads to a solution, which involves greater complexity. Bureaucracies, hierarchies, rules, and regulations are imposed. These things cost time, energy and resources. Eventually, the cost is too great and the downside is reached.

In the Roman Empire, for example, agricultural output per person dropped as population increased. The problem was addressed by a policy of conquest.

The Romans took resources — grain, slaves, gold — from their neighbors. But this required a large army, which was an expensive, energy-consuming enterprise. The return on investment declined…and eventually went negative. The Empire collapsed. That was not necessarily a bad thing. When the decline on energy investments is negative, you are better off stopping the program. And archeological evidence from bones and teeth suggest that many people were actually better fed after the collapse of the empire.

As the size and complexity of society grows, the governments that are most competitive are those that draw on the most support (energy) of their subject peoples. That is why the Roman policy of conquest was so successful. They were able to turn the conquered peoples into supporters of the regime, with most of the army eventually comprised of non-Roman soldiers. The British Empire was good at this too. The empire began by subduing the Scots, who became the backbone of the British Army. Today’s American army, too, depends heavily on soldiers from the southern states, who were conquered by Abraham Lincoln’s armies in the 1860s.

The energy available to a society depends on many things, probably the least important of which is beneath the ground. More important is the organizational system and its stage of development. In an early stage, the system tends to be robust and efficient — or ‘simple,’ in Tainter’s terms. Later, additional complexity degrades returns on energy investments. While this complexity may be described as a form of problem solving, it is better understood as an attempt by elite groups to hold onto their wealth and power.

This excerpt is from Bill Bonner, publisher of the Daily Reckoning, discussing the ontological cycles of human societies or "the rule of the downside"

On the Central Planner’s Forecasting Failures

Do central planners have detailed or accurate knowledge about the workings of the markets and the economy? 

From Bloomberg,

The Bank of England’s forecasting capabilities have deteriorated in the past five years, resulting in “large” errors, and officials should investigate the reasons for such shortcomings, an independent review said today.

The report by David Stockton, a former Federal Reserve official, sets out options including encouraging “more assertive” staff to challenge the central bank’s “house view” and incorporating financial-stability risks into forecasts. It said the latter should be “high on the agenda.”

The review is one of three commissioned by the central bank’s governing body following a lawmaker push for an inquiry as the BOE prepares to take on unprecedented powers to regulate the financial system. The bank also released reports on its framework for providing liquidity to the financial system and its emergency support to banks.

“The Monetary Policy Committee’s recent forecast performance has been noticeably worse than prior to the crisis, and marginally worse than that of outside forecasters,” Stockton said. “The bank and the MPC need to introspect more deeply and more systematically about the lessons that can be gleaned from episodes of large forecast errors.”

Even a recent study from the US Federal Reserve of St. Louis questioned the debt and deficit forecasting capabilities of the Congressional Budget Office (CBO) whose “projections for longer horizons are considerably worse than those for shorter horizons”

Of course one can’t resist pointing out the astounding blindness of US Federal Reserve Chairman Ben Bernanke’s to the onset of the crisis of 2008 which continues to linger or haunt the US and world economies, today.

The central planner’s fundamental mistake emanates from the dependence on the supposed accuracy of the substitution or the simplification of knowledge through numerical aggregates based on econometric-statistical models for what in real life is a complex world operating on decentralized knowledge from human action from a combination of localized knowledge or “particular circumstances of time and place”, the individual’s unique and immeasurable preferences and value scales, economic calculation and the dynamic stimuli-response/action-reaction to the ever changing environment.

In accepting the Nobel Prize, the great F.A. Hayek explained of the pretense of knowledge by so-called experts

It seems to me that this failure of the economists to guide policy more successfully is closely connected with their propensity to imitate as closely as possible the procedures of the brilliantly successful physical sciences — an attempt which in our field may lead to outright error. It is an approach which has come to be described as the "scientistic" attitude — an attitude which, as I defined it some thirty years ago, "is decidedly unscientific in the true sense of the word, since it involves a mechanical and uncritical application of habits of thought to fields different from those in which they have been formed." I want today to begin by explaining how some of the gravest errors of recent economic policy are a direct consequence of this scientistic error.

If central planners have been blatantly, consistently and pathetically wrong with their economic forecasting—stemming from erroneous assumptions, premises, theories or models—then what more should we expect of the consequences derived from policies grounded on these wrong projections?

Black Swan theorist and author Nassim Taleb warns about mistaking centralization for stability (Foreign Affairs):

Complex systems that have artificially suppressed volatility tend to become extremely fragile, while at the same time exhibiting no visible risks. In fact, they tend to be too calm and exhibit minimal variability as silent risks accumulate beneath the surface. Although the stated intention of political leaders and economic policymakers is to stabilize the system by inhibiting fluctuations, the result tends to be the opposite. These artificially constrained systems become prone to "Black Swans" -- that is, they become extremely vulnerable to large-scale events that lie far from the statistical norm and were largely unpredictable to a given set of observers.

Such environments eventually experience massive blowups, catching everyone off-guard and undoing years of stability or, in some cases, ending up far worse than they were in their initial volatile state. Indeed, the longer it takes for the blowup to occur, the worse the resulting harm in both economic and political systems.

Seeking to restrict variability seems to be good policy (who does not prefer stability to chaos?), so it is with very good intentions that policymakers unwittingly increase the risk of major blowups. And it is the same misperception of the properties of natural systems that led to both the economic crisis of 2007-8 and the current turmoil in the Arab world. The policy implications are identical: to make systems robust, all risks must be visible and out in the open -- fluctuat nec mergitur (it fluctuates but does not sink) goes the Latin saying...

Social policies aimed at ‘suppressing volatility’ which ultimately ends up with ‘massive blowups’ signifies as bubbles in motion are the risks we all envisage considering the path towards centralization (for instance, EU’s political union, bank supervision, expansive financial regulation)  undertaken by most developed economies.

Bottom line: I would not trust an iota of what central planners say.

Chart of the Day: Economic Freedom, Corruption and the European Debt Crisis

From Gallup (including chart)

Residents in wealthier EU countries with the most unsustainable debt burdens -- including Greece, Italy, Spain, and Ireland -- are also among the most likely to say their government makes it hard to start and manage a business. The climate for entrepreneurs is most inhospitable in Greece, where more than 8 in 10 residents see their government as an obstacle…

The widespread perception in Greece, Italy, and other debt-laden countries that government makes starting and running businesses difficult may discourage entrepreneurial ambition in places that need it the most. Gallup's data correspond with other international measures of business regulation; for example, of the 25 EU countries ranked for the World Bank's 2012 Ease of Doing Business Index, Greece and Italy were furthest down on the list. Turning those perceptions around will require reforms in key areas to reduce administrative burdens and improve transparency in government procedures.

Cutting through the red tape will be no easy task, however. Administrative hurdles create opportunities for local officials to abuse their status as gatekeepers, often by awarding licenses or contracts to business owners who pay kickbacks. The issue is particularly severe in Greece, which maintains a huge, patronage-driven bureaucracy. But Gallup data reveal that among all EU member countries, the view that the government makes it easy to start and manage a business falls sharply as perceptions of widespread corruption rise.

Corruption are symptoms of arbitrary and repressive laws and the politicization of the distribution of resources. And political economic systems founded on the unnatural or artificially derived factors as the above will eventually meet their destiny as we are witnessing in Europe today.

Quote of the Day: How Interventions Destabilizes

The critical issue in both cases is the artificial suppression of volatility -- the ups and downs of life -- in the name of stability. It is both misguided and dangerous to push unobserved risks further into the statistical tails of the probability distribution of outcomes and allow these high-impact, low-probability "tail risks" to disappear from policymakers' fields of observation. What the world is witnessing in Tunisia, Egypt, and Libya is simply what happens when highly constrained systems explode.

Complex systems that have artificially suppressed volatility tend to become extremely fragile, while at the same time exhibiting no visible risks. In fact, they tend to be too calm and exhibit minimal variability as silent risks accumulate beneath the surface. Although the stated intention of political leaders and economic policymakers is to stabilize the system by inhibiting fluctuations, the result tends to be the opposite. These artificially constrained systems become prone to "Black Swans" -- that is, they become extremely vulnerable to large-scale events that lie far from the statistical norm and were largely unpredictable to a given set of observers.

Such environments eventually experience massive blowups, catching everyone off-guard and undoing years of stability or, in some cases, ending up far worse than they were in their initial volatile state. Indeed, the longer it takes for the blowup to occur, the worse the resulting harm in both economic and political systems.

[bold emphasis added]

This one comes from my favorite iconoclast Nassim Taleb (hat tip Zero Hedge).

In short, interventions tends to disturb the natural flow of socio-economic-market systems, which results to unintended build up of destabilizing or unnatural or artificially imposed forces (e.g. economic malinvestments, imbalances in political representation) that eventually gets vented via “Black Swan” events.

This applies whether to financial markets or the political economy.

Quote Of The Day: No Scientific Understanding Of Human Society

From James Manzi, (hat tip Prof Arnold Kling)

``At the moment, it is certain that we do not have anything remotely approaching a scientific understanding of human society. And the methods of experimental social science are not close to providing one within the foreseeable future. Science may someday allow us to predict human behavior comprehensively and reliably. Until then, we need to keep stumbling forward with trial-and-error learning as best we can.”

My comment: Anyone audaciously claiming that they can use science or math or econometric models to influence changes in society signify no less than a huckster, a false messiah or a fraud.

Nassim Taleb at CNBC: Understanding Risks From Complex Systems

CNBC's interesting interview with Black Swan author Nassim Taleb...