New economic theory

My last two blog entries received withering criticism from my daughter and I was given a list of required reading to gain a better foothold for my implicit critique of the neo-marxist theories. Rather than follow this path I will resort to a standard academic trick - I will unveil my own theory and let neo-marxists try to poke a hole in it!  My theory  can be described easily in a few paragraphs. It explains  recent past, correctly predicts the future and it  is endowed with great simplicity coming from  combining  logic with Bayesian reasoning. Unveiling is the right word, the theory is too good to be false, and in fact it was created many years ago and it took a great deal of effort of politicians, bankers and regulators to implement it. I simply reverse engineered it from  life experiences of myself and my colleagues. 

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From the early 90's US economy developed a three-currency system described below.

Green money

Green money is the usual currency used for everyday needs. Average citizen has always very little of it, usually in form of loose change or small bills, and if popular culture is a good indicator, large quantities of green money are usually connected with criminal activity.  Green money is used to buy food and other necessities and steady inflow of green money is synonymous with having a job.

Red money.

This is a special kind of money that buys only one thing - your house. Banks will give you practically any amount of red money while retaining ownership of your property and the right to kick you out. You are constantly converting green money into fees associated with having red money but you also have the ability to use red money for your economic activity. Having red money is critical to passing through the transition points in your life: starting a family, sending children to college, providing medical care during the sunset years, etc.

Yellow money

This is the money that represents your entitlements. Throughout your life you accumulate  yellow money in form of Social Security, 401k, and other retirement schemes. Technically you are converting a part of your green income but in reality those contributions are not voluntary. You have no access to your yellow money until you are very old and even then you do not control it. Yellow money is a major source of economic activity for others.

This three color scheme is an abstraction whose sole purpose is to explain the connections between different components. In the end, the theory will posit that green money does not have practical value, red money is a mechanism that allows you to send your kids to college, and  yellow money is an IOU that allows fund managers to have private jets and billion dollar bonuses.

The theory described below presents economy as interactions between two types of players: small and big ones, and the main focus is on you -  a small player. A small player is a member of the middle class but I prefer a modern term: a precarian.

Total wealth formula

Your total wealth is W=G+R+Y or more generally W(p,t) = G(p,t)+R(p,t)+Y(p,t), where the variable  p represents a person and t is time.

As an instantiation of the variable p you may think that the red portion of your wealth represents a debt so it should be subtracted rather than added. Not quite, as you will soon see.

The value of W(p,t) can be computed for different values of t but such computations will be only approximations. This is really a technicality and to remove statistical variations, big players use tranches of the form W_P(t)=sum_{p in P} W(p,t) (sum of the values of W(p,t) over all the p's in the population P). The value of such tranche can be computed with arbitrary accuracy at any time t with error that depends only on the size of the population P.

We continue with basic axioms of the system.

Axiom 1

G(p,t) equals approximately 0 for almost all  (p,t). In other words, almost everybody is almost always broke i.e. does not have any green money.

Note that this axiom does not contradict the existence of millionaires but of course the number of them must be a measure zero set.  Main consequence of Axiom 1 is that the green money is not a significant source of economic activity for anybody, at least directly.

To introduce axioms 2 and 3 we need one more parameter. Recall that  the red money R =R(p,t) was used to acquire your property. Let V(p,t) represents its value.

Axiom 2

R(p,t) equals approximately V(p,t) for almost all (p,t) or equivalently that for almost everybody and  most of the time the amount of red money in your possession is  approximately equal to the value of your property.

Axiom 3

lim_{t --> infinity} V(p,t)=infinity for almost all p,  that is that for most people the value of their property goes to infinity.

These axioms are the cornerstones of the theory so let me explain their consequences.

A bank that owns your property charges you monthly rent (called interest) which is a percentage of its value. What makes this transaction special and unique is that in addition it provides you with the full value of the property paid in red money (called mortgage).  This trick allows you to use the  term "my house" with a minimum amount of credibility.  With an ordinary act of sale you would attempt to buy down red money to zero and complete the purchase. However, Axiom 3 indicates that buying a house is not an ordinary sale since the value of the property goes up with time. Consequently, your behavior is described in Axiom 2. As the value of property increases you increase your red money holdings by taking out the difference V(p,t)-R(p,t) in green money. The technical term used for this procedure is called extraction of equity and it produces a temporary windfall of green money. But wait, does it not violate Axiom 1? No, it does not  - the green money that you obtain this way is immediately used for necessities other than food. These were already mentioned: sending kids to college or fixing up your house in order to extract more green money out of it.

This points to Axiom 3 as the enabler of this scheme. Is this axiom true?  Abstractly, the value of your property is a small fraction of the value of the entire planet and we know where this is going. Economically however, the value of your property is determined by willingness of others to try to buy  it, and this in turn is determined by the supply of red money. As this source appears bottomless Axiom 3 is certainly valid.

This describes how you can live and prosper in this economic systems, and that is the micro-economic scale of things. Now we look at the big players or the macro-economic game. As I indicated already they deal with tranches to compensate for the  stochastic aspects of the axioms. So do not feel that this is all about you and that somebody is out to get you. This type of thinking will only get you into the looney bin...  The source of profits for the big players is the yellow portion of your wealth portfolio.  You and your employer are continuously increasing this amount by their involuntary contributions and  this  gigantic pool of wealth  is open to modern financial wizardry while  nobody is watching. So in practice  the only growth of this portfolio is represented by your contributions while the profits from investing it, turning it into stocks, futures or other obligations go the the owners, that is the banking industry. Since the end-value of your yellow portfolio is an order of magnitude bigger than your red portfolio and the average time that it is out of your reach is about 20 to 30 years the big players can extract tremendous amount of wealth from it without making it obvious that they are robbing you blind.

Early capitalists were after your ability to work and deliver surplus value. In this new scheme your entire life - present and future - is in the hands of a twenty-something hedge fund manager with quick mind and fingers whose formative years were spent playing Grand Theft Auto.

There is a version of Axiom 3 (due to Alan Greenspan) which assumes in addition that the derivative dV(p,t)/dt is greater than zero, that is that the value of your property is always increasing in time. This version of the axiom  greatly simplifies economic calculations but unfortunately it turned out to be false. In 2008 the property values went down on a set of positive measure and many precarians become proletarians. The current version of Axiom 3 allows temporary reversals.

In summary - the presented theory demonstrates how of two people spending 8 hours in the office one can make many thousands times more money than the other. It describes a layer of economy where great deal of action is taking place while nothing is ever being produced or consumed. And finally, it describes optimal strategies for small and big players.

In the presented system, everybody benefits (although not equally), and a significant portion of the society gets a sliver of the american dream. For this to work well however it is best if they remain asleep.

Sub-three sigmas unite!

In my last posting I complained about the lack of a new Communist Manifesto that would explain the world in simple terms and show the way forward. Here is my try at such a piece (and I dedicate it to Ayn Rand.) 

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 The history of mankind is the history of exceptional people. They are the ones who come up with the ideas, create and invent things, become role models, and lead the others. For the exceptional men and women are like an active ingredient in any medication - little of the good thing surrounded by massa tabulettae - an inert medium acting as a carrier.
What does it mean to be exceptional? Lets just say that it means that regarding some special ability one belongs to the top one percent. Top one percent means more than 2.57 (a bit less than three) standard deviations (sigmas) away from the mean. Being exceptional is not correlated with race, gender, age, education, income and so on. While it is hard to excel in any particular thing, it is much easier to be good at something. Sadly, only very few of us make use of our abilities while the rest tries to emulate somebody else's.
 While nothing of importance happens without exceptional people being involved, the forces of mediocrity are constantly conspiring against them and try to deprive them of their special properties. And of those forces the government represents the most powerful adversary, an iron fisted  mindless destroyer of talent.
Consider the most common ways to be exceptional - wealth, intellectual and physical abilities - and see how government relentlessly tries to undercut them.

 Wealth

Getting your first billion is hard work - many hours, a lot of risk and perhaps one or two things that you are not proud of. But now that you have made it, you want to cash in on your accomplishments. You want to be pampered and respected and you do not mind to be called a "job creator" even if the jobs you create are on a different hemisphere. But no, the big government swoops in and tries to take away your hard earned money, 15% of it or so. This is 150 mil for gods sake! who has this kind of cash to give away! Rather than requiring that everybody pitches in equally, they target you because you stand above the crowd.

 Intellect

You are six years old and suddenly you notice that everybody around you is sooo slooow. They read slowly, they think slowly and they do not seem to understand basic things. You are just a kid, and you do not know much but the rubbish that people tell you cannot possibly be right! This is where the government steps in. For the next twelve years you will be locked in a high security prison known as a public school. You will be bored to death, teased without mercy and if you do not toe the line you will be repeating classes that you should not be taking in the first place.

 Physical ability.

You are a runner and you dream of running a 100 meter dash under 9 seconds, or a marathon under 2 hours. Impossible? Not quite, and big pharma is here to help. All that stands in your way is the government with its lawyers and regulations. They will humiliate you and strip you of your medals if you follow your dreams and allow science to help your body to accomplish what it was meant to do.

 So what can we do? How can we remain strong?

Sub-three sigmas unite!

Get out of the glass jar of your talent and seek out other sub-three sigmas. You are unique and exceptional but it comes at a price. The great ability that makes you a sub-three sigma may have pushed aside other parts of your personality. You may be lacking social skills, be an incomprehensible introvert or simply an arrogant asshole. This is where another sub-three sigma with a different skill set can help and save you. The energy coming from building synergistic connections is enormous and the power of networking is unparalleled.

 Consider the following examples to see what could be accomplished. They are modeled on  what in the domain of science represent the most treasured form - multidisciplinary research.

 Albert Einstein and Wayne Gretzky

Instead of wasting years on trying to develop socially irrelevant grand unification theory, we would end up with better physics of ice and scads of commercial applications. In defiance of laws of thermodynamics energy-free ice creation would make frozen water available throughout the planet. Transformative aspects involve creation of hockey leagues in equatorial countries, desalinization of sea water and (possibly) staving off  global warming by increasing the Earth reflectivity through multiple hockey fields. And last but not least, we would get a better Zamboni machine.

 Paris Hilton and Isaac Newton

 While Isaac invents calculus Paris keeps his mind off nasty Leibniz and makes sure that he is not described as "asexual" four hundred years later. More importantly she looks at the educational side of calculus and the rest of mathematics. Transformative aspects of this duo involve making mathematics a cool subject and its teachers trendy and well dressed individuals paying attention to personal hygiene. Centuries later kids would look forward to be taking math classes as places to socialize and hang out. Expect modern fashion industry and computer age to come about two hundred years earlier.

 Noam Chomsky and Saint Francis of Assisi

 How can we think of communicating with extra-terrestial civilizations if we cannot figure out what our cat thinks of our table manners? This team would change it all. Saint Francis' zeal to give sermons to all creatures endowed with ears will be combined with Chomsky's understanding of language formation for the efficient inter-species communication. Finally when looking at our "little brothers" we will stop wondering how to cook them and focus on their thoughts and feelings. Plague of obesity will be eradicated when animal products will disappear from our daily diet. Equal rights for all the species and participation based on genome complexity will be established.

 So sub-three sigmas unite! As we enter dark days of the XXI century you are our only chance to go forward. United you stand but divided you fall as the evil forces of government are constantly conspiring against you. Hook up and multiply and let the freedom reign!