W. Brian Arthur: Economics

“Right after we published our first findings, we started getting letters from all over the country saying, "You know, all you guys have done is rediscover Austrian economics"… I admit I wasn't familiar with Hayek and von Mises at the time. But now that I've read them, I can see that this is essentially true.”

W. Brian Arthur

W. Brian Arthur, quoted in "Complex Questions" in Reason magazine (January 1996) http://reason.com/archives/1996/01/01/complex-questions/2, and in Hayek's Challenge : An Intellectual Biography of F. A. Hayek (2005) by Bruce Caldwell

Guy , Time , Reading , Country

“Increasing-returns economics has roots that go back 70 years or more, but its application to the economy as a whole is largely new.”

W. Brian Arthur

Source: Increasing Returns and Path Dependence in the Economy, (1994), p. 1: Chapter 1. Positive feedback in economics

“Conventional economic theory is built is built on the assumption of diminishing returns. Economic actions engender a negative feedback that leads to a predictable equilibrium for prices and market shares. Such feedback tends to stabilize the economy because any major changes will be offset by the very reactions they generate. The high oil prices of the 1970s encouraged energy conservation and increased oil exploration, precipitating a predictable drop in prices by the early 1980s. According to conventional theory, the equilibrium marks the “best” outcome possible under the circumstances: the most efﬁcient use and allocation of resources.”

W. Brian Arthur

Source: Increasing Returns and Path Dependence in the Economy, (1994), p. 1: Chapter 1. Positive feedback in economics

Change

“Our understanding of how markets and businesses operate was passed down to us more than a century ago by a handful of European economists — Alfred Marshall in England and a few of his contemporaries on the continent. It is an understanding based squarely upon the assumption of diminishing returns: products or companies that get ahead in a market eventually run into limitations, so that a predictable equilibrium of prices and market shares is reached. The theory was roughly valid for the bulk-processing, smokestack economy of Marshall’s day. And it still thrives in today’s economics textbooks. But steadily and continuously in this century, Western economies have undergone a transformation from bulk - material manufacturing to design and use of technology — from processing of resources to processing of information, from application of raw energy to application of ideas. As this shift has occurred, the underlying mechanisms that determine economic behavior have shifted from ones of diminishing to ones of increasing returns.”

W. Brian Arthur

Arthur, W. Brian. "Increasing Returns and the New World of Business." Harvard business review 74.4 (1996): p. 100

Behavior , Idea , Understanding , Business

“The type of rationality we assume in economics — perfect, logical, deductive rationality — is extremely useful in generating solutions to theoretical problems. But it demands much of human behavior — much more in fact than it can usually deliver. If we were to imagine the vast collection of decision problems economic agents might conceivably deal with as a sea or an ocean, with the easier problems on top and more complicated ones at increasing depth, then deductive rationality would describe human behavior accurately only within a few feet of the surface. For example, the game Tic-Tac-Toe is simple, and we can readily find a perfectly rational, minimax solution to it. But we do not find rational “solutions” at the depth of Checkers; and certainly not at the still modest depths of Chess and Go.”

W. Brian Arthur

Source: Inductive Reasoning and Bounded Rationality (The El Farol Problem) (1994), p. 1

Behavior , Imagination , Game , Problem

“Where we observe the predominance of one technology or one economic outcome over its competitors we should thus be cautious of any exercise that seeks the means by which the winner's innate 'superiority' came to be translated into adoption.”

W. Brian Arthur

Source: Competing Technologies, Increasing Returns and Lock-in by Historical Events, (1989), p. 127, as cited in: John Gowdy (1994) Coevolutionary Economics: The Economy, Society and the Environment. p. 148

Exercises

“In many parts of the economy, stabilizing forces appear not to operate. Instead, positive feedback magniﬁes the effects of small economic shifts; the economic models that describe such effects differ vastly from the conventional ones. Diminishing returns imply a single equilibrium point for the economy, but positive feedback – increasing returns – makes for many possible equilibrium points. There is no guarantee that the particular economic outcome selected from among the many alternatives will be the “best” one.”

W. Brian Arthur

Source: Increasing Returns and Path Dependence in the Economy, (1994), p. 1: Chapter 1. Positive feedback in economics

Appearance , Parting

“This paper has attempted to go beyond the usual static analysis of increasing-returns problems by examining the dynamical process that 'selects' an equilibrium from multiple candidates, by the interaction of economic forces and random 'historical events'. It shows how dynamically, increasing returns can cause the economy gradually to lock itself in to an outcome not necessarily superior to alternatives, not easily altered, and not entirely predictable in advance.”

W. Brian Arthur

p, 128
Competing Technologies, Increasing Returns and Lock-in by Historical Events, (1989)

Problem