You want to use mathematics of some type to model behavior of the economy. How to do this? A model uses carefully simplified descriptions of systems to attempt to predict the future.
What the economic system is? I propose a herd of cattle. Why?
- generally travels in groups – behavior is correllated
- is unaware of the overall trend of movement of the group. Is it moving east, west, south or north?
- can stampede – a boom
- can be stampeded by fear
- movement can be manipulated by the cowboy – Models the command nature of economy. Cowboy directs the cows but if the cows only knew they would be in charge. This day is coming soon.
- cattle are considered property of the cowboy – They direct the work output
- Assume cattle are not slaughtered but rather tied to carts they pull to yield useful work output
- large numbers of individuals results in statistic behavior of the group that can be measure
Linear system behavior
In linear mode small perturbations of the system result in predictable results. Example: Lower interest rates lead to more business activity investment. This is the small move results in predictable change in output regime of operation. This is the one you understand intuitively.
Nonlinear system behavior
This is the regime of operation that is many times counter intuitive. How to understand this? The mathematics of nonlinear systems is very complicated. However nonlinear systems can be characterized.
What are the nonlinear system parameters?
- trust versus nontrust
- unduely scarce resource – bottlenecks in the economy
- low inflation – High inflation – currency debasement
- Decorrellation of behavior
What modes of nonlinear behavior are there?
Boom – Grazing cattle move logically from grazed pastures to ungrazed ones. One cow follows another. Correllated behavior is in order. The cows are fat and happy.
Bust – Green pastures within easy walking distance are exhausted. Chaotic decorrellated behavior is in order because none of the cows know which way to walk. Green pastures are out of sight. The cows are scared.
What is happening now?
The system is being flooded with excessive liquidity in a blind attempt to stimulate. The size of the stimulus guarantees nonlinear results. As the economy plunges into the deflation region it normally receives a stimulus from price moderation. It is likely it will not receive this effect now because of the excessive printing of United States dollars. Oil has come down in price but any commodity would come down further has this system flush not been attempted. There are only two outcomes.
- Reserves of capital will have already been expended. The prices of goods and services will be higher due to accelerated inflation. The economy will be at a low level of activity and remain there because the inflation will cause the monetary system to forget who made good decisions.
- Reserves of capital have already been expended however someone has that money and are saving it. When economy starts again inflation will restart very quickly due to the liquidity injected into the system with no underlying economic backing. This will lead to another wave of failures and mistaken attempts at bailouts.
Neither outcome is attractive. The sole effect of the bailouts are to only to dilute the remaining functioning businesses ability to deploy capital effectively. At these levels the liquidity with have the same effect as raising taxes.
Is there a better solution?
This is an inherently nonlinear move in the economy. Linear methods are inappropriate at this time. Any moves by Washington are not going to help. The moves made in Washington will be ones that aggregate power at a time where the failures including the government should be divested of sizable fractions of their power as calculated by the market economy and loss of assets.
We would probably be better placed to just let this recession happen rather than fight it. We only delay the inevitable. At the same time it appears we are trying to institutionalize the previous winners in the game. We are trying to make them "winners for life". I do not know anyone who would think this is a practical idea.