Chaos Theory as Applied to Economics

Motives and purposes are in the heart and brain of man, consequences are in the world of fact

BY JR NYQUIST

In March 1988 Murray Rothbard wrote a fascinating piece titled "Chaos Theory: Destroying Mathematical Economics from Within?" He observed that chaos theory had very “radical” implications. For those unfamiliar with chaos theory, it is a mathematical discovery which has implications for meteorology, physics, biology and economics. According to chaos theory, volatile dynamic systems are highly sensitive to small differences in initial conditions. Rothbard explained it as follows: “Two decades ago, Edward Lorenz, a meteorologist at MIT stumbled onto chaos theory by making the discovery that ever so tiny changes in climate could bring about enormous and volatile changes in weather. Calling it the Butterfly Effect, he pointed out that if a butterfly flapped its wings in Brazil, it could produce a tornado in Texas.”

Imagine the implications for international finance. A small perturbation might produce a completely unexpected turning of the entire global economy. The result would not only be unexpected, it would be virtually unpredictable (due to the complexity of the interactions of all the related small-fry phenomena). The Stanford Encyclopedia of Philosophy article on “Chaos” tells us that chaos theory postulates sensitive dependence (on initial conditions) within a system that is deterministic and nonlinear. The Stanford article points out that Aristotle “was already aware of something like what we now call sensitive dependence.” But Aristotle’s understanding of this was epistemological rather than metaphysical. On this matter the ancient philosopher wrote, “the least initial deviation from truth is multiplied later a thousandfold.” In other words, a small lie at the beginning may lead to a complete break with reality somewhere down the line – an epistemological corollary of chaos theory. (We will return to this idea later.)

Getting to the heart of the matter Rothbard wrote, “The upshot of chaos theory is not that the real world is chaotic or in principle unpredictable or undetermined, but that in practice much of it is unpredictable.” For if we find within a dynamic system (both mathematically precise and deterministic) that prediction is effectively impossible, our math suddenly ceases to serve any purpose. According to Rothbard, chaos theory has “subversive implications … for orthodox mathematical economics. For if rational expectations theory violates the real world, then so too does general equilibrium … and all the rest of the neoclassical apparatus.”

Rothbard was not, of course, endorsing chaos theory. He was having fun by using mathematical conclusions to confound mathematical methods applied to economics. Here the errors of the economists are many, and serious. To be sure, economists intend to present a realistic picture of economic activity, but in fact the falsification of their science is palpable. The sociologist William Graham Sumner published an essay in 1902 titled “Purposes and Consequences” in which he offered a distinction between facts and intentions; namely, that the former is real while the latter is irrelevant to the outcome. This distinction has great significance for what Ludwig von Mises called “human action.” As human beings we live in a world of purposive action and factual outcomes. The most important thing to understand about economics is not merely that we are mathematically unable to arrive at precise predictions, but that (according to Sumner) “ideals like perfect liberty, justice, or equality ... can never furnish rational or scientific motives of actions or starting points for rational effort.” Yet everything within today’s crumbling civilization comes down to this sort of thing, on a mass scale. Here we find the “human action” corollary of chaos theory. A small [financial] mistake at the beginning may lead to total breakdown at the end. The official economic policy of the United States may be characterized thus. It is at the mercy of moralistic slogans which have no bearing on economic fact (or financial math). Here is something beyond the chaos of numbers. It is the chaos of the human heart.

Consider President Obama’s speech on the financial crisis last Wednesday in which he talked about achieving “more durable economic growth.” According to Obama, “the income gains of the past ten years have continued to flow to the top one percent.” It is unfortunate for the Republic, but two intentions are confounded in the speech: First, the intention to grow the economy; and second, the intention to make the economy fair. According to Sumner, economic science can tell us how to promote growth in the economy, but it cannot tell us how to make the economy fair. Sumner would say that the two intentions are at cross purposes, for nature does not grant that a growing economy is a fair economy. Nature only grants that a growing economy requires less government regulation than a stagnant economy. (There is, besides, the problem of establishing a scientific standard of fairness and the practical impossibility of adhering to it.)

The chaos that may be unleashed by the craze for economic equality cannot be less than that caused by the flapping of butterfly wings in Brazil. “The thirst for equality,” wrote Sumner in another essay, “is a characteristic of modern mores. In the Middle Agesinequality was postulated in all social doctrines and institutions.” As Sumner further explained: “The assertion that all men are equal is perhaps the purest falsehood in dogma … ever put into human language; five minutes’ observation of facts will show that men are unequal through a very wide range of variation.” Here we have a mathematical construct (equality) applied to irregular units (men). One might call it a “small mistake” at the beginning of modernity. In no previous or existing state has it been possible to make men equal even in principle (i.e., before the law). So unequal are the real conditions of life, and so immune are they to exogenous meddling, that equality must remain a purely mathematical ideal. As such, Sumner calls it “a political phantasm.” According to Sumner, “We know of no force which could act for the satisfaction of human desires so as to make the satisfaction equal … and we know of no interference by ‘the State,’ that is, by a committee of men, which could so modify the operation of natural forces as to produce that result.”

Yet the butterflies of equality have flapped their wings and more than a tornado has been stirred. The resulting comedy was long ago parodied in George Orwell’s Animal Farm in which farm animals rose up to establish an egalitarian regime. And what did they discover? “All animals are equal, but some animals are more equal than others.” The situation produced by the equality of all animals within the parable is in fact a kind of insanity (an error multiplied a thousandfold). At the head of the revolution we find a pig named Napoleon whose lieutenants were quick to point out, “No one believes more firmly than Comrade Napoleon that all animals are equal. He would be only too happy to let you make your decisions for yourselves. But sometimes you might make the wrong decisions, comrades, and then where should we be?”

The political phantasm of equality is perhaps the greatest factor for disrupting the economy today. Here a small idea from the underworld of pre-modern society stirs up a political hurricane in France around 1789, and in Russia during the year 1917. It continues to bring one storm after another. Not simply political storms, but economic ruin and collapse. The heart proposes a grand project that will make all men into brothers. The facts show a terrible series of events: rule by terror, universal impoverishment, war and mass killings. “Motives and purposes are in the heart and brain of man,” wrote Sumner. “Consequences are in the world of fact.” Whatever chaos is produced by the non-periodic orbit of particles, or the flapping of a butterfly’s wings, there can be no comparison with what Sumner describes as the chaos of human consciousness, which is “infected by human ignorance, folly, self-deception, and passion….”

You might ask where this infection of ignorance comes from. It was the psychiatrist Carl Jung who warned that modern politics had become a religion with dire consequences for all. And if one religion stands above all other political religions, it is the religion of equality. But is there, asked Jung, any self-understanding in such a religion? Is there any authentic goodness in it? Or is it a specimen of chaos?

According to Jung, writing in The Undiscovered Self, “The Communist revolution has debased man far lower than democratic collective psychology has done, because it robs him of his freedom not only in the social but in the moral and spiritual sphere.” [p. 45] But this is not to let democratic collective psychology off the hook. Egalitarian ideology has infected the West more deeply than it ever infected the East. During the counter-egalitarian revolution attempted in Europe during the 1930s and 40s, Jung noticed a dangerous psychological symptom in the West: “[with the advent of Nazism] we [could] now point a finger at the shadow [i.e., Hitler]. He is clearly on the other side of the political frontier, while we are on the side of good and enjoy the possession of the right ideals.”

In Jungian psychology, the shadow refers to aspects of oneself that the conscious ego does not see. Thus, what happened from 1939 to 1945 was not merely the most destructive war in human history. Jung saw that the Western man’s “spiritual and moral opponent, who is just as real as he, no longer dwells in his own breast but beyond the geographical line of division, which no longer represents an outward political barrier but splits off the conscious from the unconscious man and more menacingly.” What Jung signifies by this passage, quite simply, is that the West was beginning to lose its collective mind; for if the Communist East represented a diminished freedom, the West represented a diminished sanity. This, perhaps, is the most shocking conclusion arrived at by the great psychiatrist.  

If we want to test Jung’s idea, one only has to study the U.S. economy to find shocking proofs that collective insanity is at work. The size of the national debt, the extent of taxation and the acquired fiscal obligations of local, state and federal government give us a fair overview. But these hardly scratch the surface, in fact. If we examine the behavior of the stock market over the past decade there might indeed be grounds for affirming a general psychotic condition across much of the financial system. There are even financial analysts who openly refer to the insanity of Wall Street. Take for example David J. Scranton’s Financial Insanity: How to Keep Wall Street’s Cancer From Spreading to Your Portfolio; or Anthony Robbins Business and Finance Blog, “Financial Insanity: How to find the Best Investment Opportunities in Turbulent Economic Times; or look at the parodying of today’s financial insanity on Zerohedge under the title “A bit of Humor amid the Financial Insanity.” Here we read the definition of a bank as a “Bottomless cavity in the ground that sucks in money and the unwary,” while a bubble is defined as a “Fundamental prerequisite for a functioning Anglo-Saxon economy.”

If chaos theory is right, and a butterfly flapping its wings in Brazil can generate a tornado in Texas, what could the collective insanity of an entire civilization produce? Carl Jung wrote that civilized man is estranged from “the ground plan of his instincts” and that civilization itself is “the source of numerous psychic disturbances and difficulties occasioned by man’s progressive alienation from his instinctual foundation….” Chaos theory shrivels before the chaotic reality of raw human insanity. If you want to see chaos, look into the eyes of a crazy person. Or you could listen to the financial pronouncements of the President of the United States.