The Market Mind Hypothesis, page 31
In fairness, not all central bankers are alike. Contrast Bernanke’s comments, for example, with those of former Bundesbank president Jens Weidmann. By invoking another alchemical story, namely Goethe’s Faust, he clearly reminded his audience in September 2012 of the importance of separating central banking from government in light of our historic experiences with inflation. And Mervyn King argued for The End of Alchemy (2016).
Bernanke’s comments on “value of … paper-money” and “credible threat” highlight the psychological rather than the physical dimension involved in this process of monetary alchemy. Other economists have reflected on the psychic value of money, such as Schumpeter who considered it as “all that a people wants, does, endures, is”. Complex psychology explains how traditional alchemy was more about psychology than chemistry. Specifically, alchemic success was not measured physically, by turning lead into gold, but psychologically, involving the transformation of the alchemist. That clearly never applied to most of the central bankers.
I have already extensively criticised central planning in general, and monetary policies in particular. But allow me to summarise it in this context. Central banks are, in the words of Richard Feynman, “tickling the dragon’s tail”. They are modern alchemists (as admitted by Ben Bernanke, Mervyn King, Jens Weidmann, and others) but do not seem to be aware of the deeply metaphysical context of their experiments. Ignoring the complexity of mind~matter exchange becomes stupidity as referenced in the beginning of this chapter when it results in a lack of sense of what is happening, especially when events, instead, are interpreted to forcibly fit a worldview. Specifically, central banks numb economic sense, often in the name of ‘rationality’ and ‘stability’. They ignore Cattaneo’s “psychology of wealth” in that ultimately sensations (i.e. S3) complete agents’ experiences of wealth accumulation, and subsequent annihilation, thereby enriching our understanding of economic cycles. Anxiety, like uncertainty, should be embraced for authentic understanding of existence, as Heidegger and others emphasised. The purpose of discovery and exploration is universally exemplified by the myth of the (true) hero, showing that only by exceptional effort combined with accepting uncertainty in the region of danger (watery abyss, cavern, forest, island, castle) can one find treasure.5 Instead, over the past few decades free explorations have been constrained, while others were enforced. Overall, policies of central banks have led to the back-stopped search for yield, the negation of fear, and the numbing of pain.
For now, their failure is reflected in the deflation~inflation swings that they are supposed to prevent. Remember, printing money would lead to “managed” inflation, according to Bernanke. From a mind~matter perspective, deflation is a symptom of economic cooling. In other words, furious printing is compensated by timid activity. Helicopter money is then comparable to the physical act of Jay Powell flying as Superman and dropping (financial) drugs instead of delivering (real) food.
Central banks are in their final stage of experimenting to create and sustain this make-believe world. Many are worried about the risk to the Fed’s ballooned balance sheet of increasing interest rates (now that inflation is swinging for the fences). They wonder how the Fed will deal with this threat. SVB, First Republic and other banks also reflect this stress. Let’s revisit one of Bernanke’s other speeches. In May 2003 he addressed an audience in Japan and shared his thoughts on Japan’s monetary policy. He stated that he was “intrigued by a simple proposal” by the Japanese Business Federation on how to insulate the Bank of Japan’s balance sheet against the risk of increasing rates (which would harm the value of its holdings in Japanese government bonds). The proposal involved a fixed-floating interest rate swap agreement between the Bank of Japan and the Ministry of Finance. A similar agreement is perhaps possible between the Fed and the US Treasury. Or the Treasury can offer the Fed a put option on its bonds which never needs to be exercised because it only serves as a hedge for mark-to-market purposes. Problem solved!
Like Paracelsus, Wei Boyang, John Dee and the other alchemists of old, the current generation of central bankers is in the process of completing their Magnus Opus. Its narrative is one of creating wealth out of nothing, a true metaphysical feat (if real). As modern alchemist Powell and his ‘subject’ merge into one, with the US dollar acting like quicksilver, transcending the physical real economy. However, just as heating quicksilver resulted in a poisonous residue, heating up the US dollar may also lead to dangerous side-effects.
Still, before him, Bernanke is recorded stating that he is 100% certain that central banks can control inflation. He was joined by Mario Draghi, the former ECB chief alchemist, who assured us all that the ECB would do “whatever it takes” and that its policies “will be enough” to save the euro. It is topped by the arrogance of the CCP men-of-system to manage the whole Chinese economy. The jury is still out but such overconfidence is vulnerable.6 Yes, the herd belief in central banking power still reigns. But as the previous chapter argued, all that is required to shift this is doubt. The absence of doubt (as the twin of overconfidence) is the message from Faust and other stories of the devil’s monetary role in our MMH setting. To paraphrase Charles Baudelaire7 the devil’s best trick is to persuade you that he does not exist. Translated: there is no evil in selling your soul, just earthly rewards. A shift in herd belief, possibly triggered by somebody or something ‘pulling down the curtain’ (see Subchapter 4.1.3), will remove the aura of central banking power. Any bursting of the “Everything Bubble” by cracking faith in central banks will (finally) impact the fiat currency system, with fiat currencies as the ‘trust-based’ asset class that underlies all others. For those who prefer more concrete indicators for this, I suggest closely watching vulnerable currencies; currencies of countries with high levels of debt/GDP (and/or high interest payments/GDP). In terms of the ‘mechanics’ involved think of the growing (automatic) need to hedge currency exposure by foreign investors holding such debt as their levels rise, leading to a mechanical feedback loop between a country’s debt and its currency. (Implied) currency volatility should increase too. And gold will likely, in parallel, provide an early signal when its price starts to rise.
The next chapter will point out that all these things are complex, while attempting to simplify them.
Chapter 6
On Complexity: Am I Emerging?
A completely unfree society (i.e., one proceeding in everything by strict rules of “conformity”) will, in its behavior, be either inconsistent or incomplete, i.e., unable to solve certain problems, perhaps of vital importance. Both of course, may jeopardize its survival in a difficult situation. A similar remark would also apply to individual human beings.
Kurt Gödel
6.1
Understanding Complexity
Man has been impelled to scientific inquiry by wonder and by need. Of these, wonder has been incomparably more fertile.
Friedrich Hayek
As we saw in Subchapter 1.2, when Hayek was asked, freely interpreted, about the parallels between the human mind and the market he started his answer with the following: “In both cases we have complex phenomena in which there is a need for a method of utilizing widely dispersed knowledge”. The MMH builds on this by highlighting the principles and dynamics of complex adaptive systems that minds and markets share.
So, to enhance the collective aspects of cognitive science the MMH draws on insights from complexity science. These two—cognitive science and complexity science—meet in the social space where individuals interact. In the generalised words of Prigogine and Stengers (1984, p. 203): “Each individual action or each local intervention has a collective aspect that can result in quite unanticipated global changes”. Of particular relevance is the field of Coordination Dynamics and related areas, like social neuroscience (see Subchapter 3.2).
Complexity science, or complexity theory, is the interdisciplinary study of complex systems, in particular those that adapt.1 If we untangle the complexity of such a complex adaptive system (sometimes shortened to CAS),2 we can identify two essential characteristics that help to understand complexity, especially the phenomenon of emergence: exchange and creativity.
Let’s start, however, with the term “system”. A system basically stands for a whole made up of components (its structural combination) and connected via their exchanges (its relational combination). The components form subsystems that are simple compared to their combined constellation. For example, neurons are the components that together, e.g. via neuronal networks, make up the brain and the nervous system which, in turn, form part of the body. Similarly, securities are the base units of specialised market subsystems. Viewed vertically, these include sectors or industries, representing numerous underlying real economic activities, varying from extracting oil to brewing beer. Viewed horizontally, they include so-called risk factors, like dividend yield for equities, or credit rating for corporate bonds. Portfolioism neatly fits into this view: complex adaptive systems form portfolios, and vice versa.
The first characteristic of complexity is the dynamic exchanges between the components which are responsible for the complex in complex adaptive systems. In isolation one exchange is usually very simple. Together, however, they create the famous synergy that differs from and exceeds the sum of the parts. In other words, a complex adaptive system not only comes into existence because of the structural combination of its components but is also enforced because of their relational combination. Explicitly, their exchanges enrich the entity with additional properties that the components cannot contribute themselves individually. As we saw, in general the exchanges involved in our world—at least how we perceive it—are essentially those between the mental and the material domains. Narrowing it down in the case of the market, an exchange involves a trade. While it involves mental justification and preparation (e.g. a decision), any trade itself is a simple, almost mindless action. But it has consequences which, together with other trades, result in complexity.
When we look closer, we see an exchange of one form of contract (e.g. money) for another (e.g. a share), between two parties. The ratio between these contracts is the price which informs the wider system. Crucially, the price is the emerging property because it cannot be contributed by any party alone. Higher up, the interactions between multiple securities facilitate the global transfer of capital leading to positive, negative, or neutralised exposure to, and impact on real economic events. These exchanges are non-linear (e.g. leveraged), involving derivatives with complicated (e.g. convex) payoffs, etc. This means that the corresponding market subsystems behave as collectivities over and above the simple aggregates of their individual components.
Let me state an important interim conclusion that is twofold:
Embodying investors’ minds, the market is a special complex adaptive system. It is special because of consciousness. Prices are its primary emerging properties.3 They, in turn, can instil market behaviour that, as downward causation, can guide (including constrain) the behaviour of the components that make up the market. Stated differently, the relational can impact the structural. The market’s essence is in the exchanges, not the exchangers.
The market solves a problem that none of its components can. Specifically, price discovery distributes and shares knowledge that allows society to (fairly efficiently) allocate its resources, particularly towards its own discoveries~inventions. Moreover, that process is further enriched by the intersubjectivity of discovery, which we generally label as mood.
This brings us nicely to the second characteristic that clarifies complexity. Both minds and markets are in constant dynamic flux, particularly continuous discovery. It is the only true ‘equilibrium’. Specifically, what makes a complex adaptive system adaptive and sustain itself is its endogenous ability—driven by exchange—to generate internal surprises to respond to external ones. It is its sine qua non. That is, a complex adaptive system is able—by exchanging DNA, ideas, etc.—to spontaneously produce bespoke novelty to deal with external challenges. It creatively comes up with innovative solutions to problems that its environment throws up and, subsequently, can change that environment. If it cannot solve a problem it can seek solutions by (further increasing) exchanging with other complex adaptive systems. It does not need central planning or control. I will discuss this later in more detail. First, some more background.
Complexity science grew out of the earlier Systems Theory, including the well-known Dynamic Systems Theory (DST), a mostly mathematical discipline focussed on abstract dynamical models and their properties.4 A particularly important angle for complexity science in that regard is the Gödel-Turing5 framework. In spirit it is anti-mechanism but its most important insight of relevance to this book is the limitation of computation concerning market states. For our purposes this is epitomised by my variation to Berry’s Paradox (in turn, a particular interpretation of the Liar’s Paradox): “ineffable experience”. This statement describes experience as indescribable, thus forming a contradiction. It applies particularly to the A-ha experience of discovery, as we will see.
Complexity science in general, and the Gödel-Turing framework in particular, offer a robust platform to derive a more abstract interpretation and understanding of the human mind, both at the individual and collective level, as a complex adaptive system. Again, the MMH focusses thereby on the process of discovery. What makes complexity science attractive for both cognitive science and economics is the formal acknowledgement and treatment of ‘elusive’ macroscopic properties involved in the coordination of a complex system. This relates, for example, to the ‘hidden’ causes of mental, respectively, market events. In an overview, Markose points out that:
In all variants of complex systems theory it is held that macroscopic properties cannot be formally or analytically deduced from the properties of its parts. Methodologically, it is precisely this that distinguishes the sciences of complex systems from the bulk of traditional science which relies on deductive formalistic and analytical methods. (Markose, 2005, p. F161)
Progress has been made along various lines. Specifically, whereas the original result of Gödel’s Incompleteness Theorem was the proof that mathematics was larger than logic, its principles have since been applied elsewhere, including economics.
In light of my earlier critical remarks on the flawed mechanistic approach in economics it is important to explain why this framework is helpful to expose the flaw. As a reminder, mechanical economics assumes—for making predictions—that the computability of equilibrium due to prespecified mechanical rules is applied to predetermined (historic) data. In Gödel-Turing terms, the market is viewed as a formal axiomatic system with a finite set. Lewis (1987) and Spear (1989) already showed the non-computability of fixed-point mappings that represent equilibria in markets, challenging these assumptions. This is, for example, why Coordination Dynamics is so promising: “In Coordination Dynamics … —where a whole is a part, and a part is a whole—there are no equilibria, no fixed points at all” (Kelso and Engstrøm, 2006, p. xiv). And from a cognitive angle, Dennett argues that when prediction becomes “undecidable” we need to drop rationality. He then criticises economics, in that its “talk of signals and commands reminds us that rationality is being taken for granted, and … shows us where a theory is incomplete” (1971, p. 96, emphasis added; see full quote in Appendix 1-Preparations).
To further explore this we start with a summary of the crucial comments by Gödel (1995) on Turing’s deliberations. First, Gödel agrees that Turing had established the correct definition of mechanistic computability, namely in terms of a Turing machine which executes a finite number of procedures. At the same time, Gödel states that Turing had made a “philosophical error” (Gödel, 1972). Basically, Gödel disagrees with Turing’s perceived extension of mechanistic computability and its applicability to the human condition. Specifically, whereas Turing implied human states of mind are boundedly fixed, Gödel argues that “mind, in its use, is not static, but constantly developing”. In physical terms, besides the brain’s plasticity the body generally is not a fixed substrate, with cells continuously being regenerated. In the final analysis Gödel concludes that the human mind “infinitely surpasses the powers of any finite machine” (Gödel, 1951, p. 310). In particular, he assumes there are non-mechanistic mental procedures that help the human mind to transcend such machines. This has been further explored by Hofstadter (1979) and Penrose (1995), for example.
This does not mean that we fully understand it. In addition to both being (closet) dualists, what links Gödel to Hayek (and others) is their agreement that our understanding of the mind’s complexity is limited due to reflexivity, when acting as both the observer and the observed:
Mind must remain forever a realm of its own which we can only know through directly experiencing it, but which we shall never be able fully to explain or to “reduce” to something else. (Hayek, 1952, p. 194)
In other words, one cannot comprehend one’s mind over and above its experience which, as a reminder, is the dualist realisation of information. Let’s interpret the mind’s S1 and S2 systems, for the sake of argument, in the Gödelian terms of complete and consistent.
It is not just that the rules6 which coordinate the mind’s dynamics cannot be articulated because they remain largely unconscious. It is also, and more so, that each time we try to “complete” the mind by adding new axioms, we end up with a new system containing yet more unprovable statements. All we can say, in Gödelian terms, is that the ultimate test occurs in subjective phenomenal space when proof that emotions, thoughts and other products from S1 or S2 are true or false statements is experienced (as information being realised in consciousness). In other words, S1 and S2 statements can only be proved outside the dual-process system, namely in S3 (for more details, see also Subchapter 7.2). Such realisations particularly apply to the sensations that irreducibly accompany discoveries.
