The trouble with Bernoulli 1738

The trouble with Bernoulli 1738

Not all academic fields have a clear starting point, a seminal paper that constitutes the foundation of the entire discipline. But economics does. The paper that defines modern formal economics was written by Daniel Bernoulli in 1738. It introduces expected utility theory. The main thrust of our work is, of course, to replace expected utility theory and instead work with time-average growth rates of wealth. I’ll mention how that works, but the focus of this post will be on something else. Bernoulli’s paper is not only conceptually misleading but also technically flawed in a sneaky way that keeps confusing everyone. Where Bernoulli determines the price to be paid for a risky prospect, he contradicts himself. I wouldn’t make such a fuss about this if the paper wasn’t so absolutely crucial. This basis of economics contains an error that invalidates commonly held beliefs and puts tens of thousands of studies into a different light. I recently encouraged people, using twitter, to read the paper and see for themselves. In this blog post I go through the relevant analysis step by step and address questions that came up in response to the tweet.

Continue reading “The trouble with Bernoulli 1738”

Ink, science, story-telling

File_000 (3).jpeg

Scientific theorizing is indeed about finding something reliable in the world — if we’re lucky something reliable enough to be called a law. Why do we want something that doesn’t change? Deep question. Here’s a practical reason: we aim to capture it with something that doesn’t change, namely with ink on paper. Stability, stationarity, ergodicity… are the holy grail of science.

Continue reading “Ink, science, story-telling”

Winner take all

Winner take all

Michael Mauboussin recently re-tweeted an article by Jason Zweig in the Wall Street Journal titled “Disturbing New Facts About American Capitalism”.

The article summarizes reports of an increasing concentration of economic power (market capitalization, profits etc) in ever smaller numbers of American companies, so-called super-star companies in their respective sectors. Well-known examples are Google (or Alphabet) and Apple. But the trend, Zweig says, is broader, also occurring in supermarkets and real estate services.

Continue reading “Winner take all”

Gas in a box or nuclear explosion?

Gas in a box or nuclear explosion?

This post is about mindset, culture, implicit assumptions. The big assumption in neoclassical economics is ergodicity, or equilibrium, or stationarity, or stability — basically the idea that nothing ever changes fundamentally. Things may fluctuate but they always return to some state of normality. Naively, that doesn’t fit with the idea of a growing economy, innovation, and change. So something’s up. I’ll explore what that is by replacing the mental image of stability with something that doesn’t return to normality: a nuclear explosion.

Continue reading “Gas in a box or nuclear explosion?”