Complex Adaptive Monetary Policy

Complex Adaptive Monetary Policy (CAMP) is, in essence, a reconciliation of Keynes’ top-down view of macroeconomics with Hayek’s bottom up view.  The particular details of the proposed policy below are not as important as the recognition of the fundamental forces at play and empirical evidence that we are at a very dangerous chaos point in history.  Both Keynes and Hayek have deep truths to tell, and we discount one or the other at our collective peril.  For those who want a primer on the great debate, this rap battle sums it up better than any text book could.  Now on to the idea…

The fragility of the global financial system (as measured by the US dollar) is a function of the gap between rich and poor.  In the past, only a small ruling elite could decide to use capital to purchase all of the following: food/clothing/shelter; savings; insurance; personal free time; investment; starting a business; buying a private jet; leverage/volatility; political influence; fame.  Today an ever-increasing population has more of these purchasing options at their disposal.  The percentage of wealthy is inversely proportional to the percentage of poor, meaning: as the few grow wealthier, more people become poor, relatively speaking.  This is what’s known as a Pareto distribution (aka the “80-20 rule”) and it’s an inexorable unintended consequence of network effects from the internet and global connectivity.

The recent financial crisis illustrated very clearly that in Pareto wealth distributions, those above you on the curve can unilaterally decide to gamble capital that is backed by you.  In particular, the top 0.01% have the ability (and incentive) to take a free shot at increasing their wealth by putting up as collateral the homes and living wages of the bottom 99.9%.  This dynamic is not something that can be “solved” by political or legislative action, for it crosses sovereign and geographic boundaries.

At the same time though, because of global finance and the internet, we are also seeing the emergence of a meta-stable system of worldwide, frictionless virtual currencies.  Already virtual currencies are being traded on the open market for cold hard cash.  World of Warcraft, Second Life, Farmville and other games are just the start.  As “game-ification” of social networks takes hold we will begin to see the accumulation of vast wealth that is created strictly along the social dimensions (friendship, trust, humor, reputation, loyalty, risk-tolerance, transparency, etc.).

This shift represents an opportunity for the world economy to evolve into an what Taleb calls antifragile: a system which not only is resistant to chaos and endogenous shocks, but actually thrives on them.  Antifragile systems derive their metastability from two properties in combination: (1) ability to adapt to a changing environment (2) ratchet mechanisms. (See Parrondo’s Principle for the math underlying antifragillity).  What this means in practice is that the system has to be configured such that there is flexibility when perturbed, but flexibility in such a way that the perturbation causes the system to tighten up (not come undone).  Think of a tangled string which turns into to a sturdy knot the more forcefully you yank on it.

Unfortunately complex adaptive systems (such as the global economy) cannot be “engineered” from the top down.  But once the system is close enough to a new metastable state, it can be nudged close enough to the attractor basin so that it falls into orbit.  It is my belief that we are at that tipping point already in the global economy.  Or if we are not, we are close enough that by employing a fairly straightforward policy in the U.S. (or perhaps Europe), we can assure the metastability the world needs and desires.  Here’s the simple outline:

• Bipartite Fed Policy:
  • Continue/expand current policy to create an strong attractor towards basic cost-of-living (i.e. incentivize humane social policies)
  • Reintroduce a gold standard floor to act as insurance against total collapse of the dollar.  This is the ratchet.
• Exempt virtual fiat currencies from all tax, securities law and other regulatory regimes, creating an ecosystem of creative risk-taking
  • Upon conversion to cash, all of the normal policies would apply, including capital gains taxation.  There may not be such a thing as a free lunch, but unfettered chaos in the kitchen is important.

In essence, what I’m proposing is to assure — via the Bipartite Fed Policy — basic human rights, plus the right to earn a living and save for retirement.  This then frees up virtual currencies as a mechanism for the entrepreneurs, risk-tolerant investors, and social innovators to go as crazy as they want without infecting “real life” with toxic assets.

Here’s why this might work.  It is well-known that the physical economy (of scarce goods and resources) is governed by the law of diminishing returns.  By contrast, the virtual world has increasing returns to scale, because you can actually give something away and still keep it for yourself (e.g. an idea).  Economies based on scarcity suffer when leverage and volatility go unchecked; economies of abundance thrive on leverage, due to antifragility.

As we wake up to the new world that is emerging, we begin to see that we are naively applying economic policies designed for a scarce world, to the abundant, virtual economy.  The CAMP model above simply honors the important distinction between these two worlds and lets the inherent economic forces in each world act freely and naturally.   By segregating the scarcity economy from the the abundance economy (via the ratchet) we dampen the destructive oscillations in the physical world caused by leveraged self-intrest; at the same time we are able to reap the benefits of leveraged self-interest in the virtual world.  Think of CAMP as a pressure release valve for the current volatility in the world economic system.

And here’s the the epic win scenario: imagine what happens when tens of millions of people have had the experience that very few are ever afforded, which is to directly experience the fundamental dynamics of abundance: the more you give, the more you get.  The only way to reach such a scenario is by allowing everyone to feel safe and secure about their basic living needs.  One way or another, we will pass through the storm.  The question is, how much chaos are we willing to accept along the way?

Adjacent Possible, Alternative Institutions, Asymmetry, Economics, Government, Incentives, Interventions, Non-linearity, Scarcity / Abundance, Social Capital, Stability