Feedback Thought in Economics and Finance

Feedback Thought in Economics and Finance

  • Negative Feedbacks
  • Positive Feedbacks
  • Stocks and Flows
  • Limiting Factors

 

Key People:

  • Jay Forrester
  • George Richardson
  • John Sterman
  • Michael Radzicki
  • Mikhail Oet
  • Oleg Pavlov
  • Eric D. Beinhocker
  • Stuart A. Umpleby
  • Khalid Saeed
  • Kaoru Yamaguchi

 

Reflexivity and Second order economics are closely related concepts.

 

From System Dynamics and Its Contribution to Economics and Economic Modeling

 

System dynamics is a computer simulation modeling methodology that is used to analyze complex nonlinear dynamic feedback systems for the purposes of generating insight and designing policies that will improve system performance. It was originally created in 1957 by Jay W. Forrester of the Massachusetts Institute of Technology as a methodology for building computer simulation models of problematic behavior within corporations. The models were used to design and test policies aimed at altering a corporation’s structure so that its behavior would improve and become more robust.

Today, system dynamics is applied to a large variety of problems in a multitude of academic disciplines, including economics. System dynamics models are created by identifying and linking the relevant pieces of a system’s structure and simulating the behavior generated by that structure. Through an iterative process of structure identification, mapping, and simulation a model emerges that can explain (mimic) a system’s problematic behavior and serve as a vehicle for policy design and testing. From a system dynamics perspective a system’s structure consists of stocks, flows, feedback loops, and limiting factors.

Stocks can be thought of as bathtubs that accumulate/de-cumulate a system’s flows over time. Flow can be thought of as pipe and faucet assemblies that fill or drain the stocks. Mathematically, the process of flows accumulating/de-cumulating in stocks is called integration. The integration process creates all dynamic behavior in the world be it in a physical system, a biological system, or a socioeconomic system. Examples of stocks and flows in economic systems include a stock of inventory and its inflow of production and its outflow of sales, a stock of the book value of a firm’s capital and its inflow of investment  spending and its outflow of depreciation, and a stock of employed labor and its inflow of hiring and its outflow of labor separations.

Feedback is the transmission and return of information about the amount of information or material that has accumulated in a system’s stocks. Information travels from a stock back to its flow(s) either directly or indirectly, and this movement of information causes the system’s faucets to open more, close a bit, close all the way, or stay in the same place. Every feedback loop has to contain at least one stock so that a simultaneous equation situation can be avoided and a model’s behavior can be revealed recursively. Loops with a single stock are termed minor, while loops containing more than one stock are termed major. 

Two types of feedback loops exist in system dynamics modeling: positive loops and negative loops. Generally speaking, positive loops generate self-reinforcing behavior and are responsible for the growth or decline of a system. Any relationship that can be termed a virtuous or vicious circle is thus a positive feedback loop. Examples of positive loops in economic systems include path dependent processes, increasing returns, speculative bubbles, learning by-doing, and many of the relationships found in macroeconomic growth theory. Forrester [12], Radzicki and Sterman [46],Moxnes [32], Sterman (Chap. 10 in [55]), Radzicki [44], Ryzhenkov [49], and Weber [58] describe system dynamics models of economic systems that possess dominant positive feedback processes.

Negative feedback loops generate goal-seeking behavior and are responsible for both stabilizing systems and causing them to oscillate. When a negative loop detects a gap between a stock and its goal it initiates corrective action aimed at closing the gap. When this is accomplished without a significant time delay, a system will adjust smoothly to its goal. On the other hand, if there are significant time lags in the corrective actions of a negative loop, it can overshoot or undershoot its goal and cause the system to oscillate. Examples of negative feedback processes in economic systems include equilibrating mechanisms (“auto-pilots”) such as simple supply and demand relationships, stock adjustment models for invetory control, any purposeful behavior, and many of the relationships found in macroeconomic business cycle theory. Meadows [27], Mass [26], Low [23], Forrester [12], and Sterman [54] provide examples of system dynamics models that generate cyclical behavior at the macro-economic and micro-economic levels.

From a system dynamics point of view, positive and negative feedback loops fight for control of a system’s behavior. The loops that are dominant at any given time determine a system’s time path and, if the system is nonlinear, the dominance of the loops can change over time as the system’s stocks fill and drain. From this perspective, the dynamic behavior of any economy that is, the interactions between the trend and the cycle in an economy over time can be explained as a fight for dominance between the economy’s most significant positive and negative feedback loops.

 

Key Sources of Research:

 

 

 

FEEDBACK MECHANISMS IN THE FINANCIAL SYSTEM: A MODERN VIEW

Mikhail V. Oet

Oleg V. Pavlov

http://www.systemdynamics.org/conferences/2014/proceed/papers/P1441.pdf

 

 

Mr. Hamilton, Mr. Forrester, and a Foundation for Evolutionary Economics

Michael J. Radzicki

 

https://www.researchgate.net/profile/Michael_Radzicki/publication/237782671_Mr._Hamilton_Mr._Forrester_and_a_Foundation_for_Evolutionary_Economics/links/0a85e52e41951a468c000000.pdf

 

European Contributions to Evolutionary Institutional Economics: The Cases of ‘Cumulative Circular Causation’ (CCC) and ‘Open Systems Approach’ (OSA).
Some Methodological and Policy Implications

 

Sebastian Berger and Wolfram Elsner

http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.519.7169&rep=rep1&type=pdf

 

System Dynamicsand Its Contribution to Economics and Economic Modeling

MICHAEL J. RADZICKI

 

https://www.researchgate.net/profile/Michael_Radzicki/publication/227167378_System_Dynamics_and_Its_Contribution_to_Economics_and_Economic_Modeling/links/02e7e53331fe5f394b000000.pdf

 

 

Institutional Economics, Post Keynesian Economics, and System Dynamics: Three Strands of a Heterodox Economics Braid

Michael J. Radzicki, Ph.D.

https://www.researchgate.net/profile/Michael_Radzicki/publication/237138677_Institutional_Economics_Post_Keynesian_Economics_and_System_Dynamics_Three_Strands_of_a_Heterodox_Economics_Braid/links/02e7e53331eeea388c000000.pdf

 

 

Was Alfred Eichner a System Dynamicist?

by

Michael J. Radzicki

https://www.researchgate.net/profile/Michael_Radzicki/publication/239920399_Was_Alfred_Eichner_a_System_Dynamicist/links/0f317536d3f41a13fb000000.pdf

 

Second-Order Economics as an Example of Second-Order Cybernetics

Stuart A. Umpleby

 

http://www.univie.ac.at/constructivism/archive/fulltexts/890.pdf

 

Reflexivity, complexity, and the nature of social science

Eric D. Beinhocker

 

http://www.inet.ox.ac.uk/files/publications/Beinhocker%20(JEM%202013).pdf

 

Path dependence, its critics and the quest for ‘historical economics’

By

Paul A. David

https://www.researchgate.net/profile/Paul_David2/publication/23742679_Path_dependence_its_critics_and_the_quest_for_historical_economics/links/0deec53b482217c114000000.pdf

 

Endogenous Feedback Perspective on Money in a Stock-Flow Consistent Model

I. David Wheat
University of Bergen

 

http://www.wheatresources.com/WP/Wheat%20Endogenous%20Feedback%20Perspective%20on%20Money%20WP.pdf

 

Classical Economics on Limits to Growth

Khalid Saeed

 

http://haghshenas.com/PhD%20thesis/articel%20sources%201st/Classical%20Economics%20on%20Limits%20to%20Growth.pdf

 

 

Misperceptions of Feedback in Dynamic Decisionmaking

John D. Sterman

 

https://www.researchgate.net/profile/John_Sterman2/publication/37593529_Misperceptions_of_feedback_in_dynamic_decisionmaking/links/54359e4e0cf2bf1f1f2b3520.pdf

 

Learning in and about complex systems

John D. Sterman

 

http://atransdisciplinaryapproach.com/wp-content/uploads/2014/02/sterman-learning-in-and-about-complex-systems.pdf

 

Micro-worlds and Evolutionary Economics

Michael J. Radzicki

http://www.systemdynamics.org/conferences/1992/proceed/pdfs/radzi533.pdf

 

Feedback Thought in Social Science and Systems Theory

George Richardson

Pegasus Communications, Inc. ©1999
ISBN:1883823463

 

The Feedback concept in American Social Sciences 

George Richardson

1983

http://www.systemdynamics.org/conferences/1983/proceed/plenary/richa001.pdf

 

Evolutionary Economics and System Dynamics

Radzicki and Sterman

 

Effects of Feedback Complexity on Dynamic Decision Making
Ernst Diehl, John D. Sterman

Organizational Behavior and Human Decision Processes

Volume 62, Issue 2, May 1995, Pages 198-215

 

Old Wine in a New Bottle:
Towards a Common Language for Post-Keynesian Macroeconomics Model

Ginanjar Utama

2014

http://www.systemdynamics.org/conferences/2014/proceed/papers/P1307.pdf

 

On Component Based Modeling Approach using System Dynamics for The Financial System (With a Case Study of Keen-Minsky Model)

Ginanjar Utama

2013

http://www.systemdynamics.org/conferences/2013/proceed/papers/P1209.pdf

 

On the Monetary and Financial Stability under A Public Money System

– Modeling the American Monetary Act Simplified –

Kaoru Yamaguchi

 

http://www.systemdynamics.org/conferences/2012/proceed/papers/P1065.pdf

 

Integration of Real and Monetary Sectors with Labor Market
– SD Macroeconomic Modeling (3) –

Kaoru Yamaguchi

http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.436.1085&rep=rep1&type=pdf

 

Balance of Payments and Foreign Exchange Dynamics

– SD Macroeconomic Modeling (4) –

Kaoru Yamaguchi, Ph.D

2007

http://www.systemdynamics.org/conferences/2007/proceed/papers/YAMAG211.pdf

 

 

Money and Macroeconomic Dynamics

Accounting System Dynamics Approach

Kaoru Yamaguchi, Ph.D

 

http://muratopia.org/Yamaguchi/macrodynamics/Macro%20Dynamics.pdf

 

Does Money Matter on the Formation of Business Cycles and Economic Recessions ?
– SD Simulations of A Monetary Goodwin Model –

 

Kaoru Yamaguchi

http://bs.doshisha.ac.jp/attach/page/BUSINESS-PAGE-JA-53/26830/file/DBS12-01.pdf

 

Head and Tail of Money Creation and its System Design Failures

– Toward the Alternative System Design –

JFRC Working Paper No. 01-2016

Kaoru Yamaguchi, Ph.D.

Yokei Yamaguchi

http://www.vollgeld-initiative.ch/fa/img/Vertiefung_deutsch/Head-and-Tail-2016_WP__-_Japan_Futures_Research_Center.pdf

 

Modelling the Great Transition

 

Emanuele Campiglio

New Economics Foundation

http://systemdynamics.org.uk/wp-content/uploads/Emanuel-SD-conference-9-2-12.pdf

 

The role of System Dynamics modelling to understand food chain complexity and address challenges for sustainability policies

Irene Monasterolo1, Roberto Pasqualino, Edoardo Mollona

 

http://www.fao.org/fileadmin/templates/ags/docs/MUFN/CALL_FILES_EXPERT_2015/CFP3-06_Full_Paper.pdf

 

Dynamic regional economic modeling: a systems approach

I. David Wheat

2014

 

http://www.zneiz.pb.edu.pl/data/magazine/article/434/en/1.17_wheat_pawluczuk.pdf

 

Expectation Formation and Parameter Estimation in Uncertain Dynamical Systems: The System Dynamics Approach to Post Keynesian-Institutional Economics

Introduction

 

Michael J. Radzicki

 

https://www.researchgate.net/profile/Michael_Radzicki/publication/254071516_Draft_Expectation_Formation_and_Parameter_Estimation_in_Uncertain_Dynamical_Systems_The_System_Dynamics_Approach_to_Post_Keynesian-Institutional_Economics/links/0deec536d3da974962000000.pdf

 

The Circular and Cumulative Structure of Administered Pricing

Mark Nichols, Oleg Pavlov, and Michael J. Radzicki

2006

https://www.researchgate.net/profile/Mark_Nichols3/publication/228273797_The_Circular_and_Cumulative_Structure_of_Administered_Pricing/links/02e7e5282d33c933df000000.pdf

 

A System Dynamics Approach to the Bhaduri‐Marglin Model

Klaus D. John

http://www.systemdynamics.org/conferences/2009/proceed/papers/P1306.pdf

 

An Institutional Dynamics Model of the Euro zone crisis: Greece as an Illustrative Example

Domen Zavrl

Miroljub Kljajić

http://www.systemdynamics.org/conferences/2010/proceed/papers/P1144.pdf

 

Is system dynamics modelling of relevance to neoclassical economists? 

Douglas J. Crookes Martin P. De Wit

https://www.researchgate.net/profile/Douglas_Crookes/publication/262674865_Is_System_Dynamics_Modelling_of_Relevance_to_Neoclassical_Economists/links/00b7d53861d6b14d9f000000.pdf

 

System dynamics modelling and simulating the effects of intellectual capital on economic growth

Ivona Milić Beran

http://hrcak.srce.hr/ojs/index.php/crorr/article/viewFile/2803/2121

 

 

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Author: Mayank Chaturvedi

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