Friday, May 23, 2014

Utility is silly and other observations

Yes, yes, the "marginal revolution" was a huge advance in economics, but when Matt Yglesias referred to total factor productivity as phlogiston economics, I think he missed the real target: utility. I'm going to promote some side comments and random points in a couple of previous posts (here and here) to a post of their own.

If supply and demand is an information transfer process that is related to thermodynamics, then the idea of utility is, well ... silly.

  • The pressure of an ideal gas does not fall because an atom feels the diminishing marginal utility of extra volume. The states of the ideal gas at lower pressure become more likely when the volume is increased. The atoms just blunder into it.
  • The invisible hand of the market is an entropic force. But that entropic force is not encouraging self-regulating behavior of the ideal gas, and it is not channeling atoms' self-interest.
  • If you release a gas into a larger volume (at constant temperature), there will be some fluctuations [1] in the pressure before it settles down to its lower value. However, that doesn't mean there is a "short run" and a "long run" isothermal expansion curve (isotherm).
  • Atoms in an ideal gas don't really have a well defined pressure and volume on their own. Pressure and volume are properties of an ensemble of atoms. Overall, the properties we associate with economic agents are actually only properties of the ensemble system: prices, demand, supply, diminishing marginal utility ... or just utility in general.
  • While some atoms may have a large fraction of the thermal energy of the system, it is largely a function of random chance which atom has which allocation. It doesn't mean high energy atoms are "temperature creators" and the situation would be exactly the same if we re-labeled which atom had which energy allocation. On the other side of the equation, it is hard to alter the velocity distribution from a Maxwell distribution given the macroscopic thermodynamic variables if we leave it up to thermodynamic processes.
[1] The interim state is governed by non-equilibrium thermodynamics and the fluctuation theorem but the information transfer model remains valid under non-equilibrium conditions.


  1. " Overall, the properties we associate with economic agents are actually only properties of the ensemble system: prices, demand, supply, diminishing marginal utility ... or just utility in general."

    This is not true of utility, it is a property of individual actors (and of course "diminishing marginal utility" is nonsense).

    There may be some aspects of trade (money, prices, demand, supply, etc.) that have some things in common with thermodynamic processes but I feel like you are trying to forcefully reduce all of economics to something that is nothing but thermodynamics and that seems like a stretch. Am I misunderstanding you?

    1. I'm not really trying to force a thermodynamic interpretation; the underlying "information transfer model" can actually be used to derive the ideal gas law -- so I sometimes have fun couching the economic version in that language.

      In economics, I understand utility is a property of an individual economic agent. We'd say an agent will snap up opportunities like land if it is cheap. In the thermodynamic analogy, an atom will snap up pieces of phase space if it is not energetically unfavorable. The atom doesn't "want" phase space, nor does it derive "utility" from it in the JS Mill sense of the word.

      Maybe human desires are unimportant in macroeconomics and we're all just out there picking up pieces of economic phase space at random ... at least to some approximation.

      It's totally speculative philosophy -- and more for fun. The models I'm building on this blog with the information transfer framework are based on theoretical equations and empirical analysis. The thermodynamics analogy is more of an aside.

    2. Jason, your language above reminds me a bit of how evolution is explained .... at least how I read about it in "The Selfish Gene" and other Richard Dawkins books ("The Selfish Gene" is still my favorite).

    3. Mike, since you're reading Keen now (however horrified you are by his apparent politics)... there was something he pointed out that perhaps you've seen (or already knew about). It was an experiment carried out by an economist (an experimental economist I suppose), in which he was attempting to verify some aspects of utility theory. Instead he found the results of his experiments were not consistent with the theory. Do you know what I'm talking about? It had to do with students using credits or some such to "purchase" items, like snacks, etc. I was interested enough at the time that I went and looked up the experimenter and read a little more about it, but I sure don't recall his name.

  2. Tom,

    I don't know the name or author of the study you are talking about but I think I have encountered it. If I recall correctly, it was testing the transitivity assumption and found that some students seemed to prefer A to B and B to C and C to A or something like that. Kind of interesting but didn't make me want to throw out the whole concept of utility.

    Regarding Keen, let me just say that it's not exactly his politics that I have an issue with, I don't actually know anything about his politics although I suspect I wouldn't be a fan if I did. It's his underlying economic philosophy.


    For the record, I think Mill's sense of utility has been mostly abandoned for quite some time. If you are trying to do economics in a way that assumes human desires are unimportant, I think that is a mistake since the whole point of economics is to study human choice and I think any attempt to do that without any regard for their desires is hollow. That is essentially the criticism I have been leveling at Keen (among others). This approach seems to be attractive to practitioners of the harder sciences who live in a world with a lot of natural constants that just are what they are and can be measured but in economics most things that appear that way are the result of some process of human reasoning. Without any model for how humans reason, these things are difficult to truly understand, even if you can fit a model to them that works pretty well for the data you have.

    1. Hi Mike,

      I'm not abandoning human behavior -- I am assuming I have no idea what human behavior is. In the model, it appears human behavior (or something else) has a strong impact on macroeconomic outcomes -- as measured by the deviation from the theoretical models.

      Effectively the world seems to be described remarkably well by information in ≈ information out. However in reality (i.e human behavior) we have information in ≥ information out and the markets we use to transfer information (and the prices we use to detect it) are determined by human institutions.

      Some examples of the last point: it is possible the reason interest rates seem to have an impact is because humans set up central banks and the market r:NGDP→MB; the reason we have layoffs instead of nominal wage cuts (i.e the market P:NGDP→L controls employment rather than P:NGDP→W) is because of human behavior.


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