Evolutionary economic dynamics: persistent cycles, disruptive technology, and the trade-off between stability and complexity
Introduction: bridge the gap between economics and biology
Alfred Marshall once remarked that economics should be considered closer to biology than mechanics (Marshall 1920). Living systems have two essential features: life rhythms, and the birth-death process. However, the current economic framework is far from Marshall’s dream: Economic order is widely formulated by a steady-state solution plus random noise. Can we bridge the gap between equilibrium economics and evolutionary biology？
There are two fundamental problems in theoretical economics: the nature of persistent business cycles and the diversity in developing the division of labor. To study these problems, there are two different perspectives in economic dynamics: the equilibrium-mechanical approach and the evolution-biological approach.
The existence of persistent business cycles and chronic excess capacity is hard to explain by using equilibrium models in macro econometrics: External noise cannot maintain persistent cycles in the Frisch model (Chen 1999); Aggregate fluctuations in the Lucas microfoundations model are too weak for generating large macro fluctuations according to the Principle of Large Numbers (Lucas 1972, Chen 2002); Random walk and Brownian motion are not capable of explaining persistent fluctuations in macro indicators(Chen 2001). Adam Smith once observed that the division of labor was limited by the extent of the market (Smith 1776). Stigler noted that the above Smith theorem was not compatible with the Smith theory of “the invisible hand” (Stigler 1951). Needham asked why did capitalism and science originate in Western Europe not in China or other civilizations (Needham 1954). Diversified patterns in the division of labor and corporate strategies cannot be explained within the equilibrium framework.
In our analysis, the time scale plays a key role in understanding economic dynamics. The birth-death process is the first approximation of growth fluctuations. Business cycles can be further decomposed into a smooth trend, plus color chaos and white noise.Persistent cycles and structural changes can be directly observed from a time-frequency representation. Market-share competition and disruptive changes in technology can be described by the logistic model with resource constraint. Innovative corporate strategies can be studied from a behavioral model of risk culture and learning by trying. Logistic curves and product cycles can be inferred from marketing strategy and technological progress. Division of labor is limited by the market extent, resource variety and environmental uncertainty. The Smith dilemma can be solved by the trade-off between stability and complexity (Chen 1987). Resilient market and economic complexity can be understood from persistent business cycles and technological metabolism. Economic evolution and structural changes can be directly observed from a wide range of time scales, including product cycles, business cycles, and Kondratieff long waves.
Chen, Ping. “Evolutionary Economic Dynamics: Persistent Business Cycles, Disruptive Technology, and the Trade-Off between Stability and Complexity,” in Kurt Dopfer ed., The Evolutionary Foundations of Economics, Chapter 15, pp.472-505, Cambridge University Press, Cambridge (2005). Also, in Chen (2010), Chapter 3, pp. 53-82.
