Understanding the economy from the bottom up

Anthropologists have developed a framework that I think would be instructive to economists. The Livelihoods Framework, as it is known, was developed by scholars of development to compare the development status of two unrelated groups. But I think it offers general insights on how economies work.

For the Livelihoods Framework, the fundamental unit of analysis is the household. Households are socially defined, and include just the nuclear family or a large network of relatives, blood-related or otherwise, depending on the culture.

Households control assets. These are the bundles of goods/abilities/talents/resources that households use in order to survive, and meet their livelihood goals. Because these resources used for the purpose of gaining access to other resources, they are known as varying forms of capital.

Anthropologists have identified around six main forms of capital:

• Natural capital: Resources/access that come from geography. This includes the land that a household owns, or access to river or forests.
• Physical capital: The structures and equipment that a household may own. This includes a house, machinery, and wells, for example.
• Human capital: The skills and abilities of the people in the household. This may be simply having access to labor, from the kids, or also the levels of education, street-smarts, or health that the members of the household may have.
• Social capital: The ability to mobilize social connections to procure resources. For example, a family in tough times may be able to lean on their relatives, or their friends.
• Economic capital: Financial resources. It refers to both the households' income stream, as well as the material assets it can sell in order to raise money.
• Political capital: The ability to procure resources through the political structure. Political capital takes the form of well-connectedness, or access to political institutions.

Households operate within a specific geographical, historical, political, economic and cultural context. This context determines the kinds and levels of assets available to households.

Livelihood strategies are the way in which households mix and match assets to meet their needs and goals. The household's set of available strategies is constrained by the processes and structures which govern the society. These are the rules, norms, and institutions that direct households to act in a certain way.

As a result of employing strategies, households face outcomes. These outcomes refer to the goals that households seek—health, education, financial stability, security, a sense of place. These are the true measures of a household's success.

The following is a standard graphic summarizing the Livelihoods Framework:

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What can economists learn from this model?

1. Economists should think of replacing the individual with the household as the fundamental unit of analysis.

Society is not just a collection of individuals trading and bargaining with each other. Rather, we are parceled into small, socialist blocs, called families, which govern and constrain our actions. Hayek also recognized the divide that exists between family life and social life:

...we must constantly adjust our lives, our thoughts and our emotions, in order to live simultaneously within different kinds of orders according to different rules. If we were to apply the unmodified, uncurbed rules (of caring intervention to do visible ‘good’) of the…small band or troop, or...our families…to the (extended order of cooperation through markets), as our instincts and sentimental yearnings often make us wish to do, we would destroy it. Yet if we were to always apply the (noncooperative) rules of the extended order to our more intimate groupings, we would crush them. (The Fatal Conceit, p 18; qtd. Vernon Smith's Nobel Lecture).

Thus the market isn't reducible down to the individual (nor, as Hayek argues, should it), as classic economic models assume. To be honest, I'm not sure whether this really makes a differences, since we can think of individuals in the market as representing the interests of the whole household, but I think it might, and it's worth exploring. Also, it's useful for us economists to ask ourselves why we are naturally averse to using market principles within families.

2. The assets that households hold are diverse.

I think we often think of money as the only way households can procure resources, but this model makes it clear that there are a number of other ways too. Economists should see the wealth of households in a more holistic light, and see beyond income flows. If, for example, a certain program increases household income, but decrease its natural capital, or its social capital, then we need to be able to recognize a potential net loss in wealth.

3. The importance of consumption is overstated.

This is an old refrain, but the model offers an alternative. Consumption is for the sake of fulfilling outcomes, and these outcomes should be the metrics we use to judge economic success. These other metrics aren't separate from the economy, but an integral part of it.

4. An economy is not only a distribution of resources, but also a distribution of livelihoods.

Economy is the way we live our lives. It's how we decide what careers we pursue, the places we live, the industries we establish, and the way we spend our leisure time. It's what we think our job is, not only in the market, but in life. These concepts are so fundamental to our being that we have a hard time adjusting to change. This is why economic changes are so difficult and, at times, heart-wrenching.

In The End of Poverty, Jeffrey Sachs talks about his role in advising the Russian government during the transformation from communist planning to markets. His description of the challenges that Russia faced really illustrate this point.

The transformation would be the hardest in modern history because the gap between where Russia was and where it needed to be—for domestic peace, stability and economic development--was as vast as imaginable...People were literally in the wrong places. They were in Siberia, living in large secret cities that had been created for military purposes. They were working in heavy industries utterly dependent on the massive use of oil and gas reserves, as if there was no limit to those resources....No economic policy could be massive enough to relocate people, factories, and assets in a matter of days or weeks or even a few years. (pgs. 134-135)

That's why when we craft economic policy, we need to be very careful and judicious. We're pulling the strings of peoples' livelihoods.

Irrational Lawsuits

From the New York Times, we have here a distinctly American litigation case: a New York judge has determined that a 4-year-old who accidently hit an old woman in a bike race with a friend can be sued for negligence.

Here's a quick overview of the story:

Juliet Breitman, 4, and Jacob Kohn, 5, were racing their bicycles, under the supervision of their mothers, Dana Breitman and Rachel Kohn, on the sidewalk of a building on East 52nd Street. At some point in the race, they struck an 87-year-old woman named Claire Menagh, who was walking in front of the building and, according to the complaint, was “seriously and severely injured,” suffering a hip fracture that required surgery. She died three months later of unrelated causes.

Her estate sued the children and their mothers, claiming they had acted negligently during the accident. In a response, Juliet’s lawyer, James P. Tyrie, argued that the girl was not “engaged in an adult activity” at the time of the accident — “She was riding her bicycle with training wheels under the supervision of her mother” — and was too young to be held liable for negligence.

[...] But Justice Wooten declined to stretch that rule to children over 4. On Oct. 1, he rejected a motion to dismiss the case because of Juliet’s age, noting that she was three months shy of turning 5 when Ms. Menagh was struck, and thus old enough to be sued.

Mr. Tyrie “correctly notes that infants under the age of 4 are conclusively presumed incapable of negligence,” Justice Wooten wrote in his decision, referring to the 1928 case. “Juliet Breitman, however, was over the age of 4 at the time of the subject incident. For infants above the age of 4, there is no bright-line rule.”

The lawyer blogs are abuzz with this story, and thousands of other laypeople have already given their opinions. At the risk of being redudant, here's my two cents:

In none of the blog posts and op-eds that I read did I find a discussion of whether litigation is even a valid means of redress. Since the money can't bring back life, these kinds of  lawsuits seem to be principally about deterring people from acting negligantly by penalizing them for doing so. But even if we determine the child is fully negligent, lawsuits can't punish her in a meaningful way. Four-year-olds have no income of their own to be deprived of. They don't even know what "litigation" means.

This case is by no means an isolated incident of irrational litigation; the U.S. seems to be an especially fertile breeding ground for it. It's easy to chalk it up to some cultural flaw, but I suspect there's something deeper going on—I just haven't had the time to research it properly.

Blast from the Past

Did you know that the New York Times maintains online searchable archives all the way back to 1851?

Here, for example, is an article I found while researching U.S.-South American trade relations:

It's funny to see how news from so long ago reads as if it were contemporary. At the bottom of the page, in small print, the publication date reads: May 24, 1914.

From the artist's rendering, it seems like the Plaza de Mayo has seen better days. For some reason the full-bodied trees shown here have been replaced with gangly palm trees:

The Mathematics of Social Life

Introduction
We can think of a person's personality as a vector in Fⁿ. The dimensions of F represent the dimensions of the goals and interests that one might entertain—what one values, broadly speaking. Some people are more interested in pursuing money than others; some people have more an inclination towards spirituality than others; some people give more importance to their family than others. Thus, we can say that money, spirituality, and family represent some of the nearly infinite dimensions of this space (but we think of n as finite for simplicity). The zero vector would signify balance within all dimensions.

Like R, F is continuous, infinite, and contains postive and negative values; just as value traits come in shades of grey, have no known limits, and always work in pairs of opposites. Although personality doesn't just include values, they are its most important component. Values are what drive action and shape our life's trajectory, which is what we're interested in modeling.

These personality vectors represent a static snapshot of a person's personality. However, people's goals and interests are, of course, constantly changing: at any given moment, a person has a certain place she's at in life, and a certain place she'd like to go. This defines what we'll call a change vector in Fⁿ. The vector points towards the new personality vector one wants to have, and the magnitude represents the rate at which the change is happening. Continuing the previous example, we can say that a person with a penitant heart who wants to focus more attention on his family rather than on money would have a change vector that points 1) less on the money dimension 2) more on the spirtuality dimension and 3) more on the family dimension.

Over the course of our lives, the personality vector traces a trajectory through Fⁿ that describes how our goals and interests have changed. These trajectories are useful in describing, characterizing, and categorizing people's lives. When we say, for example, that someone has meandered through life, we may mean that the distance traveled along the trajectory is much larger than the distance traveled in Fⁿ.

The change vectors are first derivatives of our life's trajectory. At each moment in time, the vectors are tangent to the trajectory, and mark where we're immediately heading. Because our personalities have inertia, our life's trajectory follows the vector unless the vector changes: until we receive some new information, or have some new experience, our thought pattern will not change.

Society
A society is a well-defined set of people. Societies can be both big and small, ranging from small towns, to nations, to the entire world. Societies can also be defined in terms other than geography, such as national origin, occupation, or marital status.

Societies do not have a uniform distribution of personalities. Instead, they tend to cluster in certain regions of the space (this is where stereotypes come from). We can describe the distribution of personalities of a society with a density map on Fⁿ.

Not all people within a society are equally important to us; we tend to think that some have more of a claim on our consideration than others. A social network is thus defined as a graph of all social claims on oneself that one considers meaningful. The graph is organized as a series of concentric rings, with us at the center and each progressively farther rings representing more distant/less valued relationships.

Hypothesis on Nature vs. Nurture
When we are born, we have an initial personality vector in Fⁿ. This is the nature component, since it limits the possibility of our life's trajectory to within the neighborhood of that point. However, once that point is established, we can move in any direction. This is the nurture component.

An analogy is a cow tied by a rope to a tree: the cow can only move as far as the rope will let her, but within the radius of the rope she can move in any direction.

It's hard to say whether babies are born with change vectors as well, i.e. whether they have a conception of what they want to do with life. But even if they did, it would be almost inseparable from the immediate influence that the family exerts on the newborn.

Interaction
Interaction is comprised of two components: liking and influence. They are separate matters, since we are often influenced by people that we do not necessarily like.

We often gauge how much we like something or someone by how much it aligns with our goals and interests. That is, liking is a measure of the similarity between two vectors, i.e. the angle between them. An angle of 0 measures complete liking and an angle of pi measures complete dislike. If a vector is perpendicular to another, then it is neither heading in a similar direction on any dimension, nor is it heading away; perpendicular vectors thus signal indifference.

Note that we are talking about personalities, not genes. People with very similar personalities may look completely different, talk different, and manifest their goals and interests in different ways—but their goals and interests are similar.

Liking, like influence, happens not just through face-to-face encounters with other people, but also by learning about the work they produce. Our work crystallizes our personality in time, making it possible for distant, unknown people to like and be influenced by us, even without directly meeting. Reading the works of an author reveals the idea vector of the author at that time; learning about the social works of a great leader is a way of meeting their vector.

Influence is a question of what influences the change vectors. Since influence can occur to varying degrees, we can think of it as lying on a spectrum. One one extreme, we have complete influence, where both parties fully and equally influence each other. In complete influence, two people leave the interaction with the same new "goal" personality vector, one that is the sum of their previous individual personality vectors: components of the vector moving in opposite directions would cancel out, and components moving in the same direction would build on each other. However, because personality change is continuous, and occurs over time, the change in personality vector is not instantaneous. Instead, after the interaction, both parties leave with change vectors that now point towards their new goal personality vector. Over time, if these change vectors are unaltered, then their personalities will become the same.

On the other end of the spectrum, we have a complete lack of influence, where the interaction does not affect the change vectors at all. Most interaction is either of this latter type (since we can't afford to constantly reevaluate ourselves every time we interact), or somewhere in between.

Because individuals have free will, personality change is a stochastic event, and hard to pin down. However, we do know that a person is more likely to be influenced one direction or another based on the distribution of her social network within Fⁿ.

We can simplify the process of influence by thinking of it as a random event where a person chooses to be influenced from someone in her social network. That is, every t periods a person decides to be influenced. She samples someone at random from her social network and is influenced, let's say completely influenced. Because her social network is unevenly distributed, she is more likely to sample certain people over others, causing her to be more influenced in a certain direction. The family, as a child's first social network, has the first say in influencing the child's change vector. However, as the child begins her process of socialization within larger society, the familial claims weaken and other people gain stronger influence.

Social Life
When we find ourselves in good company, it is because the personalities of the people involved complement each other. Similarly, in tight knit circles of friends, the personality vectors are linearly dependent on each other.

Social cliques are subspaces of Fⁿ. These cliques are, by definition, closed and bounded, and represent clusters of a socially defined personality type.

Large social gatherings, such as parties, are also home to the formation of subspaces. Like-minded people tend to gravitate towards each other and form social circles, and at times these circles don't even mix. A good party, though, is one where the maximal subspace of the party includes every member, meaning that everyone has interest in each other.

History
We can think of all the people in the world as also representing a bounded region in Fⁿ. The edges of the space represent the boundaries of the present human experience. As people have interacted more and more throughout history, they have provided more and more opportunities for ideas to change, pushing personality vectors in new directions and expanding the human experience.

The region of high density of a density map on all of humanity is the zeitgeist of the era. It represents the certain general paradigm of thinking, acting, and being for people at that time.