1/13
A well written, balanced, friendly, helpful article by @realDavidGal on loss aversion.
Perfect to illustrate how ergodicity economics brings clarity to a confused status quo.
When economists attack me, they're trying to kill the messenger. Let's solve the problem instead.
A well written, balanced, friendly, helpful article by @realDavidGal on loss aversion.
Perfect to illustrate how ergodicity economics brings clarity to a confused status quo.
When economists attack me, they're trying to kill the messenger. Let's solve the problem instead.
2/13
What's going on
The real physical impacts of losses are often stronger than those of gains.
This is so, even in the simplest mathematical finance model (geometric Brownian motion).
But it's only visible when we compute what happens over time, not in expectation.
What's going on
The real physical impacts of losses are often stronger than those of gains.
This is so, even in the simplest mathematical finance model (geometric Brownian motion).
But it's only visible when we compute what happens over time, not in expectation.
3/13
Comparing what happens over time to what happens in expectation is a well-known problem in statistical mechanics, called "the ergodicity problem."
nature.com/articles/s4156…
Comparing what happens over time to what happens in expectation is a well-known problem in statistical mechanics, called "the ergodicity problem."
nature.com/articles/s4156…
4/13
But behavioral economists dismiss it as "@nntaleb hogwash" (ignoring 150 years of mathematical physics).
I'm quoting Nobel Laureate @R_Thaler, who is cited in @realDavidGal's article alongside Daniel Kahneman.
But behavioral economists dismiss it as "@nntaleb hogwash" (ignoring 150 years of mathematical physics).
I'm quoting Nobel Laureate @R_Thaler, who is cited in @realDavidGal's article alongside Daniel Kahneman.
5/13
When the asymmetry between real physical effects of gains and losses is large, people quite reasonably 'pay to avoid losses' (e.g. buy insurance).
When it is not large, people don't unreasonably mind losses, and won't pay to avoid them.
When the asymmetry between real physical effects of gains and losses is large, people quite reasonably 'pay to avoid losses' (e.g. buy insurance).
When it is not large, people don't unreasonably mind losses, and won't pay to avoid them.
6/13
That's potentially confusing: depending on the magnitude of the effect, sometimes people are happy to pay to avoid losses, sometimes they aren't.
All of this behavior is precisely predicted in ergodicity economics: by optimizing over time.
That's potentially confusing: depending on the magnitude of the effect, sometimes people are happy to pay to avoid losses, sometimes they aren't.
All of this behavior is precisely predicted in ergodicity economics: by optimizing over time.
7/13
[Behavioral] economics often interprets this type of behavior as an (irrational) loss-aversion bias.
Why?
Because it inadvertently uses the wrong benchmark: it doesn't optimize over time but instead takes expectations and thereby optimizes over a statistical ensemble.
[Behavioral] economics often interprets this type of behavior as an (irrational) loss-aversion bias.
Why?
Because it inadvertently uses the wrong benchmark: it doesn't optimize over time but instead takes expectations and thereby optimizes over a statistical ensemble.
8/13
Yes, economics has awarded Nobel Prizes to researchers who perceived the confusion but failed to solve the problem. That's ok, scientifically -- spotting problems is important.
@NobelPrize
Yes, economics has awarded Nobel Prizes to researchers who perceived the confusion but failed to solve the problem. That's ok, scientifically -- spotting problems is important.
@NobelPrize
9/13
But it's also important to solve problems, so please stop attacking my collaborators and myself for providing the solution. And perhaps consider publishing some of our work in your journals.
But it's also important to solve problems, so please stop attacking my collaborators and myself for providing the solution. And perhaps consider publishing some of our work in your journals.
10/13
Yes, it's embarrassing that the problem has such a neat mathematical solution that has been available for 150 years. Economics is a proud discipline that sees itself as mathematically sophisticated. In this case, it wasn't.
Yes, it's embarrassing that the problem has such a neat mathematical solution that has been available for 150 years. Economics is a proud discipline that sees itself as mathematically sophisticated. In this case, it wasn't.
11/13
In this case, economics failed to be sufficiently open-minded to incorporate into its mathematical toolbox progress made in physics. In this case, the resulting lack of mathematical expertise had bad consequences for the discipline.
In this case, economics failed to be sufficiently open-minded to incorporate into its mathematical toolbox progress made in physics. In this case, the resulting lack of mathematical expertise had bad consequences for the discipline.
12/13
Economics got the mathematics wrong, created internal conflicts, became fractious, and started snapping at anyone who could have helped.
Economics got the mathematics wrong, created internal conflicts, became fractious, and started snapping at anyone who could have helped.
13/13
It's time to start acting differently. Science is first and foremost a spiritual struggle against Ego. We all get things wrong - the trick is to correct the things we get wrong when we learn that they are wrong.
It's time to start acting differently. Science is first and foremost a spiritual struggle against Ego. We all get things wrong - the trick is to correct the things we get wrong when we learn that they are wrong.
