Human Freedom and the Economic Model
Does capitalism have anything to do with greed?
Do billionaires receive their money as an incentive to go to work? Do they get their billions because they deserve them?
All the Democratic contenders play to the Scrooge McDuck vision of capitalists cavorting in giant pools of money as if their investments were liquid. But wealth is not liquid, only money is. Wealth is knowledge embodied in the companies and capital that drive the economy. A wealth tax simply destroys wealth by turning it back into money.
Responding to these mostly sterile games of mathematical and psychological reductionism, I wrote Wealth&Poverty 35 years ago and Knowledge and Power, Scandal of Money, and Life After Google over the last few years to provide a grander and more accurate model of capitalism.
Since the days of Adam Smith, the entire economics profession has put a self-interested agent, a homoeconomicus appraising price signals and calculating his own utilitarian advantage, at the center of their models of a capitalist economy.
More modern theories based the model on behavioral psychology. Generalized as a hedonic pleasure-seeker, avoiding pain and pursuing gratification in a Skinner-box scheme of stimulus and response, economic man became a mere manifestation of evolution. A function of his physical environment, he became a figment of statistical aggregates. As the late Irving Kristol put it, “In such a blind and accidental arithmetic, the sum floats free [of the men who build it], and its legitimacy is infinitely questionable.”
Kristol saw that this vision repeated Herbert Spencer’s translation of Darwinian evolution into an economic ethic. Seen as engaged in a struggle for survival governed by the laws of the jungle, economic man could be neither a creative entrepreneur nor an acceptable vessel of a good society.
At the time, I believed I had discovered a way out of all these dilemmas. I would show that capitalism is intrinsically altruistic and moral. To succeed in gaining profits, entrepreneurs must be oriented toward the needs and wants of others. Capitalists were givers, not takers, and their successes “expanded the circles of human sympathy.”
Wealth&Poverty and the Information Theory
Compounding the political problem of defending an amoral system inspired by Darwinian biology was a spurious claim of determinism inherited from physics and mechanics. In their mimicry of physics, economic theories tended to imply the impossibility of growth. Spontaneous physical change is neither cumulative nor progressive. It tends toward deterioration and chaos.
Thus arose a second preoccupation of Wealth&Poverty and of Knowledge &Power — the sources of growth. Giving shape to my argument was an apercu of Princeton’s Albert Hirschman: “Creativity always comes as a surprise to us. If it didn’t we wouldn’t need it and planning would work.” Wealth&Poverty became a paean not only to altruism but also to creation and surprise.
In Wealth&Poverty, I identified the error of economists as founding their theory on the mechanism of market exchanges themselves rather than on the creative activity that makes them possible. Conventional economics violates a key philosophical principle. It subordinates a higher and more complex level of activity — the creation of value — to a lower level, its measurement, and exchange.
In their desire to found a Newtonian science of political economy, generations of economists inflated the instrumental mechanism of trading into a complete economic universe. Isaac Newton’s “system of the world” became Adam Smith’s “great machine” equilibrating supply and demand. But a determined equilibrium theory leaves little or no room for creativity and surprise, for the unpredictable activities of entrepreneurs making entirely new things.
Largely leaving economics behind after Wealth&Poverty, I began decades of study of technology, focused first in Silicon Valley and then in Israel, which is now a more fertile source of new ideas than California. I soon found myself deep in a field of study called Information Theory.
On one level this theory was merely a science of networks and computers, but in its deeper implications, it would sound a death knell for the rationalist materialism and social Darwinism that was undermining the popularity of capitalism by depriving it of meaning and plausibility. An information and knowledge system provided a path beyond the invidious calculations of fear and greed that were alleged to motivate entrepreneurs.
Information theory effectively began with Kurt Godel’s epochal demonstration in 1930 that all logical systems, including mathematics, depend on axioms that they cannot prove. Mathematics, and hence all mathematically based sciences, from physics and chemistry to biology and economics, ultimately rest on a foundation of faith.
Godel’s proof led directly to the invention by Alan Turing of an abstract universal computer, the so-called Turing machine, which he used to show that no mechanistic system could be complete and consistent. Turing concluded that all logical systems were intrinsically oracular.
Computers could not be Smithian “great machines” or Newtonian “systems of the world.” They inexorably relied upon conscious programmers or oracles and could not transcend their creators.
As Turing crucially wrote, he could not specify what these oracles would be. All he could say was that “they could not be machines.” On a computer, they are programmers. In an economy, they are entrepreneurs, who launch new machines into the world.
From these insights sprang a new theory of information and information technology. In 1948 a rambunctiously creative engineer, Claude Shannon, from Bell Labs and MIT, translated Godel’s and Turing’s findings into a set of propositions about the nature of communications.
Shannon developed technical concepts for gauging the capacity of communications channels to bear information. Without a rigorous definition of information and communications channels, it would be impossible to build worldwide interactive networks such as the Internet, which would have to be coherently interconnected.
Shannon’s crucial insight was a clear and polar differentiation between order and information. To this day, most economists believe that order and information are essentially kindred concepts. Both are seen as patterns that can evolve or emerge spontaneously. Widespread is the reliance on the concept of equilibrium, the order to which economies or ecosystems return after a disruption.
To Shannon, however, order was not information but its opposite. Much like Albert Hirschman decades later, Shannon resolved that information is most essentially “news” or surprise. If you already know the contents of a message it contains zero surprise and zero information. Information is unexpected content. It is disequilibrium and disorder, not order. An orderly and predictable mechanism — a great machine — embodies no new information.
For purposes of the new economics, I sum up information theory as the treatment of human communications or creations as transmissions down a channel, whether a wire or the world, in the presence of the power of noise. Measuring the outcome is its “news” or surprise, defined as entropy and consummated as knowledge.
Since these communications or creations can be business plans or experiments, information theory provides an economics driven not by equilibrium and order, greed or fear, but by surprises of enterprise. Information theory requires that such a process be experimental and its results be falsifiable. The businesses conducting entrepreneurial experiments must be allowed to fail or go bankrupt. Otherwise, there is no yield of knowledge and thus no production of wealth.
By identifying a capitalist economy as chiefly a knowledge system rather than a mechanistic incentive system, the new economics obviates all the concerns over greed and avarice as crucial to the creation of wealth. The enabling theory of telecommunications and the Internet, information theory offers a path to a new economics that places the surprising creations of entrepreneurs and innovators at the very center of the system rather than patching them in from the outside as “exogenous” inputs.
Information theory also shows that knowledge is not merely a source of wealth; it is wealth. Wealth is the accumulation of knowledge. As Thomas Sowell declared in 1971: All economic transactions are exchanges of differential knowledge, which is dispersed in human minds around the globe.
Information is also a measure of freedom and creativity. It is gauged by the freedom of choice of the sender of a message, which Shannon termed “entropy.” The more numerous the possible messages that can be sent, the more uncertainty at the other end about what message might be sent and the more information there is in the actual message when it is received. Thus, Shannon offers a way to put human freedom at the very heart of the economic model. It addresses freedom on a new level, not only as a condition of enterprise but also as the measure of information and criterion of creativity. It is thus both libertarian and conservative, liberal and individualist.
Stay tuned for Monday’s Daily Prophecy where I sum up the 20 key rules…
Editor, Gilder’s Daily Prophecy