Evolution of wealth

Eric Beinhocker recalled sitting in a thatched hut, leaning against a wall made of dung, talking to a group of Maasai tribesmen. They were feeling sorry for the former venture capitalist and McKinsey & Company consultant because he had told them he had no cattle. But they were also bewildered; how could this poor man afford to travel and own a camera?

As the discussion turned back to questions about his family, Beinhocker recalled an uncle who once owned a large herd of cows on his farm in Maryland. “There was then a quick nodding of understanding as the mystery was solved – the visitor was clearly the ne’er-do-well nephew of a rich uncle, travelling and living off his relative’s bovine wealth.”

The encounter was part of a journey Beinhocker undertook a decade ago in search of the origin and meaning of wealth: “For a Maasai tribesman, wealth is measured in cattle. For most [of us], it is measured in dollars, pounds, euros, yen, or some other currency.”

He cited Adam Smith and his list of commodities that had different values in different places; salt in Abyssinia, a type of shell in India, dried cod in Newfoundland; tobacco in Virginia, “and there is at this day a village in Scotland where it is not uncommon, I am told, for a workman to carry nails instead of money to the baker’s shop or the alehouse.”

Beinhocker asked: “Is wealth an intrinsic, tangible thing? Is there something inherent in cows, cod, and nails that give them value? For a Maasai tribesman, the wealth embedded in his cattle is there for all to see. It provides him and his family with milk, meat, bone, hide, and horn.

“Yet, as Smith showed in his Wealth of Nations, wealth is not a fixed concept; the value of something depends on what someone else is willing to pay for it at a particular point in time. Even for a Maasai, the value of a cow today may not be the value of a cow tomorrow.

“For those who measure their wealth in the paper of currencies, wealth is an even more ephemeral concept. Most people in developed countries never see or touch the bulk of their wealth – their hard-earned savings exist only as electronic blips on a bank’s faraway computer.

“Yet those ghostly blips can be converted into the tangible goods of cows, cod, nails, or whatever else one desires (or can afford) with the swipe of a credit card or the click of a mouse.”
In his 2006 book, The Origin of Wealth, Beinhocker – now executive director of a joint research programme between the Institute for New Economic Thinking and Oxford University – pondered its evolution, how it can be increased and to what end?

The creation of wealth has not been a slow, steady journey – a linear progression from Homohabilis trading stone stools in the African savannah 2.5 million years ago to the complex economy that allows for the design of an iPad in Cupertino, its manufacture in Shenzhen and its sale in Glasgow.

For a “very, very, very long time not much happened,” said Beinhocker, “then all of a sudden all hell broke loose.” It took 12,000 years to progress from the $90 per person hunter-gather economy to the $150 per person economy of the Ancient Greeks in 1000BC.

Then in the mid-eighteenth century “something extraordinary happened”. World GDP per person increased 37-fold in an incredibly short 250 years to $6,600, with the richest societies climbing well above that: “Global wealth rocketed onto a nearly vertical curve that we are still climbing today.”

eric beinhockerBeinhocker said that the historical narrative of what happened was well known; the advent of settled agriculture, for example, or the Industrial Revolution. But why has been less clear. Modern science, he said, provides a theory: “Wealth creation is the product of a simple, but profoundly powerful, three-step formula – differentiate, select and amplify – the formula of evolution.

“The same process that has driven the growing order and complexity of the biosphere has driven the growing order and complexity of the ‘econosphere’.”
It has long been said that economics is like an evolutionary system. Instead, Beinhocker argued that it should be considered as one in itself: “Saying that economic systems are like biological systems does not tell us much that is scientifically useful. But saying that both economic and biological systems are subclasses of a more general and universal class of evolutionary systems tells us a lot.

“This is because researchers believe that there are general laws of evolutionary systems. Scientists consider certain features of nature universal. For example, gravity works the same way on the earth as it does in the farthest reaches of the universe, and it works the same way on atoms, apples, and galaxies.

“Modern evolutionary theorists believe that, like gravity, evolution is a universal phenomenon, meaning that no matter whether the algorithm is running in the substrate of biological DNA, a computer program, the economy, or in the substrate of an alien biology on a distant planet, evolution will follow certain general laws in its behaviour.

“If the economy is truly an evolutionary system, and there are general laws of evolutionary systems, then it follows that there are general laws of economics – a controversial notion for many.
“Saying that there are laws of economics does not imply that we will ever be able to make perfect predictions about the economy, but it does imply that we might someday have a far deeper understanding of economic phenomena than we do today.

“It also means that economics in the future may be able to make prescriptive recommendations about business and public policy with a level of scientific authority that it has not had before.”
We are accustomed to thinking of human rationality and creativity as the primary driving forces behind wealth creation. Wealth, after all, is created by smart, innovative people coming up with new ideas for products and services and lots of hard work to make and sell them.

“I argue that human rationality and creativity do play an important role in wealth creation,” said Beinhocker “but not the role we usually think of. Rationality and creativity feed and shape the workings of the evolutionary algorithm in the economy, but do not replace it.”

If the economy is, indeed, a complex adaptive system, that has important implications: “It means that for the past century, economists have fundamentally misclassified the economy and that the mainstream economic theory reflected in textbooks, management thinking, and government policies today is either wrong or, at best, only approximately right.

“Second, viewing the economy as a complex adaptive system provides us with a new set of tools, techniques, and theories for explaining economic phenomena. Third, it means that wealth must be a product of evolutionary processes.

“Just as biological evolution summoned complex organisms and ecosystems out of the primordial soup; economic evolution has taken humankind from a state of nature to the modern global economy, filling the world with order, complexity, and diversity along the way.”

If we can better understand the processes of wealth creation, then we can use that knowledge to develop new approaches to create economic growth and opportunity for people: “Complexity economics will not be a cure-all for the challenges of management or the ills of society.

“But just as a more scientific understanding of natural phenomena has been a major contributor to bettering the human condition, a more scientific understanding of economic phenomena has the potential to help improve the lives of people around the world.”

Financial-CrisisIn the wake of the financial crisis, Beinhocker’s argument has won wider support. In 2012, Oxford University opened a new economics research institute with the aim of helping to prevent future global financial meltdowns and eurozone debt crises. The INET@Oxford centre, where Breinhocker is executive director, is part of the Oxford Martin School.
It draws on the expertise of the Institute for New Economic Thinking, a New York-based non-profit think tank founded by the business magnate George Soros. The centre aims to promote innovative thinking on economics and educate the next generation of economists, business leaders and politicians. Among the academics involved are physicists, psychologists, anthropologists and biologists.

Earlier this month, Beinhocker and Nick Hanauer, an American entrepreneur and one of the first investors in Amazon, co-authored an essay in the journal Democracy that advocated a redefinition of wealth. Economic policy discussions are nearly always focused on making us wealthier and on generating the economic growth to accomplish that, they observed.

Great debates rage about whether to raise or lower interest rates, or increase or decrease regulation, and our political system has been paralysed by a bitter ideological struggle over national budgets. “But there is too little debate about what it is all for. Hardly anyone ever asks: What kind of growth do we want? What does ‘wealth’ mean? And what will it do for our lives?”

The difference between a poor society and a prosperous one isn’t the amount of money that a society has in circulation, they wrote, rather, it is the availability of the things that create wellbeing. It is the availability of ‘solutions’ to human problems –things that make life better on a relative basis – that makes us prosperous.

How best to achieve those solutions? There are centuries of evidence that capitalist economies do better at delivering high standards of living to their citizens than do economies run by communist, authoritarian, or other non-market systems. The traditional explanation is that capitalism uses price signals to provide incentives to produce and allocate goods in a way that will maximse people’s welfare.

But if real-world markets are not the simple mechanistic systems imagined by thinkers of past centuries, but rather are complex, adaptive, and more like ecosystems, then the benefits of capitalism may be both different and greater than we imagined.

Capitalism’s great power in creating prosperity, they say, comes from the evolutionary way in which it encourages individuals to explore the almost infinite space of potential solutions to human problems, and then scale up and propagate ideas that work, and scale down or discard those that don’t.

Understanding prosperity as solutions, and capitalism as an evolutionary problem-solving system, clarifies why it is the most effective social technology ever devised for creating rising standards of living, they argued.

“The view that prosperity is solutions, and growth is the rate at which we create them, also makes more obvious the crucial importance of investments by governments in technology, innovation, and education. Technology and innovation are the cornerstones of any society’s ability to generate new ideas and solutions.

“In most cases, it will be businesses and entrepreneurs who bring these solutions to citizens. But it will be the education of the workforce and the scientific, technical, and social innovations available to society that will empower these businesses.”

Viewing prosperity as solutions to problems, they said, helps enable citizens to use common moral sense to more clearly discern which kinds of economic activity actually make their community better off versus activity that merely enriches some of its members.

“Just as the neo-liberal orthodoxy of the late twentieth century led to important shifts in popular culture and beliefs, we believe that new views of economics and a new definition of prosperity have the potential to change our culture, too.”

Traditional economic orthodoxy assumes that markets are efficient, people are rational, and economies naturally move to an optimal state. But, said the authors, we now understand that markets can be far from efficient, people are not always rational, and the economy is a complex, dynamic, evolutionary problem-solving system – more like an interdependent ecosystem than an efficient machine.

“This recent shift in perspective provides a powerful new framework for understanding how and why capitalism works, what wealth truly is, and where growth comes from. This twenty-first-century way to understand economics allows us to understand capitalism as an evolutionary problem-solving system.

“It allows us to see that the solutions capitalism produces are what create real prosperity in people’s lives, and the rate at which we create solutions is true economic growth. This perspective also allows us to see that good moral choices will be the ones that create true prosperity.

“This new perspective also makes obvious why both the laissez-faire policies of the far right and the statism of the far left fail. Policies that provide opportunities for all citizens to fulfil their potential, and investments that enable them to expand their potential, are the surest ways to animate prosperity and growth.

“Recognising the ecosystem-like nature of economies highlights the essential feedback loop between businesses and customers. Policy must aim to create customers as well as entrepreneurs, and to create as many of these feedback loops as possible.

“We must have the courage to enact policies that are good for capitalism broadly, not policies that benefit a few capitalists narrowly. There can be an immense difference. We must recognise that a thriving middle class isn’t a consequence of growth, but rather, the cause of growth and prosperity.

“Measuring the number, quality, and availability of solutions to human problems rather than just GDP alone could have a radically positive effect on our economy and the lives of our citizens. By creating incentives for problem solving and disincentives for problem creation, we would focus creativity and energy on the things that truly make our lives better.

“The market failures, moral failures, collective-action problems, and externalities that plague our economy and our lives today would be moderated as we refocused on the quality of growth, not just the quantity. Resolving the tension that orthodox economic thinking creates between a moral world and a prosperous one could unite us around a new set of economic and social principles.”