I like the Oil Dollar

Proposed image of Mohammed for the new Petrol Dollar

As reported here.

I earlier stated the oil dollar makes sense right now and for the next ten years. We are solving the oil problem, lets align the major reserve currency to oil while we solve it. If done right, then the energy cost of our planning will be apparent.

The Gulf Dollar should be called the Jihadi! The world will go on an Oil Efficiency Jihad.

The Jihadi may not last longer then ten or fifteen years, but it will be an enormously profitably monetary system during that period, and if its decline becomes near, all parties can prepare a little crash.

The rise of the Jihadi in international trade will be a substantial monetary stimulus, causing discipline in the investment banks. The Jahidi will be a close approximation to the Selgin Productivity Norm.

Because the Jiadi monetary system will optimally align oil trade, oil will be globally priced with maximum precision. The Jihadi will force developed nations to match oil scarcity with oil efficiency on a one to one basis.

Entropy

The Entropy Function

This function is relevant to Paul Samuelson because information theory grew out of statistical mechanics, which was Samuelson's favorite tool.

This chart says that a coin with equiprobability of heads or tails will deliver the most information over a large number of coin flips. If the coin always turns up tails, there is no information gained by coin flipping. Nor is any information gains when heads always turns up.

Leading us to Huffman coding. The idea with Huffman coding is to spend the most bits on the least probable events. Common events are coded with the least amount of bits. Hence, the communications channel devotes the proper amount of bandwidth to the according to event probability. Thus bandwidth is allocated such that symbols arrive with equiprobability and one gets maximum entropy as in the equiprobable coin toss.

The equation above is of the form P(X)log(P(x)). which I take to be the amount of work required to get maximum information entropy. The Huffman coder actually resembles a distribution network and the number of decisions on the network should correspond to a NlogN format. Operation counts and the maximum entropy function should be related.

What does this have to do with the economy? The economy is a noisy channel which must allocate inventory investment to goods whose domain is the relative constraint of the good, and whose range is the inventory space allocated for the good. The allocation of symbols, in the economy, is what I call setting the lot size; the bits are the stages of production. The result is inventories can arrive with the same variance regardless of the constraint, the inventory channels are maximum entropy.

When referring to the Shannon coding theorem, remember my a priori is that the noise level is a constant, biologically driven. Well, let me just write out the equation in a form we need.

2**(C/B) = 1 + snr

SNR, signal to noise ratio is fixed. B: the bandwidth of the channel, or in our case, the bandwidth of the industrial production equipment. C: channel capacity is the transaction rate at each level, in our case. For now lets treat it as the scalar transaction rate at the retail level. The Hidden Hand tries to adjust C such that 1+snr is met, making the human happy. We adjust C, the number symbols, or sales, mainly by changing lot sizes, or in the channel case, reallocating bits so they are used to minimize transaction for restrained resources.

I have to be careful that the concepts of deflates and inflated states get understood by me with respect to bit assignment in a Huffman encoder. Also I introduce the second constraint in the system, the cost of providing additional NlogN chunks of labor. And, still, my thinking on the asymmetry problem, muddled. More later.

Consider the supply chain for consumer electronics with inventories growing at all levels from producer to consumer. This is productivity increasing faster than demand, excess profits are plowed into specialization and the industry inflates, increasing the stages of production but offering more specialized offerings to the consumer. The consumer is happier with the lower volume but greater specialization. The system has matched the consumer snr levels. Increasing the number of bits increases the precision of the product.

Changing B in the production system is a longer term process, involving a supply chain adjustments in lot sizes and technology to the industrial machines.

The key to understanding the deflation/inflation tipping points is to understand the nature of the delta NlogN in transaction rates across the jump.

Where is this leading? First, I probably got signs wrong,. I usually do. Second, the B and C become matrices, and the channel equation above, the left side becomes a matrix power series. The Eigenfuntions on the right will be snr * 2**i, i finite and small. The power series gives the vector of inventory variances and the solution will actually be the lot size, in units of snr. An example might be taking a consumer survey to discover the smallest noticable consumption of water, and then computing the lot sizes, which yield the inventory capacity in a N stage, smooth earth water distribution system.

Robert Burton and the certainty research

I first ran into Dr. Burton's research by Arnold Kling. Here is an Burton interview for starters. Dr. Burton refers to the mistake of complete certainty, it is a false emotion; life's alternatives come from the slight uncertainty of things. The QM physicists say such things.

To the point, Certainty and its inhibition are layered, not symmetrical, in the brain. Certainty (impulse to action) is the older brain function, likely olfactory; the Limbic system starts the inhibition process, widening the width of certainty we find comfortable.

Cutting to the chase, I think we are pulse frequency modulated stuff trackers, we track the frequency of arrival of good stuff. Our ability to track events, seasons, grazing routes, the herd; all that must have tuned itself to the ebb and flow of generational life, our brains are probably preset to the certain frequencies of the regular events in life. We are a tuned tracker of good stuff. Operating with a fixed uncertainty has benefits.

This conservation of work that evolution does, it discoiunts infrequent events, minimizing the certainty that matches the mammal to the environment. Thus it can fit simple trackers into unique environments, devoting more time working on running, jumping, etc.

It gets us to a simple Kalman filter tracker with fixed uncertainty, tuned to the plains of Africa. Buyers and sellers judge each other, ultimately, by the arrival rates, hence in our search for a tuned environment, we create one, inadvertently, like with a Hidden Hand.

Yes, Kling reminds me of this Tim Harford post on why poor nations often stay that way. At the heart is the inability of poor societies to maintain the repeatability of goods flow. So this approach of necessity emphasizes the development of transportation.

Tight and Loose money

In a flow model, I talk about tight and loose goods flow, then specialize to debt.

Simple: In the inflated state, a distribution network has tight inventories. In the deflated state is has loose inventories. The results follow because the state change is faster than the goods adjustment, and so state change over shoots or under shoots. When bankers inflate, we have more stages of bankers in the production line than we have debt flowing. When the bankers have deflated, money is loose.

Deflation and inflation paths have to be asymmetric, but I am still a little confused there.

How's the bandwidth?

The shortest sample period the banker are following is about one year, with a bandwidth of two years on the short end. Bankers have simplified the yield curve to three broad stroke. At the long end, the 20 and 30 year is blurred, so we have little vision of the downward slope into negative term territory.

If we are going sideways, that is good, it means that currently decay and growth are evenly, and we are stationary. But we are seeing the broad strokes of the economy because whatever ails us was highly correlated with all aspects of the economy. We have lowered the dimensionality of our view on purpose, as part of a Ramsey search, finding the most optimum distribution for the most constrained input.

A Stimulus tool for foreign aid

New work reported by VOX on limitation of internal transportation in Africa. Krugman reported similar results when working with trade patterns. I find it important and it leads to a Stimulus. Why not simply subsidize the shipment of goods to an African villager? Pay any shipper of goods 20% subsidy for shipping costs when the good arrives at an African village.

The subsidy in shipping will, over time, ease the leading constraint on African development. The cost is slightly higher taxes for OEDC citizens.

Forget African exports here, the idea is to get them great stuff sooner and allowing natural development of transportation.

Positive Remandation

I have decided to take up Supreme Court Law, why not, if it helps Justice Roberts out of his dilemma.

For his sake, I invent Positive Remandation, otherwise known as nailing the vampire in his coffin, as in Citizens United Corp. Justice Roberts affirms that standard contract judges to rule in Corporate rights (non) cases, and necessarily retracts the law on Limited Liability to nothingness, Zero, Zip. No legislature may ever remove personal liberties by grants of limited liability.

Put me on the court next time.

My assesment of the economy

With an update below.

I note that oil imports are approaching their 2001 import levels, by volume, when oil supplies first became constrained. Oil prices are now at $75/barrel, a 10% annual inflation from the $30/barrel of 2001. Hence, we now have some wiggle room between nominal and real oil prices, oil supplies are much less tight. Retail inflation (core) is about 0%, so we have an equilibrium. The economy has lost output capability, about $150 billion a year due to excessive oil prices we will have to endure until efficiency or time erase the consequence. At 3.5% a year, over ten years, we are potentially as risk for about $3.0 trillion total over the next ten years.

If the Fed normalizes the yield curve in mid 2010, then, with its constant six month delay, we should see real rates form a normalized yield curve about now. Hence the fed is in unavoidable bubble mode, unless it can pull an unexpected rate hike. Theory says it cannot pull the unexpected, so here is a test of theory.

For an update, I am going to link to Gail the Actuary who laid out the calculationist argument using the oil constraint and oil volatility in a post at Oil Drum.

In which I take question number 3 from Bryan Caplan

which he asks of the Recalculationists:

"By what percentage do real GDP and employment fall if nominal GDP unexpectedly declines by 5%?"

I go back to Bryan's original example, mud pies. The mud pie industry deflates because mud pie utility suddenly drops. I use bits of precision as my recalculation metaphor.

Pie utility has dropped, so the industry wants to simplify its supply chain, increasing lot sizes at each stage and gaining economies of scale. The pie distribution network drops from a four stage network to a three stage. Measurement accuracy drops from 1/16 to 1/8, but the transaction rates reduce from 4log4 to 3log3, and employment drops in proportion to transactions. Before and after adjustment, at each stage of production, the lot size is set to present an inventory variation equal to the constant uncertainty.

Now, if we make no other assumptions, especially assumptions about rates of deflation and asymmetry in trades, but assume the same a completeness* of the banking sector, then the central bank would notice increased imprecision in its measurement of NGDP proportional to the net loss in utility of mud pies. The economy is restored to precision when the mud pie industry is absorbed into a four stage food conglomerate. The one time restructuring fee is the precision loss weighted by the mud pie share of the economy. (Mud Pie industrial equipment will be devalued as it is less precise in matching input rates to output rates in the firm).

Note 1) QM theory would have various distribution networks popping between deflation and inflation states with differing probability, based on constraints. Banking and all other sector would change the relative probability of being deflated vs inflated based on the net loss.

Note 2) If there is not a large drop in mud pie utility, then the industry stays in its corridor, and over the business cycle will display nominal precision.

* Complete (my definition) : The dimensionality of the domain equals dimensionality of range. The bankers track the economy with acceptable uncertainty.

Inflation and debt revisited

Research on inflation by Reis and Watson, and by Aizenman and Nancy. The former says that inflation is composed of 20% common monetary inflation and the rest relative inflation among goods. The latter says the most debt we can inflate away is about 20%. Are these two numbers a coincidence?

Reading both papers (which I am still doing), my model says, of the former, as bankers push inflation they also spread the relative pricing of consumer goods and hit a constraint. The latter says that if the bankers push inflation then they also cause future debt to be indexed to inflation and they hit a constraint.

HT to Econobrowser and Econolog. I post this to keep these two references close for this issue is going to play out very soon. We are at the 20% limit, or very near.

More brain evidence of the uncertainty constant

I always watch the neurosciences, looking for some clue that tells me what the universal "herding" constant is for humans, that is the comfortable level of uncertainty about where the herd is headed.

Lauren Schenkman files a report on new advances for ABC News:

"Countless psychological experiments have shown that, on average, the longest sequence a normal person can recall on the fly contains about seven items."

She then goes on to describe a neuronal model for this devised by Mikhail Rabinovich, a neuroscientist at the BioCircuits Institute at the University of California.

The point for economic theory is that the eighth item in a list is barely remembered, the brain can track seven items reliably. This kind of research leads us toward the master uncertainty constant of human economies. We are comfortable when our error rate reaches .125, our first guess at the universal uncertainty constant. This tells Quantum Economists a lot about the structure of the economy in terms of distribution networks. More later.