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The Ergodicity Problem in Economics


A way to identify an ergodic situation is to ask do I get the same result if I:

look at one individual’s trajectory across time

look at a bunch of individual’s trajectories at a single point in time

If yes: ergodic.

If not: non-ergodic. Ergodicity

For example, Russian Roulette is non-ergodic: one person playing 6 times (time average) gets a very different result than 6 people playing one time (ensemble average/expectation value). Ergodicity

Economics has a major error: it assumes most economic games are ergodic, but they aren't. Ergodicity

To make an economic decision, I want to know how my personal fortune grows or shrinks under different scenarios, not how the average person's fortune grows or shrinks. Ergodicity

I don't care that the average person "wins" at Russian Roulette, I care about what happens to me if I keep playing over time. Ergodicity

The observed behavior of people making economic decision often deviates from what traditional economic theory would predict as optimal.

This has led to the belief in "irrationality" and "biases" as a way to explain human behavior deviating from what economic models predict. However, many "biases" disappear when you realize that people intuitively understand periodicity. Human Nature Bias Ergodicity

You don't need an economics degree to understand that Russian Roulette six times in a row means you're going to have a bad time. Ergodicity

The way traditional economics dealt with this was by adding expected utility theory: people don't just optimize for the expectation value of wealth, but the usefulness of wealth. Human Nature

Thus the reason (under traditional economic reasoning) that someone doesn't participate in a positive expectation, but non-ergodic game is because they are "conservative" or "scared" as opposed to "aggressive" or "brave"

Now, let's step back and look at economics through the lens of ergodicity. Start with an economic decision with no uncertainty: Ergodicity

You may choose between a job that offers $12,000 per year or $2,000 per month. Which do you pick?

Everyone picks the $2,000 per month job, not because it is the larger amount (it isn't) but because it leads to a higher growth rate of wealth.

Ergodicity economics optimizes for growth rate over time, not across many people. Ergodicity

We care about our ROI when we make taking a job or making an investment, not how the average person does.

In maximizing the expectation value, expected utility theory assumes that individuals can interact with copies of themselves in parallel universes. If you could make a million copies of yourself and each copy played Russian Roulette for $1 million each round, then there is one version of yourself that would get extremely lucky and make a ton of money. But reality doesn't work that way. We do not live spread out across a multiverse. We live one life, through time. Ergodicity Multiverse Reality

It's not so much that some people are more aggressive or conservative, it's that people behave differently depending on the game are playing.

Ergodicity economics shows people (rationally) maximize the long-term growth of their wealth. Ergodicity Wealth

Much of what we call "risk aversion" is rational avoidance of non-ergodic games like Russian Roulette. Risk Ergodicity

The Ergodicity Problem in Economics