In an interview to CNBC-TV18's Ronojoy Banerjee, Sanjeev Sanyal principal economic advisor to government of India, spoke about his theory - Economics of Chaos & Complexity and its resonance with the Indian economy.
Below is the verbatim transcript of the interview.
Q: What is the theory of economics of chaos and complexity? What is it and what is its resonance for the Indian economy? You were associated not so much with mainstream economic thinking. You are seen more as a challenger to the mainstream economic thought. Where does this theory fit in?
A: Most mainstream economics is based essentially on an idea that the economy is some sort of a gigantic machine. Now this is very much embedded in socialist planning kind of thinking. But it also underlies conceptually a lot of other forms of economics. Whether you take neo-classical economics, Keynesian economics, monetarist economics and so on. And this is the reason when you talk to economists that love, using words like equilibriums, liquidity, lever of monetary policy and these are all, as you can notice, Newtonian mechanics terms.
The reason for this is not surprised because you see, much of this is the thinking on which this is based is really the technology of 100 years ago which is basically about Victorian's steam engines. And what were the Victorian's steam engines? They were running on pre-determined tracks and the real economic debate was how much coal to throw in when the steam engine slowed down or how hard to pull the brake when it sped up too much. So this whole gamut of thinking is consequently very much dependent on a very mechanical world.
Now this is a real problem if in reality the economy is not a machine, but something like an evolving eco-system. So this is when you get into the economics of complexity and chaos. So suddenly, you are in a world where it is an eco-system which is continuously evolving. Think of it as a system like a biological organic system that is being buffeted by all kinds of mutations and shocks. It could be technology, it could be geo-political risks, it could be domestic factors.
Q: The exogenous shocks which the economic models of today does not factor in.
A: Yes, it could be exogenous, endogenous, together. So this is a world in which there is no equilibrium. There are only continuous transitions. So this is a world of unintended consequences. So this is a world of butterfly effects. There is very little correlation. You can have a very big shock and a very small impact. You can have a very small impact and a very big shock. This is the butterfly effect. So this is a very different way of thinking about economics than the conventional world view.
Having said that, even though it is not mainstream, it has a very long lineage interestingly. So, the entire Austrian School of Economics for example, is very closely related to this. There is a whole literature for example done by hike on this. But it is also embedded in many parts of Indian philosophical thinking. So you have for example, the idea of Shiva. Shiva is both, the god of destruction and of rebirth. Why? Because of this process of churn that is a very embedded part of this kind of organic economics.
The idea of manthan, again the idea of churn and the churn throws up, just like the creative destruction, it throws up both poisons and nectare. So, this kind of thinking is not new. Unfortunately, in mainstream economics, it is not really filtered through very much to specially Indian policy making. Even though of course, as I mentioned, people Friedrich Hayek have won nobel prizes for their thinking.
Q: But in India, it is still considered to be very peripheral. We still want to go by the equilibrium models, forecasting models, which by the way, even after the global financial crisis, those models were discredited. They had come under a lot of criticism. And everybody says that we are living in that volatility, uncertainty, complexity and ambiguity (VUCA) world, they call it. Therefore, it has become even more relevant today that let us not have these fixated models because they are just not good enough to predict what is going to happen in the future.
A: I have only one difference of opinion. The world has always been like this. There is no point in history where it was not like this. So when much of this steam engine economics was invented in the early part of the 20th century. So let us go back to the early part of the 20th century. Let us say, I am sitting in 1913 and I have 40 years of great data and I plug it into my computational general equilibrium model and it gives me great results based on the previous 40 years of data.
What happened in the previous 40 years of data? It was a period of great peace. There were a few wars here and there, but largely it was very peaceful. There was a lot of globalisation that happened. And then what happened in 1913 onwards? Suddenly in the next 40 years, you had two world wars and a great depression. There was no way you would have been able to use any of your modelling to have been able to predict what was going to happen going forward.
So, this entire approach is what I am questioning. Now this is not to say that modelling is not useful. It is useful, but it is useful for something that is very specific which is to work out what are the combinations of outcomes to stress test systems, not to predict definitely which particular path you will go down because as I pointed out, this is a world of unintended consequences and unpredetermined paths. History goes around.
And by the way, my books of history, those of you who have read it, I actually talk about complex adaptive systems. So there is a use for stress testing ideas, working out scenarios, but it is not very useful for knowing which of those particular scenarios you are actually going to end up in. And of course, there is always a chance that something you have never thought about could happen which is the whole Nassim Taleb thesis of Black Swans, they too could happen.
So ultimately, yes, modelling is interesting. It allows you to think about issues, perhaps work out a few scenarios that could happen and prepare for the more obvious ones. But in the end, what wins in the long-run is the flexibility and adaptation.
Q: So, Indian economy is not a steam engine?
A: Absolutely.
Q: That is the point you are essentially stressing on?
A: Yes. It is not about building a better steam engine or building a diesel engine, it is not a steam engine.
Q: How is it now becoming relevant in the India context are some of these thoughts becoming more main stream now which you have said so far has at best been peripheral?
A: One of the things that is interesting is that in 1991 we did abandon the old socialist approach to planning. However we did not quite abandon the metanarrative, the underlying conceptual framework of the machine. What is now happening is that, that metanarrative itself is being questioned and adapted and changed. So, this you will see through in multiple interesting ways. So, what would this eco-system, tight thinking, what kind of changes it will lead to? What is it that anchors it? The thing that anchors it, one is, a rule based society. So, that requires many things, one is the culture of following the rules and you will see a fair amount of effort, that is why the emphasis on breaking down on corruption or a shock therapy like demonetisation.
Demonetisation in narrow sense was about black money in cash but in a wider sense it is about shock therapy to tell people that business of the old style has now been gotten rid off. You are now into a more rule based system.
However it also requires other things. For example it requires enforcement of contracts. So, there is as you may notice a lot of debate about the judicial system, how to make it work better. Recently there was a debate about whether to have a national exam system for getting in judges at lower level. You can debate whether it is a good idea as an option but that is why suddenly these issues are important.
Similarly why was it that of all the various reforms that are needed bankruptcy law was the one that - because in this mutating chaotic world the idea is that any form of entrepreneurship will lead to some risk, some of it will go wrong, so you have to have a system that is continuously liquidating the bad mutation so to speak and allowing the good ones to flourish. It is a very different way of thinking than say the BIFR way of thinking that oh it was bad luck that somehow it went wrong. That is not the way this is thinking. Here NPAs happen, they are part of an entrepreneur's side.
Q: So, you need to take the harder decision?
A: Yes you have to make it, liquidate and carry on. This is not to demonize business failure. This is just purely business as usual.
Q: Governments attempt at demonetisation was really a signal that we need to change the economic metanarrative that has been playing out?
A: Yes. It is a rule based society and another thing that lot of emphasis the Prime Minister gave - simplify the rules. Get rid of old rules. So, you can see where it is all coming from. You can see how things also get implemented is different. It is in an adaptive way which to those who don't understand it looks chaotic.
I will illustrate it for you. Let us take for example the GST. In the old system of thinking - how do you create a machine? You sit and you design the machine as meticulously as possible and then you build a machine and follow that design very well. That is not how ecosystems can be run.
In an ecosystem it is full of unintended consequences and you cannot model it clearly. The thing to do is to have a broad flexible framework and you begin to implement it and have a feedback loop to sort the problem out. So, if you go back now to the GST, the old way of doing it would have been spend 5 years planning what to do, then another 5 years trying to implement that as meticulously as possible and it is very likely at the end of the 10 years you would have a system that is dysfunctional. Instead what do you do, you decide that it doesn't matter what we do, we will never know exactly what will happen until we do it.
Q: So we are at peace with the fact that it is an imperfect system.
A: Absolutely. At first, you start up with the fact that it is an imperfect system. You just work out basically the contours of what it is, then you create feedback loops which is why the response teams that have been created to get feedback. We are fully aware that it will not work the first round. Finance Minister keeps saying that yes, at some future date we will simplify it.
But, the old way would have been to simplify, then do lot of thought, negotiations, this, that. Here, we will do it and then simplify it because we agree we do not know what will happen when we actually implement these things. So as we implement, there will be feedback, adjust, feedback, adjust. So this is a feedback loop based model of governance. It looks messy initially, but it is much faster, you do not waste time and we assume that it will not be perfect. So, we fix it along the way and there is no end to this fixing.
30 years from now, somebody will be sitting with the GST, still fixing it. But, the key to it is that you have to pay some attention to a few things. One is that you cannot make it a too complicated a system. More complicated it is, more difficult it is to fix it and there are more unintended consequences. Therefore, the preference is always, if in doubt, simplify. Now for a number of reasons, the GST that was implemented is more complicated than the technocrats and the Finance Minister than I would have preferred, but it has been implemented. Now over time, we will see what happens out of it and it will be adjusted.
Q: So how does the role of economists change in this context, in the context of the theory that you are telling me?
A: First of all, economists stop calling themselves eminent economists. Basically, what we are is hopefully intelligent people, but at least open minded people who are watching what is happening in real life and not allowing a predetermined model to cloud the view that we are having of what is happening in real time. So the most important thing to us is real time, not what some preconceived model is telling us.
You need to do some modelling, as I pointed out, to work out what are the likely outcomes, but once the game begins, you just watch what happens and react to it. So this whole idea of wise men sitting and planning.
Q: So nobody claims to know.
A: Nobody claims to know.
Q: It is more open and everybody participates in the full feedback system.
A: Everybody participates in the feedback loop and hopefully some people may be somewhat better at doing feedback and adjustment, some people worse, but there is this whole idea of this great wise man who tells you how to run everything is gone. That is why you do not have the planning commission has consequently been replaced by the Niti Aayog. This is not just a name change as many people may thing. It is a fundamental cultural change.
Q: I am thinking that this is the best time to actually adopt a model, even though - indulge me for a while calling it a model - because with the social media, there is a lot of information being generated. Therefore, I am guessing that the feedback system would work well because you have got so much of information that is coming in.
A: Absolutely. This system is all learn while doing and adjust system is always, as I said, perhaps a better way of doing it. But, this is perhaps, particularly a good time to be doing it because media, historically was a one-way. Now you have a two-way media which is social media. Now yes, there is a lot of noise there, there is a lot of trolling and other things, but in my view, this is a very important part of the feedback loop because it gives you real-time feedback to whether something is a good idea or a bad idea.
You, yourself have seen major decisions of the government have been adjusted to social media feedback. And people of the old school will see that as that is capitulation. In our world view on the other hand, this is perfectly the right way to go about it. The same thing, by the way, is true there is lots of other real-time feedback, so there is feedback coming through from satellite photography, there is feedback real-time coming from your phone, from electronic payment systems.
So, the old system that we have to do one survey every few years and that data will determine how everything is run, we need to change out of that. There is real-time data. Since this is a feedback loop based system, we need to move taking all those big data very seriously.
Watch video for entire discussion.....
