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Lecture Notes in Economics and Mathematical Systems  665

Len H. Wallast

Evolvodynamics –
The Mathematical
Theory of
Economic Evolution
A Coherent Way of Interpreting Time,
Scarceness, Value and Economic Growth
Lecture Notes in Economics
and Mathematical Systems 665

Founding Editors:

M. Beckmann
H.P. Künzi

Managing Editors:

Prof. Dr. G. Fandel


Fachbereich Wirtschaftswissenschaften
Fernuniversität Hagen
Hagen, Germany

Prof. Dr. W. Trockel


Murat Sertel Institute for Advanced Economic Research
Istanbul Bilgi University
Istanbul, Turkey

Institut für Mathematische Wirtschaftsforschung (IMW)


Universität Bielefeld
Bielefeld, Germany

Editorial Board:

H. Dawid, D. Dimitrov, A. Gerber, C-J. Haake, C. Hofmann, T. Pfeiffer,


R. Slowiński, W.H.M. Zijm

For further volumes:


http://www.springer.com/series/300
.
Len H. Wallast

Evolvodynamics -
The Mathematical Theory of
Economic Evolution
A Coherent Way of Interpreting Time,
Scarceness, Value and Economic Growth
Len H. Wallast
Vlissingen
The Netherlands

ISSN 0075-8442
ISBN 978-3-642-34055-0 ISBN 978-3-642-34056-7 (eBook)
DOI 10.1007/978-3-642-34056-7
Springer Heidelberg New York Dordrecht London
Library of Congress Control Number: 2013934270

# Springer-Verlag Berlin Heidelberg 2013


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Contents

1 Darwin- and Shannon-Inspired Dynamic Economic Selection . . . . 1


1.1 The Probabilistic Background of Observation and Behavior . . . . 2
1.2 Generalized Darwinism and Shannon . . . . . . . . . . . . . . . . . . . . . 3
1.3 The Prerequisite of Reliable Inflow and Outflow Data . . . . . . . . 6
1.4 The Method of Science . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
1.5 The Mathematical Requirements of Statistical Selection Processes . . . 10
1.6 The Three Principles of Evolutionary Selection, Boltzmann and
Shannon . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
1.7 The Time-Compression Transition from Shannon to Darwin:
Assembling and Reassembling . . . . . . . . . . . . . . . . . . . . . . . . . 15
1.8 The Unit of Selection and the Unit of Exchange . . . . . . . . . . . . . 19
1.9 Production Functions, Marginalism and the Interaction of Inflow
and Outflow . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses . . . . . . . . 29
2.1 Non-differential and Differential Sets of Entropy, Venn Diagrams,
Sample Space, Capacity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
2.2 Overall Selection, Transmission and Exchange, Conditional
Entropy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
2.3 Selection in Non-differential Sample Space of the Multi-sector
Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
2.4 Variation, Inheritance, Selection, Interactors/Agents, Replicators,
Selection Probabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
2.5 Bitpulses and the Definition of the Unit of Selection . . . . . . . . . . 51
2.6 The Uniqueness of State of a Bitpulse . . . . . . . . . . . . . . . . . . . . 55
2.7 Elementary Probability, State Probability, Some Formulas of
Conditional Entropy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56
2.8 Transmission, “Pure” and Financial Value, Inflow and Outflow, the
Unit Price . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60
2.9 Capital and Liquidity Surplus . . . . . . . . . . . . . . . . . . . . . . . . . . 63

v
vi Contents

3 The Road from Generalized Darwinism to Evolvodynamics . . . . . . 65


3.1 The Reduction of Uncertainty by Selection . . . . . . . . . . . . . . . . 66
3.2 Combinations, Variations, Uncertainty and Information . . . . . . . 69
3.3 Consumption Probability, Investment Probability and Labor Input
Probability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72
3.4 Generative Replication and the Definition of the Replicator . . . . 73
3.5 Habits, Traits, Customs, Routines and the Limits of Informational
Knowledge . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 75
3.6 Multi-Level Selection and the Definition of the Replicator . . . . . 78
3.7 Reductionism, Emergentism and Homogeneity . . . . . . . . . . . . . . 79
4 Blind and Purposeful Selection . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85
4.1 The Significance of Shannon’s Information Concept . . . . . . . . . . 86
4.2 Blind Selection . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91
4.3 Purpose and Shannon’s Existence Theorem . . . . . . . . . . . . . . . . 94
4.4 Blind Selection, Purposeful Selection and Economic
Inheritance. Some More Calculations . . . . . . . . . . . . . . . . . . . . . 98
4.5 Selection in Overall Sample Space . . . . . . . . . . . . . . . . . . . . . . 106
4.6 The Three Degrees of Freedom of Evolution . . . . . . . . . . . . . . . 109
5 Exchange and the Circulation of Entropy . . . . . . . . . . . . . . . . . . . . 113
5.1 Current Lifetime and Excess Lifetime of Bitpulses . . . . . . . . . . . 113
5.2 The Different Sorts of Bitpulses: Outflux, Output, Influx, Input and
Transmission . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 115
5.3 The Circulation of Bitpulses . . . . . . . . . . . . . . . . . . . . . . . . . . . 119
5.3.1 The Probability Distributions of Current Lifetime and
Excess Lifetime of Bitpulses . . . . . . . . . . . . . . . . . . . . . 119
5.3.2 The Probability Distribution of Current Lifetime of Outflux
Bitpulses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 120
5.3.3 A Conditional Distribution of Current Lifetime of Outflux
Bitpulses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 122
5.3.4 Unconditional and Conditional Distributions of Excess
Lifetime of Influx Bitpulses . . . . . . . . . . . . . . . . . . . . . . 123
5.3.5 The Inflationary Mode of Evolution and the Associated
Probability Distribution of Current Lifetime of Output
Bitpulses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125
5.3.6 The Deflationary Mode of Evolution and the Associated
Probability Distribution of Excess Lifetime of Input
Bitpulses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 127
5.4 The Probability Distribution of Outflux and Influx and the Markov
Property . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 129
5.5 The Circulation of Output in the Inflationary Mode of Evolution . . . 132
5.5.1 The Money Exchange of Outflow . . . . . . . . . . . . . . . . . . 132
5.5.2 Relationships Between Output and Outflux . . . . . . . . . . . 135
5.6 The Circulation of Input in the Deflationary Mode of Evolution . . . 139
5.6.1 The Money Exchange of Inflow . . . . . . . . . . . . . . . . . . . 139
5.6.2 Relationships Between Input and Influx . . . . . . . . . . . . . 142
Contents vii

6 The Interpretation of the Economic Variables . . . . . . . . . . . . . . . . 147


6.1 Outflow and Inflow in the Inflationary Mode of Evolution . . . . . 148
6.2 Outflow and Inflow in the Deflationary Mode of Evolution . . . . . 151
6.3 The Impacts of the Inflationary and Deflationary Modes of
Evolution . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 153
6.4 Some Further Relationships of Price and Circulation Rates . . . . . 156
6.5 The Two-Sector Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 158
6.6 The Growth of Capacity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 161
6.7 Economic Growth and the Surplus of Output Over Input . . . . . . 165
6.8 Economic Evolution and Biologic Evolution . . . . . . . . . . . . . . . 167
7 Money and Liquidity, Time, Work and Effectiveness . . . . . . . . . . . 171
7.1 The Role of Money and Transmission in Production . . . . . . . . . . 171
7.2 The Liquidity Flux and Money Flows and Stocks . . . . . . . . . . . . 174
7.3 Liquidity Flux, Capital and Capacity . . . . . . . . . . . . . . . . . . . . . 178
7.4 The Handling Rate of Inflow and Outflow Selection and the Net
Growth of Capacity and Capital . . . . . . . . . . . . . . . . . . . . . . . . 179
7.5 The Definition of Work and Effectiveness . . . . . . . . . . . . . . . . . 182
8 Calculation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 187
8.1 Divisia’s Index Formulas for Output Calculation . . . . . . . . . . . . 187
8.2 Compartmentalization and Influx Calculation . . . . . . . . . . . . . . . 193
8.3 Aggregation Properties of Capacity and Capital . . . . . . . . . . . . . 197
8.4 The Calculation of the Macro Variables of the Economy . . . . . . 199
8.5 An Alternative Route to Calculate the Macro-Variables of the
Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 203
8.6 Other Sources of Data Collection . . . . . . . . . . . . . . . . . . . . . . . 205
9 Theory and Confirmation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 207
9.1 Consistency, Yes or No? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 208
9.2 Evolvodynamics and Keynes . . . . . . . . . . . . . . . . . . . . . . . . . . . 211
9.3 Eurocrisis and Monetary Expansion . . . . . . . . . . . . . . . . . . . . . . 214
9.4 Evolvodynamics and Monetary Expansion . . . . . . . . . . . . . . . . . 218
9.5 Evolvodynamics and Orthodoxy . . . . . . . . . . . . . . . . . . . . . . . . 221
9.6 Science, Premise and Prejudice . . . . . . . . . . . . . . . . . . . . . . . . . 223
9.7 Theory and Measurements . . . . . . . . . . . . . . . . . . . . . . . . . . . . 226
Appendix A The Number of Samples and the Principle of
Evolutionary Homogeneity . . . . . . . . . . . . . . . . . . . . . . . . 229
Appendix B Selection-Probabilities and Entropy of the Multi-Sector
Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 233
Appendix C Mutual Exclusiveness and Statistical Independence . . . . . . 239
P
Appendix D Derivation of H ¼  oi logoi as the Measure of
i
Information Per Sample . . . . . . . . . . . . . . . . . . . . . . . . . . 243
viii Contents

Appendix E Repeated Selection Without Replacement . . . . . . . . . . . . . 245


Appendix F The Role of Statistical Dependence in Evolution . . . . . . . . 249
Appendix G The Turning Point of Evolution . . . . . . . . . . . . . . . . . . . . . 255
Appendix H Four Different Growth-Positions an Economy can be in . . . 259
Appendix I Conventions and Explanation of Notation . . . . . . . . . . . . . . 263
About the Author . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 271
Consulted Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 273
Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 275
Chapter 1
Darwin- and Shannon-Inspired Dynamic
Economic Selection

Abstract Methodological defects afflict mainstream economic theory since many


years and it appears that the main stream proponents do not have the answers.
Orthodox economic theorizing is apparently in a methodological crisis. It must be
remarked here that economics is not an exception among the sciences. Any science
may get caught in a methodological crisis. Half-baked adjustments in theory
formulation will not help under those circumstances. Radical new ideas are needed
to overcome the failures, ideas like the one by which physics overcame one of her
great conceptual crises: i.e. to reconsider behavior as a collection of chance events
of selection between different microstates. To work this out the author shares the
idea of Hodgson & Knudsen that the economy must be analyzed as an evolutionary
system solely governed by the three principles of Darwinian selection: variation,
selection and inheritance (Generalized Darwinism).
This is only the very modest begin of the enterprise. We need applied mathe-
matical reasoning to resolve the matter thoroughly. It is here where we need the
mathematical tools by which Claude E. Shannon analyzed the transmittance of
entropy/information over the communication channel. However, it is not that easy.
The stand in the way is that Shannon’s signals are ergodic and stretch out over finite
time, whereas the economic process is nonergodic. To overcome the nonergodic
barrier, we must make a Shannon-Darwin transition in which Shannon’s finite
time-length communication signals are replaced by instantaneous economic
sequences of vanishing differential time-length that reflect the allocation/realloca-
tion preferences of the economic agents.
The shortcomings of the neoclassical production function theory are exposed to
emphasize the necessity of replacing the neoclassical system by the evolutionary
inflow/outflow system that results after the Shannon-Darwin transition.

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 1


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_1, # Springer-Verlag Berlin Heidelberg 2013
2 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

Our experience indicates that the behavior of actual human


beings is neither as determined as that of economic man nor
as simply random as the throw of a die or as the drawing of
balls from a mixture of black and white balls. It is clear
however, that a deterministic model will not get us far in the
consideration of human behavior, such as communication,
while a random or statistical model might.
John R. Pierce

1.1 The Probabilistic Background of Observation and Behavior

E.T. Jaynes’ life-work on Probability Theory bears the subtitle “The Logic of
Science” (Jaynes 2004). The subtitle expresses the notion that probability theory
is at the core of a wide (perhaps almost the complete?) range of what we observe
and how everything behaves within our universe. Originally developed to provide
modestly for the mathematics of chance games, probability theory has meanwhile
succeeded to provide the basic explanation (the logic) of more and more scientific
domains of inquiry. Simultaneously there has been a growing awareness that
probability theory is the basic logic behind the many things we observe and behind
the many ways we interact, behave and take our decisions. Boltzmann’s derivation
of the connection between probability and entropy may be regarded as the first
manifest demonstration that the macro-effect of what we experience and observe in
the foreground as real, fixed, rational and concrete is anchored in a background of a
dynamic micro-world of abstract probabilistic events. The probabilistic logic of that
micro-world has already been shown to hold good for many physical phenomena,
but it is certainly not restricted to the explanation of physical phenomena only.
Boltzmann was the first to recognize the connection between probability and
entropy. He went even further by conjecturing—far ahead of his time—a still
more profound relationship between entropy and the non-physical biological
order of Darwinian evolutionary systems.
It has since set many to explore Boltzmann’s principle further. The way we must
understand information about our world and interpret observations and behavior
within this world—it does not really matter whether of physical or non-physical
nature—was most profoundly reconsidered by Claude E. Shannon in the midst of
the twentieth century. Shannon formulated his path breaking views within the
framework of the transmittance of information over a communication channel
(Shannon 1948). Originally communication engineers were inclined to adopt the
most simple determinist idea of what people thought information to be: something
like countable atoms shot forward through the pipeline of the communication
channel. Just raise the frequency and/or the power of shooting and you get the
best of it.
Shannon subverted that picture completely. The ultimate idea is that anything of
information we find out about the things we observe and interact with is closely
connected with uncertainty and based on probabilistic events. According to
1.2 Generalized Darwinism and Shannon 3

Shannon, information of a particular sequence of samples, as we observe it, presents


itself in the freedom of choice with respect to the different states that each particular
sample of that sequence can randomly assume. In this manner information is
dependent on the probabilities of the different states that each sample can assume.
And it is here that the fundamental axioms and rules of probability theory enter the
scene rather than restrictive anthropocentric models that maximize postulated
(however unproved) object functions and thereby forbid certain parameters of
those object functions to change. In fact it does not matter so much what the
particular samples are that we observe. In case of the communication channel it
may be the volt-level of signals transmitted over an electric wire or it may be the
field of an electromagnetic signal propagating in free space or the pressure level of
an acoustic signal in the air or under water. But it may just as well be the writings of
an author or, if our domain of study is economics, the spending of money by
economic agents. The thing is that the relationships and the dynamic events
underlying the micro-events of communication as well as of spending and eco-
nomic exchange must be analyzed probabilistic from the very beginning rather than
on the basis of postulated object functions with so-called constant behavioral
parameters that always ultimately turn out in the end not to behave as real constants.

1.2 Generalized Darwinism and Shannon

No doubt the Shannon/Boltzmann probabilistic logic of science is closely


associated with the Darwinian evolutionary selection schedule. But the notion
that economic and social phenomena are evolutionary has only slowly gained
acceptance among social scientists since the 1980s, although it had already been
stressed many years ago by several economists unfortunately without very concrete
quantitative elaboration. Evolutionary economics is still not the exclusive approach
on the agenda of economic and social research as I think it should be and the
progress with models that are claimed to be evolutionary is also not what it should
be. The difficulty has been to translate the Darwinian approach into a workable
system of universal equations that successfully competes with alternative main-
stream models of economic explanation.
Existing mainstream models of economic theory are well known to possess
major inconsistencies, flaws and shortcomings that do not particularly candidate
these models as ultimate universal descriptions of economic phenomena. In his
1991 but still timely paper titled “How should we use Entropy in Economics?” E.T.
Jaynes remarks that “both Keynesian and Monetarist economic theories have been
unsuccessful in accounting for recent economic behavior. Neither can point to
particularly great past successes from adoption of their policies by Government,
and—if we can believe the press—neither seems to have an idea of what Govern-
ment should be doing now”. He suggests therefore that “only new ideas can help us”
and that “the failure of Keynesian and Monetarist mechanisms to account for recent
economic behavior might be attributed, at least in part, to their failure to recognize
4 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

the entropy factors that must ultimately control economic change and equilibrium,
just as they do in thermodynamics” (Jaynes 1991). That was 1991. The financial
crisis of 2008 is now going on for more than 4 years. That it was largely unforeseen
by the accepted models of economic analysis reveals that Jaynes’ remark of 1991 is
still applicable in 2012 and—if economists keep on cherishing their current models
and methods of analysis—it will remain so for many years to go.
Noticing the difficulties with progress in economic science the recent fundamen-
tal back-to-Darwin approach of Hodgson and Knudsen (2010) is therefore very
welcome because the progress of science must always first be sought in improving
our understanding, interpretation and application of the basic principles. H&K’s
agenda has been to disclose the basic principles of what they call “Generalized
Darwinism” with the yet unfulfilled purpose to work it out into a (more) complete
theory of evolution for the domain of social phenomena. Although there have
already been many attempts to formulate an evolutionary economics by other
economists, the strict and detailed emphasis on the three Darwinian principles of
evolution in which H&K state the basis of economic and social evolution stands
out. It is exactly what we need to work out in a general mathematical theory of
economic evolution. I shall therefore discuss their ideas extensively, comment on it
often where needed and use it to elaborate on it in a deductively based universal
theory of economic selection in the line of E.T. Jaynes suggestions and last but
not least Shannon’s ideas about information and entropy. More specifically, my
contribution is first and for all to be interpreted as a generalization of Shannon’s
stationary communication theory towards the non-stationary domain of economic
evolution.
H&K concentrate primarily on the descriptive Darwinian perspective of evolu-
tion, which—I think—is too restrictive to reach their goal. We need the purity of
deductive mathematical reasoning to make progress in the line of Shannon.
Hodgson and Knudsen mention Shannon’s mathematical conception of informa-
tion/entropy and its relationship with evolutionary selection only in passing,
although Shannon’s probabilistic contribution is a major building-brick of the
evolutionary edifice and can’t be missed to derive the quantitative relationships
between the economic variables.
Nevertheless there is considerable correspondence between my Shannon-
inspired approach and the main starting points of H&K with respect to evolutionary
selection. In fact I endorse much of their views. But there are certainly a number of
issues in which I take a slightly different and occasionally a diametrically opposed
stand. These issues concern reductionism, the acceptance/avoidance of parametric
models of explanation (because of their restricted capability to describe processes
of dynamic change), the necessity of a unit of selection that does not vary in the
course of time, the nature of group selection and the multi-level layers of social
evolution.
Throughout this treatment I adhere unconditionally to the method of applied
mathematics demanding deductive reasoning and inference upon the basis of the
postulate of selection on which the Darwinian model rests, as well as on the
principles of continuity and evolutionary homogeneity, and absolute exclusion of
1.2 Generalized Darwinism and Shannon 5

further postulates, especially of those regarding behavioral dispositions with con-


stant parameters. By evolutionary homogeneity I understand the conversion of the
scale of dimension in which entropy, money value or time is expressed into another
scale without affecting the content of entropy, money value or time. The principle of
evolutionary homogeneity is very much related to the principles of physical and
mathematical homogeneity.1 Deductive reasoning links up with Shannon’s scien-
tific method of analysis and adherence to it is the best warranty to avoid
inconsistencies while generalizing his theory. The logic of this edifice will be
seriously distorted if combined with parametric models of economic behavior.
I will pursue a gradual course in enunciating my account of a Darwin/Shannon-
inspired universal theory of evolutionary selection, often reverting to what has been
established before to illuminate it from another angle of incidence. On the way
towards its completion I shall spend ample attention to the common and different
views of opinion with Hodgson and Knudsen. To bridge the gap between the
different worlds of descriptive science and mathematically inspired deductive
logic of science, I will avoid dealing with the mathematical details in a rigorous
manner as much as possible. This has the disadvantage that every statement I make
might be considered by some rigor seeking mathematicians as failing higher
standards of precision. To prevent them from such discourteous interpretation the
following emancipation proclamation is applicable to the present work:
Every variable x that we introduce is understood to have some set X of possible values. Every
function f(x) that we introduce is understood to be sufficiently well-behaved so that what
we do with it makes sense. We undertake to make every proof general enough to cover the
application we make of it. It is an assigned homework problem for the reader who is interested
in the question to find the most general conditions under which the result would hold.2

My message is not that mathematical rigor should not be pursued but that
conceptual clarity and mathematical imagination is here more important than
utmost mathematical rigor. I am aiming at an economic audience that is unaccus-
tomed to the methods of analysis I apply. My emphasis is on explaining the very
close connection between the great ideas of two outstanding scientists: the non-
mathematical world of Darwin and the mathematical world of Claude E. Shannon.
However I cannot avoid putting concepts in a mathematical setting that involves the
application of some elementary principles of set theory and probability theory, but I
hope to do that in a way understandable to the majority of my audience.
The mathematical way of reasoning, to which I adhere, conforms to the basic
mathematical methods of probability theory and resembles the way of reasoning
practiced by Shannon in his mathematical exposition of communication theory. In a
sense Shannon-like mathematical reasoning will be somewhat demanding for most
economists, unfamiliar as they are with that world and accustomed as they are to

1
The principle of evolutionary homogeneity should not be confused with economic homogeneity,
involving several disputable principles necessary to explain the mainstream theories of economic
orthodoxy.
2
Cited from (Jaynes 2004, page 676).
6 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

parametric mainstream models of economic behavior. It is advisable to forget all


about the burden of orthodox economics while taking notice of the present work.
The present exposition is self-contained. It is not necessary to work first through a
bulky textbook dealing with probability theory, but some familiarity with the
axioms of probability theory will help. I expect that the intertwinement of the
text with the many passages dealing with the ideas of Hodgson and Knudsen will
enhance understanding considerably.
The ultimate emphasis of my exposition is on explaining a completely novel
universal theory of economics, which I call evolvodynamics and which draws its
inspiration both from the Darwinian principles of evolution as explained by H&K
and from Shannon’s theory of the communication channel.3 For economists there is
still a world to gain by concentrating on Shannon’s ideas and the way these ideas
have been initially expounded and further developed (Shannon 1948; Jaynes 2004;
Papoulis 1985).
Those readers who consider an impressive list of consulted economic literature
as a prerequisite to take notice of economic publications, I must disappoint to my
regret. I prefer to consult only sources of well-established science and to keep my
references very moderate in number. More would distract from the message I wish
to deliver.

1.3 The Prerequisite of Reliable Inflow and Outflow Data4

A point that should be clarified first here is that my contribution has another angle
of incidence than H&K’s. Hodgson and Knudsen stress the general features of
Darwinian selection as providing a universal overarching description of biologic
and social evolution. They consider a different class of social phenomena in order to
clarify subsequently how these phenomena fit in the general Darwinian scheme of
selection. They discuss also at length the insufficiency of Lamarckism to explain
social phenomena, the properties of the unit of selection (the replicator), the role
and function of interactors. They criticize Dawkin’s concept of memes. The leading
line is that their contribution is primarily descriptive like Darwin’s original contri-
bution (Darwin 1859). It is only occasionally and fragmentarily that H&K consider
how a system of equations can be mathematically framed such that it will accord to
the basic Darwinian selection schedule and that it can be used to explain observed
and observable social phenomena quantitatively.

3
The contours of a very precursory version of this novel theory have been sketched by the author
in 2009 and in revised form in 2012 (Wallast 2009a, b, c).
4
The terminology of inflow and outflow is chosen deliberately for clarity of exposition. Inflow is
the collective term for input and influx, each exercising its own special form of inflow. Likewise
outflow is the collective term for output and outflux, each also exercising its own special form of
outflow. Accurate definitions of these terms will be given as we proceed.
1.3 The Prerequisite of Reliable Inflow and Outflow Data 7

My emphasis is on the consistency of the deductive mathematical description of


Darwinian evolutionary selection, on scientific inference as universal as it can be
done. That fabric is too often a neglected, even forgotten, subject of research among
social scientists in spite of its extreme relevance. The critical research on the
mathematical consistency of the concepts (e.g. the unit of selection, inflows,
outflows, stocks of value and money) and their interactions will very much contrib-
ute to the understanding as well as to correct definitions of these concepts. Mathe-
matical deductive reasoning adds another dimension to science, a dimension of
accurate and more rigorous reasoning better than rhetoric reasoning alone can do.
A difficulty that H&K leave unmentioned and unconsidered in their publications
on generalized Darwinism is that—with the exception of economic phenomena—
essential quantitative data of social phenomena are often not available. Economics
is a quantitative science. Data of macro-economic inflows and outflows are contin-
uously collected in the course of time. However, as far as I can oversee, it is quite
difficult if not impossible to collect reliable inflow- and outflow-data of social
evolution other than economic. E.g. we can explain the evolution of language by
analyzing its origins and the correspondences between vocabularies of related
languages in the way Darwin and others described the evolution of the neck length
of the giraffe or of the length of the forelimb of mice. But there seems to be no way
to relate such observations quantitatively to the time-course of the different inflow
and outflow variables as they are available for economic evolution. Biologic
evolution faces the same problem, seemingly to a lesser extent. For several species
there are more or less reliable data about the variation of the numbers of a
population in the course of time (e.g. an insect colony or the number of orang-
outans on Borneo). In that case we may have some idea about the dynamic changes
of inflow and outflow of the population by which a selection theory can be tested.
However, the equations of evolution of plant-, insect- and animal species involve
also the inflow and outflow by which the environmental condition of the species
varies. And it is very difficult to collect reliable data about inflow and outflow of
phenomena other than economic. Usually we must make guesses about the role
of temperature, the availability of specific food supplies and/or the presence of
predator species to estimate the extent of the inflow and outflow variable of the
environment, but these data are often quite unreliable. For economics the situation
is fortunately much rosier. Much more reliable data of aggregate inflow and outflow
of both population and environmental condition of the money-economy can be
gathered. This offers a unique although far from easy opportunity to test the
principles of Darwinian selection by testing the quantitative predictions of a derived
economic system of equations against the corresponding observed aggregate
quantities of macro-economic processes.
In sum, H&K’s summoning for further (quantitatively based) development and
testing of social evolution is very difficult to achieve for specific social phenomena
other than economic. It appears that—in the absence of access to the required
quantitative data—the best thing one can do is to push the descriptive method
still further with respect to the observation of secondary results of evolution like the
adaptation of the dominating color of moths in industrial areas, the evolution of the
8 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

length of the forelimbs of mice, the evolution of the usage of tools by hominids, etc.
Fortunately, the outlook for economic theory testing is better.
We shall concentrate on the mathematics of inflow and outflow selection. The
first thing to do is to discuss and develop the mathematical concepts. They need
to be consistent in all respects. After that has been achieved, the more appealing
challenge is to derive and justify the equations that govern the universal
relationships between inflows, outflows and stocks of value of the macro-economy
and their (relative and absolute) change in a logical deductive manner from the
Darwinian principles of selection.

1.4 The Method of Science

Hodgson and Knudsen state that Darwinian evolution and hence economic
relationships cannot be stated fully in derivable universal equations akin to those
of physics (Hodgson and Knudsen 2010, page 3). They consider any scientific
description of Darwinian evolution as incomplete and quite different from physics
(Hodgson and Knudsen 2010, page 3 and 4). This opinion is shared by many
economists, but it lacks substance. A motivation for this point of view has never
been given. It is merely one of those common statements one is inclined to believe
as self-evident so that further amplification is judged unnecessary. However
economic theory is concerned with the relationships between non-stationary time-
dependent statistical averages like there are many: inflows and outflows with their
various propensities, circulation rates, inflation rates, growth-rates etcetera. These
variables are statistical averages of non-stationary stochastic outcomes of decisions
that reflect the micro-economic selective behavior of individual agents. Thus the
economy can only be studied correctly as a framework of interacting selection
processes while employing the advanced tools of probability theory. Chances
govern what happens at the micro-levels of individual selection. Orthodox eco-
nomic theory is often concerned with explaining why an individual economic agent
makes a particular selective decision. However why an agent makes an individual
selection is irrelevant, only the probabilities by which a particular class of agents
takes such decisions are relevant. The associated probabilities determine the state of
the economy and the statistical averages, i.e. the economic macro-variables. The
dynamic relationships between these macro-variables are all what can be derived
using the tools of probability theory. Together the derived equations reflect the
universal theory of economics we seek. In essence the approach is completely akin
to the methods applied in statistical physics. Indeed the resulting economic nonlin-
ear system of equations is quite complicated, but the universal method of scientific
analysis does not warrant that the derived system of equations is always simple.
Let us in this respect recall how E.T. Jaynes addresses the challenge of scientific
economic explanation (Jaynes 1991). Instead of excluding the application of the
analytical mathematical method of physics to the explanation of economic behav-
ior, he wonders first why it is that the orthodox methods of economic analysis fail
1.4 The Method of Science 9

and in the line of that he suggests the application of a physical analytical method
instead, i.e. to deal with the economic process as a derivable probabilistic process
that resides in a time-dependent macroeconomic state to which a probability and
entropy is to be assigned in a similar manner as in statistical physics.
Despite that many economists are still unconvinced by this argument because
they think that there is more in the individual micro-behavior of agents than a
statistical theory that discloses only the statistical averages and the mutual
relationships this offers. In fact this objection relies on the assumption that there
is more information in the details of the micro-economic selective decisions than
the entropies and mutual relationships of the macro-economic statistical averages
can disclose. This incorrect idea rests upon a misunderstanding of the concept of
information. To clarify that, we need to explain what information is. It is here where
the entire mathematically based philosophy of Shannon’s conception of informa-
tion comes to our rescue. The matter will become clear after the complete
subsequent exposition of Shannon-inspired analysis on economic phenomena. We
cannot deal with it here at the introductory level of the present chapter.
The distrust and even disbelief in the universality of the logical deductive
method of science is widespread among social scientists. It is due to unfamiliarity
with the method of analysis. Perhaps it is also a misinterpretation of the nature of
explanations that a statistical theory of selection is capable of offering. The dictum
that good science must ultimately offer complete and universally valid descriptions
of evolution is then misunderstood as an assertion that science must ultimately
exactly predict and explain the aggregates of the evolutionary process. However
statistical theories do not provide exact answers like Newtonian mechanics under
certain idealized conditions provides (Note there are also many statistical
applications of Newtonian mechanics where it is different). The forecasts of
statistical selection theories are theoretically complete but have nevertheless always
a limited range of accuracy. If they would give determinist answers, there would be
no room and opportunity for evolving populations to behave freely. Such restriction
of freedom would of course be an absurd consequence.
But there is perhaps another cause that helped to create the distrust of
practitioners of the social sciences with respect to the application of the exclusive
method of logical deductive reasoning. We have already mentioned that cause
before within another context. What we observe and measure in many biologic
processes of evolution and in social evolution other than economic are secondary
matters such as the color change of the moth in industrial areas, but it is not what a
derived system of equations of evolutionary selection describes. The latter system
presents us the relationships between the various aggregate inflows, outflows,
growth rates and average unit price. However, that is exactly what is immeasurable
in most other spheres of evolution than the economic so that the derived equations
cannot be tested within the context of the latter domains. Science is there in a
deadlock. It appears that social scientists have already anticipated this by losing
their faith in the exclusive role of the logical deductive method of science. Never-
theless and fortunately inflows, outflows, growth rates and average unit price are
measurable within the sphere of economic evolution. Once established (as will be
10 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

achieved in this treatise) the relations between the various inflows, outflows and the
other aggregates can directly be tested against quantitatively based observations of
a money-economy in the course of time.

1.5 The Mathematical Requirements of Statistical Selection


Processes

Darwinism is a statistical selection theory. However great Darwin’s conjecture of


the origin and evolution of species was, Darwin was not a mathematically oriented
theorist. On the contrary, his inception of the evolutionary selection process,
although descriptively cautiously and well worded besides extremely well
documented, is in some respects incomplete and susceptible of improvement.
That inception can only be done in a consistent manner if we stick to mathemati-
cally accurately defined concepts and consequent deductive reasoning from a
minimum of elementary basic assumptions. According to these claims we must
realize that any statistical selection theory demands formally an accurate delimita-
tion of the statistical experiments of selection involved. In this respect it is required
that the sample space of selection is defined accurately and that selection is always
between entities in different states.5 Thus we need to distinguish cautiously what
the entities of selection (the samples) are and what the different states of selection
are within the statistical selection experiments of Darwinian evolution. Moreover
the only events that really matter in statistical selection are the outcomes of the
individual trials of the statistical experiments. If there are no such events, then there
is nothing to explain and nothing happens to provide for an explanation. We should
also be aware that theory cannot explain an individual outcome of a single trial/
drawing of a statistical experiment in a determinist way. Hence a statistical selec-
tion theory cannot tell what an individual outcome of selection should be. It knows
its probability of occurrence to get into a particular state. More concretely and
anticipating more explanation later, it is impossible to know exactly whether a Euro
spent in the economy is spent on consumer purposes or on investment. It is just a
matter of probabilities: a probability of spending the Euro on consumption and a
probability of spending the Euro on investment. On the other hand what statistical
selection theory can do is—given the availability of historic measurements and
future policy measures—to present the most accurate account of the statistical
averages of the processes of selection in the course of time. These averages include
at any particular time instant: the aggregate outflows and inflows of the economy
(consumption, investment, wages, depreciation), the growth rates of these inflows
and outflows, the average circulation periods of each of these inflows and outflows

5
To cite E.T. Jaynes: “In a probabilistic model of the economy, we ought to include in the
probability of any macroeconomic state an entropy factor to take its multiplicity into account”
(Jaynes 1991, page 2).
1.6 The Three Principles of Evolutionary Selection, Boltzmann and Shannon 11

and the relationships of all this with the average price-level of consumption and
investment and with the relative rates of change of this price-level, the liquidity
flows and the rates of circulation.

1.6 The Three Principles of Evolutionary Selection, Boltzmann


and Shannon

Hodgson and Knudsen assert that any theory of social development should at least
pay tribute to three Darwinian principles of evolutionary dynamic change: varia-
tion, selection and inheritance. I will come back to discuss these basic principles of
selection in subsequent chapters comprehensively because they are core issues of
Darwinian selection, but as said before there is more. There is also the physicist
Boltzmann and the communication engineer Claude E. Shannon without whose
contributions the formulation of an evolutionary selection theory is unthinkable.
The nineteenth century physicist Boltzmann was deeply impressed by Darwin’s
theory and immediately understood that a well formulated mathematical selection
theory was required to work it out coherently for quantitative testing. Well,
Boltzmann had been involved in contemporary mathematical physical research
that ultimately led to a complete theory of statistical mechanics and thermodynam-
ics in the dawn of the twentieth century founded on Newtonian principles of
mechanical motion and on statistical selection theory. He used his expertise to
derive a relation that connected the entropy H to its state probability π:
H ¼ –log(π).6
Boltzmann immediately realized that the entropy H—stripped off as it was from
its thermodynamic background with its sole relationship with state-probability—
was a measure for the order of an evolutionary system. The more order it had, the
less probable its state. Boltzmann hinted that Darwin’s selection theory was

6
One is free to choose the base of the logarithm. As a rule I shall use the base 2, so that the entropy
is given by H ¼ –2log(π). The original form in which Boltzmann stated his H-theorem is H ¼
k · log(π), i.e. without the minus sign. Herein k is Boltzmann’s constant, a positive constant which
can be set to 1 if we adjust the dimensional unit in which entropy is measured accordingly. The
difference of sign with the formula in the main text is a matter of entropy definition. If we adhere to
the Clausius/Boltzmann measure of entropy, entropy is always negative and the second law of
thermodynamics must be stated as the law that in thermodynamically isolated systems entropy
will always increase. This is the common way of physicists to deal with the entropy concept.
I adopt the much more preferable Shannon measure of entropy in which entropy is related to state
probability as in the main text. The Shannon measure of entropy will have it that the entropy of
thermodynamically isolated systems will always decrease. Don’t worry: social systems are not
thermodynamically isolated. Thus the Shannon entropy of a social system can increase, i.e. create
more order. We can formulate the latter statement of increasing Shannon entropy also in the
following manner: that as a rule the selection of an economy will become more and more
improbable in the course of time. (Note this is not a necessity. Sometimes an economy is recessive
and during the recession phase its selection becomes more probable in the course of time).
12 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

responsible for creating more and more order in evolutionary systems in the course
of time.
In the decennia covering the period between 1920 and 1950 the transference of
messages by means of electric, electromagnetic and acoustic signals (telegraph,
telephone, radio, light, radar and sonar) gained rapidly terrain. Communication
engineers became increasingly involved in the design of methods by which the
messages had to be coded and decoded for optimal transference and optimal
reception of information. The Second World War accelerated the demand for
these techniques. It was this background that stimulated a young engineer, Claude
E. Shannon, to launch an exciting theory of information and communication
handling, not easy to grasp at first glance, but extremely illuminating in the way
it treated choice, uncertainty, information, complexity, emergentism under the
common heading of the concept of entropy (Shannon 1948).
Shannon realized that the coding and decoding of signals over a communication
channel was a typical problem of statistical selection, which involved the assign-
ment of a state inflow probability PrfX0 g to the transmitted inflow sequence hX0 i at
the transmitter side and a state outflow probability PrfY0 g to the received outflow
sequence hY0 i at the receiver side of the channel.7 He considered sequences
(signals) of individual samples to be of finite time-length T and statistically
stationary (or more accurately: ergodic). The stationarity condition did not really
seem to affect the generality of his approach with respect to the communication
channel although radar and sonar signals and echoes are all but stationary. For a
discrete signal that could only assume a discrete number of different states Shannon
defined and justified the information content H ðX0 Þ per trial/sample of the inflow
sequence and the information content H ðY0 Þ per trial/sample of the outflow
sequence to equal the respective entropies:
X X
H ð X0 Þ ¼  λi log λi and H ðY0 Þ ¼  μj log μj (1.1)
i j

Each, HðX0 Þ as well as H ðY0 Þ, is an average per trial/sample of the statistical


experiment of inflow respectively outflow selection. λi is the probability of a sample
of the inflow signal to be in state i. μj is the probability of a sample of the outflow
signal to be in state j. The summations over i and j extend over all states. Entropies
like H ðX0 Þ and H ðY0 Þ play a central role in evolution as measure of information,
choice, value and uncertainty as they do in Shannon’s information and communi-
cation theory.
Shannon’s mathematical description of the communication channel is very
general (within the context of ergodic signals) and lends itself to study a class of
various applications of communication while respecting the elementary principles
of probability theory and applying its sophisticated tools and rules where necessary.
Within this context the level of uncertainty and quantity of information are not so

7
See for the notational conventions Appendix I.
1.6 The Three Principles of Evolutionary Selection, Boltzmann and Shannon 13

much synonyms, but represent different interpretive ways of looking at a content of


entropy. Shannon treats therefore these concepts interchangeably dependent on the
interpretation that is applicable.
I shall avoid entering too much further in a discussion of the theory of the
communication channel but concentrate on the significance of its main theorems for
economic evolution. One important aspect of it must however here be especially
mentioned because it is directly concerned with the problem of generalizing the
ideas of Shannon in order to apply it to Darwinian evolutionary systems of statisti-
cal selection. Shannon focused on applying his path-breaking ideas to the under-
standing of the communication channel in many different contexts (i.e. the discrete
and continuous channel, with and without noise). One may tacitly assume that
Shannon did never consider the possibility that his theory could be generalized to
describe statistical evolutionary selection. As noted before Shannon’s communica-
tion channel is stationary, i.e. the transmitted signals have constant statistical
averages in the course of time and the stationary signals have always a finite
time-length T. On the other hand macro-economic evolutionary systems of selec-
tion are non-stationary. They possess statistical averages (inflow, outflow, circula-
tion rates, unit price) that vary dynamically. In fact these dynamic variations are
exactly what we wish to relate to one another and that we desire to explain by
derivable equations of Darwinian selection. The difficulty is therefore: how to catch
the dynamic non-stationary character of evolution in a mathematically consistent
manner? Or how to generalize Shannon’s approach to the non-stationary character
of evolutionary development? The clue to achieve that is differential analysis. If we
restrict Darwinian selection to consecutive intervals of infinitesimally small length
dt we may assume inflow and outflow of Darwinian evolution to remain unaltered
during a time-interval of length dt (at least to first order of accuracy in dt). This
implies that we must apply a time-compression operation ðT ! dtÞ to bridge the
gap between the time consuming Shannon sphere of selection and the instantaneous
Darwinian sphere of evolutionary selection and so to lift Shannon’s prerequisite of
stationary variables (See Fig. 1.1 for a more visual picture). In sum, Darwinian
evolution is a differential statistical selection process. Inflows feed differentially on
available stocks of entropy in the course of time; outflows replenish these stocks of
entropy differentially in the course of time so that the stocks don’t become
exhausted. On the other hand Shannon’s communication channel is a non-differen-
tial selection process. Stocks of entropy cannot be maintained in the communica-
tion channel system because creation of entropy in the communication channel does
not and cannot occur. Instead entropy may be lost in the process of communication
due to the presence of noise and other disturbances on the channel.
Our time-compression operation in Fig. 1.1 focuses in the very first instance on a
Darwinian evolutionary system where only two alternative states of selection are
being discerned: state 1 (which by convention we will consider to represent the
population state or subject state) and the alternative state 2 (which by convention
we will consider to represent the environmental state or object state). Note that this
binary system of selection involves signals (or sequences) of inflow and outflow
samples that can only assume two different levels (states, e.g. –6 V and +6 V for the
14 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

Transmitter Receiver
X0 Communication Y0
channel

The events of the


state 1 communication
state 2 channel selection
occur within a time-
Shannon Finite time-length T of signal interval of finite
time-length T.
Required
time-interval
compression

Sequence X0 with Sequence Y0 with


inflow entropies H(X1), H(X2) outflow entropies H(Y1), H(Y2)

Darwin Continuous time

time t time t+dt

The events of evolutionary selection


occur within an infinitesimally small
time-interval of time-length dt

Fig. 1.1 The transition from communication channel selection towards Darwinian evolutionary
selection.
Each sample of the inflow sequence hX0 i and outflow sequence hY0 i is either in state 1 or in state 2. For the communication channel the
distinction in states may be achieved by two different volt levels or two different levels of acoustic pressure. For two-sector economic
evolution the distinction in states is marked by having a sample to get selected either in the consumption sector (state 1) or in the investment
sector (state 2).
H(Xi) is the entropy inflow per sample in state i (i ¼ 0, 1 or 2). H(Yi) is the entropy outflow per sample in state i (i ¼ 0, 1 or 2). Sequences of
samples extend over (t,t + dt). Entropy flows emerge as outcomes of the selection of samples. The entropy inflow of all the Zdt samples of
hX0 i in state i is Xi ¼ Zdt · H(Xi) bits. The entropy outflow of all the Zdt samples of hY0 i in state i is Yi ¼ Zdt · H(Yi) bits:
H(X0) ¼ H(X1) + H(X2), H(Y0) ¼ H(Y1) + H(Y2)

communication channel). In economics this is comparable with a two-sector econ-


omy with consumption sector (state 1) and investment sector (state 2). This is the
way we have presented the sequences of inflow and outflow in Fig. 1.1 but it is by
no means necessary. We may just as well present a multi-state system of evolution
with N different states (in economics the multi-sector economy) that each sample
can assume.
It is convenient to introduce state 0 as a pseudo-state in order to represent the
situation that the outcome of a trial (sample) is always in one of the N possible
states. Thus the assertion that a sample is in state 0 is the certain statement that
anything has happened.
1.7 The Time-Compression Transition from Shannon to Darwin: Assembling and. . . 15

It is important to emphasize here that the restriction to no more than two


alternative states of selection (in economics the two-sector economy with N ¼ 2)
in Fig. 1.1 and in subsequent analysis does not affect the generality of analysis. We
may just as well discern more than two alternative states of selection and we will
often do so. The notation is then a little more complicated and it will be more
demanding to oversee the whole. Let ðt; t þ dtÞ denote the time-interval of selection
and let Z ¼ ZðtÞ denote the time-dependent sampling rate of selection per unit of
time during ðt; t þ dtÞ. Clearly dt is the time-length of the time-interval ðt; t þ dtÞ of
selection. The product Zdt of the sampling rate Z and dt is the length (the number of
samples during the time-interval of selection) of the sequences.
Generally then Xi ¼ Zdt  HðXi Þ is the entropy inflow of all the samples in state i
of the sequence hX0 i and Yi ¼ Zdt  H ðYi Þ is the entropy outflow of the samples in
state i of the sequence hY0 i ði ¼ 0; 1, 2,  , N Þ. Furthermore, hX0 i and hY0 i are the
inflow and outflow sequences whose samples are either in state 1, or in state 2, or in
state 3,  ; or in state N.

1.7 The Time-Compression Transition from Shannon


to Darwin: Assembling and Reassembling

Let us next consider Fig. 1.2. This is the situation after the Shannon-Darwin time-
compression operation has been performed for the two-sector model of selection. In
this schedule we keep approaching Shannon’s communication channel from the
Darwinian perspective of evolutionary selection. After the transition, selection is no
longer on a finite time-interval of length T but on the infinitesimally small time-
interval (t,t þ dt) of length dt. Thus all the samples of the inflow signal in Fig. 1.1
will be parallel-like selected on (t,t þ dt) to form a vertical inflow sequence in
Fig. 1.2. This has been represented in Fig. 1.2 by rotation of the inflow sequence of
Fig. 1.1 over 90  on the drawing-paper.8 Likewise all the samples of the outflow
signal in Fig. 1.1 will be parallel-like selected on (t,t þ dt) to form a vertical
outflow sequence in Fig. 1.2.
Each sample of hX0 i selected to annihilate in state i during the time-interval
ðt; t þ dtÞ is in the same state i at time t with probability 1. Likewise each sample of
hY0 i selected to originate in state j during the time-interval ðt; t þ dtÞ is in the same
state j at time t þ dt with probability 1.
One trial of the selection experiment involves the selection of one sample of
inflow allocated to annihilate on ðt; t þ dtÞ together with another sample of outflow
allocated to originate on ðt; t þ dtÞ.
A count of the number of samples in the particular example of Figs. 1.1 and 1.2
delivers 21 samples. This is called the sequence-length. More generally, with the

8
Mark the inflow and outflow sequences in Fig. 1.2 should actually have a small inclination such
that all of the selection events of their trials occur between t and t þ dt.
16 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

state 1 2 1 2

Finite length of sequence of entropy

inflow side X1 X2 Y1 Y2 outflow side

dt

t t+dt
continuous time

Fig. 1.2 The Shannon-Darwin time-compression transition.


Since there is “no noise on the channel” in this particular context, the inflow reproduces on the outflow side. Thus H(Y1) ¼ H(X1),
H(Y2) ¼ H(X2) and H(Y1) + H(Y2) ¼ H(Y0) ¼ H(X0) ¼ H(X1) + H(X2).
Clearly, Shannon’s stationary channel can only produce zero net growth H(Y0) – H(X0) ¼ 0 per trial. The number of trials/samples is
Zdt ¼ 21 of which λ1Zdt ¼ 14 are in state 1 and λ2Zdt ¼ 7 are in state 2.
In accordance with the evolutionary selection schedule hX0 i and hY0 i are the inflow and outflow sequences on the time-interval (t,t + dt). To
have this model handle general evolutionary situations with positive net entropy growth H(Y0) – H(X0) per sample, we must drop the
stationarity condition. In that general evolutionary context stationarity will nevertheless be maintained to first order degree in dt on the
selection interval (t,t + dt).
The assembled and reassembled entropy flows are:

Assembled Reassembled
Zdt ¼ 21 Zdt · H(X0) ¼ Zdt · H(Y0) ¼ 19.2842
λ1Zdt ¼ μ1Zdt ¼ 14 Zdt · H(X1) ¼ Zdt · H(Y1) ¼ 12.8561
λ2Zdt ¼ μ2Zdt ¼ 7 Zdt · H(X2) ¼ Zdt · H(Y2) ¼ 6.4281

time-dependent variable Z representing the number of samples per unit of time, we


get that Zdt is the sequence length. A finite sequence-length of 21 samples is
appropriate for illustration purposes in Figs. 1.1 and 1.2. However theoretical
considerations demand the sequence length Zdt to tend to infinity together with
the Shannon-Darwin transition T ! dt ! 0. This implies that Z ! 1 as well. This
operation is supposed not to affect the content of entropy or the measure of time on
behalf of the principle of evolutionary homogeneity. Thus Z >> Zdt ! 1 and
dt ! 0 . The transference of a very large (infinite) number Zdt of samples will
nevertheless support an infinitesimally small time-length dt. This implies that the
time-length dt=Z of a sample must be chosen extraordinarily small. These
requirements can always be met. Darwin was well aware of that: “Natural selection
can act only by the preservation and accumulation of infinitesimally small inherited
modifications, each profitable to the preserved being” (Darwin 1859, page 142).
1.7 The Time-Compression Transition from Shannon to Darwin: Assembling and. . . 17

In the general evolutionary context hY0 i is another sample sequence of the same
sequence-length as of hX0 i. However for the noiseless communication channel hY0 i
¼ hX0 i. I have left the identity of hY0 i and hX0 i unaffected by the Shannon-Darwin
transition T ! dt ! 0 in Fig. 1.2. However this does not correspond with the
general evolutionary situation, which requires hY0 i to differ from hX0 i. We shall not
consider the details of hY0 i of the example of Fig. 1.2 further in this section. We
restrict the discussion here mainly to the inflow selection process of Fig. 1.2 but it is
not insuperable to imagine a quite related outflow selection process for which
generally hY0 i 6¼ hX0 i.
Preparing for selection requires—in the very first instance—the gathering of
samples (here Zdt ¼ 21 in number). The gathered samples happen to be in different
states (here 14 samples in state 1 and 7 samples in state 2). These are the outcomes
of 21 trials. For clarity we shall call the initial gathering phase of the selection
process assembling and the subsequent reordering phase of the selection process
into the sequences hX0 i and hY0 i reassembling.
Shannon claims that the inflowP sequence of length 21 must be given information
content Zdt  HðX0 Þ ¼ Zdt  i λi logλi in accordance with (1.1). Recall that λi is
the probability of a sample of the inflow signal to be in state i. Note that, in the
particular example of Figs. 1.1 and 1.2, hX0 i has only 14 samples in state 1 and 7
samples in state 2 so that actually λ1 ¼ 14=21 ¼ 0:6667 and λ2 ¼ 7=21 ¼ 0:3333 in
this particular binary case of selection. It follows that

Zdt  HðX0 Þ ¼ Zdt  HðY0 Þ ¼ Zdt  ½λ1 log λ1 þ ð1  λ1 Þ logð1  λ1 Þ


¼ 0:9183  Zdt

This implies that X0 ¼ Zdt  H ðX0 Þ ¼ 21  0:9183 ¼ 19:2842 . This is the


entropy content of hX0 i. We will call it the entropy inflow. The scale of the unit
of value (u.o.v.) in which entropy inflow is expressed may be any scale on behalf of
the principle of evolutionary homogeneity. The choice of the unit of value does not
seem to matter. It does not affect the selection outcomes because all samples occur
on the infinitesimally small time-interval ðt; t þ dtÞ. As time remains fixed at any
time instant on the interval ðt; t þ dtÞ, there is a fixed rate of exchange between
different units of value in the course of selection to first order of accuracy in dt. Thus
the u.o.v. may be a dollar, a Euro-cent, a real unit of value, a shell, a cow or one
thousandth of a cow or even a bit of entropy or 1.3 bits of entropy etcetera. It does
not matter be it that actually the u.o.v. should have a very, very small value to
warrant that we can express all entities of value with sufficient accuracy relative to
one another.
It follows that we are assembling 21 inflow samples of 21 u.o.v. (i.e. the
assembled value is 21 u.o.v.) and it turns out that—reordered—19.2842 u.o.v.
emerge out of it (i.e. the reassembled value is 19.2842 u.o.v.). This is Shannon’s
way of looking at the process of selection. And very important: Shannon’s formula
satisfies the principle of evolutionary homogeneity because the reassembled value
is proportional to the sequence length Zdt.
18 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

Well, this is not the complete story. The problem is that Shannon’s formula is
only applicable if the number Zdt of samples is very large and 21 samples is
unfortunately far from enough to apply the approximation on which Shannon’s
formula (1.1) is based. For 21 samples the right answer is that only 16.827 u.ov.
instead of the 19.284 u.o.v. calculated by Shannon’s formula are being
reassembled. Unfortunately, the correct outcome of 16.827 u.ov. is incompatible
with the principle of evolutionary homogeneity. Thus for small sequence-length Zdt
the principle of evolutionary homogeneity will not be preserved.
However, the calculation error in Shannon’s approximation formula (1.1) can be
easily avoided by choosing a much larger number of samples. Let us choose a new
unit of value (the milli-u.o.v.) that is 1,000 times as small together with 1,000 times
as many samples. Then there are 21,000 samples of which 14,000 will turn out to be
in state 1 and 7,000 in state 2. The correct answer is now that Zdt  H ðX0 Þ ¼ 19; 277
milli-u.o.v. will be reassembled, which is the equivalent of 19.277 u.o.v. This is
very close to the outcome of 19.284 u.o.v. calculated by Shannon’s formula (1.1). If
we choose a still smaller unit of value, the error between the two outcomes gets
smaller and smaller. In fact, if the number of samples is chosen infinitely large, the
error vanishes completely. See Appendix A for a complete explanation. We must
thus adopt the rule that the number Zdt of samples is always very large. For
illustration and explanation purposes, it is however sometimes desirable to keep
the number of samples at a finite limit (as in Figs. 1.1 and 1.2).
At a much later stage of analysis we shall see why it is justified to look at
this process of selection in the Shannon way (See Chap. 4 and Sect. 4.1). We shall
here just accept it. It follows that the reassembled X0 ¼ Zdt  H ðX0 Þ units of
value in state 0 consist of X1 ¼ Zdt  H ðX1 Þ ¼ λ1 Zdt  HðX0 Þ u.o.v. in state 1 and
X2 ¼ Zdt  H ðX2 Þ ¼ λ2 Zdt  H ðX0 Þ u.o.v. in state 2.
In the example of Figs. 1.1 and 1.2 with Zdt ¼ 21, λ1 ¼ 14=21 ¼ 0:6667 and
λ2 ¼ 7=21 ¼ 0:3333 the numerical answers we get are Zdt  HðX1 Þ ¼ 12:8561
reassembled u.o.v. in state 1 and Zdt  HðX2 Þ ¼ 6:4281 reassembled u.o.v. in state 2.
In the above we have restricted the discussion to the statistical experiment of
inflow selection. For the statistical experiment of outflow selection (the other part of
the selection process) the same considerations with respect to assembling and
reassembling apply.
Anticipating further explanation in the sequel, we remark here that economically
inflow selection is the activity of economic agents (entrepreneurs and laborers) by
which they sacrifice (assemble) production resources (financial, material as well as
labor) and form (reassemble) novel combinations of the sacrificed value thereof that
effectuates the reduction of the sacrificed value. Similarly, economically outflow
selection is the activity of economic agents (investors and consumers) by which
they spend (assemble) on investment opportunities and consumption and form
(reassemble) novel combinations of the spent value thereof that effectuates the
reduction of the spent value. It is another way of looking at economic activity, but it
is also the only consistent way that accords with a Shannon inspired approach of the
evolutionary process.
1.8 The Unit of Selection and the Unit of Exchange 19

The introductory exposition of evolutionary differential selection given here is


still rather incomplete, but it is impossible to set out all aspects at once. We will
gradually provide for its completion in subsequent chapters.

1.8 The Unit of Selection and the Unit of Exchange

In the previous section we have considered selection on the time interval ðt; t þ dtÞ.
Selection is a continuous dynamic process. Hence it is not restricted to just one
particular time interval ðt; t þ dtÞ, but it goes on for continuously increasing time t.
Thus selection on ðt; t þ dtÞ is prosecuted by subsequent selection on consecutive
time-intervals ðt þ dt; t þ 2dtÞ, ðt þ 2dt; t þ 3dtÞ, ðt þ 3dt; t þ 4dtÞ,    , each of the
same infinitesimally small time-length dt. Each interval of this indefinite series of
contiguous differential time-intervals may have its own unit of value.
But there are some serious limitations with respect to these choices of the units
of value. Whereas we argued in the previous section that it did not matter in which
u.o.v. reassembled entropy was to be expressed because that choice could not affect
the outcomes of selection on a single time-interval ðt; t þ dtÞ, we must now admit
that it does affect the comparison of reassembled entropy over consecutively
infinitesimally small intervals of time. For instance if we choose the Euro to be
our common u.o.v. for the time-intervals ðt; t þ dtÞ and ðτ; τ þ dtÞ with τ  t finite
and τ  t > 0, we obtain for the joint entropy inflow at time t:

ZðtÞdt  H ðX0 ðtÞÞ ¼ ZðtÞdt  ½λ1 ðtÞ log λ1 ðtÞ þ λ2 ðtÞ log λ2 ðtÞ Euros

and for the joint entropy inflow at a later time τ:

Z ðτÞdt  H ðX0 ðτÞÞ ¼ ZðτÞdt  ½λ1 ðτÞ log λ1 ðτÞ þ λ2 ðτÞ log λ2 ðτÞ Euros

However, one Euro at time τ has another real content than one Euro at time t so
that, to keep the real content of the two outcomes comparable, we are induced to
correct the expression at time τ for the loss of real value of the Euro over the time
interval ðt; τÞ.
Likewise, if we had chosen still another u.o.v., e.g. the US dollar, then the joint
entropy inflow at time t would have been:

ZðtÞdt  H ðX0 ðtÞÞ ¼ ZðtÞdt  ½λ1 ðtÞ log λ1 ðtÞ þ λ2 ðtÞ log λ2 ðtÞ dollars

and the joint entropy inflow at time τ would have been:

ZðτÞdt  H ðX0 ðτÞÞ ¼ Z ðτÞdt  ½λ1 ðτÞ log λ1 ðτÞ þ λ2 ðτÞ log λ2 ðτÞ dollars

We are now also induced to correct the latter expression at time τ for the loss of
real value of the dollar over the time interval ðt; τÞ. Well this is no problem if the loss
20 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

of real value of the dollar over the time-interval ðt; τÞ is exactly the same as the loss of
the real value of the Euro over ðt; τÞ. In that case we can always reduce the values in
dollars to Euros in a consistent manner. However, a dollar’s change of real value
differs from a Euro’s change of real value. The latter inconsistency can only be
avoided if we stick to the same u.o.v over the contiguous differential intervals of
selection. This is what actually happens in a particular money economy: the agents of
that economy stick to the same money unit for exchange in the course of time.
However, exchange is another process than the process of entropy selection. It
suffices to use a money unit (e.g. the Euro) as our unit of exchange in the course of
time, but to compare the inflow, respectively the outflow, of selection during the
infinitesimally small time-interval ðt; t þ dtÞ with the inflow, respectively the out-
flow, of selection during another small time-interval ðt þ τ; t þ τ þ dtÞ, it is necessary
that inflows and outflows are expressed in a unit of value that is evenly scarce at time
t and at time τ. The unit of money (like the Euro) is inappropriate for that purpose
because it does not remain evenly scarce in the course of time due to price inflation.
Instead selection demands that the units of selection to be allocated and reallocated
are evenly scarce in the time-course of the process of selection. That is, they must
share the same state probability. In consequence of Boltzmann’s theorem equivalent
portions of entropy share the same state probability. Thus the unit of selection must
be a unit of entropy and preferably a unit of entropy that is as small as possible.
A natural candidate is the unit of entropy, i.e. the bit, because it holds everywhere the
same state probability equal to 12 at any time of selection because  log 12 ¼ 1 bit.
However any constant quantity of bits can serve equally well as a unit of
selection. We will leave the choice of that constant quantity open and tentatively
appoint as our unit of selection a sample, however now with the restriction that each
sample stocks the same constant quantity of entropy everywhere and always.
The conclusion is then that a sample is the common article of selection to
allocate and reallocate economic flows of entropy in the course of time. That is,
the unit of selection is a fixed quantity of bits named the sample.
On the other hand within an economy economic value is not exchanged for units
of entropy but for units of money. At first glance one may think that the choice of
the money unit in which to exchange two entities A and B of the same unit price
does not affect the economy. The argument behind this false impression is that the
two entities A and B will remain equally expensive irrespective of the unit of value
in which their price is stated. However, the choice of the unit of exchange does
affect the economy because, to facilitate exchange within an economy, money must
be issued by a monetary authority. This is in itself a source of creating additional
entropy. Dependent on the price inflation induced by monetary policy the effects on
the economy will be different and this is why the choice of the unit of exchange
matters9 in the course of time.
In summary, selection is a process concentrating on assembling and
reassembling quantities divided up in bits of entropy. Exchange is a process

9
We might perhaps also call this the unit of transmission.
1.9 Production Functions, Marginalism and the Interaction of Inflow and Outflow 21

concentrating on the transmission of entities divided up in money units. Both


processes are essential for evolution to occur as we will see. Exchange in order to
get everything at the right destination for assembly, selection in order to get
everything reassembled in another order of states.
Without exchange we don’t get the candidate quantities for exchange at the right
positions to interact so that the selection processes cannot be executed. Exchange is
conditional to selection.

1.9 Production Functions, Marginalism and the Interaction


of Inflow and Outflow

Undoubtedly there is a world of difference between the quite generally accepted


models of mainstream economic analysis and the Darwin/Shannon inspired approach
of economic explanation. However, in several respects analyzing economic behavior
in a particular manner in either way may be quite related with respect to common
points of departure. E.g. in accordance with a classical description economics is
concerned with the alternative allocation of scarce resources. In the Darwin/Shannon
selection model the scarceness of an economic entity is reflected by its selection
probability (state probability). The less probable its selection, the scarcer it is. Since
actual selection is between different states, the different states reflect the different
alternative allocation possibilities. Selection is merely the process of allocation.
Another line of analysis where there are initially common and overlapping
considerations between ultimately widely different views is the inflow/outflow
order of an economy. Clearly an economy is a circulating inflow/outflow device.
Inflow is permanently sacrificed to yield outflow. In turn outflow will, after
exchange, be sacrificed as inflow to yield evermore outflow during subsequent
production cycles. The surplus of outflow over inflow causes the economy to
grow. These notions may be regarded to belong to common understanding. The
difference between the Darwin/Shannon view and the mainstream line of analysis is
in the working-out. Mainstream has embraced the neoclassical interpretation in
which production functions are postulated with their marginal products to account
for the relationships with the relative costs of the factors of production.
Neoclassical theory has been convincingly criticized in many different ways.
The major shortcoming is the failure of orthodox theories of economic behavior to
account for a universal truly dynamic explanation of economic development. In the
end this is the common focus of all critical examinations, however diverse they
individually may be. It is in the general stochastic dynamics of Darwin/Shannon
selection theory that all orthodox theories find their master. More concretely,
orthodox economic theories fixate and so maltreat time wittingly by the manner
they deal with parameters as constants and perhaps unwittingly by the manner they
differentiate mathematically.
22 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

I feel that it is worthwhile to introduce and explain the superior Shannon inspired
conception of inflow/outflow against the particular background of a neoclassical
model. Moreover, this discussion will also contribute to understand how Darwinian
evolutionary selection must be mathematically described in a general dynamic manner.
Marginalist interpreters of neoclassicism have a lot to explain. Is it permissible
to define marginal products in the manner as is actually done in neoclassicism? Let
me discuss the subject by restricting the analysis to the two-sector production
function to which neoclassicists often adhere to explain the basic idea behind
their theory: the production function F ðK,LÞ of capital K and labor L. In this, K
is a capital stock expressed in units of real value, L is the stock of employed labor
expressed in units of labor (often the number of employed laborers). Noteworthy is
that F ðK,LÞ is hypothesized to equal the (yearly) aggregate output Ye of the
economy, which is here a flow variable expressed in units of real value10:

Ye ¼ F ðK,LÞ (1.2)

(In some neoclassical applications Ye is equal to GDP, in others it is equal to the


net domestic product NDP, i.e. GDP after entrepreneurial depreciation has been
deducted.)
The first thing to notice here is that in essence Ye is a flow variable and that K and L
are stock variables. Thus we encounter a flow variable on the left side and stock
variables on the right side of the equation. In two respects this is weird. First of all
why not input Xe on the lead: Xe ¼ F ðK,LÞ in the stead of output Y? e Secondly, the
reciprocal of the number of times that a flow variable goes into its stock variable is
the circulation rate of that stock variable. Thus if the symbol ζ denotes the output
e then by definition11:
circulation rate of output Y,

Ye ¼ ζ K (1.3)

It is well known that the circulation rate ζ is changing remarkably in the course of
the business cycle. It is decreasing when the recession phase sets in and it will
increase when recovery sets in reaching its maximum during the booming phase of
the business cycle. Thus—like Y, e K and L—ζ is a dynamic function of time t:

ζ ¼ ζðtÞ

10
Mark that the definitions of the neoclassical Ye and the evolutionary Y0 ¼ Zdt  H ðY0 Þ, in the
present treatise applied, differ markedly. The most conspicuous difference is that Ye is a real value
of output usually accumulating over one year, whereas Y0 is entropy outflow of the executed
statistical experiment over the time-interval (t,t þ dt).
11
In case Ye is NDP, ζ is a net circulation rate per year, which neoclassicists consider to represent the
marginal product of capital under perfect competition. The problems to explain the business cycle
fluctuations of a net circulation rate ζ are not less great than the problems facing the explanation of
the fluctuations of the gross circulation rate considered in the text.
1.9 Production Functions, Marginalism and the Interaction of Inflow and Outflow 23

It is also quite well known that the relative time-dependent fluctuations of ζ are of
the same order of magnitude as the relative variations of output. The problem then
arises how the business cycle fluctuations of ζ affect the change of output Ye and the
change of K . The possibility that Ye is not very much affected and hence that—in
accordance with (1.3)—a decrease of ζ is largely accompanied by an increase of K is
quite beside the mark since it is well known that K is also apt to decline in the
recession phase.
Thus on account of expression (1.3) we expect that—as the recession sets in—
the decrease of ζ will affect a relatively larger fall of Ye. However it is also well
known that the decrease of ζ will not immediately be followed by a decrease of L.
The decline of L will follow with a delay of half to 1 year. Furthermore, after that
delay the decline of Ye will usually diminish or even stop and then expression (1.2)
deprives L to fluctuate very much.
Expression (1.2) does not reflect and may even contradict these observations,
because—if Ye declines relatively much more than K does—it is necessary on behalf
of (1.2) that the decline of Ye is accompanied by a simultaneous decline of L of
comparable magnitude.
[In fact the explanatory deadlock is even worse if we take into account the
role of the parametric exponents a and 1  a with Ye ¼ F ðK,LÞ ¼ b  K 1a  La and
0 < a < 1]. Therefore expression (1.2) does not reflect an instantaneous dynamic
universal relationship.
To save the neoclassical paradigm, the neoclassical functional relationships are
sometimes advocated as describing economic behavior and trends in the long run.
But this is quite an inadequate manner to deal with the problems. Indeed within the
context of the parametric method of scientific investigation one can always put the
long run defense strategy on the stage to save a theory. If the long run is long run
enough, the differences between the fluctuations of the left side and the right side of
(1.2) level off, but unfortunately this will also immobilize the dynamic import of the
theory. The more the fluctuations are averaging out, the more linear correspondence
there is between the left side variable Ye and the right side variables K and L of the
equation, but—despite that—the less these long run relationships explain. Long run
averaging cannot save a theory.
(Another but related way to save the neoclassical paradigm is to assume that it
holds only under conditions of static growth or by assuming stable or nearly stable
net growth. In that case Y,e K and L are assumed to share the same or nearly the same
net rate of growth. Fluctuations about that rate are completely ignored. Clearly such
assumption is totally unrealistic. It is just as much objectionable as the idea that the
theory has only long run significance.)
That the neoclassical production theory can only be given (weak) economic
significance under the unrealistic condition of long run averaging and/or under the
rigid restriction of static growth, is very much connected with the parametric nature
in which production functions must be stated. For instance we need two parameters
a and b for the Cobb Douglas production function:
Ye ¼ F ðK,LÞ ¼ b  K 1a  La with 0 < a < 1
24 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

The fluctuations of Ye, K and L cannot fully be explained by the production


function as long as the parameters are near constants. To save the neoclassical
paradigm for the shorter run, it is necessary for a and b to fluctuate in the course of
time as well. However this undermines the assumed equivalence of the marginal
product @ F=@ K of capital to the unit cost of capital as well as the assumed
equivalence of the marginal product @ F=@ L of labor to the unit cost of real labor
under conditions of perfect competition. The deplorable result is that the complete
neoclassicist theory is tripped up.
In summary expression (1.2) does not contribute anything to explaining the
business cycle of the economy dynamically and thus it is legitimate to pose the
question why mainstream economists attach so much significance to a theory that
cannot explain the most elementary properties of the economic business cycle.
Economic science must be concerned with explaining the instantaneous dynamic
fluctuations of the business cycle in their mutual context, not with smoothing out
those fluctuations.
It is necessary to reconsider the relationships between the inflows and outflows
of the economy in a much wider and much more general perspective than the
narrow long run perspective that the neoclassical theory is capable to give. The
neoclassical production functions give a single one-sided view of an output variable
in terms of stock input variables and fail to deal with the full essence of the
economic production process: the complete mutual interaction between inflows
and outflows.
Well, to keep matters straight, the above critique does not definitely settle the
dispute about the validity of the neoclassical paradigm. It is quite difficult to
accomplish that in this way considering the many disguises in which production
functions are dressed and pop up, each requiring another way of demonstrating that
the new metamorphosis cannot in the least deal with the full dynamics of economic
evolution. However, what the criticism does is to call neoclassicism seriously in
question. And no more is needed. It is not the scientific task of opponents of the
theory to refute the neoclassical dream rigorously. Throwing motivated serious
doubts upon it is sufficient. On the other hand it is the scientific task of its
proponents to demonstrate beyond doubt (by mathematical argumentation and by
experimental verification) that the neoclassical production functions behave
dynamically sound in the short run. Unfortunately, there has been no sign whatso-
ever of the latter. Claims of that sort fail for the same reason: they hold only in the
long run or under conditions of rigid stable growth.
Nevertheless the idea underlying neoclassical production theory has a certain
appeal. It expresses the awareness that both the application of labor and the use of
entrepreneurial capital have an impact on output in the course of production.
The production function theory acknowledges the output Ye as a result of two
factors (that is the good thing). However, that is not sufficient. By common consent
economists have accepted GDP, the sum of gross investment and consumption, as
the joint outflow of the two-sector economy. Clearly then gross investment and
consumption must represent an outflow of the investment sector and an outflow of
1.9 Production Functions, Marginalism and the Interaction of Inflow and Outflow 25

the consumption sector in respective order. As there are two types of outflow,
consumption and investment, a satisfactory theory of inflow/outflow must take into
account that also two types of inflow exist: one that uses up the stock of entropy that
consumption builds up and another that uses up the stock of entropy that investment
builds up. The first stock I shall call labor capacity, the second stock I shall call
entrepreneurial capacity. Thus consumption is labor outflow, the flow of entropy
that increments labor capacity and labor inflow is the flow of entropy that
decrements labor capacity. Similarly, investment is entrepreneurial outflow, the
flow of entropy that increments entrepreneurial capacity and entrepreneurial depre-
ciation is entrepreneurial inflow, the flow of entropy that decrements entrepreneur-
ial capacity.
I shall elaborate on this topic in the only possible manner it can be done (i.e., in
an evolutionary context of economic development) in Sect. 2.1 of Chap. 2 and in
increasingly more detail in subsequent sections and chapters to come.
Labor and entrepreneurial capacity are stock quantities. If outflow is considered
to represent a flow variable, consistent analysis demands that inflow is dealt with on
the same footing as outflow, i.e. as a flow variable as well. Hence a more accurate
understanding of inflow/outflow analysis involves to discern the two inflows of the
two-sector economy: labor inflow (which includes wages and other inflows of the
consumption sector as we will demonstrate in due time) and entrepreneurial inflow
(which includes entrepreneurial depreciation as a measure of the wear and tear of
production resources as well as other inflows of the investment sector as we will
also demonstrate in due time).
In summary then the neoclassical production function does not provide for a
correct and consistent theory of interaction between the two flows of labor inflow
and entrepreneurial inflow on the one hand and the two flows of entrepreneurial
outflow (investment) and labor outflow (consumption) on the other. Let me further
clarify this as follows with the help of the inflow/outflow scheme of Fig. 1.2.
I will hereby apply the following notational conventions in accordance with
what has already been stated in Sects. 1.6 and 1.7:
The respective entropy volumes (per sample) of labor inflow, entrepreneurial
inflow and joint inflow per trial of the two-sector economy, P selected during
(t,t þ dt), are denoted by H ðX1 Þ , H ðX2 Þ and H ðX0 Þ ¼ i H ðXi Þ in accordance
with the Shannon-inspired scheme of Fig. 1.2.
The respective entropy volumes per sample of labor outflow, entrepreneurial
outflow and joint outflow per trial of the two-sector economy, selected during
P  
(t,t þ dt), are denoted by H ðY1 Þ, H ðY2 Þ and HðY0 Þ ¼ j H Yj .
Agents select by using up and decommissioning entropy/value and by spending
and commissioning entropy/value. Mark that the subscripts (0, 1 or 2) decide about
to which state (i.e. to which sector) the inflow, respectively the outflow, belongs.
To avoid conceptual vagueness hX0 i and hY0 i are sequences each of Zdt samples,
with each sample consecutively selected over the time-interval ðt; t þ dtÞ,resulting

in the reassembled entropies/real values Zdt  H ðXi Þ, respectively Zdt  H Yj over
 
ðt; t þ dtÞ . The time-length of these sequences is always dt. HðXi Þ and H Yj
26 1 Darwin- and Shannon-Inspired Dynamic Economic Selection

CONSUMPTION SECTOR

Net growth of
labor capacity

Production
Y1 = Zdt ⋅ H(Y1) X1 = Zdt ⋅ H(X1)

Outflow Inflow
sequence Y0 sequence X0

Y2 = Zdt ⋅ H(Y2) Selection X2 = Zdt ⋅ H(X2)

Net growth of
entrepreneurial
capacity

INVESTMENT SECTOR

Fig. 1.3 The universal two-sector (binary) model of evolutionary inflow/outflow selection.
The system of equations is non-parametric and derivable from first principles of evolutionary economics.
H(Yi) is the reassembled entropy per sample in state i of the outflow sequence hY0 i. H(Xi) is the reassembled entropy per sample in state i of
the inflow sequence hX0 i

denote the reassembled


 entropy per trial/sample. H ðXi Þ is reassembled entropy

inflow. H Yj is reassembled entropy outflow. H ðXi Þ , respectively H Yj , are
properties of the sequence hX0 i, respectively of the sequence hY0 i.
The indices i and j are used to discern between the different inflows and outflows
per sector of the multi-sector economy. H ðXi Þ is the reassembled entropy inflow per
trial/sample of the i-th sector; H ðYi Þ the reassembled entropy outflow per trial/
sample of the i-th sector. The notational convention with indices has the advantage
of offering much more insight into the eventual symmetries of the economic flow
variables than the old notational conventions do: Y for GDP, I for investment, C for
consumption, W for wages and D for depreciation. Please forget the old notational
conventions.
It is common knowledge that outflow is produced by the sacrifice of inflow.
Hence for the two-sector economy H ðY1 Þ will be produced as a result of sacrificing a
portion of the inflow H ðX1 Þ and of sacrificing a portion of the inflow H ðX2 Þ. Further,
H ðY2 Þ will be produced by sacrificing the remaining portions of HðX1 Þ and H ðX2 Þ.
Thus we see that both inflows, H ðX1 Þ and HðX2 Þ, are involved in producing both
outflows H ðY1 Þ and H ðY2 Þ in accordance with the inflow/outflow diagram of
Fig. 1.3.
The system of equations that applies to Fig. 1.3 is explainable from first
principles of evolutionary economics (See also Fig. 1.2). That system is universal
and non-parametric. It does acknowledge for interaction between the inflow and
outflow variables as the scheme of Fig. 1.3 suggests: labor inflow H ðX1 Þ and
1.9 Production Functions, Marginalism and the Interaction of Inflow and Outflow 27

outworn entrepreneurial inflow H ðX2 Þ are sacrificed to produce both brand-new


outflow H ðY1 Þ and brand-new outflow H ðY2 Þ. The various inflows interact with the
various outflows. The interaction process has some very special features. E.g., the
production process causes entrepreneurial capacity stocked in the investment sector
and labor capacity stocked in the consumption sector to change continually. With
the sampling-rate Z representing the number of samples (trials of the statistical
experiment) per unit of time, the reassembled entropy X2 ¼ Zdt  H ðX2 Þ, a very small
portion of the remnant of what was net produced in bygone times, serves to be
sacrificed for current production during (t,t þ dt) and the surplus of Y2 ¼ Zdt  H ðY2 Þ
over X2 ¼ Zdt  H ðX2 Þ is the net flow by which the value stocked in the investment
sector will increase during (t,t þ dt).
The interaction between H ðX1 Þ, H ðY2 Þ, H ðX2 Þ and H ðY1 Þ is the cause that the
marginal products @F=@L and @ F=@ K of the neoclassical production function with
respect to labor and entrepreneurial capital cannot be associated with the respective
unit costs of labor and of entrepreneurial capital. If we should nevertheless assume
so, we ignore that the stocks of labor capacity and entrepreneurial capacity are
being fed by both outflows HðY1 Þ and H ðY2 Þ , and at the same time are being
exhausted by both inflows H ðX1 Þ and HðX2 Þ . That implies that the increase of
labor capacity per trial is equal to the surplus H ðY1 Þ  HðX1 Þ of H ðY1 Þ over H ðX1 Þ
and that the increase of entrepreneurial capacity per trial is equal to the surplus
H ðY2 Þ  H ðX2 Þ of H ðY2 Þ over H ðX2 Þ . These surpluses represent a net growth
of capacity per sample/trial. So we might follow the noteworthy neoclassical
reasoning by remarking that H ðY2 Þ  H ðX2 Þ is the total net increase of
entrepreneurial þ labor capacity per sample if labor capacity remains constant.
And that HðY1 Þ  H ðX1 Þ is the total net increase of entrepreneurial þ labor
capacity per sample if entrepreneurial capacity remains constant. However, there
is no connection whatsoever with the unit cost of labor respectively with the unit
cost of entrepreneurial capital within the dynamically changing context of
selection.
Chapter 2
Sets of Entropy, Selection, Venn Diagrams
and Bitpulses

Abstract There exist three simultaneous statistical experiments of economic selec-


tion: inflow selection, outflow selection and overall (or concurrent) selection. These
experiments return each another entropy content of a particular differential set.
Each sector of the economy represents a non-differential set that stocks entropy
in a given state. The entropy content is called the capacity of that state-sector.
Differential sets of outflow deposit the entropy content they created during the
selection interval (t,t + dt) into those sectors. Differential sets of inflow withdraw
the entropy content they use up during the selection interval (t,t + dt) from those
sectors.
Venn diagrams assist to illustrate the relationships between various differential
sets and to clarify the definitions of other differential sets deducible from the
former.
A fundamental point of attention is how the unit of selection (the core object of
selection) must be defined. Much attention is given to the ideas of Hodgson &
Knudsen in this respect. Weighty mathematical considerations lead to one and
only one conclusion in virtue of the basic Darwinian principles: the unit of
selection is a bitpulse. This is a dynamic rectangular pulse of constant entropy
residing in a particular selection state with a finite lifetime stretching out over
time from its initial time (the time it has originated and has acquired its entropy
content) until its final time (the time it will expire and will lose its entropy
content).
During the time-interval (t,t + dt) of selection, only a very small portion
(nevertheless an exceptional large number) of the bitpulses, stored in a sector, is
selected. The flows of bitpulses selected are either entropy outflow (the originating
bitpulses adding to the stock) or entropy inflow (the annihilating bitpulses
withdrawing from the stock) during the time-interval of selection.

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 29


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_2, # Springer-Verlag Berlin Heidelberg 2013
30 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

It from bit:
Every it—every particle, every field of force, even the space-
time continuum itself—derives its function, its meaning, its
very existence entirely—even if in some contexts indirectly—
from the apparatus-elicited answers to yes-or-no questions,
binary choices, bits.
John A. Wheeler

2.1 Non-differential and Differential Sets of Entropy, Venn


Diagrams, Sample Space, Capacity

The evolutionary approach of economic theory treats spending as a statistical


experiment of outflow selection executed by economic agents. It considers putting
economic resources into disuse as another (parallel and simultaneous) statistical
experiment of inflow selection executed by economic agents. Aggregate economic
outflow H ðY0 Þ per sample is selected during a time-interval ðt,t þ dtÞ of infinitesi-
mally small length dt. Aggregate economic inflow H ðX0 Þ per sample is selected
during the same time-interval ðt,t þ dtÞ.
To keep matters clear it is helpful to define some elementary sets of stocks of
entropy. Let us denote by Si the sector that stocks all the entropy that is in state i
ði ¼ 1; 2, 3,    N Þ. Further let the set S0 denote the entire economy in which all
entropy of the economy is stocked irrespective of state. That is,

[
N
S0 ¼ Si ¼ S1 [ S2 [ S3 [    [ S N (2.1)
i¼1

[ is the union operator, here extending over all N economic sectors.


For the two-sector economy ðN ¼ 2Þ:

S0 ¼ S1 [ S2 (2.2)

with S1 representing the consumption sector and S2 the investment sector.


During the differential selection interval (t,t þ dt) let agents select outflow H ðY0 Þ
as being created in the various sectors Si ði ¼ 1; 2, 3,    N Þ. Since the probability of
the joint occurrence of the event that a sample is created in state i on (t,t þ dt) and the
event that it afterwards will cease existence before time instant (t þ dt) is negligible
relative to its singular chance of being created in state i on (t,t þ dt), we may
conclude that—to first order of accuracy in dt—all the created outflow on (t,t þ dt)
is still existing in Si at time instant (t þ dt). This implies that the selected outflow
H ðYi Þ reassembles entropy in state i on (t,t þ dt) that is still in that same state i at time
(t þ dt). The reassembled entropy outflow so originating over all Zdt samples of the
statistical experiment executed during (t,t þ dt) is Zdt  H ðYi Þ. The flow Zdt  H ðYi Þ
2.1 Non-differential and Differential Sets of Entropy, Venn Diagrams, Sample. . . 31

contributes to the differential growth of the entropy stock of Si over (t,t þ dt). I have
called this process entropy outflow selection.
Likewise let economic agents select inflow HðX0 Þ as being used up in the various
sectors Si ði ¼ 1; 2, 3,    N Þ. The probability of the joint occurrence of the event
that a sample is used up in state i on (t,t + dt) and the event that it has been called in
existence after time instant t but prior to its moment of annihilation on (t,t þ dt) is
negligible relative to its singular chance of being used up in state i on (t,t þ dt).
Therefore we may also conclude here that—to first order of accuracy in dt—all the
inflow that is used up on (t,t þ dt) already existed in Si at time instant t. This implies
that the selected inflow H ðXi Þ reassembles entropy in state i on (t,t þ dt) that was
already in that same state i at time t. The reassembled entropy inflow so annihilating
over all Zdt samples of the statistical experiment executed during (t,t + dt) is
Zdt  H ðXi Þ. Zdt  H ðXi Þ contributes to the differential decrease of the entropy
stock of Si over (t,t þ dt). I have called this process entropy inflow selection.
What is crucial with respect to these statistical experiments of selection is that
not the entire content of entropy of Si is assembled/selected during (t,t + dt). Only
the assembled portion Zdt of the total entropy stock of S0 at time (t + dt) is object/
subject in the course of the statistical experiment of outflow selection during
(t,t + dt). Further only the assembled portion Zdt of the total entropy stock of S0
at time t is object/subject in the course of the statistical experiment of inflow
selection during (t,t + dt).
For the entropy that is reassembled from the assembled entropy it is helpful to
introduce the formal concept of differential sets of entropy. We define the differen-
tial subset dSþj to represent the subset of entropy of Sj stocked at time (t + dt) that
has originated during the infinitesimally small time-interval (t,t + dt) of selection.
Further we define the differential subset dS i to represent the subset of entropy of Si
stocked at time t that will annihilate during the infinitesimally small time-interval  
(t,t + dt). This motivates us to say that the entropy “stocked” in dSþ j is Zdt  H Yj
and that the entropy “stocked” in dS i is Zdt  H ðXi Þ.
With the concepts of differential sets of entropy well defined, inflow selection is
 
between N alternative outcomes S of a trial/sample: entropy is in dS1 , in dS2 ,    or
 
in dSN . In that case dS0 ¼ i dSi is the playground of all the subsets that can be
selected. We call that playground the differential sample space of inflow selection.
Likewise outflow selection is between N alternative outcomes of a trial/sample:
S þ
entropy is in dSþ þ þ þ
1 , in dS2 ,    or in dSN . In that case dS0 ¼ i dSi is the differential
sample space of outflow selection.
The use of a set S0 (or dSþ 
0 or dS0 ) of entropy stock from which entropy is selected
may be clarified with the help of so-called Venn diagrams. This is a handsome tool
to get a more concrete idea of the relationships between the various sets and
variables of entropy and the various probabilities that govern the evolution of
economic systems.
The N sets Si of entropy stock may be presented in a so-called non-differential
Venn diagram. This has been done in Fig. 2.1 for the two-sector economy with
N ¼ 2. Each of the N subsets Si holds a finite entropy stock H ðSi Þ. We may regard
32 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

S1 S2

Fig. 2.1 Venn diagram of non-differential sample space.


The two-sector economy S0 consisting of consumption sector S1 and investment sector S2. S0 is the union of S1 and S2: S0 ¼ S1 [ S2 such that
S1 and S2 do not overlap: S1 \ S2 ¼ ;, i.e. the intersection of S1 and S2 is the null set

the surface area of the set Si to represent an entropy stock H ðSi Þ of Si. We shall call
H ðSi Þ the capacity Ci of Si :

C i ¼ H ð Si Þ (2.3)

Ci is all the entropy stocked in Si .1 The outflow Yi ¼ Zdt  H ðYi Þ is all reass-
embled entropy that goes into Si during the time-interval (t,t + dt) and the inflow
Xi ¼ Zdt  H ðXi Þ is all reassembled entropy that is withdrawn from Si during the
time-interval (t,t + dt). It follows that the increase dCi of capacity Ci is the
entropy of the accumulating surplus of Yi over Xi . That is,

dCi ¼ Yi  Xi ¼ Zdt  ½HðYi Þ  HðXi Þ (2.4)

Thus

ðt
Ci ðtÞ ¼ Z ðθÞ  ½Hθ ðYi Þ  Hθ ðXi Þdθ (2.5)
1

Herein integration extends over the time-domain from θ ¼ 1 until θ ¼ t. ZðθÞ


is the value of Z at time θ. Also, in the integrand of the integral of (2.5), HðYi Þ and
H ðXi Þ traverse the values they assume at time θ. I will usually refrain from explicitly
recording this time-dependency in the notation of H ðYi Þ and H ðXi Þ in order to keep
the notation surveyable, although we might acknowledge for this time-dependency
by choosing the notation Hθ ðYi Þ and Hθ ðXi Þ as in (2.5). We should always keep in
mind that every variable is time-dependent.
Note further that
X X
dC0 ¼ dCi and C0 ¼ Ci
i i

1
Money holds a content of entropy equal to the quotient of the number of money units it represents
and the price level P.
2.1 Non-differential and Differential Sets of Entropy, Venn Diagrams, Sample. . . 33

Fig. 2.2 Venn diagram of


differential sample space.
þ
dS0 ¼ dS
0 [ dS0
dS0+ dS 0−
dSþ 
0 and dS0 overlap.
Top configuration:
The joint surface is the union dS0 ¼ dS 0
[dSþ þ 
0 of dS0 and dS0 . Shaded surface is the
 þ þ 
intersection dS0 \ dS0 of dS0 and dS0
Center configuration:

dSþ þ
1 and dS2 do not overlap.
dS1+
dSþ þ þ
1 [ dS2 ¼ dS0 dS0−
Bottom configuration:

dS 
1 and dS2 do not overlap. dS2+
dS  
1 [ dS2 ¼ dS0

dS1−
dS0+

dS2−

For the two-sector economy C1 is labor capacity, the measure of the labor force
expressed in bits of entropy. C2 is entrepreneurial capacity, the measure of the
productive potential of the investment sector expressed in bits of entropy. C0 is
overall capacity.
The differential sets dSþ 
j and dSi may also be presented in a Venn diagram. This
has been done so in Fig. 2.2 by means of a differential Venn diagram for the two-
sector economy with N ¼ 2 . Here the different sub-areas denote the various
differential subsets. Each differential subset holds the entropy reassembled in it
by the execution of the associated statistical experiment of selection during
(t,t + dt). We may regard the surface area of the subset to represent the entropy
of it, which is Zdt times the entropy per sample of this subset. Note that these
differential sets contain portions of entropy that vanish completely relative to the
infinitesimally greater entropy stocked in S0 . To focus attention on the borders
between the various differential sets, the same diagram has been configured three
times in Fig. 2.2. Whereas the non-differential sets S1 and S2 do not overlap as in
Fig. 2.1 (entropy is here either in state 1 or in state 2 to first order of accuracy in dt),
we notice that this is not the general rule for the differential sets of Fig. 2.2. The
entropy that originates in state j on (t,t + dt) (See the sets dSþ j of the center
configuration) has emerged from entropy that has annihilated both in state 1 and
in state 2 on (t,t + dt). Likewise the entropy that annihilates in state i on (t,t + dt)
(See the sets dS i of the bottom configuration) is bringing forth entropy both
originating in state 1 and in state 2 on (t,t + dt). Thus generally dSþ j and dSi

þ 
overlap. In set-theoretical notation: dSj \ dSi 6¼Ø. Herein the symbol \ denotes
the intersection operation and Ø is the null set, which does not contain entropy.
34 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

H(Y0|X0) H(X0∩Y0) H(X0|Y0)

Fig. 2.3 The Venn diagram of inflow/outflow of an economy.


The surface area of the left side ellipse is equal to the outflow Y0 ¼ Zdt  HðY0 Þ.
The surface area of the right side ellipse is equal to the inflow X0 ¼ Zdt  HðX0 Þ.
The intersection is the surface area that the two ellipses have in common. The surface area of the intersection is the transmission
Zdt  HðX0 \ Y0 Þ.
The shaded surface area at the left is the conditional outflow Y0 ¼ Zdt  H(Y0 |X0 ).
The shaded surface area at the right is the conditional inflow X0 ¼ Zdt  H(X0 |Y0 ).
The entire surface area covered by both ellipses is called the union. It covers a total area of Zdt  HðX0 [ Y0 Þ.
It follows that HðX0 [ Y0 Þ ¼ HðY0 j X0 Þ þ HðX0 j Y0 Þ þ HðX0 \ Y0 Þ

This raises an important question. In the preceding we have asserted that the
probability of the joint occurrence of the event of a sample to originate on (t,t + dt)
and the consecutive event that this sample ceases existence on (t,t + dt) is negligi-
ble relative to the probability of the separate singular events of origination or of
annihilation of that sample. Does that not imply that there is virtually no chance that
dSþ 
j and dSi overlap?
Well it does not really imply that. On the contrary, the joint occurrence of an
event of a sample both to originate on (t,t + dt) and to annihilate on (t,t + dt) is
concerned with the same sample first originating on (t,t + dt) and then afterwards
annihilating on (t,t + dt) or in reversed order. However, in Fig. 2.2 we are dealing
with the concurrent occurrence of a sample originating and a different sample
annihilating.2 The content of the overlapping area of dSþ 
0 and dS0 is composed of
þ
samples of assembled entropy of dS 0 and dS0 that are sacrificed on (t,t + dt) to
effectuate (i.e. to reassemble) new samples of entropy within the entire differential
sample space. The chances of that production selection process are not negligible.
The deeper cause of overlapping is the statistical dependence between the elemen-
tary selection events of inflow and outflow. We will explain that in due time. It is
here where Shannon’s selection probabilities enter the scene as we will clarify at a
later stage of this exposition. The situation has been visualized from a slightly
different perspective in the Venn diagram of Fig. 2.3. The total surface area is called
þ
the union. This is the differential set denoted by dS0 ¼ dS 0 [ dS0 . It is also called
the overall differential sample space of selection because all statistical experiments
of selection take place within this sample space.

2
Note that the two samples—despite they are different samples—hold each the same content of
entropy.
2.2 Overall Selection, Transmission and Exchange, Conditional Entropy 35

 þ

The differential entropy stocked in overall sample space per trial is H dS 0 [ dS0 ,
but—for closer connection to Shannon’s notational conventions—I will also denote
this differential entropy by H ðX0 [ Y0 Þ.3 The operator [ is the mathematical symbol
for the union operation that we met before in (2.1) and (2.2). We will use the new
notational convention interchangeably with the one with arguments X and/or Y closely
resembling Shannon’s notational convention for entropy. Thus HðdS i Þ ¼ HðXi Þ is
þ
the entropy content of dS i per sample, HðdS j Þ ¼ HðYj Þ is the entropy content of dSþj
þ þ
per sample and HðdS 0 [ dS0 Þ ¼ HðX 0 [ Y 0 Þ is the entropy content of dS 
0 [ dS0 per
þ
sample. The new convention with arguments dS i and/or dSj is the more systematic
one, the other one is closer to existing practice. Thus the notational convention of
expressing the entropy content of a set S by HðSÞ as in (2.3) will also be followed for
the entropy content of differential sets. To clarify the production and using up of (or
the feeding on) entropy within the subsets of the Venn diagram of differential
selection further, Fig. 2.4 may be of additional aid for the two-sector economy
and Fig. 2.5 for the three-sector economy. Venn diagrams for any multi-sector
economy (N > 3) can be drawn in a similar way. It does not matter whether the
borderlines between the various subsets are curved or straight or just whimsical.
To help interpreting the Venn diagram, a differential set with a smaller index
will be standard positioned vertically higher in the Venn diagram than a differential
set with a larger index. Thus in Fig. 2.4 the differential subsets of the consumption
sector S1 are at the top of the drawing and the differential subsets of the investment
sector are at the bottom.
More remarks about some conceptual notions of probability theory have been
listed in Appendix C. They may be helpful to understand Figs. 2.4 and 2.5 better.

2.2 Overall Selection, Transmission and Exchange,


Conditional Entropy

Thus far we have considered the experiments of inflow selection and outflow
selection. We ascertained that the playground of the inflow experiment is differen-
tial sample space dS 0 and that the playground of the outflow experiment is
differential sample space dSþ  þ
0 . Since dS0 and dS0 overlap and together form
 þ
differential sample space dS0 ¼ dS0 [ dS0 , the two separate statistical experiments
of selection seem together to reflect more events than the selection events going on
þ
in dS0 alone. To oversee the whole of events within dS 0 and dS0 we must take into
account all the events that occur in dS0 and consider dS0 as the playground of an
overall statistical experiment of selection.
þ
The applicable rule here is that any single trial in sample space dS0 ¼ dS 0 [ dS0
will always involve the concurrent (simultaneous) selection of a sample annihilating
in state i (i ¼ 1; 2) and another sample originating in state j (j ¼ 1; 2). Thus a trial of

3
Shannon uses the notation H(X,Y), which is H(X0 [ Y0) in the notation to which I adhere.
36 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

dS 0
+
B G dS 0−
D
F

A U

Fig. 2.4 The Venn diagram of evolution of the two-sector economy S0 with the number N of
sectors equal to 2.
The non-differential sectors, S1 and S2 , have not been illustrated. The differential set dSþ 
0 of outflow interacts with the differential set dS0 of
inflow.
As a standard convention a differential set with a smaller index will be positioned vertically higher in the Venn diagram than a differential
set with a larger index.
A, B, C, D, E, F, G and U are subsets of these differential sets. Their respective entropy contents per trial are H(A), H(B), H(C), H(D), H(E),
H(F), H(G) and H(U). Note that
þ þ þ
dS  
0 ¼ dS1 [ dS2 ¼ E [ F [ G [ D [ C [ U, dS0 ¼ dS1 [ dS2 ¼ B [ D [ E [ A [ C [ F

þ þ
dS 
1 ¼ E [ F [ G, dS2 ¼ D [ C [ U, dS1 ¼ B [ D [ E, dS2 ¼ A [ C [ F

þ
dS
0 \ dS0 ¼ D [ C [ E [ F

There are 8 subsets of differential sample space dS0 ¼ dSþ 


0 [ dS0 :
  
A ¼ dSþ dS , B ¼ dSþ dS , C ¼ dSþ \ dS , D ¼ dSþ \ dS , E ¼ dSþ \ dS
2 0 1
0 2
 2 1 2 1 1
F ¼ dSþ \ dS , G ¼ dS dSþ , U ¼ dS dSþ
2 1 1 0 2 0
Further,

H ðY1 Þ ¼ H(B) + H(D) + H(E), H ðY2 Þ ¼ H(A) + H(C) + H(F), H ðY0 Þ ¼ H ðY1 Þ þ H ðY2 Þ

H ðX1 Þ ¼ H(E) + H(F) + H(G), HðX2 Þ ¼ H(D) + H(C) + H(U), H ðX0 Þ ¼ H ðX1 Þ þ H ðX2 Þ

H ðY0 jX0 Þ ¼ H(A) + H(B), H ðX0 jY0 Þ ¼ H(G) + H(U)

H ðY2 jX0 Þ ¼ H(A), H ðY1 jX0 Þ ¼ H(B), HðX2 jY0 Þ ¼ H(U), H ðX1 jY0 Þ ¼ H(G)

H ðX2 \ Y2 Þ ¼ H(C), H ðX1 \ Y2 Þ ¼ H(F), H ðX2 \ Y1 Þ ¼ H(D), H ðX1 \ Y1 Þ ¼ H(E)

the overall selection statistical experiment is to draw a pair of samples, one


annihilating in state i on (t,t + dt) and the other concurrently originating in state j
on (t,t + dt).
Let then qi j be the elementary probability that such a concurrent pair of samples is
þ
selected on (t,t + dt). Clearly dS i \ dSj is the differential subset of all the events
whereby a sample annihilating in state i on (t,t + dt) is concurrently selected
with another sample originating  instate j on (t,t + dt). The total entropy “stocked”
þ
in dS i \ dS j is Zdt  H X i \ Y j . Thus it follows that the probability qij of
concurrently selecting a sample in state i and another sample in state j on (t,t + dt)
is equal to
 
H X i \ Yj
qij ¼ for i; j ¼ 0; 1, 2, 3,  , N (2.6)
H ðX0 \ Y0 Þ
[See also Appendix B, (B.9)].
2.2 Overall Selection, Transmission and Exchange, Conditional Entropy 37

M
L
C N
D
+
dS 0
K
O
P dS 0−
E
J

B F
H
A G

Fig. 2.5 The Venn diagram of evolution of the three-sector economy S0 with N ¼ 3 sectors. The
three non-differential sectors, S1, S2 and S3, have not been illustrated. The differential set dSþ
0 of
þ
outflow interacts with the differential set dS 
0 of inflow . Notice that there are 3 subsets dSi \ dSj
2

of transmission. For the N-sector economy that number would be N2.


dS
0 ¼ D[ E [F[ G [L [ K[ J[ H[ M[ N[ O[ P

dSþ
0 ¼ A[ F[ J[O [ B[ E [K [ N[C [D[ L [M

dS  
1 ¼ M [ N [ O [ P, dS2 ¼ L [ K [ J [ H, dS3 ¼ D [ E [ F [ G

dSþ þ þ
1 ¼ C [ D [ L [ M, dS2 ¼ B [ E [ K [ N, dS3 ¼ A [ F [ J [ O

þ
dS
0 \ dS0 ¼ D [ E [ F [ L [ K [ J [ M [ N [ O

H ðY0 jX0 Þ ¼ H(A) + H(B) + H(C), H ðX0 jY0 Þ ¼ H(G) + H(H) + H(P)

H ðY1 jX0 Þ ¼ H(C), H ðY2 jX0 Þ ¼ H(B), HðY3 jX0 Þ ¼ H(A),

H ðX1 jY0 Þ ¼ H(P), H ðX2 jY0 Þ ¼ H(H), H ðX3 jY0 Þ ¼ H(G)

H ðY1 Þ ¼ H(C) + H(D) + H(L) + H(M), H ðY2 Þ ¼ H(B) + H(E) + H(K) + H(N),

H ðY3 Þ ¼ H(A) + H(F) + H(J) + H(O), H ðX1 Þ ¼ H(M) + H(N) + H(O) + H(P),

H ðX2 Þ ¼ H(H) + H(J) + H(K) + H(L), H ðX3 Þ ¼ H(D) + H(E) + H(F) + H(G)
There are 15 subsets of differential sample space dS0 ¼ dSþ 
0 [ dS0 . For the N-sector economy that number would be N ðN þ 2Þ

Each trial of the overall selection experiment may have therefore N 2 different
outcomes, each occurring with probability qi j ði; j ¼ 1, 2, 3,  ,N Þ. On the analogy
of Shannon’s formula (1.1) it must follow that all entropy per trial “stocked” in
þ
overall differential sample space dS0 [ dS0 must be equal to

X
H ð X 0 [ Y0 Þ ¼  qi j  log qij (2.7)
i;j

This is entropy reassembled in the course of executing the overall statistical


experiment on (t,t + dt).4 Equation (2.7) has been given by Shannon in his seminal

4
That formula (2.7) has a structure equivalent to that of formulas (1.1) need not surprise. Its
justification is based on the same argument that justifies (1.1). We will discuss that justification in
Chap. 4.
38 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

paper (Shannon and Weaver 1963, page 21). Note that Zdt  H ðX0 [ Y0 Þ is the
surface area (entropy) of differential sample space dS0 in the Venn diagrams of
Figs. 2.2, 2.3, 2.4 and 2.5.
The process of overall selection and reassembly of Zdt  H ðX0 [ Y0 Þ is attended
by a concurrent portion Zdt  H ðX0 \ Y0 Þ of assembled inflow and assembled outflow
þ þ
of dS 
0 \ dS0 , the intersection of dS0 and dS0 . The assembly of Zdt  H ðX0 \ Y0 Þ is
the intersection process by which the entropy of that common portion is transferred
from the past into the future. We shall call the latter process entropy transmission or
exchange. The area that dSþ 
0 and dS0 have in common in Fig. 2.3 “stocks” an
entropy flow Zdt  H ðX0 \ Y0 Þ. This common area is the intersection of the differ-
ential set of inflow events and the differential set of outflow events. The entropy
Zdt  HðX0 \ Y0 Þ of this set is also called transmission (after Shannon). The termi-
nology clarifies exactly what it does: transferring information/entropy from the past
into the future. We shall define the rate of transmission γ as the quotient of
transmission per unit of time and per unit of joint capacity C0 :

Z  H ðX0 \ Y0 Þ
γ¼ (2.8)
C0

We may interpret transmission/exchange as putting entropy in a particular state


by “borrowing, respectively lending” an equal amount of entropy in a particular
state simultaneously. Exchange is the creation/annihilation of entropy in exchange
for money. The counter emergence of money is like the annihilation/creation of a
virtual sample of entropy in a preliminary balancing state of existence.5 Entropy
and its simultaneous counterpart of virtual money form together an indissoluble
pair within the transmission domain. They reflect the “origination” of financial
revenue and the “annihilation” of financial cost, which is accompanied by the
exchange of money (financial entropy) for entropy. We shall be concerned with
that subject in Chaps. 5, 6 and 7. We shall further discuss overall selection and
transmission/exchange at a more detailed level in Sect. 4.5.
Inflow selection and outflow selection are restricted to events in limited sub-areas
of overall differential sample space, i.e. to events in dS 0 , respectively to events in
dSþ0 . However since dS 0 is the union of dS 
0 and dS þ
0 and the latter two subsets
overlap, inflow and outflow selection result in double counts of entropy annihilating
þ
and entropy originating. Zdt  HðdS 0 \ dS0 Þ is shared by the reassembled entropy
þ
Zdt  HðX0 Þ of dS0 and by the reassembled entropy Zdt  HðY0 Þ of dS0 . Note from
 þ
Figs. 2.4 and 2.5 that overall sample space dS0 [ dS0 covers the area total of the
þ þ
separate areas of dS 
0 and of dS0 minus the area of the intersection dS0 \ dS0 . Thus

     þ   
H dS þ þ
0 [ dS0 ¼ H dS0 þ H dS0  H dS0 \ dS0 (2.9)

5
The concept “virtual sample” has been deliberately chosen here as it appears to play a similar role
as a virtual particle in physics: it does not have an independent existence of itself.
2.2 Overall Selection, Transmission and Exchange, Conditional Entropy 39

 þ
 HðdS 0 [ dS 0 Þ can also be stated as the sum of the entropy  þ transmission
þ
H dS0 \ dS0 per trial, the conditional entropy inflow HðdS
 
0 dS0 Þ ¼ HðX0 jY0 Þ
þ 
per trial of X0 given Y0 and the conditional entropy outflow HðdS0 dS0 Þ ¼ HðY0 jX0 Þ
per trial of Y0 given X0 :
    þ  þ    
H dS þ   þ
0 [ dS0 ¼ H dS0 dS0 þ H dS0 dS0 þ H dS0 \ dS0 (2.10)

We will encounter other (conditional) forms of inflow and outflow. We list here
four different forms of inflow and outflow of an economic sector Si :
 
• Unconditional inflow of the sector Si : Xi ¼ Zdt  H ðXi Þ with HðXi Þ ¼ H dS i

   þ  inflow of the sector Si : Xi ¼ Zdt  H ðXi jY0 Þ with H ðXi jY0 Þ ¼
• Conditional
H dSi dS0
 
• Unconditional outflow of the sector Si : Yi ¼ Zdt  H ðYi Þ with HðYi Þ ¼ H dSþ i

   outflow of the sector Si : Y i ¼ Zdt  HðYi jX0 Þ with H ðYi jX0 Þ ¼
• Conditional

H dSþ dS
i 0

 þ
These conditional entropies are formally defined in Appendix B. dS i dSj is that
portion of the subset dSi in the Venn diagram that it does not have in common with
þ 
dSþ
j . Likewise dS j dS þ
i is that portion of the subset dSj that it does not have in
 þ þ  þ
common with dS 
i . Clearly dSi dSj , dSj dSi : and dSi \ dSj do not overlap one
another.
þ
The financial consequences of selection manifest themselves within  dS0 \ dS0 .
þ 
As an example of conditional differential subsets, consider dS1 dS2 in the Venn
 
diagram of Fig. 2.4. We claim that dSþ  þ
1 dS2 ¼ B [ E. To see this, note that dS1 and
 
dS2 have the subset D in common. Hence since the condition is that dS2 is certain,
the probability of selecting any subset of dS2 is equal
 to 1 implying that the subset D
þ 
of dSþ contributes the entropy  log 1 ¼ 0 to dS 1 dS2 . That is, D is a null subset of
1
þ 

þ 
dS1 dS2 . What rests is dS1 dS2 ¼ B [ E.□
We are dealing with economic activity as the process of executing statistical
experiments of selection.
Clearly, the probability of an inflow sample to annihilate in state i within sample
space dS 0 on ðt; t þ dtÞ is λi ¼ H ðXi Þ=H ðX0 Þ and the probability of an outflow
sample to originate in state j within sample space dS 0 on ðt; t þ dtÞ is
μj ¼ H ðYi Þ=HðY0 Þ. That is,
 
H ð Xi Þ H Yj
λi ðtÞ ¼ ; μj ðtÞ ¼ for i; j ¼ 0; 1, 2, 3,  ; N (2.11)
H ð X0 Þ H ðY0 Þ
  þ
With the introduction of conditional entropy inflows H dS dS and condi-
 þ  i 0

tional entropy outflows H dSi dS0 we must be aware that these flows offer a range
40 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

   þ
of candidates, additional to H dS
i and H dSi , for the definition of the economic
variables such as consumption, investment, wages and entrepreneurial depreciation.
Our task is to find out what the definitional assignments of these flows to the
considered conditional and unconditional entropy inflows and outflows should be.
We cannot solve this puzzle immediately. We need much more mathematical
reasoning to come to grips with it.

2.3 Selection in Non-differential Sample Space


of the Multi-sector Economy

Inflow selection in differential sample space dS 0 is a process of selecting (i.e.


assembling) Zdt samples from non-differential sample space S0 randomly during
ðt; t þ dtÞ with the aim to rearrange and reorder (i.e. to reassemble) them for
purposeful reallocation of entropy into dS 0 . Let the assembled entropy of the Zdt
inflow-samples drawn from non-differential sample space S0 while selecting during
ðt; t þ dtÞ be Hm per sample. The reassembly of these samples
P in differential sample
space dS 0 effectuates the entropy inflow H ðX0 Þ ¼  i λi log λi per sample so that
agents exploit a surplus per sample of assembled entropy Hm over reassembled
entropy H ðX0 Þ on the selection
P interval (t,t + dt).
Zdt  H ðX0 Þ ¼ Zdt  i λi log λi is a measure of value of the inflow. It is also a
measure of the uncertainty that economic agents face as they decide
decommissioning economic equipment, P sources and resources. In this respect
greatest uncertainty is attained if  i λi log λi is at its maximum. This maximum
is log N and it is easily seen that this maximum is attained for λi ¼ 1=N . That is,
X
H ð X0 Þ ¼  λ
i i
log λi  log N

What exactly does it mean if uncertainty is at its maximum log N with λi ¼ 1=N?
Well, this reflects the situation that economic agents will not gather more than the
very minimum of knowledge from the selection decisions they take all the time on
the selection interval (t,t + dt). Such minimum reflects the complete lack of
knowledge of the selecting agents. With this in mind recall that inflow selection
is a process of selecting (i.e. assembling) Zdt samples from non-differential sample
space S0 randomly during ðt; t þ dtÞ with the aim to rearrange and reorder (i.e. to
reassemble) them for purposeful reallocation into differential sample space dS 0 . If
there is maximum uncertainty with respect to this achievement, this implies that the

surplus of assembled entropy Zdt P  Hm of the Zdt unordered samples from S0 over
reassembled entropy  Zdt  i λi log λi of the reordered samples within dS 0
vanishes. That is, if there is maximum uncertainty,
X X
Hm þ λ log λi ¼ 0 resulting in Hm ¼
i i
1
iN
log N with λi ¼ N1
2.3 Selection in Non-differential Sample Space of the Multi-sector Economy 41

It follows that Hm ¼ log N. This implies that the assembled Zdt samples from S0
will always get selected each with equal probability 1=N during ðt; t þ dtÞ
irrespective of the state in which they reside. Else the surplus of assembled over
reassembled entropy can never become zero.
We are thus led to the conclusion that samples from non-differential sample
space S0 are each selected (i.e. assembled) with elementary probability 1=N
irrespective of state in case we are dealing with the statistical experiment of inflow
selection.
This was as far as inflow selection is concerned. For outflow selection equivalent
reasoning applies. For sake of completeness and because of the importance of the
argument we will deal with this in the same detail of argumentation as above for
inflow selection.
Outflow selection in differential sample space dSþ 0 is a process of selecting (i.e.
assembling) Zdt samples into non-differential sample space S0 randomly during
ðt; t þ dtÞ with the aim to rearrange and reorder (i.e. to reassemble) them for
purposeful reallocation of entropy into dSþ 0 . Let the assembled entropy of the Zdt
outflow-samples drawn from non-differential sample space S0 be Hmþ per sample.
þ
The reassembly of these samplesP in differential sample space dS0 effectuates the
entropy outflow HðY0 Þ ¼  i μi log μi per sample so that agents exploit a surplus
per sample of assembled entropy Hmþ over reassembled entropy HðY0 Þ on the
selection interval (t,t + dt).
P
Zdt  HðY0 Þ ¼ Zdt  i μi log μi is a measure of value of the outflow. It is also a
measure of the uncertainty economic agents face when they decide commissioning
economic equipment,
P sources and resources. In this respect greatest uncertainty is
attained if  i μi log μi is at its maximum. This maximum is log N and is attained
for μi ¼ 1=N . That is,
X
H ð Y0 Þ ¼  i
μi log μi  log N

What exactly does it mean if uncertainty is at its maximum log N with μi ¼ 1=N?
Well, this reflects the situation that economic agents cannot gather more than the
very minimum of knowledge from the selection decisions they take all the time on
the selection interval (t,t + dt). Such minimum reflects the complete lack of
knowledge of the selecting agents. With this in mind recall that outflow selection
is a process of selecting (i.e. assembling) Zdt samples into non-differential sample
space S0 randomly during ðt; t þ dtÞ with the aim to rearrange and reorder (i.e. to
reassemble) them for purposeful reallocation into differential sample space dSþ 0 . If
there is maximum uncertainty with respect to this achievement, this implies also
that the surplus of assembled entropy Zdt  Hmþ of the unordered samples from S0
P
over reassembled entropy  Zdt  i μi log μi of the reordered samples within dSþ 0
vanishes. That is, if there is maximum uncertainty,
X X
Hmþ þ μ log μi ¼ 0 resulting in Hmþ ¼
i i
1
iN
log N with μi ¼ N1
42 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

and it follows that Hmþ ¼ log N. This implies that the assembled Zdt samples from S0
will always get selected each with probability 1=N during ðt; t þ dtÞ irrespective of
the state in which they reside. Else the surplus of assembled over reassembled
entropy can never become zero.
We are thus led to the conclusion that samples into non-differential sample space
S0 are each selected (i.e. assembled) with elementary probability 1=N irrespective of
state in case we are dealing with the statistical experiment of outflow selection.
Furthermore the assembled entropy per sample from/into S0 during ðt; t þ dtÞ is the
same for inflow selection and outflow selection Hm ¼ Hmþ ¼ Hm :

Hm ¼ Hm ¼ Hmþ ¼ log N (2.12)

Can agents gather more information from/into non-differential sample space S0


than they get from the statistical reassembly in differential sample spaces dS 0 and
dSþ0 ? No they can’t, because the only thing agents do while assembling in S0 is
selecting samples that annihilate and/or originate on ðt; t þ dtÞ. That is all they do
and that is not enough to get more information. While they do so they “forget” to
select the great majority of samples that do not annihilate and do not originate
during ðt; t þ dtÞ. Agents do not select more than a differential number of samples
during the available time-interval ðt; t þ dtÞ, far from sufficient to select the entire
entropy content of S0 . No more information about S0 is gathered than about the
information of its differential decrease and increase. Thus we must conclude that
the selection of samples from non-differential sample space S0 takes place only
within the context of differential selection of inflow and outflow. We have argued
above that in this context a sample of S0 is selected with elementary probability 1=N
irrespective of whether it annihilates or originates and we conclude therefore that a
sample in non-differential sample space S0 is always selected (assembled) with
elementary probability 1=N .
Thus, in case of inflow selection as well as in case of outflow selection, the originally
disordered collections ofZdt samples are assembled from/intoS0 with probability ð1=N ÞZdt
in accordance with Boltzmann’s H-theorem. It follows that the entropy assembled
from/into S0 during ðt; t þ dtÞ is equal to  log ð1=N ÞZdt ¼ Zdt  log N for each of
the two experiments (inflow and outflow) and that on balance assembled entropy
does not precipitate nor evaporate within S0 during ðt; t þ dtÞ. It is only reassembled
entropy that causes the stock of entropy of S0 to change during ðt; t þ dtÞ.
Assembly is the process of collecting Zdt random samples from S0 during ðt; t þ dtÞ.
The entropy assembled from S0 in this way by inflow selection only or by outflow
selection only is Zdt  Hm ¼ Zdt  log N. This implies that the assembled entropy of Zdt
samples is the equivalent of Zdt  log N bits of entropy. (Note that assembled entropy
is only equal to the number Zdt of samples in case N ¼ 2, i.e. for the two-sector
economy). It follows that the entropy assembled per sample is equal P to log N, whereas
the entropy reassembled per sample P is equal to H ð X 0 Þ ¼  i λi log λi for inflow
selection, respectively H ðY0 Þ ¼  i μi log μi for outflow selection.
2.3 Selection in Non-differential Sample Space of the Multi-sector Economy 43

These findings have the following interpretation. Samples were or get stocked in
S0 before/after they are selected. Their assembled entropy during ðt; t þ dtÞ is then
log N per sample. After they have been reassembled the selected samples have
entropy H ðX0 Þ, respectively HðY0 Þ, in S0 .
The surplus of assembled entropy over reassembled entropy is
!
X
Zdt  log N  Zdt  H ðX0 Þ ¼ Zdt  log N þ λi log λi in case of inflow selection
i

and
!
X
Zdt  log N  Zdt  H ðY0 Þ ¼ Zdt  log N þ μi log μi in case of outflow selection
i

The difference of Zdt  ½log N  H ðX0 Þ and Zdt  ½log N  H ðY0 Þ is the net
growth dC0 of the entropy stock C0 ¼ HðS0 Þ of S0 :

dC0 ¼ Zdt½log N  H ðX0 Þ  Zdt½log N  H ðY0 Þ ¼ Zdt  ½H ðY0 Þ  HðX0 Þ

We have established that the probability of selecting a sample in non-differential


sample space is 1=N irrespective of the sector Si in which it resides. Thus, on behalf
of Boltzmann’s principle the state probability PrfSi g of Si is

 H ðSi Þ=log N  Ci =log N  Ci


1
PrfSi g ¼ N 1
¼ N ¼ 12 (2.13)

Clearly there are H ðSi Þ ¼ Ci bits of entropy stored in Si and H ðSi Þ=log N samples
stocked in Si . Each bit of the sector Si is assembled with probability 1=2.
However this does not imply that a statistical experiment in non-differential
sample space S0 can be executed involving the selection of all the samples stocked
in S0 because such experiment cannot be executed in real time. Agents will actually
only select Zdt samples of S0 in real time during the time-interval ðt; t þ dtÞ, i.e. Z
samples per unit of time, which is Z log N bits of S0 per unit of time. There is no way
for agents to select all the samples stored in S0 during the available time on ðt; t þ dtÞ.
This implies that generally

Ci 1

C0 N

We conclude that we can approach assembly/selection in differential sample


space either as a statistical process of selecting samples each carrying log N of
entropy or as a statistical process of selecting bits each carrying a single bit of
entropy.
44 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

2.4 Variation, Inheritance, Selection, Interactors/Agents,


Replicators, Selection Probabilities

As asserted in Sect. 1.6 of Chap. 1, I endorse the view expressed by Hodgson and
Knudsen that “an adequate explanation of economic evolution must involve the
three Darwinian principles of variation, inheritance and selection.” (Hodgson and
Knudsen 2006, pages 2, 5; Hodgson and Knudsen 2010, page 45). These three
principles form the cornerstone of biologic, social and economic evolution. “At a
high level of abstraction social and biologic evolution share the same general
principles” (Hodgson and Knudsen 2006, page 14). Thus, accepting that economic
evolution is based on the same general basic principles we must search for the way
of formalizing and interpreting these principles of variation, inheritance and selec-
tion in economic and social evolution.
This is the goal that H&K have set themselves and that is also the starting point
for the formulation of a genuine universal theory of economics in accordance with
the Shannon inspired line of argument I have put forward in the foregoing sections.
The ideas of Hodgson and Knudsen demonstrate a continual but consequent
transition of thought in the course of time. In a sense it resembles part of the related
process I went through since the late 1970s, when I got more and more dissatisfied
with the tenets of orthodox and mainstream economics. It is instructive to follow
this process. I shall therefore reflect and comment on it from my particular
background.
In his work on the evolution of institutional economics (Hodgson 2004) that
anticipates the jointly written papers of Hodgson and Knudsen, which deal with the
basic Darwinian principles of economic evolution, Hodgson affiliates himself
closely with the Veblian institutional account of the evolutionary process. He
makes a distinction between institutions on the one hand: the dynamic and complex
emergent survival structures that continually adapt in the course of time as a result
of evolutionary selection, and on the other hand: individuals, i.e. the agents that act/
select under the formal and informal rules, ideas and conceptions of the institutions
with which they are involved. In this Veblian conception of the economic evolu-
tionary process, replication (the copying process of the carriers of traits, habits,
routines, thoughts and complexity) and selection (of combinations of the carriers
that survive) are conceived as multiple-level processes governing both the devel-
opment and evolution of human institutions and human individuals (Hodgson 2004,
page 193). From the Veblian perspective the role of individuals on the one hand and
institutions on the other are irreducible to one another, but the evolutionary process
manifests itself in a variegated interaction of individuals and institutions. Hodgson
stresses the Veblian notion that the evolutionary process of replication and selection
is a process full of the continual unfolding of emergent properties. That is, it is a
“force” that continuously adapts to changing conditions and so creates ever new
combinations, ever novel forms of complexity and variety, ever changing
properties, causal chains, rules, order and conceptions of institutional nature.
Hodgson remarks that for a successful universal theory of selection it is required
2.4 Variation, Inheritance, Selection, Interactors/Agents, Replicators. . . 45

that we must make a distinction between Veblian individuals and/or structures/


institutions on the one hand and units of selection (replicators6) on the other.
Clearly, in the mathematically oriented vocabulary of selection that I enunciated
in previous sections the units of selection are either the samples or the bits. Thus we
may here already conclude that replicators, samples and bits are more or less
synonyms. Much of what H&K remark in this respect is in line with this close
identification. However not all of it. And this is reason why I will make now and
then a distinction between the three concepts and elaborate on the specific
properties that H&K attach to replicators just to discuss and dismantle the
differences of conceptions. Where there is interpretational difference I will mention
that and also argue that this difference of interpretation cannot be consistently
maintained so that eventually we must adopt the complete identification.
In line with the earlier exposition of Hodgson, H&K take institutions and
individuals on the one hand and replicators (or units of selection) on the other to
differ from one another. They candidate institutions as the interactors involved with
the process of selecting the replicators. In the later publication of 2010 (Hodgson
and Knudsen 2010) they appear to attach a broader meaning to the term institution,
while reserving the interactor as engaged in selection. Can we conclude here that
they identify interactors with agents who select, which responds to a more standard
idea of economic selection? Well, the model of selection they advocate on pages
165–167 (Hodgson and Knudsen 2010) definitely suggests so, although H&K avoid
to speak of selecting interactors. Perhaps they prefer to consider the interactors as
entities that interact, just where I would prefer to say that events interact. Further
H&K appear to restrict the use of the term interactor to human (social)
organizations in evolutionary interaction with their environment. In this conception
the environment is presumably not treated as another interactor itself, a view that I
consider untenable. There is really no necessity to demand that selection can only
one-sidedly be executed by live interactors/populations. If that would be the case
how could evolution ever have taken off with primitive populations sharing no
more intelligence and/or vital force than their “primitive” environment held?
Let us elaborate on the two parallel experiments of economic statistical inflow
and outflow selection, with the help of Figs. 1.1 and 1.2 if needed. This concentrates
on the two-sector model of evolution, but it can easily be generalized to the multi-
sector model. There is a statistical experiment at the inflow side (the inflow
selection experiment) where Zdt unordered bits are assembled to reassemble/
sacrifice Zdt  H ðX0 Þ ¼ Zdt  ½HðX1 Þ þ HðX2 Þ ordered bits during the time-interval
ðt; t þ dtÞ . There is also a statistical experiment of evolutionary selection at the
outflow side (the outflow selection experiment) where Zdt unordered bits are
assembled to reassemble/create Zdt  H ðY0 Þ ¼ Zdt  ½HðY1 Þ þ HðY2 Þ ordered bits
during ðt; t þ dtÞ. The latter with the aim to replenish (and even more than replenish)

6
The term replicator was first introduced by Dawkins as a synonym for the gene: the genetic
replicator (Dawkins 1976, 1984, 1988, 1995).
46 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

the loss of the reassembled sacrificed Zdt  H ðX0 Þ ¼ Zdt  ½HðX1 Þ þ H ðX2 Þ bits in
the course of production during ðt; t þ dtÞ.
The used Zdt  H ðX1 Þ bits reduce the stock of labor capacity of S1 . The created
Zdt  HðY1 Þ bits replenish/feed that labor capacity to provide for its needs. Labor
capacity is composed of C1 ¼ HðS1 Þ bits in state 1 that have accumulated up till
current time t. [See (2.3)]. This labor capacity is an entropy stock. Its selection,
whether of inflow or outflow character, is decided and executed by the laborers/
consumers. It is at the cost of the labor entropy stock when agents/laborers select to
execute labor and so use up labor capacity. It is at the benefit of the labor entropy
stock when agents/consumers select to consume and so contribute to creating labor
capacity.
The used Zdt  H ðX2 Þ bits reduce the stock of entropy representing entrepreneurial
capacity C2 ¼ H ðS2 Þ. The invested Zdt  H ðY2 Þ bits replenish/feed that entrepreneurial
capacity to provide for its needs. In this respect entrepreneurial capacity must
be considered to be the aggregate stock of bits in state 2 that has accumulated up till
current time t. This entrepreneurial capacity is an entropy stock. Its selection, whether
of inflow or outflow character, is decided and executed by the entrepreneurs/investors.
It is at the cost of the entrepreneurial entropy stock when agents/entrepreneurs select
to use up their entrepreneurial capacity for production, which is the cause of its wear
and tear. It is at the benefit of the entrepreneurial entropy stock when agents/investors
select to invest.7
I prefer to make here a more explicit semantic distinction between the samples of
selection and the agents who take the decisions to select those samples. Agents are
defined in accordance with the kind of decisions they take or with the kind of tasks
they undertake. That is,
• Investors are the agents who create entropy/value by investing.
• Consumers are the agents who create (labor) entropy/value by consumption.
• Entrepreneurs are the agents who annihilate entropy/value by the depreciation
of assets and by using up production inventories and supplies.
• Laborers are the agents who annihilate (labor) entropy/value by delivering labor
effort.
By taking selective decisions the agents add reordered entropy to or withdraw
reordered entropy from the unordered stocks of entropy they possess or represent

7
It is quite inevitable to make these connections. In fact: if agents/entrepreneurs select to use up
their entrepreneurial entropy, elementary logic and symmetry requirements demand that laborers
select to use up their labor entropy simply due to a related process of wear and tear of the labor
force. The ratio of this scheme of inflow selection is that the selective inflow of labor capacity
requires simultaneously the selective inflow of entrepreneurial capacity. The selected labor
entropy is what laborers wish to use up and the use of entrepreneurial entropy is what
entrepreneurs wish to be done when handling work. Clearly, the events of selecting, whether in
state 1 or in state 2, occur always at the same production-locations as well as simultaneously for
both selection parties (entrepreneurs and laborers). It has therefore all the requirements of a
statistical selection experiment of inflow.
2.4 Variation, Inheritance, Selection, Interactors/Agents, Replicators. . . 47

(the reordering is what we called reassembly). For investors and entrepreneurs this
is the stock of entrepreneurial entropy (capacity) of the investment sector. For
consumers and laborers this is the stock of labor entropy (capacity) of the consump-
tion sector (See Fig. 1.3 and the discussion in Sect. 1.9).
I consider the above division in classes of different agents as the most system-
atic. It provides for a satisfactory definition of agents. However, it is not essential to
allocate tasks to agents in this manner. One may just as well consider firms,
governments and institutions as decision taking agents. This is not the real problem
that we are facing here. The problem is how and by what mechanism the agents take
their selective decisions and how this can be described mathematically.
What follows from the above considerations is that the environment of biologic
evolution corresponds to the set S2 storing the entropy stock of entrepreneurial
capacity in the case of economic evolution. Where biologic evolution cherishes the
two-sector selective interaction between population and biotope (the environment),
the economic equivalent of that type of interaction is the interaction between labor
entropy and entrepreneurial entropy in respective order.
Although this correspondence is what makes Darwinism universally valid for all
kinds of biologic and social evolution, it is also a rather confusing classification
noticing that biologists and economists do not share a common vocabulary to
denote corresponding entities.
Let us now revert to the discussion of the model of evolutionary statistical
selection that Hodgson and Knudsen advocate. Does it fit in the above scheme
and in the affirmative how does it fit?
An important point that H&K claim is that the object of selection is a total of
available replicators (the units of selection) stocked in the interactors, because the
authors are aware that interactors host replicators (Hodgson and Knudsen 2010,
page 123). This corresponds with my observation in Sect. 2.3 of this chapter that
samples are stocked in the non-differential economy of S0 . Together with the
property that samples/replicators have a lifetime (the time they are hosted within
their interactor) this is part of the satisfaction of the third principle of Darwinian
evolution: the transmission (inheritance) of the information that the replicators
carry through time. It is at the end of their life that samples/replicators are selected
for inflow and cease existence. Then the information (entropy) they carry is used up
to serve producing new entropy (i.e. creating other samples/replicators that in turn
carry the information further). The interactor-inflow is formed by the samples/
replicators that are selected to be used up. The interactor-outflow is formed by the
samples/replicators that are selected to be produced.
It is however not completely clear whether H&K treat the environment as
another interactor, i.e. as a collective of economic agencies that participates in
selecting like the labor force does. I think they do not. I will demonstrate that the
denial of the environment as an interactor leads to a stalemate in realizing the
Shannon-Darwin time compression transition.
In accordance with the disputable idea that the environment is not an interactor,
Hodgson and Knudsen regard an interactor as an entity with boundaries between
itself and the environment (Hodgson and Knudsen 2010, pages 166, 240). Thus they
48 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

do consider investors/entrepreneurs with their institutions as a collective of


interactors. But they do not regard them as the equivalent of the economic environ-
mental condition for consumers/laborers. Presumably H&K consider also laborers/
consumers to be part of that collective of interactors.
That uneven treatment of interactor and environment is at variance with Figs. 1.1,
1.2 and 1.3, which sustain the notion that the entrepreneurial environment is an
interactor (or a collective of interactors) with which laborers/consumers interact.
In their work of 2010 (Hodgson and Knudsen 2010) Hodgson and Knudsen
elaborate their ideas somewhat further with respect to this matter. They assume the
environmental condition to express itself in one or more environmental states
(Hodgson and Knudsen 2010, pages 165–167 and pages 239, 240). Well
indeed—within the context of a statistical selection theory—it is necessary to
discern between different states of selection. Although it is not completely clear,
they appear to suggest with their model that only the environment possesses
different states of selection and that interactors do not possess a state of selection.
Interactors are the selecting agents. They select units of selection (replicators) condi-
tional to a particular environmental state.8 That is what they suggest more or less. They
introduce pi;j as the conditional probability that a replicator (entity) residing in the i-th
interactor will cease to exist (expire) if a replicator (entity) residing in the j-th interactor
will cease to exist, conditional to a given environment E. This is a weird and incorrect
model of selection. Moreover it is restricted to inflow selection only. The definition of
probabilities of outflow selection, e.g. the probability μi of a replicator to originate in
the i-th interactor during (t,t + dt), is not considered while it plays a prominent role in
dealing with outflow selection. Moreover, the significance of pi;j defined in the
manner of H&K is not clear. First of all selection is always between states and if
they speak of the selection of an i-th and j-th interactor, they evidently select indices
i and j as representing states of selection, which clashes with H&K’s idea that only
the environment has different states. Secondly, mention that the replicator must
expire on a very small time-interval (t,t + dt) is not made, while at least a common
time-interval of selection needs to be discerned during which events of expiration
and origination occur. Moreover pi;j as defined by H&K does not clearly fit in the
generalized Shannon selection scheme, for which only the following probabilities
of inflow and outflow are relevant (See also Appendix B for the additional listing of
the most important relationships):
• the probability λi that a sample expires in state i on (t,t + dt),
• the probability μj that a sample originates in state j on (t,t + dt),
• the probability λðij jÞ that a sample expires in state i on (t,t + dt) conditional to
another sample originating in state j on (t,t + dt),
• the probability μðjjiÞ that a sample originates in state j on (t,t + dt) conditional to
another sample expiring in state i on (t,t + dt),

8
Note that any statistical selection theory demands that there is more than one state of selection,
for if there were only one, there is nothing to select. Hence it is required that there are at least two
different environmental states if interactors lack states.
2.4 Variation, Inheritance, Selection, Interactors/Agents, Replicators. . . 49

• the unconditional joint probability qi j that a sample expires in state i on (t,t + dt)
and another sample originates concurrently in state j on (t,t + dt).
The following general rules hold:
1. The event of expiration of a sample in state i and the event of expiration of
another sample in state j are statistically independent. Likewise the event of
origination of a sample in state i and the event of origination of another sample
in state j are statistically independent. Such independent events are selected
sequentially, i.e. in the process of executing two successive singular trials, one
with the outcome in state i, the other with the outcome in state j.
2. The event of expiration of a sample in state i and the event of concurrent
origination of another sample in state j are statistically dependent. This implies
þ
that the subsets of dSi and dSj overlap (See the Venn diagrams of Figs. 2.2, 2.4
and 2.5) for any i; j ¼ 1; 2, . . . . , N. See the discussion in Sect. 2.2.
Rule 2, which states statistical dependence between the event of expiration of a
sample and the concurrent event of origination of another sample assembled from/
þ
into sample space dS 0 \ dS0 and reassembled from/into overall sample space dS0 is
a very crucial one. If the events of origination on (t,t + dt) were not statistically
dependent on the events of expiration on (t,t + dt) and conversely, evolution will
not be possible as explained in Appendix F.9
Rule 1 states the absence of statistical interaction between the different succes-
sively ordered trials (and micro-events) of inflow selection on (t,t + dt). This is the
bottleneck in H&K’s model of inflow selection. It follows from rules 1 and 2 that
pi;j ¼ λi if it were not that H&K define the selection of the two replicators to be
executed conditional to the state of the environment. What this environmental
condition exactly means is not clear. It does not affect the probability of selection
if the condition is the event of expiration of another replicator in one of the states
the environment may possess. On the other hand it does affect the probability of
selection if the condition is the event of origination of another replicator in one of
the states the environment possesses. The measure of interaction depends on the
environmental state of replicator origination.
Presumably Hodgson and Knudsen had another idea in mind. They might have
assumed that their model of inflow selection reassembles the entropy outflow of the
collective of interactors (including the environment?), in the manner of Shannon’s
formula for the joint entropy H ðX0 [ Y0 Þ per trial of both inflow sequence hX0 i and
outflow sequence hY0 i of the communication channel:
X
H ð X 0 [ Y0 Þ ¼  pi;j  log pi;j ?
i;j

9
It is recommended to read Appendix F after Sect. 4.1 has been dealt with.
50 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

Unfortunately this formula does not reassemble entropy outflow if pi;j refers
to the occurrence of the expiration of one replicator in state i conditional to
the expiration of another in state j. The correct expression for the joint entropy
H ðX0 [ Y0 Þ is (2.7), which we have discussed previously in Sect. 2.2.
Another critique on H&K’s inflow selection model is: Why should the stock of
replicators that form the non-environmental interactors demonstrate evolutionary
growth conditional to the state(s) of an external environment/non-interactor? Of
course a surplus of selected outflow over selected inflow will cause the selecting
interactors to grow. However, net growth can only be maintained if there is a
continuous update of the environmental conditions to ever more favorable environ-
mental conditions in the course of time. This requires the entropy of the environ-
ment to change/evolve as well. Well, why should that happen spontaneously? The
entropy of the environment can only evolve if it is also object of evolutionary
selection. This implies that the environment is a replicating stock of replicators
which is also object of inflow and outflow selection. But such a stock cannot evolve
relative to its environmental conditions only. Its outflow can only evolve in
interaction with inflow of all interactors outside and inside the environment. This
requires that we must deal with the evolution of environment and non-
environmental interactors in a symmetrical co-evolutionary manner. In summary
the environment must be an interactor as well. In this connection it is also necessary
to grant states of selection to the collective of non-environmental interactors just as
H&K furnished the environment with states. This implies that we have again
arrived at the Shannon-inspired interpretation of Darwinian selection as suggested
by Figs. 1.1, 1.2 and 1.3.
In conclusion, Hodgson and Knudsen make an untenable separation between
interactors and the environment by treating the environment as an entity that is
something different than an interactor. In the way H&K suggest to apply Shannon’s
theory to economic evolution, it cannot be done.
Replicators are stocked within interactors. If replicators are selected they must
be created or used up in one of the available particular states. For the two-sector
model of evolutionary selection we have the minimum number of states, which is 2.
For the multiple sector model of evolutionary selection there are more than two
states and this implies that a replicator will be selected while coming to reside or
ceasing to reside in one of those multiple states. Replicators are similar but they
may vary in state from one other. Else selection would be impossible. If selected for
outflow in state j, they are created in that state and selected to join the stock of
replicators that reside in state j. This stock is nothing else than the entropy H Sj
of the interactor Sj in state j. Likewise if on inflow selection a replicator is selected
in state i, it is used up and ceases existence in the interactor Si that stocks the
replicators residing in state i.
It follows that we have just as many states as there are different sets of interactors.
It is not clear whether H&K realize that mathematical necessity. They consider
indeed groups of different interactors (group selection) and the possible selection of
multiple “component” replicators existing on different levels, but what they intend to
state with this is not very clear (Hodgson and Knudsen 2010, page 151). Do they
2.5 Bitpulses and the Definition of the Unit of Selection 51

suggest that a replicator may change state during its lifetime and so assume different
levels of state during its lifetime? This cannot be the case because a replicator must
maintain the same state all the time during its existence as we have discussed before.
In Sect. 2.6 we will give other arguments of mathematical necessity why replicators
must adhere to the same state during the time they exist.

2.5 Bitpulses and the Definition of the Unit of Selection

The subject of defining the units of selection is perhaps the most difficult topic to
bring to a successful end. It must have a solution that links the Darwinian world of
evolution with the rigorous world of the mathematics of selection. The subject is
surrounded by many pitfalls on both sides of the coin. The problem is not a typical
economic (or social) problem. Biologists have also been heavily involved in a fierce
dispute about the units of biologic selection: genes, genotype, phenotype, a combi-
nation of genes, individuals, even the complete population or whatever else that has
been proposed to be the subject or object of selection. The question is still unsettled
and cause of much confusion among evolutionary biologists. For the greater part
the contrasting views can be reduced to unclear ideas of what the selection process
is all about. Once the selection process has been delimited mathematically accu-
rately and consistently, there is only one way of defining the unit of selection: a bit
of entropy or, which boils down to the same, a sample of assembled entropy log N
stored or to be stored in non-differential sample space S0 and reassembled in the
applicable differential sample space in the course of selection on the infinitesimally
small time-interval ðt; t þ dtÞ.
In the papers of 2006 and 2007 written jointly by Hodgson and Knudsen (2006,
2007), the authors contend that for biologic evolution the Darwinian mechanism of
replication by genetic inheritance warrants the transfer of complexity and variety
from the past into the future. We have already argued in the two preceding sections
that a similar process of replication explains the transfer of complexity and variety
in the case of economic (social) evolution. The conceptualization of the samples/
replicators/bits involved is a key issue in understanding economic evolution.
Hodgson and Knudsen (2007, page 53; 2010, pages 77, 122 and following) opt for a
quartet of features that are required for a suitable definition of the replicator concept:
1. Causal implication, which implies the ability to produce copies.
2. Similarity, which implies that the replicator copy is similar to the copied
replicator.
3. Information transfer, which implies that the generated copy carries and transfers
the same generative information as the copied replicator.
4. (Conditional) generative replication, which implies the generative capacity10 of
each replicator to replicate under initializing conditions.

10
Not to confuse with the conception of capacity as defined in Sect. 2.1.
52 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

Entropy
content

logN
Sample/replicator
in state i
0
time
t–t t+q
random random
instant of instant of
origination expiration

t t+dt

Fig. 2.6 The image of the sample/replicator.


A replicator exists from its instant t–τ of origination (moment of outflow selection) until its instant t + θ of expiration (moment of inflow
selection). During its existence it is always in the same state i. Different samples/replicators have different random instants of origination
and expiration and may be in different states, but during their existence each sample/replicator holds the same entropy content because of
the Darwinian principle of similarity. The entropy content originates at time t–τ and is used up at time t + θ.
(t,t + dt) is the current time-interval of selection. Only the samples/replicators that expire during (t,t + dt) and the samples/replicators that
originate during (t,t + dt) are selected as a result of inflow selection and outflow selection respectively. The sample/replicator in the above
drawing is not selected during (t,t + dt) because its instants of origination and expiration fall outside that time-interval of selection. It
remains stocked in the i-th interactor during (t,t + dt)

In this and the following section we shall first discuss in more detail to what
mathematical interpretations this leads with regard to the samples/replicators of
evolution. In the previous section we noticed that samples/replicators are or get
stocked in interactors during the time they exist. The interactor within which they
are stocked determines their state of selection.
This results in a universal time-dependent representation of a sample/replicator
as depicted in Fig 2.6. A sample/replicator exists when it carries information, order,
complexity, emergent properties for future transference to comply with the third
feature listed above. The latter process can only occur if a sample/replicator
possesses entropy content. Prior to its time instant t  τ of origination the sample/
replicator does not exist and we may thus also contend that its entropy is zero then.
Likewise posterior to its time instant t þ θ of expiration the sample/replicator does
not exist anymore and its entropy is zero as well. However from its moment of
origination until its moment of expiration the sample/replicator exists and possesses
positive entropy content. Let me now list the following three properties of a sample/
replicator that is the subject/object of selection of a particular experiment of
statistical selection:
(a) The entropy content is the same for all samples/replicators during their exis-
tence, irrespective of the state in which they are selected.
(b) The entropy content is constant during the time a sample/replicator exists. It
does not vary with the passage of time.
(c) A sample/replicator remains in the same state during its existence.
2.5 Bitpulses and the Definition of the Unit of Selection 53

Entropy
content

logN

sample/replicator?
0
time
t–t t+q
random random
instant of instant of
origination expiration

t t+dt
the current
time-interval
of observation

Fig. 2.7 The irrelevant and inconsistent image of a sample/replicator

Property (c) holds generally for any economy. It has already been discussed and
motivated by requirements of selection consistency in the previous sections. We will
bring forward another forceful argument in favor of this property in Sect. 2.6.
Properties (a) and (b) are perhaps less self-evident but they are a necessary conse-
quence of the second and third feature listed above. The argument is as follows.
Suppose that property (a) does not hold good. As a consequence a copy originating
within any particular state will generally not carry and transfer the same entropy as
the copied sample/replicator. This is incompatible with the second and especially the
third feature listed above. Let us then suppose that property (a) holds true but that
property (b) does not hold true. Since property (a) holds good and the third feature
listed above must be satisfied, all samples/replicators will hold the same entropy at
the moments they are reassembled, i.e. at the time instant t  τ they originate and at
the time instant t þ θ they expire, irrespective of the state they get in, respectively
were in. This implies that the entropy of a sample/replicator is only fixed at a
universal constant value at t  τ and at t þ θ but varies (or may vary) with the
passage of time for the other time instants in between. I have depicted this situation in
Fig. 2.7. In this figure the entropy of any sample/replicator is assumed to differ from
the constant value it has at the instants of origination and expiration. Well this
dynamic pattern of varying entropy cannot be maintained for two conclusive reasons:
• Mark that only the entropy content at the selection moments t  τ and t þ θ of the
various samples/replicators determines the inflow and outflow of the economy.
Hence, the variation of entropy content of a sample/replicator at other time
instants than its initial and final moments of existence is totally irrelevant.
54 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

Content of entropy at intermediate time instants is not selected and hence there
are no economic events that result from it or that have caused it. Moreover the
assumed variation of entropy content does not affect the transference of infor-
mation and complexity in the course of time. Consequently, if the character of
the variation of entropy content of a sample/replicator originating at t  τ and
expiring at t þ θ is irrelevant, why not subscribe to the rectangular course it
might take?
• Another even more powerful reason is that the varying course of entropy content
in Fig. 2.7 demonstrates that also portions of entropy of the sample/replicator
originate and are used up at intermediate moments during the time it exists. This
implies that we can split up our original sample/replicator in sub-samples/
replicators that originate and expire during the time the original sample/
replicator exists. Consequently, there are events of entropy origination and
expiration at moments where they were formally mathematically absent.
Clearly, this is not a mathematically consistent way of describing evolutionary
selection. In conclusion, samples/replicators can only possess the same constant
entropy content during their entire life-time.
Having established the rectangular pattern depicted in Fig. 2.6 for any sample/
replicator, we must now conclude that each sample/replicator is the extension in
time of a constant content of entropy as long as it exists in accordance with our
contention in Sect. 2.3. We have established there that a sample has entropy log N.
However we are free to decide whether we wish samples each of log N bits as our
unit of selection or wish bits each stocking a single bit of entropy as our unit of
selection. It does not matter. We will often adhere to the bit as our unit of selection
in the sequel, but sometimes it is more convenient to use a sample of entropy log N
as our unit of selection.
If we choose for a bit as our unit of selection, each unit of selection carries a
single bit during its lifetime. Since the unit of selection has a lifetime it must be
stocked in the state i it is and during the lifetime it exists. This implies that non-
differential sample space S0 hosts all bits with a lifetime. As such these bits are not
yet selected but may be selected during ðt; t þ dtÞ. Pending selection this stock of
entropy represents assembled entropy rather than reassembled entropy, because as
long as bits are not selected on ðt; t þ dtÞ they remain hosted in S0 . Reassembled
entropy is the total of those bits that get reassembled in differential sample space.
However the number of bits in differential sample space is infinitesimally small in
comparison with the number of bits in non-differential sample space S0 . Hence the
bits of S0 that hold reassembled entropy form only a negligible differential portion
of the total non-differential entropy stocked in S0 . Reassembled entropy in S0 can
therefore be neglected relative to the rest of the stock in S0 . In conclusion the
economy S0 hosts all the bits currently existing and generally the sector Si hosts in
fact all Ci samples/replicators that are in state i.
In sum bits must have the dynamic form of rectangular pulses extending in time,
each pulse carrying the constant entropy content of one bit during its existence and
0 bits when it does not exist. We may just as well then replace the term bit as object
2.6 The Uniqueness of State of a Bitpulse 55

of selection by the term bitpulse carrying one bit of entropy in the course of time.
Thus the unit of selection is the equivalent of a single bitpulse carrying one bit of
entropy during its existence.
It is important to realize that the instants t  τ of origination and the instants t þ θ
of expiration of sets of bitpulses are continuous random variables. At observation
time t it is of course impossible to know these instants in an exact determinist manner
for any of the bitpulses. Statistical selection theory can only establish relationships
between the aggregates of an economy. It does not predict how individual constitu-
ent entities at the micro-level behave deterministically. On the basis of the
relationships between the aggregates we can however derive the probability
distributions of the random variable τ of current lifetime and the random variable
θ of excess lifetime for each of the aggregate inflow and outflow variables. We shall
consider this subject in Chap. 5. It will deliver new starting-points for analysis of the
money economy and of the relationships between transmission and price inflation.
It is clear that the rectangular bitpulse of Fig. 2.6 shares the four features that
H&K discern in line with the three principles of Darwinian selection.
Moreover interactors can be conceived as holding stocks of information
(or stocks of many bitpulses). Interactors (otherwise than bitpulses) hold different
quantities of entropy varying and often growing in the course of time. On the other
hand bitpulses vary with respect to their instants of origination and expiration and
each of them stocks just a single bit of entropy during the time it exists.

2.6 The Uniqueness of State of a Bitpulse

We have already discussed that the Shannon-Darwin transition operation requires


that a bitpulse stays in the same state during the time it exists [property (c) of a
replicator listed in Sect. 2.5]. Well, let us nevertheless consider the situation that a
bitpulse exists that holds a portion of its entropy in state i and the remaining portion
of its entropy in state j ðj 6¼iÞ during the time it exists. This situation has been
depicted in Fig. 2.8 with A=B bits of entropy in state i and ð1  A=BÞ bits of entropy
in state j. Well the total constant content of entropy [here A=B þ ð1  A=BÞ ¼ 1 bit]
of a bitpulse is a relative measure on behalf of the principle of evolutionary
homogeneity. We may just as well assume that this constant level is B times as
large if expressed in other entropy bits that are B times as small. Herein B is a
number that is the same for each bitpulse and that does not vary as a function of
time. The much smaller choice of the unit of entropy effectuates that B times as
many bitpulses exist (I have called them sub-bitpulses in Fig. 2.8) that take over the
role of the former bitpulse. There are now, instead of only one bitpulse, A sub-
bitpulses in state i and B  A in state j, all of them satisfying the property that they
are in the same unchanging state during the time they exist. Thus the complete
replacement of the old bitpulses, each by B sub-bitpulses, demonstrates that we can
always choose the unit of entropy so small that property c) of Sect. 2.5 will be
satisfied. Since A=B need not be a rational number, it follows that generally we must
56 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

Entropy
content B
in small
bits (B–A) sub-bitpulses in state j
one small bit

A
sub-bitpulses in state i
0
time
t–t t+q
random random
instant of instant of
origination expiration

t t+dt

Fig. 2.8 The uniqueness of state of a bitpulse.


Suppose a bitpulse is not in a single unique state during its existence: a portion A/B is in state i and the rest (B–A)/B of it is in state j (j 6¼ i).
The replacement of the unit of entropy by a unit of entropy that is B times as small effectuates the replacement of each bitpulse by many sub-
bitpulses each residing in a single state only, as required. This demonstrates the necessity of choosing the dimension of the bit so as to hold
an infinitesimally small portion of entropy in order to rule out that a single bitpulse might reside in more than one state during the time it
exists

choose the unit of entropy infinitesimally small so that the approximation of the old
bitpulses by infinitely many of B sub-bitpulses can be made as accurately as we
wish. In case the argument of the Shannon-Darwin transition operation has not
convinced to rule out the possibility that still bitpulses may exist that reside in more
than one particular state, the above consideration demonstrates that the number of
such bitpulses can always be shown to be relatively vanishing provided the unit of
entropy is chosen infinitesimally small. This infinitesimally small nature of the unit
of entropy is necessary for other reasons, a subject that has been discussed before
and that will return again and again.

2.7 Elementary Probability, State Probability, Some Formulas


of Conditional Entropy

We have noticed in Sects. 2.1 and 2.3 that we can discern between three different
kinds of statistical experiments of selection; one is the inflow selection experiment,
another the outflow selection experiment and the third is the overall selection
experiment. A fourth process playing a role for successful selection is exchange.
The successive Zdt mutually independent trials of the inflow experiment effec-
tuate Zdt draws of samples each expiring in a particular state within sample space
dS
0 . We noticed that according
P to Shannon the reassembled entropy inflow of this
experiment is H ðX0 Þ ¼  i λi log λi per trial [See Sect. 1.6 and (1.1)]. Likewise
2.7 Elementary Probability, State Probability, Some Formulas of Conditional Entropy 57

the successive Zdt mutually independent trials of the outflow experiment effectuate
Zdt draws of samples each originating in a particular state within
P sample space dSþ 0.
This delivers the reassembled entropy outflow H ðY0 Þ ¼  j μj log μj per trial [See
also Sect. 1.6 and (1.1)]. Finally the successive Zdt trials of the overall experiment
effectuate Zdt concurrent draws of a sample to annihilate in any particular state and
another sample to originate concurrently in any particular state within sample space
þ
dS0 \ dS0 . This delivers,P also in accordance with Shannon, the reassembled
entropy H ðX0 [ Y0 Þ ¼  i;j qi j log qi j per trial [See Sect. 2.2 and (2.7)].
Formulas (1.1) and (2.7) are asymptotically valid for dt ! 0 and require the
number Zdt of trials to tend to infinity on (t,t + dt), conditions that we encountered
before as necessarily to be satisfied.
We will come to see in Sect. 4.1 of Chap. 4 at a later stage of analysis why these
formulas (1.1) and (2.7) are justified to hold generally. Shannon justifies these
equations in his seminal paper by an argument subjected to the typical ergodic
condition of the communication channel (Shannon 1948). I will produce a related
and certainly not less convincing general justification of these Shannon formulas
with necessary allowance for the typical non-stationary condition of evolutionary
selection.
In a micro-world of events where there are no other events than events of
elementary statistical selection, the probabilities λi (respectively μj and qi j) associated
with the probability of executing a single trial must be equal to the proportion of
þ þ
entropy residing within dS 
i (respectively within dSj and within dSi \ dSj ) to the
þ
total entropy residing within sample space dS 0 (respectively within sample space dS0
 þ
and within sample space dS0 \ dS0 ). Thus, in accordance with what has been
remarked11 in Sect. 2.2:
 
H ð Xi Þ H Yj
λi ðtÞ ¼ ; μj ðtÞ ¼ for i; j ¼ 0; 1, 2, 3,  ; N (2.11)
H ð X0 Þ H ðY0 Þ

and
 
H X i \ Yj
qi j ¼ for i; j ¼ 0; 1, 2, 3,  , N (2.6)
H ð X 0 \ Y0 Þ

λi , μj and qi j are called elementary probabilities.


Probability is a concept that is always connected with a particular experiment of
statistical selection. And it happens that there are two distinct, but related concepts
of probability: that of elementary probability and that of state probability. We shall
make the following distinction between the two competing concepts of probability:

11
The relationships (2.11) and (2.6) have also been listed in Appendix B. Equation (2.6) has been
listed as (B.9) in Appendix B.
58 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

• Elementary probability is the probability that a single sample of entropy drawn


from sample space resides in a subset of that sample space. It renders the
probability of selecting one such tiny entity when it is selected separately.
I will reserve the notation Probf: : :g to denote elementary probability.
• State probability is the probability of a very large (tending to infinity) sequence
of consecutively repeated draws of all the assembled samples of entropy (Zdt in
number) in which the applicable sample space can be dissected. Repeated
sampling renders the state probability of all the tiny samples selected during
the execution of the statistical experiment. I will reserve the notation Prf: : :g to
denote state probability.
Both differential sets and non-differential sets possess an elementary probability
and a state probability. We have noticed before that the elementary probability of
selecting a bitpulse of any non-differential set is equal to 1=2. This is the elementary
probability of selection in the absence of knowledge due to the impossibility of
selecting all samples stocked in non-differential sample space S0 during the
available time-interval ðt; t þ dtÞ . There is no practical behavioral scheme of
selection granting agents any information about the entropy stock of a non-
differential sector. There is no time to do that. The relatively very few samples
(note their number is still infinite) that agents collect about non-differential sample
space by differential sampling only during the selection interval ðt; t þ dtÞ must
suffice. This renders the elementary probability 1=N of selecting a sample of
entropy from non-differential sample space S0 as we have argued in Sect. 2.3.
These samples derive their constant entropy content from assembly selection in
non-differential sample space. On the other hand all the samples of differential sets
can be sampled during ðt; t þ dtÞ simply by selecting and reassembling them
individually without replacement. Hence there is no problem of dealing with the
selection of differential sequences.
Boltzmann’s theorem (See Sect. 1.6) relates entropy H to state probability π by
the formula H ¼ –logπ or, what boils down to the same, by the formula 2H ¼ π.
E.g., in virtue of (1.1), with
P P
H ðX0 Þ ¼  i λi log λi , H ðY0 Þ ¼  j μj log μj

and, in virtue of (2.7), with


X
H ð X 0 [ Y0 Þ ¼  i;j
qij log qij

it follows that
X X
  Zdt  λ log λi   Zdt  μj log μj
Pr dS ¼2 i i ; Pr dSþ ¼2 j
0 0

and
X
  Zdt  qij log qij
PrfdS0 g ¼ Pr dS
0 [ dSþ
0 ¼2 i;j
2.7 Elementary Probability, State Probability, Some Formulas of Conditional Entropy 59

P P
Since H ðXi Þ ¼ λi j λj log λj and HðYi Þ ¼ μi l μj log μj on behalf of (1.1)
and (2.11) we have
X X
  Zdt  λi λ log λj   Zdt  μi μj log μj
Pr dS ¼2 j j ; Pr dSþ ¼2 j
i i

Furthermore, in line with the notational conventions for elementary probability


and state probability,
   

   H dS
i HðXi Þ  log Pr dSi
λi ¼ Prob dSi ¼    ¼ ¼  
for i ¼ 0, 1, 2,  , N
H dS0 H ðX0 Þ  log Pr dS
0

and
  h n oi
 
n o H dSþ
j H Yj  log Pr dSþ
j
μj ¼ Prob dSþ
j ¼  þ ¼ ¼  
for j ¼ 0, 1, 2,  , N
H dS0 HðY0 Þ  log Pr dSþ0

Let us further recall here Shannon’s definition of the conditional entropy HðY0 jX0 Þ
of the outflow sequence hY0 i . Shannon defined this conditional entropy as the
average of the entropy of Y0 for each value of X0 , weighted according to the
probability of getting that particular X0 .12 Similarly, the conditional entropy HðX0 jY0 Þ
of the inflow sequence hX0 i must be defined as the average of the entropy of
a sample of hX0 i for each value of the associated sample of hY0 i, weighted accord-
ing to the probability of getting that particular sample value of hY0 i . (See for
more elaborations Appendix B). It follows from the probability definitions in
Appendix B that
X X
H ðY0 jX0 Þ ¼  qi j  log μ ðjjiÞ and H ðX0 jY0 Þ ¼  qi j  log λ ðij jÞ (2.14)
i;j i;j

Herein the conditional probabilities μðjjiÞ and λðij jÞ satisfy


qi j qi j
μðjjiÞ ¼ and λðij jÞ ¼ (2.15)
λi μj

It follows from (2.14) and (2.15) that


X X
H ðY0 jX0 Þ ¼  qi j  log qi j þ qi j  log λi
i;j i;j

12
Mathematically more sound is: “Conditional entropy H ðY0 jX0 Þ is the average of the entropy of a
sample of hY0 i for each value of the associated sample of hX0 i , weighted according to the
probability of getting that particular sample value of hX0 i.”
60 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

and
X X
H ðX0 jY0 Þ ¼  qi j  log qi j þ qi j  log μj
i;j i;j

P P
Since j qi j ¼ λi and i qi j ¼ μ j ,
X X
H ðY0 jX0 Þ ¼  qi j  log qi j þ λi  log λi
i;j i
X X
H ðX0 jY0 Þ ¼  qi j  log qi j þ μj  log μj
i;j j

On behalf of expressions (1.1) and (2.7) we obtain

H ðX0 [ Y0 Þ ¼ H ðY0 jX0 Þ þ H ðX0 Þ ¼ HðX0 jY0 Þ þ HðY0 Þ

This is an equation that is easy to relate to (2.9) and (2.10).


The state probabilities PrfSi g of the non-differential sectors Si have been given by
(2.13):

 Ci =log N  Ci


1
PrfSi g ¼ N ¼ 12 (2.13)

2.8 Transmission, “Pure” and Financial Value, Inflow


and Outflow, the Unit Price

In Sect. 2.1 I defined the intersection, dSþ 


j \ dSi as the subset of sample space dS0
þ 
that dSj and dSi have in common. I noticed also that there are N 2 non-overlapping
subsets dSþ  þ 
j \ dSi whose union is dS0 \ dS0 . This implies that

X  
H ð X 0 \ Y0 Þ ¼ H Xi \ Y j
i;j

 
The entropy Zdt  H Xi \ Yj is a transmission. It is an “outflow” of entropy from
the sector Si into the sector Sj . We noticed in Sect. 2.2 that transmission/exchange
involves the creation and annihilation of a pair of balancing samples, a “pure” entropy
sample in exchange for a virtual sample of money. On balance it seems that nothing
has been created in the economy of S0 , because per trial we gain one sample of
entropy in dSþ 
j while losing another in dSi during ðt; t þ dtÞ or conversely. Thus it
appears more appropriate to call this transmission financial entropy, involved with
the exchange of entropy in state j for money in state i or conversely. Formulated more
2.8 Transmission, “Pure” and Financial Value, Inflow and Outflow, the Unit Price 61

þ
accurately, in dSi \ dSj a sample at time t þ dt, created in state j on ðt; t þ dtÞ
exchanges for an equal entropy content of money sacrificed in state i on ðt; t þ dtÞ. Or
þ
alternatively, in dS
i \ dSj a sample at time t, annihilating in state i on ðt; t þ dtÞ
exchanges for an equal entropy content of money created in state j on ðt; t þ dtÞ.
Which of the two possibilities is at stake will be subject of a later discussion. That
discussion requires a lengthy mathematical argumentation.  
þ
These considerations allow us to call the nature of entropy H dS
i \ dSj of
dS
i \ dSþ
j financial.
 
On the other hand H dSþ i can be considered to reflect a gross flow of “pure”
 
entropy production. Therefore we associate H dSþ i with the complete collection of
bitpulses originating or with the (unconditional)  entropy outflow of economic
production within Si . By the same token H dS i  is a gross flow of “pure” entropy
 
loss. We are therefore led to associate H dSi with the complete collection of
bitpulses sacrificed or with the (unconditional) entropy inflow of economic produc-
tion within Si .
The difference of outflow Yi ¼ Zdt  H ðYi Þ and the conditional outflow
Yi ¼ Zdt  H ðYi jX0 Þ is equal to the financial outflow Zdt  H ðX0 \ Yi Þ. The difference
of inflow Xi ¼ Zdt  HðXi Þ and the conditional inflow Xi ¼ Zdt  H ðXi jY0 Þ is
equal to the financial inflow Zdt  H ðXi \ Y0 Þ.

Zdt  HðYi Þ  Zdt  H ðYi jX0 Þ ¼ Zdt  H ðYi \ X0 Þ (2.16)

Zdt  H ðXi Þ  Zdt  HðXi jY0 Þ ¼ Zdt  H ðXi \ Y0 Þ (2.17)

Conditional entropy outflow is that portion of entropy outflow that it has not in
common with inflow and conditional entropy inflow is that portion of entropy
inflow that it has not in common with outflow.
Equations (2.16) and (2.17) can easily be verified with the assistance of a Venn
diagram.
þ
Selected entropy outflow balances selected entropy inflow within dS 0 \ dS0 .
Thus there is no net entropy gain or loss involved in the transmission from Si to Sj.
It is just a matter of financially exchanging entropy within Si for entropy within Sj
during the time-interval (t,t + dt) (See Fig. 2.9). That scheme is completely
symmetric with respect to an interchange of X and Y.
So far all variables introduced have been stated in the dimensional unit of
entropy: bits. This is the unit of selection we need for analyzing the processes of
selection. On the other hand economic exchange is in money units. To convert flow-
variables stated in bits into their corresponding flow-variables stated in the ruling
money units we must multiply entropy by the unit-price of entropy currently valid
on the selection interval ðt; t þ dtÞ. For that purpose we define P ¼ PðtÞ to represent
the unit price of a bit of entropy at current time t. The similarity feature that the unit
of selection must necessarily satisfy forces P to be the same for any bit of entropy
irrespective of the state in which it may reside (See Sect. 2.5, feature 2).
62 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

1
state i

0
time

Annihilation of a sample in state i on (t,t+dt) together


with the origination of a sample in state j on (t,t+dt)

1
state j

0
time

t t+dt

Fig. 2.9 Transmission.


The occurrence of a sample annihilating in state i concurrently with another sample originating in state j is merely a matter of financial
þ
exchange of a sample between the sectors Si and Sj. E.g. dS 2 \ dS2 is the differential subset of intercompany financial exchange in the
investment sector. Clearly the situation in dSþ  þ  þ 
j \ dSi differs from the situation in dSj |dS0 . In dSj |dS0 there is “pure” creation of entropy.
þ
Furthermore in dS
j |dS0 there is “pure” annihilation of entropy

It follows that

money outflow ¼ PYi ¼ PZdt  H ðYi Þ; money inflow ¼ PXi ¼ PZdt  H ðXi Þ

conditional money outflow ¼ PYi ¼ PZdt  H ðYi jX0 Þ

conditional money inflow ¼ PXi ¼ PZdt  H ðXi jY0 Þ

financial money outflow ¼ PZdt  H ðX0 \ Yi Þ;

financial money inflow ¼ PZdt  H ðXi \ Y0 Þ

money transmission ¼ PZdt  H ðX0 \ Y0 Þ

Anticipating more detailed analysis in Chaps. 5 and 6 we mention here that the
following interpretations will ultimately take form:

money consumption ¼ PZdt  H ðY1 Þ; money investment ¼ PZdt  HðY2 Þ

money wages ¼ PZdt  HðX1 jY0 Þ; money depreciation ¼ PZdt  H ðX2 jY0 Þ

These relationships hold for flow variables of which the action is restricted to
ðt; t þ dtÞ, certainly not for flow variables covering one year as in the annual reports
of economic statistical agencies.
2.9 Capital and Liquidity Surplus 63

2.9 Capital and Liquidity Surplus

Let us next define the net growth of capital of Si as the difference of the conditional
outflow Z  H ðYi jX0 Þ per unit of time and the conditional inflow Z  H ðXi jY0 Þ per unit
of time. We shall denote capital by Ci . Then the net change dCi of capital is

dCi ¼ Zdt  ½HðYi jX0 Þ  H ðXi jY0 Þ (2.18)

In accordance with (2.4) dCi ¼ ci Ci dt is equal to Zdt  ½HðYi Þ  HðXi Þ. This is the
sum of two contributions: the non-financial component Zdt  ½HðYi jX0 Þ  H ðXi jY0 Þ
of net entropy growth and the financial component Zdt  ½HðX0 \ Yi Þ  H ðXi \ Y0 Þ
of entropy growth. That is,

dCi ¼ ci Ci dt ¼ Yi  Xi ¼ Zdt  ½HðYi Þ  HðXi Þ

The difference between dCi and dCi is a difference between the entropies of two
subsets of the transmission domain:

d Ci  dCi ¼ Ci dt ¼ Zdt  HðXi \ Y0 Þ  Zdt  H ðYi \ X0 Þ

Whereas dCi is a net cash flow of entropy capital entering the sector Si during the
time-interval (t,t + dt), the difference d Ci  dCi is an additional surplus of money
resources .I shall call this surplus the liquidity flux of the sector Si. It has the features
that are usually assigned to liquid resources.
Recall [See (2.5)] that the accumulated capacity Ci is equal to

ðt
Ci ðtÞ ¼ ðYi  Xi Þdθ
1

Capacity growth dCi is the “pure” component of net entropy growth. dCi includes
also the net contribution of a virtual money component to entropy growth. dCi is the
surplus of outflow Yi ¼ Zdt  H ðYi jX0 Þ over inflow Xi ¼ Zdt  HðXi jY0 Þ of the
economic sector Si during (t,t + dt). Integration of d Ci dt over the time domain
yields

ðt
Ci ðtÞ ¼ ZðθÞ  ½Hθ ðYi jX0 Þ  Hθ ðXi jY0 Þdθ
1

This is what we shall call the capital of Si .


Like capacity Ci, capital is a stock of entropy. It accumulates both the “pure” and
the financial flows of entropy of Si . Like capacity Ci , capital is expressed in the
dimension of bits.
64 2 Sets of Entropy, Selection, Venn Diagrams and Bitpulses

Since dCi and dCi are flows of entropy-change of capacity and capital on the
selection interval ðt; t þ dtÞ, it follows that PdCi and PdCi are the corresponding
flows of money capacity change and money capital change. PdCi is the surplus of
money outflow PZdt  H ðYi Þ over money inflow PZdt  H ðXi Þ:

PdCi ¼ PZdt  HðYi Þ  PZdt  H ðXi Þ

PdCi is the surplus of money outflow PZdt  H ðYi jX0 Þ over money inflow
PZdt  H ðXi jY0 Þ:

Pd Ci ¼ PZdt  HðYi jX0 Þ  PZdt  HðXi jY0 Þ

For i ¼ 0 we establish that the capital of S0 and the capacity C0 of S0 balance


because

HðY0 jX0 Þ  HðX0 jY0 Þ ¼ H ðY0 Þ  H ðX0 Þ

Thus

dC0 ¼ dC0 ¼ c0 C0 dt and c0 ¼ c0 (2.19)

Since d C0 and dC0 balance, the economy S0 is without an additional liquidity
surplus. For the sectors Si it is different. What is lent by a sector Si is borrowed by the
other sectors of the economy. And what is borrowed by a sector Si is lent by the
other sectors of the economy.
For the two-sector economy (2.18) and (2.4) state that the financial rewards/costs
of the consumption sector are counterbalanced by financial costs/rewards of the
investment sector. It is not difficult to see, by consulting a Venn diagram, why dCi
and dCi do not balance for i 6¼ 0:
    þ   
H dS  H dS  þ
i i dS0 ¼ H dSi \ dS0 and
 þ  þ    

H dSi  H dSi dS0 ¼ H dS0 \ dSi þ

 þ
   þ

Since H dS
i \ dS0 6¼ H dS0 \ dSi it follows immediately that
         þ
H dSþ  H dS 6¼ H dSþ  
i i i dS0  H dSi dS0

Hence generally dCi 6¼ dCi for i 6¼ 0.


Chapter 3
The Road from Generalized Darwinism
to Evolvodynamics

Abstract Generalized Darwinism is there to get the Darwinian account of the


economic selection process straight, in line with Shannon’s mathematical contribu-
tion. That cannot be done without the Shannon-Darwin transition (see Chap. 1).
Quite frequently the units of selection, the replicators/bitpulses (that hold only
one single state, but stretch out in finite time), are mistaken for the results of
selection, the variations (that hold a sequence of selected random states, but do
not stretch out in finite time). Another mistake is the idea that the environment can
reside in different states, which is wrong. The environment can be in only one single
state. Also many explanatory accounts are based on a measure of fitness, a tauto-
logical concept inadequate to explain evolution. This chapter confronts such errors
with a reiteration of the processes of selection: (1) The repeated assembly of
bitpulses from (respectively into) the overall non-differential entropy stock on the
time-interval (t,t+dt) of selection. (2) The simultaneous reordering of the existing
sequence pattern of the selected bitpulses. (3) The concurrent reassembly of the
reordered sequence of the selected bitpulses into (respectively from) differential
entropy “stock.”
Many different sequences of entropy flow can be formed. These sequences are
called potential variations. Actually selection is aimed at the typical variations, a tiny
subclass of the potential variations. The remainder of the potential variations, the
atypical ones, will never get selected and are therefore purposeless. The typical
variations are purposeful because they are the only ones that can and will get selected.
The selected replicators/bitpulses are the building blocks of the variations.
Although we might consider habits, traits, customs, routines, thoughts, ideas etcet-
era to crystallize in replicators and in interactors/sectors as Hodgson and Knudsen
suggest, mathematical consistency demands evolutionary complexity to settle
down in replicators/bitpulses that each hold the same constant entropy content.
On the road from Generalized Darwinism to Evolvodynamics we must dismiss
unworkable ideas like “the whole is more than the sum of its parts” and instead
adopt reductionism as an indispensable tool of scientific analysis. Quantitative
science without exploiting reductionism to its utter limits is impossible.

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 65


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_3, # Springer-Verlag Berlin Heidelberg 2013
66 3 The Road from Generalized Darwinism to Evolvodynamics

What certainty can there be in a philosophy which consists in


as many hypotheses as there are phenomena to be explained.
To explain all nature is too difficult a task for any man or
even for any one age. It is much better to do a little with
certainty and leave the rest for others that come after, than to
explain all things by conjecture without making sure of any
thing.
Isaac Newton

3.1 The Reduction of Uncertainty by Selection

Hodgson and Knudsen attach a specific meaning to complexity. The definition they
give (Hodgson and Knudsen 2010, formula (61) on page 128) is not so much a
definition of complexity but has another relevant interpretation after some
inaccuracies, that the authors did overlook, have been fixed. In the unadjusted
form proposed by H&K it cannot be fitted in a consequent mathematical theory
of evolutionary selection. I shall sum up what is wrong with it just to clarify how
Shannon’s theory should not be interpreted and how it should be properly
interpreted when making the transition from Shannon’s ergodic selection to
nonergodic Darwinian selection.
Hodgson and Knudsen begin their exposition on complexity with describing a
notional generative replicator as a binary sequence (string) of bits with a length of
Zdt bits.1 (Hodgson and Knudsen 2010, page 128). This description results in an
immediate conflict with what we have established in the foregoing with respect to
the properties of replicators. We have seen in Fig. 1.2 that the inflow and outflow
sequences of the two-sector economy are binary strings of samples of infinitesi-
mally small time-length dt. Such sequences consist of Zdt samples and each sample
represents a replicator, which is either in state 1 or in state 2 in case of the two-
sector economy. Samples/replicators on the other hand extend over finite time (their
lifetime) as we have argued in Sect. 2.5 (See also Figs. 2.6 and 2.9) but they remain
in the same state during their lifetime. Clearly, an inflow sequence hX0 i is not the
equivalent of a replicator, but consists of very many replicators (Zdt in number) that
annihilate during the time-interval ðt; t þ dtÞ of selection. We should also bear in
mind that the total lifetime of a replicator is finite, but that the time-length of the
sequences is T ¼ dt after the Shannon-Darwin transition operation. However H&K
mistake a replicator for a binary sequence (of bits or of samples; that does not

1
H&K use the symbol L to denote the sequence length and the symbol C to denote complexity. In
accordance with the notational conventions to which I adhere L is labor, Zdt is the sequence length
and C will be reserved to denote capacity. I will therefore not use the symbol L for sequence length
and replace it by Zdt in order to avoid confusion. Likewise I will not use the symbol C to denote
complexity but replace it by the symbol K in this section.
3.1 The Reduction of Uncertainty by Selection 67

matter). This definitional confusion makes it difficult to understand H&K’s exposi-


tion about complexity. For example how to interpret their assertion “that—by
maximizing interactor fitness in the environment—the notional generative
replicator realizes the theoretical entropy value of Hmax ¼ Zdt bits.” I take it for
granted that we must replace “notional generative replicator” by its plural: the
sequence of “notional generative replicators.”
Furthermore Hodgson and Knudsen claimPthat the entropy of a population of
generative replicators is equal to HðXÞ ¼  i pi log pi in which pi is defined to
represent the probability at locus i.2 By defining PHðXÞ in this manner HðXÞ equals
the entropy inflow per trial rather then  Zdt  i pi log pi , which is the entropy
inflow over the entire time-interval of (t,t+dt). Furthermore Hodgson and Knudsen
define complexity K of a population of replicating entities as the difference of Hmax
and HðXÞ. That is,
X
K ¼ Hmax  HðXÞ ¼ Zdt þ i
pi log pi (3.1)

They point out that they are here concerned with binary sequences of informa-
tion. Thus there are only two alternative states 1 and 2 to select. This implies that
there are only two alternative interactors: population (state 1) and environment
(state 2). Thus, if p is the probability of selecting a replicator in state 1, ð1  pÞ is
the probability of selecting a replicator in state 2. Then, following the definition of
HðXÞ that H&K propose, we arrive at HðXÞ ¼ ð1  pÞ logð1  pÞ  p log p. This
is Shannon’s formula for the joint entropy inflow H ðX0 Þ per trial of the binary
selection model with chance λ1 ¼ p that state 1 is selected and chance λ2 ¼ 1  p
that state 2 is selected. If there is noise on the channel, the probability μ1 that state 1
is received at the outflow side is different from p. However, if the channel is
noiseless, μ1 ¼ λ1 ¼ p. This is the context in which Shannon proposed his theory
for the discrete channel (i.e., the channel with a finite number of states).
On the other hand Hodgson and Knudsen associate HðXÞ with the entropy of the
population only (while it actually should be the joint entropy inflow per trial of
population and environment together). Moreover the entropy of the population is a
stock quantity rather than a flow quantity like entropy inflow is. Further H&K state
that—by maximizing interactor fitness in the environment—the notional generative
replicator realizes the theoretical entropy value Hmax ¼ Zdt bits. The “maximization
of fitness” is the typical jargon of evolutionary biologists. Usually the term “fitness”
lacks universally applicable concreteness and preciseness, certainly within
an economic Shannon-inspired context. In terms of Shannon’s notational
preferences HðXÞ cannot be anything else than the entropy inflow per sample.

2
It may be that H&K understand by locus i the i-th sample of the sequence of Zdt samples.
However that would imply that there are Zdt different probabilities pi, which is incompatible with
the fact that we are here dealing with a binary sequence. Hence I must assume that “probability at
locus i” must be interpreted as the probability of being selected in state i of which there are only
two: state 1 and state 2.
68 3 The Road from Generalized Darwinism to Evolvodynamics

P
Observe that HðXÞ ¼  i λi log λi is a maximum if HðXÞ ¼ 1 . It follows that
the maximum of HðXÞ to which H&K refer is 1. If HðXÞ acquires that maximum,
all the pi ¼ λi share the same probability. This probability is ½ in case of the two-
sector economy. However generally 0  HðXÞ  1. Thus if Hmax is to represent the
maximum attainable value of HðXÞ, it must follow that Hmax ¼ 1. Pushing this
further by substitution in H&K’s equation (3.1) above, we get
X
K ¼ 1  HðXÞ ¼ Zdt þ i
pi log pi
P
Since HðXÞ ¼  i pi log pi in this binary case, it follows that Zdt ¼ 1, which
implies that the experiment of selection consists of one single trial only.
To avoid this inconsistency it is necessary to assume that H&K actually intend to
measure the entropy content over all Zdt samples of statistical selection.
P Thus it
appears that we must replace HðXÞ by Zdt  HðXÞ ¼ Zdt  i pi log pi and
the formula for Hmax by Zdt, the maximum that Zdt  HðXÞ can attain. In that case
H&K’s formula (3.1) for complexity K must be replaced by
X
K ¼ Zdt  Zdt  HðXÞ ¼ Zdt þ Zdt  i
pi logðpi Þ
P
Recall our assertion in Sect. 2.3 that Zdt  HðXÞ ¼ Zdt  i pi log pi is the uncer-
tainty that agents face knowing the probabilities pi only and that Zdt  Hm ¼ Zdt  log N
is the maximum uncertainty there is if the selecting agents lack all information about the
probabilities of the states [See expression (2.12)]. This implies that Hmax ¼ Hm in case
of the two-sector economy ðN ¼ 2Þ. Thus while selecting on ðt; t þ dtÞ, the selecting
agents succeed to reduce their uncertainty by
X
Zdt  log N  Zdt  HðXÞ ¼ Zdt  log N þ Zdt  i
pi log pi

For the two-sector


P economy N ¼ 2. Hence the reduction of uncertainty is equal
to Zdt þ Zdt  i pi log pi . It follows that K is the reduction of uncertainty at the
inflow side of the economy that the selecting agents effectuate by their outcomes of
selection relative to the situation of absence of any a priori knowledge. If this is
what H&K intend, complexity K is the difference of the uncertainty in a state of
complete lack of knowledge and the uncertainty that agents actually face. The more
reduction of uncertainty, the more complexity at the inflow side. It is not clear why
this reduction of uncertainty should be called complexity.
The preceding discussion reveals the great conceptual difficulties involved with
a properly applied mathematical Shannon-inspired interpretation of the evolution-
ary process. My main objective will be to illustrate how the time-compression
operation T ! dt from Shannon towards Darwin should further be performed and
3.2 Combinations, Variations, Uncertainty and Information 69

explained in a consistent manner. This remains the key question to answer.


Hodgson and Knudsen have an eye for the key role of Shannon’s theory of
information therein. The manner in which they endeavor to interpret Shannon in
the context of the maximization of interactor fitness is an attempt to crack the hard
nut. Unfortunately the road they take leads astray. Attempts to tackle the matter by
maximizing fitness will always break down on the impossibility to define a dynamic
measure of fitness that does not clash with the Shannon framework. Nevertheless it
is on the basis of extensive systematic reconnaissance of Darwinian conceptual
notions and Shannon’s conception of information that H&K pointed out what the
only direction is to successful economic scientific exploration. We will keep
pursuing that road further in the sequel.

3.2 Combinations, Variations, Uncertainty and Information

Let us reconsider the example as illustrated in Fig. 1.2 and as dealt with in Sect. 1.7
with Zdt ¼ 21, λ1 ¼ μ1 ¼ 14=21, λ2 ¼ μ2 ¼ 7=21.
We shall first restrict the actual selection process to Zdt ¼ 21 samples so that—in
accordance with our exposition in Appendix A—we cannot apply Shannon’s formula
(1.1) because of the insufficient sequence-length. Instead formula (A.1) of Appendix A
is applicable and we establish that Zdt  HðX0 Þ ¼ 16:827243 bits, Zdt  HðX1 Þ ¼ λ1 
16:827243 ¼ 11:218162 bits and Zdt  HðX2 Þ ¼ λ2  16:827243 ¼ 5:609081 bits.
The sequential order in which the states are arranged in the inflow sequence hX0 i
does not affect the entropy inflow Zdt  HðX0 Þ ¼ 16:827243, reassembled
   by the
agents on ðt; t þ dtÞ. Neither does it affect the state probability Pr dS0 , which is
 
Pr dS
0 ¼ 2ZdtHðX0 Þ ¼ 216:827243 ¼ 8:59993  106

Hence we may consider all combinations of hX0 i that can be reassembled from
14 samples in state 1 and 7 samples in state 2 as equally likely. Below I have listed a
very few of these combinations. Among them also the combination
121121211212111211112 of samples (the fifth one) that is actually selected in
Fig. 1.2.

222222211111111111111
222222121111111111111
222222112111111111111
222221122111111111111
121121211212111211112
122121211212111211111
etcetera
70 3 The Road from Generalized Darwinism to Evolvodynamics

All of these combinations have the same state- probability 8:59993  106 and
share the same information content  logð8:59993  106 Þ ¼ 16:827243 bits
within sample space dS 0 , because each of them has the same elementary inflow
probabilities: λ1 ¼ 14=21 and λ2 ¼ 7=21.
There are quite many different inflow combinations that can be realized given
the elementary inflow probabilities λ1 ¼ 14=21 and λ2 ¼ 7=21. We shall call them
variations. All of them share the same set of elementary probabilities. Let their total
number be Ω. That one of them will be selected from sample space dS 0 by the
selecting agents during ðt; t þ dtÞ is certain. Hence, since each of these variations has
the same state probability 8:59993  106, we must have that Ω  8:59993  106 ¼ 1.
!
It follows that Ω ¼ 7 !2114 ! ¼ 2
16:827243
¼ 116; 280 different inflow variations exist
that can actually be selected.
This implies that the assembly of 21 samples by agents on ðt; t þ dtÞ effectuates a
reassembly of economic resources such that 116,280 reassembled combinations of
inflow can be formed. Only a single combination of those 116,280 combinations is
actually selected. Its entropy is  logð8:59993  106 Þ ¼ log 116; 280 ¼ 16:827243
bits. This entropy content reflects the economic significance/value of inflow. It
reflects also the uncertainty the selecting economic agents face because the more
variations that can be reassembled, the less firm they are in their decision to choose
the combination actually selected.3 Therefore Shannon uses the terms entropy,
information and uncertainty interchangeably.
Well, there are 116,280 equally likely combinations that can actually be selected
by the agents, given the 21 samples of the inflow selection experiment and given
λ1 ¼ 14=21 and λ2 ¼ 7=21. However, what about this number of combinations if the
elementary probabilities λ1 and λ2 are not given, i.e., are actually unknown? If
nothing is known about the probabilities λ1 and λ2 , we can only guess that the
following combinations of inflow can be formed in case of the two-sector economy:

111111111111111111111
111111111111111111112
111111111111111111121
111111111111111111122
111111111111111111211
111111111111111111212
111111111111111111221
etcetera

In this particular case 221 ¼ 2; 097; 152 different combinations can be formed.
This is much more than the 116,280 combinations that can actually be selected.
I call the 2,097,152 combinations the potential variations and the 116,280
combinations the typical variations. A potential variation requires 21 bits of

3
We may also argue that the more improbable the selected combination is, the more uncertain the
selecting agents are.
3.2 Combinations, Variations, Uncertainty and Information 71

entropy, which is nothing else than the number Zdt ¼ 21 of samples. It is the
uncertainty the economic agents face if they lack all the knowledge they need in
order to take purposeful selection decisions.
So far we have assumed in the example of this section that selection is
restricted to 21 samples in sample space. This had the advantage that the numbers
of typical and potential variations can be overseen and easily calculated respec-
tively from formula (A.1) and from 2 raised to the power of 21. However,
the actual selection process is concerned with a very large number Zdt of samples.
In that case Shannon’s formula (1.1) is applicable. If there are one million as many
samples we have Zdt ¼ 21;000;000 whereas λ1 ¼ μ1 ¼ 14=21 , λ2 ¼ μ2 ¼ 7=21
remain unchanged. It follows now from (1.1) that Zdt  HðX0 Þ ¼ 19;284;212, Zdt
H ðX1 Þ ¼ λ1  19;284;212 ¼ 12;856;141 and Zdt  HðX2 Þ ¼ λ2  19;284;212 ¼
6;428;071.
The sequence length of 21,000,000 is too large to write out the sequence of a
particular typical variation here. The total number Ω of typical variations is also
enormous: Ω ¼ 219;284;212 . This is a number of the order of 10 to the power
5,805,126,255. The number of potential variations is still much greater:
Ω ¼ 221;000;000 , which is a number of the order of 10 to the power 6,321,629,909.
Hence the number of typical variations is 10 to the power 516,503,654 as small
as the number of potential variations.
Shannon’s formulas (1.1) and (2.7) of asymptotic approximation are determined
by the elementary probabilities λi , μj , respectively qi j . The basic Shannon claim is
that—since the number of samples is always very very large—all the knowledge/
þ þ
information of differential sample space, dS 
0 , dS0 , respectively dS0 \ dS0 , is
contained in the elementary probabilities. No more information/entropy per sample
can be gathered than what can be extracted from the knowledge structure of the
elementary probabilities. Thus, given the elementary probabilities, there is no
additional information per sample to gain and/or to lose by the selecting agents if
they choose another sequential order in which all the samples in state 1 and in state
2 are reassembled over the available sequence-length.
Another important observation in favor of Shannon’s fundamental claim is that
all samples are executed on the time-interval ðt; t þ dtÞ of infinitesimally small
length dt. That time-length is so very small that it is inconceivable that the order in
which the samples of different state are being selected by a great variety of agents
can affect the complexity in which the economy is being organized. The length of
the time-interval dt is so small that, economically, all Zdt trials take place
simultaneously. Thus in fact differences in the sequential order by which the states
are distributed over the samples, given the elementary probabilities of selection,
cannot have an economic effect. It is only changes of the elementary probabilities
of λ1 and λ2 that matter.
Note further that the maximum
P uncertainty Hm of 21,000,000 bits is attained by
maximizing HðX0 Þ ¼  i λi log λi ¼ λ1 log λ1  ð1  λ1 Þ logð1  λ1 Þ with
respect to λ1 ¼ 1  λ2 . It is easy to see that the maximum is attained for λ1 ¼ λ2 ¼ 12.
72 3 The Road from Generalized Darwinism to Evolvodynamics

It follows that Zdt  Hm ¼ Zdt ¼ 21;000;000. This is equal to the maximum


Zdt  Hmax that we considered (after correction) also in Sect. 3.1. It is the level of
uncertainty reflecting the hypothetical situation that economic agents would select
void of any reason. For the two-sector economy this is the case if λi ¼ 12. That would
rule out evolution to occur. Evolution of the two-sector economy sustains by the
fact that generally λi 6¼ 12 and μi 6¼ 12.

3.3 Consumption Probability, Investment Probability


and Labor Input Probability

We shall next prove that:

Xi
¼ H ðXi jY0 Þ ¼ λi  H ðX0 jY0 Þ (3.2)
Zdt
and

Yj  
¼ H Yj jX0 ¼ μj  H ðY0 jX0 Þ (3.3)
Zdt

Proof of (3.2) and (3.3): Let us first observe that


        
H Xi \ Yj ¼ H Yj  H Yj jXi ¼ H ðXi Þ  H Xi Yj (3.4)

This equation can be easily checked byconsulting


  the Venn
 diagram
  (Figs. 2.4
or 2.5). It follows also from the relation H Yj  H Xi [ Yj ¼ H Yj jXi and (B.8)
in Appendix
 B.

H Xi \ Yj in the left side of (3.4) is the entropy resulting from the events
þ
occurring within dS i \ dSj . The probability of this occurrence per trial is qij (see
Sects. 2.2 and 2.4 and Appendix B). We have from (2.6):
 
H X i \ Yj ¼ q i j H ð X 0 \ Y0 Þ (3.5)

Furthermore from (2.11):


 
H ðXi Þ H Yj
λi ðtÞ ¼ ; μj ðtÞ ¼
H ð X0 Þ H ðY0 Þ

and from Appendix B:


X X X X
μj ¼ q0j ¼ q ; λi ¼ qi0 ¼
i ij
qi j ; q00 ¼ q ¼
i i0 j
q0j ¼ 1 (B.1)
j
3.4 Generative Replication and the Definition of the Replicator 73

Expressions (3.4) and (3.5) lead to


       
H Yj ¼ H Yj jX0  þ H X0 \ Yj ¼ H Yj jX0 þ q0j H ðX0 \ Y0 Þ
¼ H Yj jX0 þ μj  HðX0 \ Y0 Þ

Hence
 
μj  H ðY0 Þ ¼ H Yj jX0 þ μj  HðX0 \ Y0 Þ

so that
 
H Yj jX0 ¼ μj  ½H ðY0 Þ  H ðX0 \ Y0 Þ ¼ μj  HðY0 jX0 Þ
 
It follows that μj is the quotient of H Yj jX0 and H ðY0 jX0 Þ. Further, in virtue of
(2.11),
   
H Y j j X0 H Yj Yj
μj ¼ ¼ ¼ (3.6)
H ðY0 jX0 Þ H ðY0 Þ Y0

In a similar manner it may be derived that

H ðXi jX0 Þ HðXi Þ Xi


λi ¼ ¼ ¼ (3.7)
H ðX0 jX0 Þ H ðX0 Þ X0

This completes the proof of (3.2) and (3.3) □


If we hold on adhering to the convention that S1 is consumption sector, S2 is
investment sector, (3.6) implies that μ1 is the propensity to consume and μ2 the
propensity to invest. Therefore we will call μ1 consumption probability, μ2
investment probability and λ1 will be called labor input probability.

3.4 Generative Replication and the Definition of the Replicator

Hodgson and Knudsen hang on to the four features listed in Sect. 2.5 as a general
definitional description of the replicator. They pay much attention to discussing the
matter (Hodgson and Knudsen 2010, Chap. 6). They contend that the first three
(causality, similarity and information transfer) of these four features are necessary
but not enough (Hodgson and Knudsen 2010, page 119). To complete the definition
they add the mechanism of generative replication as a fourth definitional prerequi-
site for the replicator. They assert that this generative property is a necessary feature
to exclude the possibility that e.g., a paper copying machine can also be called a
replicator (Hodgson and Knudsen 2010, page 121).
74 3 The Road from Generalized Darwinism to Evolvodynamics

Well the latter statement is not without some contradiction because the action of
a paper copier may also contribute to evolutionary growth as far as it invites users to
exploit increasingly innovative usage of the copier.
More particularly, evolutionary progress is not the sole result of outflow (i.e.,
generative) selection, but also the result of inflow (i.e., degenerative) selection.
Evolutionary systems do not only increase in complexity, they may also
decrease in complexity. Both processes occur simultaneously and one may
dominate the other for some time. Hence statistical selection may also result
in the decrease of aggregate complexity. That decrease may predominate in the
end. This is the phase when species become extinct, often after a period of
prosper (In fact this has been the overwhelming rule with respect to the
evolution of life on earth since many millions of years. The species that live
now on earth form a tiny fraction of all the species that have ever lived on
earth). Likewise institutions, economic enterprises and social organizations will
follow a similar pattern of initial evolutionary prosper and ultimate decline in
the end. It is often argued that in the end extinction of one particular species is
followed up by more complex entities, but this observation is typically anthro-
pocentrically colored by the eye of the human researcher of the evolutionary
process. Recall entropy is a relative concept. Different species (i.e., of different
evolutionary systems) do not share similar preferences about the quantity of
entropy of their environment. There is no connection. In summary we might just
as well purport that a replicator must have the feature of degenerative replica-
tion. This is what makes a paper-copying machine certainly also a collection of
replicators, since the machine will ultimately stop working and become replaced
by a better model.
The fact is that there is inflow selection (degeneration) and outflow selection
(generation). If we accept the mechanism of generative replication as a fourth
definitional feature of the replicator on behalf of outflow selection, we must
accept as well the mechanism of degenerative replication as a fifth definitional
feature of the replicator. This looks like a contradiction, although it is not if we
accept that replicators originate (are being generated) as well as annihilate (are
being degenerated). Well, I think that the concept of replicator can better be
defined within the context of the complete mathematical theory of evolutionary
statistical selection, i.e., it must be incorporated in the mathematical details of
that theory. It is therefore preferable to replace the term replicator by the term
“bitpulse.” This will clarify firstly that all replicators carry an even amount of
entropy during their lifetime, secondly that all of them have a variegated
random lifetime during which they remain stocked within an interactor of
their particular state, thirdly that as selected inflow bitpulses they are
sacrificed/used up to produce new outflow bitpulses, fourthly that as selected
outflow bitpulses they contribute to replenishing the stock of bitpulses within
the various interactors and fifthly and finally that they transport the information
they carry from the past into the future over their lifetime by processes of
exchange.
3.5 Habits, Traits, Customs, Routines and the Limits of Informational Knowledge 75

But we can also settle the definitional question of the units of selection in a
satisfactory manner with the following extraordinary simple definition:
A sample/replicator/bitpulse is a unit of selection that holds, carries and transfers the same
amount of information irrespective of time and state during the time it exists

Note that this formulation/definition of the unit of selection represents nothing


else than the statement of a (universally valid) first principle, because its validity
does not depend on the time when or on the state in which the replicator is observed
or considered. And by referring explicitly to the amount of (the Shannon defined
average concept of) information we have been rescued from the need to detail the
sorts of micro-informational aspects it consists of or may consist of, which in itself
is an impossible undertaking.

3.5 Habits, Traits, Customs, Routines and the Limits


of Informational Knowledge

In their 2007 paper Hodgson and Knudsen candidate entities like thoughts and ideas
as the replicators of social evolution (Hodgson and Knudsen 2007). However later
they opt for habits and more specifically traits, customs and routines as the
replicators of social selection because “they satisfy the conditions of longevity,
fidelity and fecundity” (Hodgson and Knudsen 2010, page 80). In comparison with
their position in 2007 they have decided that “the replication of unobservable habits
of thought is less straightforward.”
The disadvantage of the direct identification of replicators with “gene-like
replicators” as habits, traits, customs and routines as with thoughts and ideas is
that it may make us think that replicators differ from one another and are no longer
similar with respect to their entropy content. Similarity, the second feature of
replicators (see Sect. 2.5) is then explained as applying to many different replicators
(like complete genes in biological evolution) each satisfying the similarity condi-
tion for itself by copying only. Unless we cut them up into small abstract pieces of
similar constant entropy content (the “bit-like replicators” or bitpulses), they do not
satisfy all similarity conditions required for statistical selection. Thus we should
keep in mind that there is always the common unit of entropy in which to express
the measure of evolutionary complexity of habits, traits, customs, routines,
thoughts, ideas and so on.
One may think to reject the latter conception of the bit-like replicator as being too
abstract and instead opt for the gene-like replicator (varying in entropy content), but
the question then is: what is so concrete about unspecified habits, traits, customs,
routines, thoughts and ideas of which we don’t know and—worse still—of which we
will never come to know their individual entropy content by comparative measure-
ment? Remember entropy is a statistical average of a random variable. It is physically
and economically impossible to measure the entropy content of each replicator
individually. Moreover, what makes us think that the entropy content of a copy of
76 3 The Road from Generalized Darwinism to Evolvodynamics

a gene-like replicator remains equal to the entropy content of the original in the
course of time? If it doesn’t remain constant, the copy process of a gene-like
replicator will always produce the “same” gene-like replicator with an entropy
content that is continually changing. This implies that the feature of similarity
irrespective of time and state has not been complied with satisfactorily. It is therefore
untenable to consider habits, traits, routines, thoughts etcetera as being similar if they
differ in entropy content and if they are not mathematically defined to contain
each the same entropy content and if they are not to fall apart in units of selection
with the same constant entropy content.
A consistent mathematical contextual delimitation of the replicator concept is far
to be preferred. Recall that all statistical selection theories (including evolutionary
selection theory) are ignorant about what in detail is going on at the level of each
individual trial of the statistical experiment. Remind the outcome is always a
random occurrence. For the study of a selection experiment only the state and the
probability of the state in which the replicator is selected is relevant (and note that
this probability is an average time-dependent variable). So as regards the selection
process, why bother about the details of what the composition and the features of
the selected item are (other than its state and its average probability of occurrence)
at the level of micro-economic selection?
As a result of the selection processes a stock of replicators settles within the
selecting interactors. During the time replicators do not originate or annihilate they
are stocked in entrepreneurial capacity and labor capacity (in the case of the two-
sector economy) and in their storage position we might assert that they form a
complex of ideas, traits, habits, customs, routines and perhaps even thoughts
stocked in S0 , i.e., in the interactors. The entropy stock of all of these replicators
can be regarded as the aggregate entropy of habits, thoughts, traits, routines etcetera
of the economy. Thus an indirect identification of replicators with “gene-like
replicators” as habits, traits, customs and routines, thoughts and ideas is possible
as long as they are not subject/object of selection and remain stocked in the
interactors. What we can then perhaps say in this respect is that thoughts, ideas,
habits, customs etcetera are principal storage factors that serve as an ordered set of
recipes, a collective of equipment and crystallized prescripts for production and
directions for use for all sorts of items of value during the selection-interval (t,t+dt)
and for enabling production-workers/wage-earners to do their work during (t,t+dt).
They remain stocked as ideas, traits, customs, prescripts, routines, intuitions in non-
differential sample space S0 . By assembling samples of them in the form of
bitpulses during ðt; t þ dtÞ (in the manner described in Sect. 2.3) they contribute
to reassembled inflow and outflow after reordering the samples as part of the
selection processes. As such ideas, traits, customs, routines, intuitions, stocked as
part of the entropy of S0 , contribute to further economic evolution after differen-
tially selected very small portions of them, cut up in bitpulses each carrying one bit,
have been reordered by reassembly of their entropy. This is the connection we must
keep in mind.
However, by cutting these gene-like replicators up, the interactors are just as well
stocks of bit-like replicators. Only bit-like replicators are subject/object of selection.
3.5 Habits, Traits, Customs, Routines and the Limits of Informational Knowledge 77

Thus to avoid mathematical confusion it is far better to identify each replicator as a


number of bitpulses carrying always the same constant small amount of entropy.
The very large majority of replicators resident at a particular time-instant t,
respectively t+dt, is not part of inflow and outflow during (t,t+dt). By far the large
majority of what was stocked in S0 at time t remains stocked in S0 during (t,t+dt).
And by far the large majority of what is stocked in S0 at time t+dt was already
stocked in state S0 at time t.
In summary, the content of entropy stocked in entrepreneurial capacity and labor
capacity is a reservoir of replicators. Only a very tiny portion, the flow of bitpulses
selected on ðt; t þ dtÞ , determines the current flows of the economy. Economic
performance and the selection motives associated with it depend on many factors,
so many and variegated that it is preferable not to enter into detailing the
replicators. We will never catch a complete image by trying to list the whims and
fancies of replicators categorically.
Let us consider in this respect for instance the role of confidence and the impact
of economic policy of governments and central bankers. Confidence and policy
influence selection behavior of agents considerably. The burning question is then
how continual adjustments of these motive powers, in response to the business
cycle fluctuations, relate to the gene-like replicators, i.e., to the thoughts, ideas,
traits, habits and customs that are actually selected on ðt; t þ dtÞ . Clearly those
economic adjustments will get reflected in the continual introduction of new
thoughts, new ideas, new traits, novel habits and novel customs and in the continual
replacement of old thoughts, old ideas, old traits, outdated habits and customs
during ðt; t þ dtÞ. Hence the replicators that affect the immediate performance of
the economy are far from having a sufficient degree of stability as Hodgson and
Knudsen consider desirable for replicators to possess if that stability does not refer
to the constant entropy content each of them must carry (Hodgson and Knudsen
2010, page 136). Only the replicators that remain stocked in S0 (i.e., the decision
centers of S1 and S2) remain sufficiently stable, because the large majority of them is
not assembled during ðt; t þ dtÞ. The question keeps returning: why should we detail
that relatively stable stock of replicators so much if they do not really contribute to
direct quantitative explanation, description and forecast of the current economic
cycle? The gap between replicators/habits and replicators/samples/bitpulses can
therefore best be bridged by accepting the mathematically consistent idea that
bitpulses are tiny time-dependent pulses each carrying a single bit of entropy the
time they exist and possessing random lifetimes.
One can also put these comments in another perspective. H&K’s identification
of habits, traits, customs, routines, etcetera with replicators will only result in a
better explanation of economic evolution than the Shannon-inspired explanation
can offer if the required detailed variegated informational knowledge about these
features (e.g., the entropy content of each of these replicators) is available to the
selecting agents. Unfortunately it is not.
In the end it is all about what the limits of available information are within an
economy. Is there still knowable micro-information about the compositional details
of a replicator? Or is there not, so that eventually a replicator must be the equivalent
78 3 The Road from Generalized Darwinism to Evolvodynamics

of one bitpulse? We will return to dealing with those questions later in Chap. 4. It is
all about what information actually is. H&K seek it in the micro-leveled details of
habits, traits, customs, routines, thoughts, but do these entities hide any knowable
information if we cannot observe the variable extent of their individual role
quantitatively? Is information rather not an average statistical concept, dependent
on the elementary probabilities of selection?

3.6 Multi-Level Selection and the Definition of the Replicator

Hodgson and Knudsen repeat stressing that replicators are similar, but we have
already argued that we cannot be certain about their similarity if there is no way to
observe and measure the individual content of each of the replicators. Moreover
there are several passages in their work that may need some further amplification to
substantiate that similarity as a general feature. One of these passages is concerned
with multiple level selection.
H&K contend that there are multiple levels of replication from which is selected
(Hodgson and Knudsen 2010, page 80). If multiple selection is nothing else then
multi-sector selection, this is ok. It is then merely a generalization of two-sector (or
binary) selection. However if they understand something else by multiple level
selection, it may be confusing.
In their table on page 173 (Hodgson and Knudsen 2010) Hodgson and Knudsen
discern between multiple ontological levels of selection from high to low: organi-
zational level, group level, individual level. They contend that the composition of
the replicators differs dependent on the applicable level. “The major information
transition that laid down the habitual foundation of culture involved the develop-
ment of a new type of generative replicator” (Hodgson and Knudsen 2010, page
188). At the individual level and group level genes and habits are the replicators, at
the organizational level routines, habits and genes are the replicators. H&K suggest
that the layers of evolution succeed each other from low to high. Well this is all
right if we strictly adhere to the point of view that the replicators of the different
layers of evolution keep the same constant content of entropy (of one bit each)
indefinitely. Else there will be a transition from one layer to its successive higher
layer with replicators that possess a time-dependent content of entropy during the
time they exist as in Fig. 2.7, which is mathematically inconsistent as we have
argued before. Thus we may allow successive phases of multi-level evolution to
exist if the same evolving system (e.g., a particular evolving population with its
evolving environment) remains subject and object of evolution. In that case the
system evolves from a lower entropy content to a higher entropy content that is so
much different from its original content that we prefer to conclude that it has
reached a higher ontological level of evolution.
The study of evolution concentrates always on a particular closed system S0
consisting of N different sectors. We may regard and study an infinite variety of
parallel systems of evolutionary development within our universe, each involving
3.7 Reductionism, Emergentism and Homogeneity 79

another system S0 (e.g., another choice of population and environmental conditions)


of evolution for which the same derivable set of equations of aggregate inflow,
outflow and transmission holds true. When we choose to study a particular (closed)
system of evolution (e.g., a colony of bees interacting with its specific environ-
ment), only the inflows and outflows of that system counts. There is of course
dependence on other evolutionary systems such as that of birds that have the bees
on their menu, but this manifests itself in the environment of the bees (its entropy
stock and its entropy inflow and outflow).

3.7 Reductionism, Emergentism and Homogeneity

In his work of 2004 Hodgson stresses the emergent properties of evolutionary


development (Hodgson 2004). The underlying philosophy of emergentism is that
evolution is a process of creative synthesis: a continual process of creating
structures of a completely different, higher layer than the lower layered structures
from which they are being composed (e.g., Hodgson 2004, pages 244–245). “Thus
although evolutionary processes of selection may have a physical basis, the effects
of evolutionary selection cannot be reduced to physics alone.”
Passages of similar content are repeated by Hodgson and his collaborator
Knudsen in their work of 2010 (Hodgson and Knudsen 2010). The authors consider
this form of emergentism to contrast with reductionism, the philosophy that we can
always describe the whole in terms of its constituents.
They are critical with respect to the explanation the reductionist method of
analysis is capable to offer for evolutionary processes. They contend that the
emergent properties of evolution can never fully be caught by this method of
analysis. In this respect emergentism is often summarized in the adage “The
whole is more than the sum of its parts.” (e.g., Hodgson 2004, page 102). H&K
appear to support this popular phrase. “Generally, the goal of explaining wholes
entirely in terms of their parts is a mirage” (Hodgson and Knudsen 2010, page 189).
I regret these views. They underestimate the power and prominent role of
reductionist reasoning in the sciences. Let me first make clear that we are talking
about science and in particular the scientific method. Reductionism is the outstanding
tool we need if useful and sufficiently accurate quantitative measurements of the
phenomena to be investigated (e.g., of aggregate inflow and outflow and average
price-level) are available. If they are absent for a particular domain of social
enquiry, only secondary results of the evolutionary process (see Sect. 1.3) can be
observed, although it remains still possible to apply the derived reductionist system
of equations of aggregate inflow, outflow and transmission. However unfortunately
without a possibility to test these equations against available data in this particular
domain.
Reductionism keeps explaining the whole in terms of its constituents. And to
preclude misunderstanding: nothing else than that is the intention of quantitative
science, including economic science. Economic science is no exception. It does not
80 3 The Road from Generalized Darwinism to Evolvodynamics

have its own methodological standards because the methods of science are univer-
sal. The differential geometrical method by which Newton derived the three laws of
Kepler is a perfect illustration of the fact that the method of science is reductionist.
In a similar manner emergent Darwinian evolution can only be effectively
described as a differential selection process during an infinitesimally small time-
interval (t,t+dt). This is the necessary reductionist step to be taken for analyzing
Darwinian evolution in order to remove the clouds that obstruct our view on the
matter. As long as that step is not considered, the weather will remain bad and
science is more or less in a deadlock. The history of the much older science of
physics has demonstrated that time after time.4
In the present exposition it is the mathematical reduction of time and value to
infinitesimally small lengths of time and infinitesimally small units of entropy that
led to the disclosure and exploration of differential sample spaces of selection in
which all the events occurring in an economy during the time-interval (t,t+dt) are
brought together. Thereupon, it was this reductionist differential approach that
made it possible to employ the effectiveness of Venn diagrams, which turn out to
be indispensable for understanding economic relationships. Without the tool of
mathematical reduction it is unthinkable that so much progress and so much insight
can be attained.
Thus I strongly oppose the idea that there is a potential conflict between the
emergent character of the evolutionary process and the reductionist approach.
Reductionism is the method of science. The idea that reductionism is the wrong
approach usually pops up when there are phenomena for which an adequate
(reductionist) scientific explanation is still lacking. Besides what does the obscure
phrase that the whole is not the sum of its parts mean? Perhaps 3 þ 4 ¼ 9? or 3 þ 4
¼ 10? or 3 þ 4 ¼ 11?. It would be very welcome to know the answer or do we mean
that there are at least several answers or that there is no answer? Science cannot be
built upon such talk. Or do we mean that HðXÞ þ HðYÞ does not equal H ðX [ Y Þ
but rather H ðX [ Y Þ  HðX \ Y Þ ? If the latter is what we intend, we are back
at Shannon-inspired evolution. However, within that Shannon-inspired framework
3 þ 4 equals 7 as it always did.
The variety of emergent properties does not imply that emerging properties are
elusive, impossible for science to evaluate quantitatively. If evolution would
produce emergent properties that have no measure, we cannot grapple with evolu-
tion quantitatively. If there is no measure to express the extent of it, there can be no
variables to represent the extent of evolutionary complexity and order such as
inflows, outflows and stocks of entropy. Neither can there be a manner to order
evolutionary processes and can there be tools to analyze evolution like a carpenter
cannot use his tools if there is no way to measure his piece of work. Irrespective of
the many terms, such as e.g., uncertainty, information, knowledge, complexity,

4
No more oppressive has been the deadlock of Ptolemaic astronomy lasting from the hey-days of
the Roman empire, extending over the middle ages until the epoch of Kepler, Gallilei and Newton
finally arrived.
3.7 Reductionism, Emergentism and Homogeneity 81

order, value, by which emergentism can be circumscribed, the scientific method


demands that the scientific principles of continuity, measurability and Newtonian
reductionism are in force for any quantitative science. Economic phenomena have
their own domain of events and their own phenomena of investigation and should of
course always be explained in terms of their own events, their own phenomena and
their own concepts. The investigation of the domain of economic emergentism is
the exclusive domain of economic enquiry. We should therefore realize that the
economic domain of enquiry has its own unit of dimension by which the magnitude
or the changing magnitude of the emergent phenomena must be measured: the unit
of entropy: the bit. Since Hodgson and Knudsen create the impression to get on with
Shannon’s conception of information/entropy as a measure of emergentism,
Shannon’s bit of information/entropy has been accepted by them more or less as
a unit of emergentism (Hodgson and Knudsen 2006, 2010). The acceptance of such
units of dimension is necessary for the quantification of any science and hence we
must consider the content of information as the measure to express the extent of the
emergent properties that manifest themselves in the economy. In this way the extent
of an emergent property can be expressed with the help of a continuous scale of
information. The unit of entropy is the measure in which to express everything
emerging in the economic domain.
A supposed contradiction between emergentism and reductionism rests upon a
misapprehension, a slip of thought of the human mind that overlooks an essential
aspect of the method of science. To illustrate this by another example let us revert to
the beginning of the twentieth century when Einstein wrestled with the problem of
extending the postulate that the same physical laws hold good with respect to any
chosen system of coordinates to include also the class of phenomena of accelerated
motion (the principle of general relativity). With his theory of special relativity
Einstein had already derived the Lorentzian equations of transformation between a
pair of four-dimensional space/time coordinate-systems. However, the application
of special relativity was restricted to coordinate systems which were in relative
uniform translation with respect to one another (Einstein et al. n.d.). General
relativity created a novel domain of emergent space/time configurations that
could not be analyzed in terms of the space/time configurations of special relativity.
Einstein realized that special relativity was still applicable within an infinitesimally
small differential space/time volume dxdydzdt to sufficient degree of accuracy. That
inspired him to follow a reductionist differential approach. Thus he chose an
infinitesimally small space/time volume dxdydzdt to tackle the local situation of
general relativity. In fact this reductionist approach was the only way the problem
could be analyzed effectively with the laws of special relativity holding good in that
infinitesimally small space/time volume to sufficient degree of approximation. The
ultimate result was a completely novel theory of gravitation that assisted physicists
to discover the expansion of the universe, the big bang, black holes and to
understand many other interstellar phenomena and relationships.
The lesson is again that a particular domain of phenomena must be analyzed
within the local differential context in which the laws of those phenomena do not
change to sufficient degree of approximation. Newton’s universal method of
82 3 The Road from Generalized Darwinism to Evolvodynamics

science is based on unrestricted reductionism with respect to the local phenomena


under investigation. The idea that the application of the method of Newtonian
reductionism, often ventilated by practitioners of the social sciences, cannot explain
the emergence of a novel domain of scientific enquiry is off the mark. The history of
science does not corroborate that. And the idea that this method of Newtonian
reductionism is restricted to the application of mechanical laws of material objects
alone is just as absurd. Reductionism and differential analysis can and must be
applied to study any scientific domain of phenomena irrespective of its nature
(physical, economic or whatever). Only in cases where a database of quantitative
measurements is not available (which is often the case for social sciences other than
economics), the application of the reductionist method may lack significance if
there is no possibility to test the theory. However, without the availability of data it
is just as impossible to test the quantitative predictions of any alternative theory that
is said to be non-reductionist. The suggestion that evolutionary science is non-
reductionist is therefore an improvable dogma, nothing more than speculation.
In conclusion a conflict between emergentism and reductionism does not really
exist. It is a construction of the human mind resulting from an incomplete under-
standing of evolutionary selection. Quantification presupposes the acceptance of
unrestricted reductionism.
The application of reductionist tools is linked up with the principle of evolution-
ary/physical homogeneity (see Sect. 1.2). The measurement of homogeneous
variables is a form of reductionism since it provides for expressing the “weight”
of the variable in numbers of an applicable unit of dimension. In turn the unit of
dimension can be given a fixed magnitude (e.g., for mass: a kilogram or a gram; for
distance: a hectometer or a centimeter, etcetera). In virtue of the principle of
physical/evolutionary homogeneity we are free to choose the unit of dimension in
which a variable is expressed be it that it must reflect the (emergent) quantity of that
variable.
If we choose to measure a distance in kilometers, a replacement of the
kilometer by the centimeter as the unit of dimension will have that measure
multiplied by a constant factor of 100,000. Nevertheless we may take it for granted
that the measured distance has not changed but only the unit in which it is
expressed. The same holds true for value expressed in dollars, in Euro’s, in bits
or in micro-bits.
The reduction of the unit of dimension is based on the principles of continuity
and homogeneity. This implies that there is no lower bound with respect to the
smallness of the chosen unit of dimension. There may however be a limit imposed
by the bounds of applicability of the laws that define the measured variables or
govern the relationships between the measured variables of the domain of scientific
investigation. However in that particular case we enter a novel domain, a new layer,
of scientific enquiry with (usually) some other ensembles of variables to which
unrestricted reductionism and the principles of homogeneity and continuity of
measurement apply once again. Hence, within a particular domain of scientific
enquiry the premise is always that unrestricted reductionism in combination with
the principles of continuity and homogeneity ultimately applies. The big point is to
3.7 Reductionism, Emergentism and Homogeneity 83

trace and locate the correct differential space of reduction. Reductionism has no
mathematical limits in the small, just like Newtonian differentiation meets no
mathematical limits in the small. The Newton/Leibniz/Fermat theory of differenti-
ation is the crown-jewel of reductionist reasoning. It can be applied in many
different ways. Unfortunately it can also be maltreated as illustrated by the tenets
of economic marginalism (see Sect. 1.9). But maltreatment can never disqualify the
application of reductionist reasoning.
Chapter 4
Blind and Purposeful Selection

Abstract Shannon’s justification of the definition of information needs adjustment


because it applies to ergodic rather thanP to nonergodic selection. It is demonstrated
that Shannon’s entropy kH ¼ k  i ωi log ωi is the maximum information/
knowledge that selecting agents can unwittingly gather from k repeated selective
trials, given that ωi is the chance of selecting a sample in state i conditional to
P kH
i ωi ¼ 1. The number of typical variations that can be selected is 2 , far less than
k
the number 2 of potential variations. The probability of selecting a typical variation
is 2kH . Thus the joint probability of selecting any typical variation is 2kH  2kH
¼ 1. Hence potential variations other than typical will never get selected. The more
typical variations selected the more choice we have. This implies that uncertainty/
information must be defined as a strictly increasing function of 2kH: kH is such
function. As kH is also the only function that is homogeneous it follows that it is the
correct measure of uncertainty/information. The probability of selecting an atypical
variation is zero. Thus agents consider atypical variations as rubbish, not worth of
selecting. Only typical variations are meaningful to them because they are the
variations that they can and will actually select. This implies that evolution is
meaningful rather than blind.
The concurrent origination of a bitpulse and annihilation of another bitpulse
(overall selection) is a subject that will be dealt with in much more detail in Chap. 5.
Here it will be touched upon just to illuminate that it is narrowly connected with the
exchange of entropy for money or for money-like entities. The money flow holds a
content of entropy. However money is virtual entropy. It misses the lifetime that
bitpulses share.
In the last section of this chapter but one we turn to derive an important formula
connected with the elementary selection probabilities qi j of pair wise concurrent
selection. It results in the conclusion that any multi-sector economy is determined
by only three degrees of freedom.

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 85


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_4, # Springer-Verlag Berlin Heidelberg 2013
86 4 Blind and Purposeful Selection

“Can you prove that it’s impossible?” “No”, I said, “I can’t


prove it’s impossible. It’s very unlikely”. At that he said,
“You are very unscientific. If you can’t prove it impossible
then how can you think it’s unlikely?”
Richard P. Feynman

4.1 The Significance of Shannon’s Information Concept

We have discussed in Sect. 3.2 the basic Shannon claim that all the information is
contained in the elementary probabilities of selection. That claim was also the basis
for the statement in Sect. 2.3 that the selection (the assembly) of any sample from or
into non-differential sample space S0 occurs with elementary probability 1=N.
However the arguments in Sects. 2.3 and 3.2 rested on the prior adoption of
Shannon’s conception of information. We took it for granted in Sects. 2.3 and 3.2
that the formulas (1.1) and (2.7) were the correct expressions for the content of
information:
X X
H ð X0 Þ ¼  λi log λi and H ðY0 Þ ¼  μj log μj (1.1)
i j

X
H ð X 0 [ Y0 Þ ¼  qi j  log qi j (2.7)
i; j

These expressions are each based on Shannon’s general definition of informa-


tion/uncertainty
P  and choice. That is, given a partition of events with probabilities
ωi ω i ¼ 1 , the information content or uncertainty of this partition is given by
P i
 i ωi log ωi per sample. What lacks in the arguments exchanged in Sects. 2.3
and 3.2 is a solid justification for applying these expressions as defining the
content of information and uncertainty within the selection context of their
specific sample space. We shall now consider the subject in the present section
in its full perspective.
Shannon justified the definition of information as given in (1.1) and (2.7) within
the mathematical context of the ergodic communication channel. In the evolution-
ary economic context we might follow without much further investigation
Shannon’s argumentation to explain the relevance of (1.1) and (2.7) as proper and
self-evident expressions for the content of information. However Shannon’s
approach covers the typical situation of sequences extending over finite time T .
It is less suited for dealing with sequences of infinitesimally small time-length dt.
I will give another forceful, though related, argument to justify Shannon’s concept
of information as given in (1.1) and (2.7) for the evolutionary situation. That
argument has been partly inspired by E.T. Jaynes’ exposition of what he called
the Wallis derivation (Jaynes 2004, Chap. 11).
4.1 The Significance of Shannon’s Information Concept 87

The reassembly of resources over N different sectors can be approached as a


statistical experiment of Zdt repeated trials of selecting a sample from/into differ-
ential sample space during (t,t þ dt). With each trial a sample will be reassembled
from/into a particular state of a differential sample space. In Sect. 3.2 we noticed
that there are many ways in which the different states of selection can be ordered
over Zdt samples given the elementary probabilities of states. Any particular
sequence that results as outcome of the selection experiment over ðt; t þ dtÞ was
called a variation. However, we considered only two-sector selection in Sect. 3.2.
We shall here discuss the matter in the more general context of the N- sector
economy.
The process of reassembling resources over N different sectors is equivalent
to a statistical experiment of k ¼ Zdt repeated trials of selecting very small
even samples during (t,t þ dt). Then with each trial a sample will be allocated
from/into a particular state of the differential sample space involved.
In the case of inflow selection we withdraw (assemble) samples from the
economy S0 by selecting k ¼ Zdt even samples in consecutive order out of a
“basket” dS 0 ðtÞ originally filled with k samples at time t. ωi ¼ λi is here
the probability that a sample will be reassembled from dS i . After having executed
all k trials of the experiment the basket dS 0 ðt þ dtÞ is empty at time t þ dt.
In the case of outflow selection the best explanation is provided by letting time
run in reverse direction. We add (assemble) samples into the economy S0 by placing
k ¼ Zdt even samples in consecutive order into a “basket” dSþ 0 ðt þ dtÞ that will
eventually be filled with k samples at time t þ dt. ωi ¼ μi is here the probability that
a sample will be reassembled from dSþ i ðt þ dtÞ at an earlier time-instant than t þ dt
on (t,t þ dt). After execution of all k trials of the experiment during (t,t þ dt) the
basket dSþ 0 ðtÞ is empty at the earliest time t of (t,t þ dt).
Thus we see that the mathematics of outflow selection within sample space dSþ 0
can be regarded as similar to the mathematics of inflow selection within sample
space dS 0 by reversing the arrow of time.
In the case of overall selection we assemble samples of differential sample space
þ þ
dS 
0 \ dS0 in consecutive order from/into a “basket” dS0 ðtÞ [ dS0 ðt þ dtÞ filled
with k ¼ Zdt samples. Now samples will be reassembled from/into overall sample
þ
space dS 0 [ dS0 : The mathematics of samples reassembling from/into sample
space dS0 ðtÞ [ dSþ

0 ðt þ dtÞ can be regarded as similar to that of inflow and outflow
þ
selection in sample space dS 0 ðtÞ respectively in sample space dS0 ðt þ dtÞ.
Each process of reassembly can be dealt with as a process of executing k
consecutive drawings of samples “from a basket” that is initially filled with k
samples and therefore we can deal with these three processes mathematically in a
similar way.1 From this common point of tractability, it follows that at the start of

1
There are some mathematical subtleties that we shall not consider in much detail here. One of
them is that the number k of samples depends on time. This implies that for the inflow selection
process the number of k samples in the basket depends on the time t the inflow selection
experiment starts. That is k ¼ k(t). On the other hand for the outflow selection process the number
of k samples in the basket depends on the time t þ dt the outflow selection experiment starts.
88 4 Blind and Purposeful Selection

the process of selection there are ki ¼ ωi k samples within the “basket” in the i-th
state such that

X
N X
N
k¼ ki ¼ ωi k in which N is the number of states
i¼1 i¼1

The aggregate information/value contained in this process of selection is in the


knowledge of the probabilities ωi. If beforehand all ωi are exactly known—then we
know k and all the ki beforehand. In that case we know from combinatorial analysis
that the number Ω of ways k samples can be distributed over differential sample
space such that ki are in state i is equal to

k!
Ω¼ (4.1)
k1 ! k2 !     kN !

P implies that there are Ω different equally likely ways (variations) to allocate
This
k ¼ i ki samples over the various sectors (states). The probability W is the same
for each of these variations/sequences:

k1 ! k2 !     kN !
W¼ (4.2)
k!

These equally likely variations are the only variations that can be chosen subject
to the knowledge of ωi . It reflects the information-situation of the agents if the
selecting agents manage to use all the knowledge contained in the probabilities ωi .
Let us then first see whether and how agents succeed to get access to that informa-
tion by their selection behavior. The way agents manage that, is in fact extraordi-
narily simple.
Inflow reassembly is a process of drawing samples from a basket dS 0 ðtÞ originally
filled with k samples at time t. In the end at time t þ dt all samples have been drawn
and the box dS 0 ðt þ dtÞ is empty. This is typically a statistical selection experiment
without replacement. Likewise outflow reassembly is a similar selection experiment
without replacement with the arrow of time reversed. A similar remark applies to the
þ
case of overall reassembly within differential sample space dS 0 [ dS0 . Having
concluded that, we can return to the mathematics of selection without replacement
within differential sample space because this is how agents actually select. The
chances of selecting a sample in a particular differential subset will now differ
dependent on the consecutive order in which the samples happen to become selected
in the various states within the applicable differential sample space.

That is k ¼ k(t þ dt). Clearly k(t) 6¼ k(t þ dt). However since k(t) is proportional to dt, the
difference between k(t) and k(t þ dt) will only have a second order effect in dt so that this
difference will vanish as dt ! 0.
4.1 The Significance of Shannon’s Information Concept 89

It is well known that the experiment of repeated drawings without replacement


results in the selection of one specific variation/sequence out of exactly the
same set of typical variations as formed from the distribution of k samples
conditional to the fact that ki ¼ ωi k of them always come to reside in state i.
Hence the number Ω is the same as given by (4.1). The probability of each of the
typical variations that can be selected in this manner is also the same probability W
as given before by (4.2) [The details of the mathematics of selection without
replacement can e.g. be found in Jaynes (2004), Chap. 3. A less elaborate standard
proof has been given for the case of two-sector selection in Appendix E]. In
summary we have:

k! k1 ! k2 !     kN !
Ω¼ and W ¼
k1 ! k2 !     kN ! k!

Thus selection without replacement delivers the selecting agents unwittingly


exactly the same information as if they had complete knowledge of the
selection probabilities ωi before they started the experiment of statistical selection
on (t,t þ dt). This implies that—by their actual selection behavior—the selecting
agents succeed to select one out of the class of Ω ¼ W 1 typical variations of which
each has the same probability W to occur. Agents cannot gather more information
about the combination/sequence that they select, because there is no more informa-
tion than available in the knowledge of ωi. That is, the class of probabilities ωi is all
we know concerning which event will happen to occur. This implies that W 1 is a
measure of the maximum information that the agents can gather from the knowl-
edge of ωi. The smaller W is, the more information will be gathered by the agents in
the course of selection.
By applying Stirling’s asymptotic approximation

pffiffiffiffiffiffiffiffiffiffi  
ki χ
ki ! ¼ ðki Þ  2π ki  exp ki þ with 0 < χ < 1
12ki

with respect to expression (4.2), we will establish an asymptotic approximation for


 log W. That is, for k ! 1 conditional to ki =k ! ωi :
X
 log W ¼ k  ωi log ωi  12ðN  1Þ  log k for k ! 1 (4.3)
i

Since ðlog kÞ=k ! 0 for k ! 1, another simpler asymptotic approximation will


usually suffice:
X
 log W ¼ k  ωi log ωi ¼ k  H (4.4)
i

P we have introduced the symbol H to denote the Shannon entropy


Herein
H ¼  i ωi log ωi per sample of the statistical experiment of selection.  log W
90 4 Blind and Purposeful Selection

is equal to k  H (expressed in bits). This is the reassembled entropy gathered by the


selecting agents over the entire time-interval ðt; t þ dtÞ of selection.
Note that  log W is a strictly decreasing function of W.
Mark also that the number Ω of typical variations is 2 log W ¼ 2kH in virtue
of (4.1), (4.2) and (4.4). These typical variations are the only sequences that can
occur subject to the knowledge of ωi . Each of the typical variations has the same
probability W ¼ 2kH of occurrence. In this respect their joint probability
of occurrence is the product of their number 2kH and their individual probability
W ¼ 2kH . That is 2kH  2kH ¼ 1 as required.
There is an important point yet to be considered. We have thus far established
that W 1 is a measure of the information that the selecting agents reassemble from
the knowledge of the probabilities ωi . However W 1 is not the only measure to be
considered for a general definition of information. Any strictly increasing function
FðW 1 Þ of W 1 will do equally well as a general measure of information. Thus we
need an additional criterion to establish what kind of function F ðW 1 Þ should
actually be, i.e. a criterion implying the self-evident definition of information. To
define the concept of information unambiguously this can only be achieved by
another very plausible but also strictly necessary condition of evolutionary homo-
geneity. Recall Zdt ¼ k is the number of samples on the time-interval (t,t þ dt) of
selection. If we multiply that number k of samples by a factor A we may expect the
information content that the agents succeed to gather to multiply by that factor A as
well. Thus the additional necessary condition to be stated with respect to a measure
of information is that it should be proportional to the number Zdt ¼ k of samples on
the selection interval (t,t þ dt). Well it is easy to see that multiplication of the
number k by a factor A will cause the probability of a typical variation to rise to W A.2
It follows that
   
F W A ¼ A  F W 1 (4.5)

This condition is sufficient to result in the solution (See Appendix D):


  X
F W 1 ¼ k  log W ¼ k  H ¼ k  ω log ωi
i i
(4.6)
P
Expression (4.6) justifies that Shannon’s formula H ¼  i ωi log ωi is the
correct general definition of information/uncertainty per sample, thus confirming
the two expressions of (1.1) and expression (2.7) as measures of information/
uncertainty. It is associated with the fact that 2kH equally likely typical variations
can possibly be selected by the agents, each with probability 2kH . The expression
for H is also the correct measure for uncertainty per sample that the agents face
while selecting, because the smaller the state probability 2kH of selection, the more
uncertain agents are about the outcome of selection.

2
Provided k and Ak are very large. Recall the discussion in Appendix A.
4.2 Blind Selection 91

Fig. 4.1 Decomposition of q wq


choice from 2 into 4 states w
1–q w (1–q)
s (1–w)s
1–w
1–s (1–w)(1–s)

Let us for completeness sake consider the selection scheme of Fig. 4.1. The rule
is that—if there is only choice between two states with ω ¼ ω1 ¼ 1  ω2—entropy/
information is given by Hω ¼ ω log ω  ð1  ωÞ logð1  ωÞ . And if the two-
sector selection splits into four states as in Fig. 4.1, entropy/information is

H ¼ ωq logðω qÞ  ωð1  qÞ log½ω ð1  qÞ  ð1  ωÞs log½ð1  ωÞs


 ð1  ωÞð1  sÞ log½ð1  ωÞð1  sÞ

This can be rewritten in the form

H ¼ ω log ω  ð1  ωÞ logð1  ωÞ  ω½q log q þ ð1  qÞ logð1  qÞ


 ð1  ωÞ ½s log s þ ð1  sÞ logð1  sÞ

That is,

H ¼ Hω þ ω Hq þ ð1  ωÞHs

Herein Hq ¼ q log q  ð1  qÞ logð1  qÞ is the entropy of selecting between


the two states of probability q and 1  q. Hs ¼ s log s  ð1  sÞ logð1  sÞ is the
entropy of selecting between the two states of probability s and 1  s.
It is not difficult to lift the condition that Hω , Hq and Hs should be the
entropy/information of two-sector selections. Generally, if ωi are the respective
probabilities of selection that constitute Hω and the choice of each state i splits
up into the selection of sub-sectors j each with probability si j , then
X X X X X
H ¼ Hω  ωi si j log si j ¼  ωi log ωi  ωi si j log si j (4.7)
i j i i j

4.2 Blind Selection

As we have asserted before, selection in differential sample space dS 0 is a process


of selecting (i.e. assembling) k ¼ Zdt samples from non-differential sample space
S0 randomly during ðt; t þ dtÞ with the aim to arrange and order (i.e. to reassemble)
them for purposeful reallocation of entropy into differential sample space. Let the
reassembled entropy be denoted by kH as in the previous section. We have justified
92 4 Blind and Purposeful Selection

in Sect. 4.1 that the information/uncertainty acquired byP the selecting agents on
ðt; t þ dtÞ is equal to the reassembled entropy kH ¼ k  i ωi log ωi . This is the
maximum amount of information/uncertainty that the selecting agents can
acquire. We have also argued in Sect. 2.3 that the reduction
P of uncertainty realized
by agents on ðt; t þ dtÞ is k log N  kH ¼ k log N þ k  i ωi log ωi. Herein k log N ¼
Zdt  log N is the entropy randomly assembled from non-differential sample space S0
during ðt; t þ dtÞ necessary for reassembly in differential sample space. This implies
that the elementary probability ProbfSi g of selecting a sample from Si is equal to
1=N (i 6¼ 0).
Mark that ProbfSi g differs from the elementary probability ωi (See Sect. 2.7).
In the hypothetical case that agents would not reassemble their samples in
differential sample space with elementary probability ωi, but with even probability
1=N for all states i, agents would not realize a reduction of uncertainty by their
selection behavior. The latter selection behavior amounts to a case of completely
random reassembly of samples, which we shall call blind selection.
Blind selection does not result in any acquirement of information (or knowledge)
by the selecting agents during the selection interval ðt; t þ dtÞ. Clearly, agents do not
select blindly. Blind decision making is not the way by which selecting agents are
led while investing, consuming, putting equipment and other production capacity
out of use and employing labor effort. The elementary probability by which they
reassemble their samples is ωi, which will generally differ from 1=N. Their selection
behavior will bring about a reduction of uncertainty. By doing so agents select with
purpose rather than blindly and pure randomly.
Blind selection implies that the knowledge of the probabilities ωi is completely
ignored in the process of selection. Then the only thing we can say is that N states
can get allocated in N k ¼ 2k log N different ways over k samples. This number N k is
the maximum possible number of variations the agents would then make while
selecting on ðt; t þ dtÞ. We have called these variations the potential variations in
Sect. 3.2, where we only considered the case of the two-sector economy, in order to
distinguish this set of potential variations from the set of typical variations, which is
a subset of the set of potential variations. By ignoring the knowledge of ωi it would
remain hidden that the typical variations are the only variations that can actually be
selected. We have seen in Sect. 2.3 that—in the absence of any knowledge about
the probabilities ωi —each sample will be assembled with probability 1=N and that
the assembled entropy is then log N per sample. Subject to this ignorance of the
knowledge of ωi , each of the variations will then be assigned the probability
N k ¼ 2k log N of occurrence.
It is easy to see that the reassembled entropy H per sample is smaller or equal to
the assembled entropy log N per sample, i.e. H  log N. Thus typical variations that
in fact have a probability W ¼ 2kH of occurrence, are assigned a much smaller
probability 2k log N were the knowledge of ωi completely ignored in the process of
selection, i.e. were selection blind.
Equality of reassembled entropy H and assembled entropy log N will only be
attained if all the ωi equal 1=N. Generally this is not the case. It cannot be the case if
4.2 Blind Selection 93

evolution is to occur. E.g. for the modern two-sector economy the outflow proba-
bility of consumption μ1 (the propensity to consume) is of the order of 0.7.
The inflow probability λ1 of labor is of the same order. This implies that generally
H < log N so that typical variations have a much greater probability than N k to
occur because (with N  2).

N k N kH ! 0 for k ! 1

Moreover the knowledge of ωi implies the information that only the typical
variations with equal probability W ¼ 2kH can be selected and that all the other
variations (in number 2k log N  2kH ¼ N k  2kH ) have vanishing zero probability to
occur.
It follows that, if the knowledge of ωi were ignored, the chance of selecting an
atypical variation is so small that it will factually never occur relative to the
occurrence of a typical variation. However the selecting agents do in fact not ignore
the knowledge of ωi but unwittingly exploit it by selecting without replacement and
so they succeed to acquire the maximum attainable knowledge to their own benefit.
It is sometimes debated by practitioners of the social sciences whether the
Shannon measure of Zdt  H reflects all the information that agents can gather
over the time-interval (t,t þ dt). Hodgson and Knudsen accept the Shannon infor-
mation concept to express the information content, complexity and emergent
properties of social evolution quantitatively. Nevertheless they adopt the view
that this Shannon measure “omits key features of information such as ideas and
knowledge in the human domain, particularly meanings and interpretations”
(Hodgson and Knudsen 2010, pages 123, 124). Perhaps this explains their predilec-
tion for identifying habits, traits, customs, ideas and routines with replicators.
Nevertheless they remark that information cannot be defined more narrowly than
Shannon information because of the high level of generality of their conceptual
discussion (Hodgson and Knudsen 2010, page 124).
Well the idea that Shannon’s information concept misses key features as ideas,
knowledge, meanings and interpretations in the economic human domain is a
curious one. The first thing to stress here again is that Shannon entropy/information
is a statistical average (an aggregate) over all the events occurring at the micro-level
of human behavior during (t,t þ dt). The critique on this statistical average concept
of information often enlarges on the richness and variety of micro-behavior of
individual decision-making agents with the unproven suggestion that the mathe-
matics of Shannon can of course never catch up with that variety. We are here
however concerned with different categories: one (Shannon entropy) at the aggre-
gate average level at a particular instant t of time, the other unknowable multifari-
ous phenomena at the micro-level at the same instant t of time.3 This is not a correct
comparison. Furthermore were the Shannon concept of information to miss those

3
Mark that the Shannon average conception of information is not a time-average, but an average
over all micro-economic events at a particular time.
94 4 Blind and Purposeful Selection

key features of variety, the argument can only be taken seriously if those key
features are knowable and affect the selection by the economic agents on (t,t þ dt).
This can only be the case if there are typical variations that hold portions of
replicators (representing such a key feature) with larger information content per
replicator than the average. This is quite impossible. If some replicators hold more
information than other replicators, this is at variance with the second and third
feature defining the replicator of evolution (See Sect. 2.5). Samples, bitpulses,
replicators must be similar. Therefore the contention that Shannon’s information
concept misses key features of information in the human domain is untenable unless
we reject the complete idea of generalized Darwinian evolutionary selection,
a consequence that, I assume, Hodgson and Knudsen do not desire to accept.
Moreover, entropy is fluent. It is impossible to trace afterwards that a particular
sample spent in the i-th sector is actually residing in the i-th sector. Replicators,
samples have no individual label, neither an identity paper nor some individual
certificate. The sample may just as well be anywhere else and consequently
meanwhile have been substituted in the i-th sector by any other sample of entropy
such that the elementary probabilities ωj of entropy over the various states j remain
unaffected. Thus the only certain thing we can say about economic allocation and
reallocation is that the joint number of samples spent (or used up) in a particular
sector i during the time-interval of selection is always ki . There is no way to avoid
that conclusion given the selection probabilities ωi .

4.3 Purpose and Shannon’s Existence Theorem

Is evolution the result of meaningful and purposeful selection? Or is it just the result
of mere blind chance? This has been a subject of much dispute among evolutionists.
The majority of evolutionary biologists has adopted the view that evolution is
without purpose and meaningless. E.g. Jacques Monod (1971) and in particular
Richard Dawkins (1976, 1984, 1988, 1995) have incessantly described evolution as
a blind selection process. Their point is that there are very, very many variations,
the potential variations, that can be selected. The chance to get selected is assumed
to be the same and very small for each variation (This is the common but incorrect
assumption made by almost all evolutionary biologists). It follows then from the
previous assumption that it is a matter of mere blind chance for a single variation to
get selected. And hence, it is mere blind chance that we are the ones that have
survived. The viewpoint expressed by Monod and Dawkins is not very welcome to
economists and has been a formidable obstacle for economists to adopt the view
that economics is evolutionary. Economists do not like to consider the allocation/
reallocation of economic entities as an activity subjected to the whims and fancies
of blind random forces only. Economic behavior is considered to be fairly purpose-
ful, not in all respects rational and optimal, but just reasonable at an average level
and meaningful, certainly not irrational and not without any purpose. This is also
4.3 Purpose and Shannon’s Existence Theorem 95

the opinion that Hodgson and Knudsen express (Hodgson and Knudsen 2010,
page 48) and I endorse that view.
However, H&K postulate that intentionality is an evolved property. Thus, so
they reason, humans select purposefully. It is the easiest way to refute the point of
view of the proponents of blind evolutionary selection. But there is a serious
difficulty involved with this counter argument. It does not really refute the idea
that all variations (inflow-variations as well as outflow-variations, superior as well
as inferior) are selected with equal chance of selection. If all potential variations are
selected with equal chance, it does not really make a difference for the selecting
agents what they actually select. If it would make a difference, the individual
selection probabilities of the potential variations would differ. If the selection
probabilities do not differ, then indeed selection is blind with respect to what is
selected. That is the point the blind selection proponents make and it is a good point
were it not that all potential variations do not possess an equal probability of
selection as we will stress here again in this section. But this is not the stand
Hodgson and Knudsen take. The reply they give does not really enter into the
matter.
The flaw in the argument of Monod and Dawkins is not that they rule out the
goal-directedness of the evolutionary process beforehand. Their point is that if
agents were to select purposefully they would not select all the variations, bad or
good, with the same probability of selection. Instead they would select the purpose-
ful with a much greater chance than the purposeless variations. Since Monod and
Dawkins take it for granted—on the basis of their inadequate interpretation of
Darwinian selection—that all potential variations are equiprobable, they conse-
quently conclude that agents do not select purposefully, but blindly without any
preference for what they select.
The crucial point in the argumentation is therefore whether Monod and Dawkins
are right in assuming that all variations, the atypical as well as the typical variations
(See Sects. 3.2 and 4.1), are selected with equal chance. Clearly that assumption is
wrong. Monod and Dawkins neglect the role of the selecting agents and they also
neglect the effect of that role on the value that these agents attach to the various
variations between which they must select. The agents value and devalue variations
in the course of executing the selection of inflow and outflow.
In the previous sections it has been demonstrated that, if selecting agents act
without using any knowledge, the total number of variations/sequences that the
selecting agents can select on the time-interval (t,t þ dt) of selection is equal to
2klog N . We have also demonstrated that, quite the contrary, the selecting agents use
all the knowledge that comes available during the process of selection to their
maximum advantage. As a result of that exploitation of knowledge only 2kH typical
variations, in number a vanishing portion of the number 2klog N of potential
variations, are favored by the selecting agents. That is,

2klog N 2kH ! 0 for k ! 1

The fact then is that there are an overwhelming number of variations (the
atypical ones) that will never get selected. These rejected variations have a
96 4 Blind and Purposeful Selection

Probability Total number 2k log N


of selection of variations sharing probability
2−k log N to get selected

2− k log N

0
Sequence number of variations
arranged in order of increasing
probability

Fig. 4.2 Graphic representation of Monod/Dawkins conception of selection.


The variations have been arranged in order of increasing state-probability on the absciss. The probability of selection per variation has been
set out on the ordinate, but all variations are equally likely.
The number of variations is 2k log N , each sharing the same probability 2k log N . The joint probability is 2k log N  2k log N ¼ 1 as required

vanishing probability zero to get selected. On the other hand the typical variations
are the only sequences that can be selected, each with the same finite chance 2kH of
selection.
The above argumentation implies that the agents use all the available applicable
knowledge while selecting. Therefore selection is not blind; instead it is meaningful
and purposeful. And hence the selected typical variations are meaningful and
purposeful. The rest of the variations is meaningless. That rest is junk with
vanishing zero probability to get selected.
The thesis that actually agents can only select meaningful variations and actually
never select one of the very many purposeless and unprevailing variations I shall
call Shannon’s existence theorem. In fact that theorem states that only purposeful
variations can exist. The above argumentation by which the theorem is established
is closely related to the argument by which Claude Shannon justified his definition
of information transmitted over the communication channel (Shannon 1948; See
also Jaynes 2004; Papoulis 1985).4 Figures 4.2 and 4.3 clarify the argument
visually. Figure 4.2 represents the Monod/Dawkins conception of evolutionary
selection. It is based on the wrong perception that each variation is selected with
equal probability of selection. Figure 4.3 illuminates the correct Shannon-inspired
conception. P
In Sect. 4.1 it was argued that Zdt  H ¼ Zdt  i ωi log ωi is the maximum
amount of information that the selecting agents can derive from the knowledge
that they gather gradually during the selection process. No more information than
Zdt  H and no less.

4
For good order’s sake, Claude Shannon listed his related theorem as one of the theorems in
Shannon (1948). The proof requires specific adaptations in the mathematical argumentation within
the context of the transmittance and reception of stationary sequences with a finite time-length T
rather than with a vanishing time-length dt.
4.3 Purpose and Shannon’s Existence Theorem 97

Total number 2k⋅logN −2k⋅H


Total number 2k⋅H of
of purposeless variations sharing
purposeful variations
probability 0 to get selected
sharing probability 2−k⋅H
Probability to get selected
of selection

2−k⋅H

Sequence number of variations


arranged in order of increasing
probability
Total joint number 2k⋅log N
of variations

Fig. 4.3 Graphic representation of Shannon conception of selection.


The variations have been arranged in order of increasing state-probability on the absciss. The probability of selection per variation has been
set out on the ordinate.
The fraction of the number 2kH of purposeful sequences relative to the total number 2klog N of all variations (i.e. purposeless and purposeful

together) tends to 0 for k!1, i.e. the fraction 2kH 2klog N ! 0 for k ! 1.
Note that the probability of selection of any purposeless sequence is 0 and that the probability of selection of any purposeful sequence is
2kH  2kH ¼ 1. This implies that purposeless variations will never get selected (or more precisely their probability of occurrence is zero)
and that purposeful variations are the only combinations selected by the economic agents

From the point of view of evolutionary selection Zdt  H ðY0 Þ can be interpreted
as a maximum level of attainable aggregate outflow information that economic
agents on outflow selection acquire. By their selection behavior they make the best
of it they can by choosing a strategy and deal with the situation as purposefully and
as best as possible given the skills, knowledge and opportunities they have. In this
way they manage to reach the maximum attainable level Zdt  H ðY0 Þ of outflow
information during the selection interval (t,t þ dt).
Likewise from the point of view of evolutionary selection Zdt  H ðX0 Þ can be
interpreted as a maximum level of attainable aggregate inflow information that
economic agents on inflow selection acquire. By their selection behavior they make
the best of it they can by choosing a strategy and deal with the situation as
purposefully and as best as possible given the skill, knowledge and opportunities
they have. In this way they manage to reach the maximum attainable level
Zdt  HðX0 Þ of inflow information during the selection interval (t,t þ dt). The
economic agents actually select only a single inflow variation and only a single
outflow variation out of a gigantic supply of inflow, respectively outflow, variations
during (t,t þ dt). The vast majority of the variations (the atypical ones) will be
immediately rejected, they will never be selected because the selecting agents know
or feel that these variations don’t work or the agents just don’t like them. Thus
agents will not select a butcher to get employed to bake bread in a bakery. Nor will
they send a ship on the highway to transport cargo to a foreign country. Neither will
a consumer/agent purchase chocolates for his love if she hates sweets. What
98 4 Blind and Purposeful Selection

remains for potential selection are the relatively very few meaningful typical
variations among the enormous supply of (potential) variations. According to
Shannon’s existence theorem these favored meaningful typical variations have
each equal probability of being realized. Thus a baker has a chance to get employed
in a bakery, a ship has a chance to sail cargo abroad over the sea, and a lady which
hates sweets but is fond of flowers has the chance to get surprised by a bouquet of
flowers.
It follows that Shannon’s justification of his conception of information and
uncertainty was also in the notion that agents can factually only select typical
variations each occurring with even probability W , from which he concluded—
like in Sect. 4.1—that more information is gathered the smaller W is. This is more
or less also the argument we used in Sect. 3.2 to motivate the Shannon definition of
information.
The additional argumentation we gave in Sect. 4.1 with respect to the argument
given in Sect. 3.2 is the observation that agents get unwittingly full access to the
source of hidden knowledge that is in the elementary probabilities because they
select without replacement. This observation was still wanting in the argument
developed in Sect. 3.2. I think the latter observation completes the best argumenta-
tion there is to justify Shannon’s information concept.

4.4 Blind Selection, Purposeful Selection and Economic


Inheritance. Some More Calculations

Let us now return to considering the arithmetic and the mathematics of the selection
of samples in another way. We shall deal with the two-sector economy only so that
each of the samples has the possibility to reside in state 1 (the consumption sector)
or, alternatively, to reside in state 2 (the investment sector). The economy can then
be considered as a stock of entropy consisting of an endless number of samples
stored in that economy either in the consumption sector or in the investment sector.
The joint number of samples stored in the investment sector is entrepreneurial
capacity, the joint number of samples stored in the consumption sector is labor
capacity.
Each sample of the economy observed at current time t has originated at its
specific (random) initial time t  τ ðτ > 0Þ in the past and will annihilate at its
specific (random) final time t þ θ ðθ > 0Þ in the future. We have visualized the joint
stock of samples resident in the economy in Fig. 4.4. This has been done quite
schematically just to clarify that there are many individual samples with limited
lifetime that together form the joint entropy stocked in the economy, i.e. in
investment sector and consumption sector. Clearly, the initial rise of the joint
content of entropy from the non-existence level of 0 bits, followed by a later decline
to the non-existence level of 0 bits again, as illustrated in Fig. 4.4, is generally not
representative for the entropy of an economy. Here it has only been done to
4.4 Blind Selection, Purposeful Selection and Economic Inheritance. Some More. . . 99

Number of
samples in Approximation of a set by
a set various samples each with
its own initial time and
final time

0
time

Future

Past
Single sample lifted
Entropy out of the stock of
in bits samples that
represents the
population at
logN current time t

Initial time final time


t -t t +q

current time t

Fig. 4.4 The time-dependent entropy of a particular sample.


Entropy is absent before the initial time and after the final time of the bitpulse. Entropy is log N bits per sample in between these two
instants. Current selection will take place on a time interval ðt,t þ dtÞ of very small duration dt in the very vicinity of current time t. It affects
only that part of the stock of samples that is ceasing existence on ðt,t þ dtÞ and that is coming into existence on ðt,t þ dtÞ

demonstrate the various initial times and final times of the constituting samples in a
rather specific manner.
The samples stocked in the economy of Fig. 4.4 await their moment of differen-
tial selection. This is clarified in Fig. 4.5. Here we have been drawing the selected
(inflow) samples that cease existence on (t,t þ dt) and the selected (outflow)
samples that originate on (t,t þ dt).
Each inflow sample has had its specific finite time-instant t  τ of origination in
the past. Each outflow sample will have its specific finite time-instant t þ θ of
100 4 Blind and Purposeful Selection

Created outflow samples with


varying excess lifetimes q exist
into the future. Their annihilation
in the future extends beyond the
Outflow samples of small time interval (t,t+dt ) . In this
+ − manner order, information, skills,
dS0 | dS0 coming
methods of production, techniques
into existence
and value transfer from the past
into the future affecting “economic
Outflow samples of inheritance”
− +
dS 0 Ç dS 0 coming
A
into existence t +q
B
C
a
t −t b Time
c
Inflow samples of
− +
dS 0 Ç dS0 ceasing
Annihilating inflow samples with
existence
varying current lifetime t emanate
from the past.
Their origination in the past Inflow samples of
anticipates the small time interval − +
dS 0 | dS0 ceasing
(t,t+dt). In this manner order,
existence
information, skills, methods of
t t+dt
production, techniques, and value
transfer from the past into the future
affecting “economic inheritance” Time interval
(t,t+dt) of current
selection

Fig. 4.5 The creation and annihilation of samples of value on the time interval (t,t þ dt) of
selection.
The transmission of inflow and outflow manifests itself in the concurrent selection of the pairs Aa, Bb and Cc of outflow/inflow samples.
þ þ þ
Outside dS  
0 \ dS0 overall selection reassembles inflow samples to annihilate in dS0 |dS0 and outflow samples to originate in dS0 |dS0

expiration in the future. Relative to the infinitesimally small interval-time-length dt


the time instants t  τ and t þ θ are far-away from the time t of observation. So these
time-instants are not on the drawing-paper.
The samples of Fig. 4.5 lend themselves to get combined—during a particular
time interval (t,t þ dt) of selection—in a vast number of different potential
(entropy) variations each with a different sequence of samples in state 1 and
samples in state 2. Here the number of potential variations is very large but still
finite. Actually the total number of samples that is created or sacrificed on ðt,t þ dtÞ
is infinite so that we can apply the asymptotic approximations for the number and
probability of the variations purposefully selected and the number and probability
of the junk variations never selected as given in Sect. 4.1.
Figure 4.5 throws also more light on overall selection. The transmission
H Xi \ Yj is nothing else than the joint exchange of entropy between the i-th
sector of the economy and its j-th sector to prepare for its reassembly in the process
of overall selection. Let me clarify this connection for the transmission HðX0 \ Y0 Þ
with the help of a Venn diagram (e.g. Fig. 2.3) and the scheme of originating
outflow samples and annihilating inflow samples of Fig. 4.5 by marking the pairs of
outflow samples and inflow samples that combine in the latter figure. The outflow
4.4 Blind Selection, Purposeful Selection and Economic Inheritance. Some More. . . 101

samples marked with A, B and C combine with the inflow samples marked with a, b
and c in respective order. Note that as a consequence of their simultaneous selection
A and a are selected as a concurrent Aa pair of samples, likewise B and b are
selected as a concurrent Bb pair of samples and C and c are selected as a concurrent
Cc pair of samples. Thus the interaction between inflow and outflow manifests itself
in the concurrent selection of these pairs Aa, Bb, Cc of “pure” and virtual entropy5
þ
within the intersection area dS
0 \ dS0 . The result is that equal quantities of entropy
will annihilate and originate in the intersection area as required. This is exactly the
requirement to be satisfied to identify transmission with the volume of financial
exchange.
  On the other hand unequal quantities of entropy will be reassembled in
dSþ dS and dS dSþ .
0 0 0 0
Let us—as in Sect. 3.2—for illustrative and explanatory purposes consider in
more detail the hypothetical situation depicted in Fig. 4.5 for which only a very
limited number of samples are selected on ðt,t þ dtÞ. In that case we can do the
numerical calculations of numbers and probabilities without using the asymptotic
approximations of Sect. 4.1, but instead use the exact formula as given by (A.1) of
Appendix A and by (4.1). For instance: if all that is selected during the time-interval
(t,t þ dt) are Zdt ¼ 10 samples either within state 1 or within state 2, the number of
potential variations is 210 ¼ 1024: Part of these variations has been listed in
Table 4.1. There are already too many to list all of them on one page. Only one
of the 1024 potential variations is actually selected during (t,t þ dt). If there are 7
of the 10 samples in differential outflow sample space in state 1 as in Fig. 4.6,
agents will always select a purposeful typical variation that has 7 samples in state 1
and 3 samples in state 2. The number of typical variations that can be selected by the
agents in this way is 10!=ð7!  3!Þ ¼ 120. [See e.g. (4.1) and Sect. 4.1]. The typical
variations have been bold printed in Table 4.1, but note that we cannot list all 120 of
them in the table. Only one of the typical variations is actually selected by the
agents (as a result of selection without replacement). As we have argued this is
achieved in a purposeful manner. The selected typical variation has a chance 1=120
to occur. Since all other typical variations have the same chance of selection, the
probability to select any purposeful typical combination is 120  1=120 ¼ 1. Hence
the probability of selecting a purposeless atypical variation is zero. No chance left
for that.
We have now the opportunity to detail the property that bitpulses possess finite
lifetime! One single sample drags on the same content of entropy during its
lifetime. The economic replicator is the equivalent of the sample with a lifetime.
þ
The intersection domain dS 0 \ dS0 is the domain of exchange. Here the various
pairs of bitpulses exchange for money or conversely: A for a, B for b and C for c.
The phenomenon of exchange is typical for the processes of selection within the
transmission domain. It can be explained as follows:
þ
We must discern between “pure” entropy bitpulses within dS 0 \ dS0 that leave
a trace of entropy and the counterbalancing virtual bits of entropy (money/

5
The difference between “pure” and virtual entropy will be defined more comprehensively in
Sect. 5.2 and within the context of Chaps. 5 and 6.
102 4 Blind and Purposeful Selection

Table 4.1 Evolutionary variation and selection in the hypothetical case that there are only 10
samples that get selected either within state 1 or within state 2 and if the elementary probability ω
of selecting a sample within state 1 is equal to ω ¼ 0.7. In this case the total number of possible
(atypical) combinations (the number of variations) is 210 ¼ 1024. The total number of actually
selected purposeful typical variations (bold printed) is much smaller and equal to:
Ω ¼ k1 !kk
!
2!
¼ 7 !103! ! ¼ 120 with k1 ¼ ω k and k2 ¼ ð1  ωÞk
List of potential variations
1111111111 1111111112 1111111121 1111111122 1111111211 1111111212
1111111221 1111111222 1111112111 1111112112 1111112121 1111112122
1111112211 1111112212 1111112221 1111112222 1111121111 1111121112
1111121121 1111121122 1111121211 1111121212 1111121221 1111121222
1111122111 1111122112 1111122121 1111122122 1111122211 1111122212
1111122221 1111122222 1111211111 1111211112 1111211121 1111211122
1111211211 1111211212 1111211221 1111211222 1111212111 1111212112
1111212121 1111212122 1111212211 1111212212 1111212222 1111221111
. . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . .
. . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . .
. . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . .
1212111212 1212111211 1212111122 1212111121 1212111112 1212111111
1212112121 1212112112 1212112111 1212111222 1212111212 1212111221
1212121111 1212112222 1212112221 1212112212 1212112211 1212112122
1212121212 1212121211 1212121211 1212121122 1212121121 1212121112
1212122122 1212122121 1212122112 1212122111 1212121222 1212121221
1212211112 1212211111 1212122222 1212122221 1212122212 1212122211
1212211222 1212211221 1212211212 1212211211 1212211122 1212211121
1212212212 1212212211 1212212122 1212212121 1212212112 1212212111
. . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . .
. . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . .
. . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . . . . .. . .. . .. . .. . .
2221221111 2221221112 2221221121 2221221122 2221221211 2221221212
2221221221 2221221222 2221222111 2221222112 2221222121 2221222122
2221222211 2221222212 2221222221 2221222222 2222111111 2222111112
2222111121 2222111122 2222111211 2222111212 2222111221 2222111222
2222112111 2222112112 2222112121 2222112122 2222112211 2222112212
2222112221 2222112222 2222121111 2222121112 2222121121 2222121122
2222121211 2222121212 2222121221 2222121222 2222122111 2222122112
2222122121 2222122122 2222122211 2222122212 2222122221 2222122222
2222211111 2222211112 2222211121 2222211122 2222211211 2222211212
2222211221 2222211222 2222212111 2222212112 2222212121 2222212122
2222212211 2222212212 2222212221 2222212222 2222221111 2222221112
2222221121 2222221122 2222221211 2222221212 2222221221 2222221222
2222222111 2222222112 2222222211 2222222212 2222222221 2222222222
Note that neither all of the potential variations nor all of the purposeful typical variations have
been listed in the table for practical reasons. The sixth typical variation (1212111211) in the
second column of the list is the one actually selected in the example illustrated in Fig. 4.6.
4.4 Blind Selection, Purposeful Selection and Economic Inheritance. Some More. . . 103

Selected purposeful outflow variation


(1212111211) of the joint outflow of
10 samples during the time interval
(t,t + dt).
(1) = sample selected in state 1.
(2) = sample selected in state 2.

Outflow samples coming


into existence as a
sequence of selected
states (1212111211). 1
t is here the initial time 2
of the ten outflow 1
samples. t + q is final 2
time of the samples with 1
excess lifetime q varying 1
1
per outflow sample.
2
1 t +q
1

Time

t t + dt
Time interval
(t,t + dt) of
current selection

Fig. 4.6 The statistical experiment of outflow selection of samples during the time interval
(t,t þ dt) of selection.
Only a single one of the purposeful typical sequences of the outflow samples is actually selected, but all the purposeful sequences have equal
probability to get selected. The remaining possible combinations (the variations) have zero probability to get selected. Because of that they
are purposeless

þ
liquidity/accounts receivable etcetera) within dS 0 \ dS0 that leave no trace of
entropy except for an eventual surplus of virtual bits. “Pure” entropy (or just the
collection of bitpulses) has lifetimes and leaves as such a trace of entropy in the
course of time. Virtual bits of entropy have no lifetimes and therefore they cannot
be bitpulses. The pair wise selection of samples will manifest itself in two
possible ways:
þ
1. In the intersection domain dS 0 \ dS0 a bit a of virtual entropy sacrifices its
imaginary content of a single bit of entropy at its manifestation time θ0
ðt  θ0  t þ dtÞ in exchange for a concurrently created bitpulse A at initial
þ
time τ ðt  τ  t þ dtÞ within dS0 \ dS0 .
þ
2. In the intersection domain dS0 \ dS0 a bitpulse b is sacrificed at its final time θ
ðwith t  θ  t þ dtÞ to create concurrently a virtual bit B of entropy at its
manifestation time τ0 ðt  τ0  t þ dtÞ.
104 4 Blind and Purposeful Selection

þ
There are (infinitely) many of these pair wise occurrences within dS 0 \ dS0 (we
have only depicted three of those pairs in Fig. 4.5). Since the various virtual bits
cancel as far as they can, they leave only a surplus of created virtual bits over
annihilating virtual bits or a surplus of annihilating virtual bits over created virtual
þ
bits within dS
0 \ dS0 .
Thus if there is a surplus Δ of annihilating virtual bits over created virtual bits
þ
within dS0 \ dS0 during ðt; t þ dtÞ, then:
 þ

• the number of created “pure” bitpulses is Zdt  H dS 0 \ dS0
þ

• the number of annihilating “pure” bitpulses is Zdt  H dS 0 \ dS0  Δ
• the number of annihilating virtual bits is Δ
On the other hand if there is a surplus Δ of created virtual bits over annihilating
þ
virtual bits within dS
0 \ dS0 during ðt; t þ dtÞ, then:
 þ

• the number of created “pure” bitpulses is Zdt  H dS 0 \ dS0  Δ
• the number of created virtual bits is Δ  
þ
• the number of annihilating “pure” bitpulses is Zdt  H dS 0 \ dS0

The contended cancellation of a pair of virtual bits, of which one manifests itself at
another time τ0 on ðt; t þ dtÞ than the manifestation time θ0 of the other on ðt; t þ dtÞ,
may meet some reserves as it appears that complete cancellation can only be realized
if τ0 ¼ θ0. Likewise the creation (annihilation) of a “pure” bitpulse at a particular time
on ðt; t þ dtÞ in exchange for a virtual bit at another manifestation time on ðt; t þ dtÞ
may call forth similar reserves. However, the distribution of initial times, final times
and manifestation times over the selection interval ðt; t þ dtÞ is of no significance. As
we already remarked in Sect. 3.2 “the time-length dt of the selection interval is so
small that, economically, all Zdt trials take place simultaneously. Thus in fact
differences in the sequential order by which the states are distributed over the samples,
given the elementary probabilities of selection, cannot have an economic effect”.
Selections are carried out individually by very many economic agents. How we order
their individual selection decisions sequentially over the time-interval ðt; t þ dtÞ in the
course of time is quite irrelevant noticing that dt ! 0 . The entropy flows remain
unaffected. There is no information in the way initial times and final times of bitpulses
and manifestation times of virtual bits are ordered on the selection interval ðt; t þ dtÞ.
Exchange or its equivalent, transmission, facilitates information to transfer
continually from the past into the future so that the evolutionary process can go
on. Clearly, simultaneously with the exchange process entropy will be reordered
(reassembled) in response to outflow selection and inflow selection,  resulting in a
þ   þ
gain of entropy in dS0 dS0 , respectively a loss of entropy in dS0 dS0 and similar
þ
gains and losses of entropy in the transmission domain dS 0 \ dS0 due to overall
selection (See Sect. 4.5).
Hodgson and Knudsen assert the realization of information transfer from the past
into the future (the Darwinian principle of inheritance) to depend on the mechanism
of generative replication by which they understand the copying of replicators at the
4.4 Blind Selection, Purposeful Selection and Economic Inheritance. Some More. . . 105

end of their lifetime into new replicators at the beginning of their lifetime. Well,
replication is certainly quite necessary to warrant the effect of economic inheri-
tance. However for completeness sake, the generation (creation) of new replicators
is only one side of the coin. There is also the degeneration (sacrifice) of old
repliclators. So why add the adjective generative? I do not think that the terms
generative and degenerative contribute to catching the essence of conveying
information from the past into the future. Instead exchange is the right term. To
warrant that information is conveyed by information carriers (the replicators/
bitpulses) in the course of time, these carriers must possess lifetime. Else entropy
does not circulate and then the samples are incapable of replication and cannot pass
the information of the past into the future. However, we all know that the economy
produces entropy that possesses lifetime: Production equipment is used for lengthy
periods of time; laborers apply their skills and experience during many laborious
years. Thus Darwinian inheritance (otherwise a typical mechanism of evolutionary
genetically based biology which is less appropriate for describing economic evolu-
tion) meets its economic counterpart in the circulating properties of entropy with a
lifetime.6 Methods of production and skills are stored and expressed as entropy with
a lifetime in entrepreneurial capacity (state 2) as well as in labor capacity (state 1).
Let us revert to the hypothetical selection situation of Table 4.1. Recall that only
the 120 purposeful typical variations have each a chance 1=120 to get actually
selected. The remaining number of 1024  120 ¼ 904 atypical variations has zero
chance to get selected and these variations are therefore purposeless (on behalf of
Shannon’s existence theorem).
Actually only one out of the purposeful typical variations will be selected on
ðt,t þ dtÞ. In Fig. 4.6 I have assumed that the typical outflow sequence (1212111211),
composed of the 10 samples, is the specific typical outflow variation actually
selected. It could of course—with equal probability—have been one of the other
bold printed purposeful typical variations listed in Table 4.1. The one selected in
Fig. 4.6, allocates the 2nd, 4th and 8th sample to state 2 and the other samples to state 1.
Note this is only the outcome of the outflow selection experiment on ðt,t þ dtÞ. It must
yet be completed with the outcome of the inflow selection experiment.
As stressed before the number of Zdt ¼ 10 samples is a hypothetical case. That
number is far too small to represent the actual situation of evolutionary selection.
To improve on the scheme we must have the number of samples to tend to infinity.
In Sect. 1.7 we discussed the effects of increasing Zdt on the Shannon formula (1.1).
It was further analyzed in Appendix A and Sect. 3.2. Let us now see what the effects
of increasing Zdt are on the number of potential variations and the number of typical
variations here. To see what happens let us successively multiply the number of
samples by increasingly greater powers of 10, i.e. from 10 to 100 to 1,000 to 10,000

6
There is a remarkable correspondence in the aim expressed in the sub-title Bringing Life Back
into Economics of Hodgson’s 1993 book (Hodgson 1993) and the finding that lifetime is the
necessary requisite to reach that goal. Indeed evolution is about the development of life and life
needs lifetime to exist.
106 4 Blind and Purposeful Selection

Table 4.2 Numbers of potential variations and numbers of actually selected purposeful sequences
for different numbers of samples
Probability of
selecting a
single Quotient of number of
Number Number of Number of purposeful typical purposeful potential variations
Zdt of potential variationsa variation and number of
samples variations ðω ¼ 0:7Þ ðω ¼ 0:7Þ purposeful variations
10 2 ¼ 1024
10 120 1 =120 8.533
100 2100 100!=ð70!  30!Þ  288  288  212
1,000 21000 1000!=ð700!  300!Þ  2881  2881  2119
10,000 210000 10000!=ð7000!  3000!Þ  28812  28812  21188
a
The numbers in the 3rd, 4th and 5th row of this column have been calculated by applying the
following very accurate asymptotic approximation:
log[k!/(k1!k2!)] ¼ –[(1–ω)log(1–ω) þ ωlogω]k – ½log[(1–ω)ωk] – ½log(2π)

while keeping the quotient ω ¼ ω1 of the number of samples in state 1 and the total
number of samples within sample space (the “basket” of selection) at exactly 70 %.
The larger the number of samples in differential sample space, the better the
asymptotic approximation, as dealt with in Sect. 4.1, must be. For instance if the
number of samples is 100, the number of potential variations is a very huge number:

2100 > 1030

whereas—with ω ¼ 0:7—the number of typical variations that are considered for


actual selection is then approximately 288, which is about a factor 212 ¼ 4096
smaller than the number of potential variations. The larger we choose the total
number of samples, the larger this factor gets (See the data in the fifth column of
Table 4.2 for increasing number of samples). Thus we see again that the quotient of
the number of purposeful typical sequences to the number of potential variations
tends to zero if the number Zdt of samples tends to infinity. This will be realized in
the mathematical limit by choosing the unit of entropy infinitesimally small.
Note also that the joint probability of selecting any of the purposeful sequences
on the time interval (t,t þ dt) of selection is always 1 (i.e., the product of the
number in the third column and the probability in the fourth column of the above
Table 4.2). Hence, there is no chance left to select any of the remaining purposeless
variations.

4.5 Selection in Overall Sample Space

Whenever all information is lacking the probability of selecting a sample is 1=N .


This is the general rule of blind selection. Blind selection is restricted to non-
differential sample space only. But it may occur in combination with differential
selection.
4.5 Selection in Overall Sample Space 107

þ
Let us consider the intersection dSi \ dSj ði; j ¼ 1 or 2Þ. This is the space in
which even samples of inflow annihilating in state i and outflow originating in state j
combine concurrently to reassemble entropy inflow and entropy outflow. The
probability by which an inflow sample annihilating in state i and an outflow sample
originating in state j are assembled concurrently is qi j. Recall that the sampling rate
in overall sample space dS0 is Z. Hence there are Zdt  qi j different trials within
þ
dSi \ dSj , which bring forth reassembled entropy annihilating in state i together
with reassembled entropy originating in state j . The reassembled probability of
selecting all the samples during ðt; t þ dtÞ is
 Zdtqi j
qi j

Thus the total reassembled entropy annihilating in state i and originating in state j
during ðt; t þ dtÞ is
 Zdtqi j
 log qi j ¼ Zdt  qi j log qi j

It follows that  qi j log qi j is the reassembled entropy annihilating in state i and


originating in state j per trial.
þ
Figure 4.7 presents a graphical sketch of the selection process within dS i \ dSi .
The experiment differs markedly from (stand-alone) inflow and outflow selection.
Here a single trial of the overall experiment is the drawing of a single concurrent
pair of samples, of which one sample always annihilates in a fixed state i and the
other always originates in a fixed state j on (t,t þ dt) simultaneously.
There is another way to calculate the latter reassembled entropy.
þ
We can find the reassembled entropy  qi j log qi j per trial of dS
i \ dSi also in an
indirect manner
 by considering the portion that each of the two unconditional entropy
flows H Yj and H ðXi Þ contributes to the reassembled entropy of  qi j log qi j .
• One portion is the entropy  of a sample to originate in state j on (t,t þ dt). This
results in the entropy H Yj of the originating sample but to determine its entropy
contribution properly we must weight it by the probability ProbfSi g ¼ 1=N of
  sample in statei in S0 (i ¼
preselecting/assembling the associated annihilating 6 0). It
follows that it contributes an entropy flow H Yj  ProbfSi g ¼ H Yj =N to  qi j
log qi j . Clearly, this is the portion of entropy of  qi j log qi j in Fig. 4.7 from the
perspective that the origination of a sample in state j of differential sample space on
(t,t þ dt) is certain and that the required additional sample of annihilation in state i
is yet to be appended with elementary probability ProbfSi g ¼ 1=N of assembly/
preselection within non-differential sample space S0 .
• Another portion is the entropy of a sample to annihilate in state i on (t,t þ dt). This
results in the entropy H ðXi Þ of the annihilating sample but to determine
its entropy
contribution properly we must weight it by the probability Prob Sj ¼ 1=N of
preselecting/assembling the associated originating sample in state j in S0 ðj ¼ 6 0Þ.
108 4 Blind and Purposeful Selection

Samples originating in state j


logN

0
time

Samples annihilating in state i


logN

0
time

t Number of samples t + dt
is Zdt ⋅ qij

Fig. 4.7 Overall selection.


Concurrent creation in state j and annihilation in state i of pairs of samples on (t,t þ dt). The samples behave as if they are pair wise being
exchanged. In the drawing one pair has been bold printed; another pair has been sketched by dotted lines. There are many more pairs
of concurrent samples on (t,t þ dt). The total number of different pairs formed by samples annihilating in state i and originating in state j on
(t,t þ dt) is Zdt  qi j . Each pair is selected with equal probability qi j on (t,t þ dt). Thus the reassembled probability of selecting concurrent
samples during (t,t þ dt) of which one is being sacrificed in state i and the other created in state j is
 Zdtqi j
qi j and the associated entropy is  Zdt  qi j log qi j

It follows that it contributes an entropy flow H ðXi Þ  Prob Sj ¼ H ðXi Þ=N to


 qi j log qi j . Clearly, this is the portion of entropy of  qi j log qi j in Fig. 4.7
from the perspective that the annihilation of a sample in state i of differential
sample space on (t,t þ dt) is certain and that the required additional sample of orig-

ination in state j is yet to be appended with elementary probability Prob Sj ¼


1=N of assembly/preselection within non-differential sample space S0 .
• Well this is not all. The two portions of entropy just calculated share a common
portion H Xi \ Yj ¼ qi j HðX0 \ Y0 Þ of entropy that is yet to be deducted from
their total of entropy they contribute to  qi j log qi j :
 
H Yj =N þ H ðXi Þ=N

That common portion is the result of statistical dependence between the events
of origination in state j and the events of annihilation in state i. This is the entropy
of the event that the assembly/selection of the annihilating sample in state i of
non-differential space S0 would occur concurrently with the assembly/selection
of the originating sample in state j of non-differential
  space S0 during the
selection interval (t,t þ dt). This portion H Xi \ Yj of concurrent entropy is yet
 
to be deducted from the above total H Yj =N þ H ðXi Þ=N to avoid a double count
because dSþ 
j and dSi have it in common.
In summary,

1 1  
 qi j log qi j ¼  H ðXi Þ þ  H Yj  qij H ðX0 \ Y0 Þ ði; j ¼ 1,2,3,    , NÞ (4.8)
N N
4.6 The Three Degrees of Freedom of Evolution 109

Let us check formula (4.8) by summation over the indices i and j:


X X X   X
N qij log qi j ¼ H ðXi Þ þ H Yj  N  q i j H ð X 0 \ Y0 Þ (4.9)
i; j i; j i; j i; j

It is easy to see that


X X  
H ðXi Þ ¼ N  H ðX0 Þ and H Yj ¼ N  H ðY0 Þ
i; j i; j

P P
Moreover, on behalf of (B.4) of Appendix B, qi j ¼ 1 and  qi j log qi j ¼
H ðX0 [ Y0 Þ. After substitution in (4.9) it follows that

N  H ð X 0 [ Y0 Þ ¼ N  H ð X 0 Þ þ N  H ð Y 0 Þ  N  H ð X 0 \ Y 0 Þ

which indeed is a correct result.

4.6 The Three Degrees of Freedom of Evolution

For the two sector economy it follows from (4.8) that


   
 2qi j log qi j ¼ H ðXi Þ þ H Yj  2H Xi \ Yj ði; j ¼ 1, 2Þ (4.10)

With the help of the Venn diagram of Fig. 2.4 and the auxiliary subsets A, B, C,
D, E, F, G and U as given in this diagram we establish for the two-sector economy:

2q11 log q11 ¼ HðBÞ þ HðDÞ þ HðFÞ þ HðGÞ


2q12 log q12 ¼ HðAÞ þ HðCÞ þ HðEÞ þ HðGÞ
(4.11)
2q21 log q21 ¼ HðBÞ þ HðCÞ þ HðEÞ þ HðUÞ
2q22 log q22 ¼ HðAÞ þ HðDÞ þ HðFÞ þ HðUÞ

From (4.11) it follows that, with μ ¼ μ1 ,

q11 log q11 þ q12 log q12  q21 log q21 þ q22 log q22 ¼ HðBÞ  HðAÞ
¼ ð2μ  1Þ  HðY0 jX0 Þ

so that

q11 log q11 þ q12 log q12  q21 log q21 þ q22 log q22
H ðY0 jX0 Þ ¼ (4.12)
ð2μ  1Þ
110 4 Blind and Purposeful Selection

In a similar manner, with λ ¼ λ1 ,

q11 log q11 þ q21 log q21  q12 log q12 þ q22 log q22
H ðX0 jY0 Þ ¼ (4.13)
ð2λ  1Þ

and

 q11 log q11  q22 log q22 þ q12 log q12 þ q21 log q21 ¼
 
¼ HðDÞ þ HðFÞ  HðCÞ  HðEÞ ¼ 2 12  q11  q22  H ðX0 \ Y0 Þ

so that

q11 log q11  q22 log q22 þ q12 log q12 þ q21 log q21
H ð X 0 \ Y0 Þ ¼   (4.14)
2 12  q11  q22

Furthermore from (B.6) and (B.7) of Appendix B,


X
H ðY0 jX0 Þ  HðX0 jY0 Þ ¼ H ðY0 Þ  H ðX0 Þ ¼  i
ðμi log μi  λi log λi Þ

It follows then with (4.12) and (4.13) that

X q11 log q11 þ q12 log q12  q21 log q21 þ q22 log q22
ðμi log μi  λi log λi Þ ¼ þ
i
ð2μ  1Þ
q11 log q11  q12 log q12 þ q21 log q21 þ q22 log q22

ð2λ  1Þ
(4.15)

With μ ¼ μ1, λ ¼ λ1, q ¼ q11 and μ2 ¼ 1  μ, λ2 ¼ 1  λ, q12 ¼ λ  q, q21 ¼ μ  q


and q22 ¼ 1 þ q  μ  λ expression (4.15) is an equation in the three time-
dependent unknowns μ, λ and q.
Thus all the elementary probabilities can be calculated if two of them are known.
To calculate all the economic variables we need also the knowledge of the time-
dependent sampling rate Z. This implies that the two-sector economy is a system
with three degrees of freedom. That is, once the data of three independent time-
series (e.g. μðtÞ, λðtÞ and Y0 ðtÞ or any other independent trio of time-series) are
available, we can calculate all the other economic variables of the two-sector
economy as functions of time.
For the three-sector economy (4.8) assumes the form
   
 3qi j log qi j ¼ H ðXi Þ þ H Yj  3H Xi \ Yj for i; j ¼ 1; 2, 3

With the help of the Venn diagram of Fig. 2.5 this results in the following
equations for the three-sector economy:
4.6 The Three Degrees of Freedom of Evolution 111

 3q11 log q11 ¼ μ1 H ðY0 Þ þ λ1 H ðX0 Þ  3q11 H ðX0 \ Y0 Þ

 3q12 log q12 ¼ μ2 H ðY0 Þ þ λ1 H ðX0 Þ  3q12 H ðX0 \ Y0 Þ

 3q13 log q13 ¼ μ3 H ðY0 Þ þ λ1 H ðX0 Þ  3q13 H ðX0 \ Y0 Þ

 3q21 log q21 ¼ μ1 H ðY0 Þ þ λ2 H ðX0 Þ  3q21 H ðX0 \ Y0 Þ

 3q22 log q22 ¼ μ2 H ðY0 Þ þ λ2 H ðX0 Þ  3q22 H ðX0 \ Y0 Þ

 3q23 log q23 ¼ μ3 H ðY0 Þ þ λ2 H ðX0 Þ  3q23 H ðX0 \ Y0 Þ

 3q31 log q31 ¼ μ1 H ðY0 Þ þ λ3 H ðX0 Þ  3q31 H ðX0 \ Y0 Þ

 3q32 log q32 ¼ μ2 H ðY0 Þ þ λ3 H ðX0 Þ  3q32 H ðX0 \ Y0 Þ

 3q33 log q33 ¼ μ3 H ðY0 Þ þ λ3 H ðX0 Þ  3q33 H ðX0 \ Y0 Þ

We will not work this out any further. To solve this system on the basis of
available data of some of its time-series is a matter of numerical analysis. We
shall suffice with a calculation of the number of degrees of freedom to get an idea
of the numerical job. Clearly, the above system of equations is a system of 9
equations in the elementary probabilities μj , λi and qi j . That is, the number of
different elementary probabilities is 3 þ 3 þ 9 ¼ 15. The number of equations is
5 more than the four equations (4.10) of the two-sector economy. The number of
elementary probabilities is 7 more than the 8 elementary probabilities μj, λi and qi j
of the two-sector economy. Thus at first glance it appears that for the three-sector
economy there are 4 [i.e. (15  8)  (9  4) þ 2] more elementary probabilities
than there are equations describing the relationships between these elementary
probabilities, i.e. two more than for the two-sector
P economy.P However in the two-
sector economy there are only four equations q
i ij ¼ μj , j qi j ¼ λi instead of
six of them for the three-sector economy. Hence it follows, with the additional
time-series of Z, that the number of degrees of the three-sector economy is also
three (6  4 þ 1), the same as for the two-sector economy.
The above reasoning can be extended to the N-sector economy as follows. The
number of equations of the type (4.8) is N 2. Relative to the ðN  1Þ-sector economy
this number has increased by N 2  ðN  1Þ2 ¼ 2N  1. The number of variables of
the type μj , λi and qi j is N 2 þ 2N ¼ N ðN þ 2Þ: Relative to the ðN  1Þ-sector
economy this number has increased by N ðN þ 2P Þ  ðN  1ÞðP N þ 1Þ ¼ 2NP þ 1.
The number of independent equations of the type i q i j ¼ μ j , j q i j ¼ λ i , j μj
P
¼ 1 and j μj ¼ 1 is 2ðN þ 1Þ: Relative to the ðN  1Þ-sector economy this number
has increased by 2. Hence the number of degrees of freedom of the N -sector
economy is ð2N þ 1Þ  ð2N  1Þ  2 ¼ 0 more than the number of degrees of
112 4 Blind and Purposeful Selection

freedom of the ðN  1Þ-sector economy. Since the number of degrees of freedom of


the two-sector economy is 3, it follows by induction that the multi-sector economy
has three degrees of freedom irrespective of the number N of its sectors. □7
This implies that theoretically the observational data over time of a minimum
number of 3 independent economic time series are required to calculate and predict
the time-course of all the other macroeconomic variables. The accuracy of
computations will increase by collecting the observational data of more than
three time series.

7
If the timeseries of the unit price PðtÞ are considered to be unknown as well, the number of
degrees of freedom is 4. I conjecture that this fourdimensional behavioral freedom of decision
within economic value-space-time is connected with the behavioral freedom of loco-motion
within four-dimensional physical space-time. It is an attractive line of explanation, but a complete
convincing demonstration is still lacking.
Chapter 5
Exchange and the Circulation of Entropy

Abstract Bitpulses have a current lifetime, the positive difference t  τ between


present time t and the (initial) time τ of origination in the past. They have also an
excess lifetime, the positive difference θ  t between the (final) time θ of annihila-
tion in the future and the present time t. We shall consider the probability
distributions of current lifetime and excess lifetime of the bitpulses. There are
different probability distribution functions for the outflux bitpulses, influx bitpulses,
output bitpulses and input bitpulses. These probability distributions are very much
related to the circulation rates of outflux, influx, output and input.
We must however be cautious: outflux and influx bitpulses exist unconditionally.
However output bitpulses can only exist subject to the presence of inflationary
conditions and input bitpulses can only exist subject to the presence of deflationary
conditions. Hence a distribution function of output bitpulses does not exist under
deflationary conditions and a distribution function of input bitpulses does not exist
under inflationary conditions.
All this and inflation and deflation are pretty much related to the flow of money,
the virtual entropy that is exchanged for the entropy of bitpulses.

The circulation of confidence is better than the circulation of


money.
James Madison

5.1 Current Lifetime and Excess Lifetime of Bitpulses

Selection involves selection probabilities. The state probabilities of selection are


related to entropy in virtue of Boltzmann’s principle. Selection is concerned with
entropy. This brings about the study and analysis of the dynamic variables of the

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 113


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_5, # Springer-Verlag Berlin Heidelberg 2013
114 5 Exchange and the Circulation of Entropy

processes of selection as expressed in the applicable units of entropy: bits. It leads


us to approximate the time-dependent course of these dynamic variables by random
series of rectangular bitpulses.
These bitpulses are stored in non-differential sets S of entropy representing the
state they are in. Each bitpulse has an initial time (the time of origination) and a
final time (the time of annihilation). The collection of bitpulses stocked in a
particular non-differential set S consists of many bitpulses with varying initial
times t  τ ðτ > 0Þ and final times t þ θ ðθ > 0Þ as observed at time t. It is here where
we encounter another class of probabilities: the probabilities that a bitpulse of the
set S has a lifetime within certain bounds. The set of varying current lifetimes τ and
the set of varying excess lifetimes θ of the mother set S of the bitpulses form so called
random variables of current lifetime and excess lifetime. To analyze this further and
we shall do so in this chapter, we need consider the probability distributions of these
random lifetimes. The analysis of probability involved with this subject of proba-
bility theory differs considerably from what we have dealt with in previous
chapters. Nevertheless the results of this analysis determine how we must interpret
the various variables of inflow, outflow and transmission that we encounter in the
Venn diagram presentation of the evolutionary process.
Bitpulses are appropriate and strictly necessary to quantify and analyze the
processes of selection. On the other hand economic exchange is executed in
money units and since we need to study exchange processes just as badly as
selection processes, we must also investigate how the exchange in the dimension
of money units affects the probability distributions of current lifetime and excess
lifetime of the bitpulses.
Any bitpulse residing in a particular state must always originate and annihilate in
the same state as the state in which it resides. This property implies that the stock
Cþ 
i ðtÞ of bitpulses in Si that has originated in the past is the same as the stock Ci ðtÞ
of bitpulses in Si that will annihilate in the future. That is,

Cþ 
i ðtÞ ¼ Ci ðtÞ ¼ Ci ðtÞ

Here Ci ðtÞ is the capacity of Si already defined in the foregoing.


Let further Viþ ðtÞ be the money value of exchange for which the total stock Ci ðtÞ
of bitpulses present at current time t has been acquired (originated) in the past.
Further let Vi ðtÞ be the money value of exchange for which this total stock Ci ðtÞ of
bitpulses present at current time t will be liberated in the future.
Although Cþ 
i ðtÞ ¼ Ci ðtÞ, this property need not imply that the money exchange
value of the bitpulses in S0 that have originated within Si in the past balances the
money exchange value of the same bitpulses in S0 for which they will annihilate
within Si in the future. Generally the money exchange value Viþ ðtÞ for which the
capacity stock Ci ðtÞ of Si has been acquired differs from the money exchange value
for which this capacity stock will be exchanged in the future. That is,

Viþ ðtÞ 6¼ Vi ðtÞ for i 6¼ 0


5.2 The Different Sorts of Bitpulses: Outflux, Output, Influx, Input and. . . 115

However if i ¼ 0 these money exchange values must balance:

V0þ ðtÞ ¼ V0 ðtÞ

because the total historic money expenditures for which C0 ðtÞ has been built up by
processes of entropy origination must eventually be liberated/exchanged in the
future by processes of entropy annihilation within S0 .

5.2 The Different Sorts of Bitpulses: Outflux, Output, Influx,


Input and Transmission

Consider the Venn diagram of the multi-sector economy. The transmission domain
þ
dS0 \ dS0 is the domain of events of exchange, the location where selection events
of entropy are settled by money exchange. Each entropy bit is worth the same
common average unit price PðtÞ.
On the other hand dSþ 0 and dS0 are

domains where entropy is created and
 þ 
annihilated. The entropy flow Zdt  H dSi dS0 I shall call the outflux of Si .
  þ
The entropy flow Zdt  H dS dS I shall call the influx of Si . The entropy flows
 þ  i 0 
þ
Zdt  H dSi \ dS0 and Zdt  H dS

i \ dS0 are financial flows of entropy of Si
expressed in the dimension of bits. It is what we have also called transmissions after
Shannon. I shall also call them financial flows just to stress their economic meaning
with respect to the exchange process of entropy for money or for money-related
certificates of value like accounts receivable and accounts payable.
These financial flows may reflect the origination of bitpulses in exchange for
þ
money within dS 0 \ dSi . They may also reflect the sacrifice of bitpulses in
þ
exchange for money within dS i \ dS0 , dependent on the circumstances. The
  
money value of these financial flows is PZdt  H dS0 \ dSþ i , respectively PZdt  H
  
dSi \ dSþ0 .  
The entropy flow Zdt  H dSþ i I shall call the output of Si . The entropy flow
 
Zdt  H dSi I shall call the input of Si . From the perspective of selection all the
entropy within dSþ 0 , thus including the financial entropy output originating within
þ 
dSi \ dS0 , does contribute to the procreation of purposeful output variations and
likewise all the entropy within dS 0 , thus including the financial entropy input
þ
annihilating within dS i \ dS 0 , does contribute to the sacrifice of purposeful input
variations.  
In accordance with the above terminology the bitpulses of dSþ dS and of

 þ
i 0
dSi dS0 will be called outflux bitpulses, respectively influx bitpulses of Si. Likewise
the bitpulses of dSþ 
i and of dSi will be called output bitpulses, respectively input
bitpulses of Si : Output bitpulses include the outflux bitpulses. Input bitpulses
include the influx bitpulses.
The creation of bitpulses and the annihilation of bitpulses on ðt;t þ dtÞ within the
þ
transmission domain dS 0 \ dS0 do of course depend on the availability of events
116 5 Exchange and the Circulation of Entropy

that create value, respectively that annihilate value. But there is something special
þ
with the creation and annihilation of financial value within dS 0 \ dS0 .
We must distinguish between “pure” entropy, which consists of bitpulses with a
þ
lifetime within dS 0 \ dS0 . This is the entropy of bitpulses that possess probability
distributions of current lifetime and excess lifetime. This is also the entropy that
þ
exchanges for units of exchange (e.g. money) in dS 0 \ dS0 : These units of
exchange do not constitute bitpulses, but they have entropy content without having
lifetime (to calculate that entropy content just divide their money content by P).
They form a collection of bits of entropy without probability distributions of current
lifetime and of excess lifetime (money and money-like accounts have no lifetime).
This collection of bits I will call virtual entropy. Like a virtual particle in physics
manifests itself in interaction with the creation and annihilation of real particles,
virtual economic entropy manifests itself in interaction with the origination and
annihilation of “pure” economic entropy.
The origination of “pure” bitpulses in exchange for money and, alternatively, the
annihilation of “pure” bitpulses in exchange for money are mutually exclusive.
þ
That is, either “pure” bitpulses are created in exchange for money within dS 0 \ dS0
during ðt;t þ dtÞ or “pure” bitpulses are annihilating in exchange for money within
þ
dS0 \ dS0 during ðt;t þ dtÞ. The first situation develops subject to the constraint of
average price inflation. The second, alternative, situation develops subject to the
constraint of average price deflation. Each in a very specific but related manner.
Let me first explain the constraint of average price inflation. Note that in the
money economy the gross increase of capacity C0 is provided for by money output,
i.e. the money value of entropy output. In the course of time the unit price P of a bit
of entropy changes. Nevertheless exchange is in money units and the entropy output
at time t is exchanged for another unit price than the unit price of entropy output at
an earlier time t  τ. Thus the total C0 ðtÞ of entropy output accumulating in the
capacity stock over the distant past until current time t, i.e. over the time-interval
ð1; tÞ, as far as it has not been used up in the past before time t, will have been
acquired for an average historic unit price per bit of entropy different from the
þ
current unit price PðtÞ per bit of entropy. Let, for convenience of explanation,Pi ðtÞ
denote the average historic unit price of the entropy Ci ðtÞ stocked in Si at time t.
þ
Now, if on an average prices in S0 have risen in the past such thatP0 ðtÞ < PðtÞ at
time t, then the exchange of entropy selected from the entropy stock C0 ðtÞ during
þ
ðt; t þ dtÞ will be accompanied by a financial gain PðtÞ  P0 ðtÞ per bit of entropy
exchanged. Clearly, this implies that subject to the constraint of average  historic
 
price inflation there is a financial output on top of the outflux PZdt  H dSþ 
   0 dS0 :
þ
The total of this financial output is PZdt  H dS0 \ dS0 ; the entropy flow
þ
originating within the transmission domain dS 0 \ dS0 .
Well the reader might now object that we have neglected the eventual simulta-
þ
neous occurrence of loss of financial value within dS 0 \ dS0 during ðt;t þ dtÞ .
However that objection is ill-founded. If there is average price inflation in S0 such
þ
that PðtÞ  P0 ðtÞ > 0, the annihilation of bitpulses in exchange for money in S0 on
5.2 The Different Sorts of Bitpulses: Outflux, Output, Influx, Input and. . . 117

ðt; t þ dtÞ would imply the absurdity that bitpulses each with a negative load of one
bit annihilate in the differential subset dS
0 . However the entropy content transferred
by a bitpulse is always a positive single bit as we have argued in the foregoing.
There is no way to escape the h conclusion that subject i to the constraint of
þ
average historic price inflation i:e: for PðtÞ  P0 ðtÞ > 0 the complete entropy
 þ

flow PZdt  H dS 0 \ dS0 represents financial output of bitpulses originating in S0
in exchange for money during ðt;t þ dtÞ.
The argumentation is almost analogous if the constraint of average price defla-
tion applies. Note that in the money economy the gross decline of capacity C0 is
provided for by money input, i.e. the money value of entropy input. In the course of
time the unit price P of a bit of entropy changes. Nevertheless exchange is in money
units and the entropy input at time t is exchanged/liberated for another unit price
than the unit price of the entropy input at a later time t þ θ. Thus the total C0 ðtÞ of
entropy input to be sacrificed onward from current time t over the future, i.e. over
the time-interval ðt; 1Þ, as far as it will not be produced in the future after time t,
will be sacrificed for an average future unit price per bit of entropy different from
the current unit price PðtÞ per bit of entropy. Let, for convenience of explanation,

Pi ðtÞ denote that average future unit price of the entropy Ci ðtÞ stocked in Si at time t.
Now, if on an average prices in S0 decline in the future (this is the condition of

average price deflation) such thatP0 ðtÞ < PðtÞ, then the exchange of entropy selected
for input from the entropy stock C0 ðtÞ during ðt;t þ dtÞ implies that one sacrifices

PðtÞ  P0 ðtÞ more money per bit of sacrificed entropy at current time t than the
average future unit price for which it will be sacrificed in the future. Clearly, this
entails a financial loss subject to the constraint of average  price
 þdeflation.
 This
financial loss is financial input on top of the influx PZdt  H dS dS . The total of
 þ
 0 0
this financial input is PZdt  H dS 0 \ dS0 , the entropy flow annihilating within the
þ
transmission domain dS 0 \ dS0 in exchange for money.

Note that, if there is average price deflation such that P0 ðtÞ  PðtÞ < 0, we
þ
cannot have entropy originate in exchange for money within dS 0 \ dS0 on
ðt; t þ dtÞ because that will have the absurd consequence that bitpulses each with
a negative load of one bit originate in the differential subset dSþ 0 . Thus there is no
way to escape
  the conclusion that subject to the constraint of average future price

þ
deflation P0 ðtÞ  PðtÞ < 0 the complete entropy flow PZdt  H dS 0 \ dS0
represents financial input of bitpulses annihilating within S0 during ðt;t þ dtÞ.
Let us then summarize what we have so far established:  
þ
We have claimed that to understand the meaning of transmission H dS 0 \ dS0
we must discern sharply between two mutually exclusive cases:
þ
• The case of average price inflation in S0 with PðtÞ  P0 ðtÞ > 0. Subject  to this
constraint not only outflux bitpulses are being created within dSþ 
0 dS0 on the
selection interval ðt;t þ dtÞ, but on top of that financial entropy is created within
þ
dS0 \ dS0 in exchange for virtual money on the time-interval ðt;t þ dtÞ of
selection. The total of bitpulses thus created on ðt;t þ dtÞ forms the complete
118 5 Exchange and the Circulation of Entropy

collection of output bitpulses of S0. We will call this case the inflationary mode
of evolution.

• The case of average price deflation in S0 with P0 ðtÞ  PðtÞ  <þ 0. Subject to this
constraint not only influx bitpulses annihilate within dS 
0 dS0 on the selection
interval ðt; t þ dtÞ, but on top of that financial entropy is annihilating within
þ
dS0 \ dS0 in exchange for virtual money on the time-interval ðt; t þ dtÞ of
selection. The total of bitpulses thus annihilating on ðt; t þ dtÞ forms the complete
collection of input bitpulses of S0 . We will call this case the deflationary mode of
evolution.
þ
The transmission domain dS 0 \ dS0 is the intersection (the common domain) of
events of origination and events of annihilation. If the constraint of average price
  S0 ,þwe
inflation applies within  conclude from our explanations in Sect. 4.4 that
the output Zdt  H dS0 \ dS0 of originating bitpulses is counterbalanced by a flow
 þ

Zdt  H dS 0 \ dS0  Δ of “pure” annihilating bitpulses and a flow of Δ
“annihilating” virtual bits with the number Δ yet unsettled. However, since we
have argued in the above that the constraint of average price inflation rules out the
þ
annihilation of “pure” bitpulses within dS 0 \ dS0 , we must now further conclude
  
that Zdt  H dS0 \ dSþ 0  Δ ¼ 0 in the inflationary mode of evolution. That is, in
 
the inflationary mode of evolution we have only a flow Zdt  H dS \ dSþ of
  0
þ
0
created “pure” bitpulses counterbalanced by a flow Zdt  H dS0 \ dS0 of
“annihilating” virtual bits.
If on the other hand the constraint of average price deflation applies  in S0 , we
þ
conclude from our explanations in Sect. 4.4 that the input Zdt  H dS 0 dS0 of
\
 
annihilating bitpulses is counterbalanced by a flow Zdt  H dS0 \ dSþ 0  Δ of
“pure” originating bitpulses and a flow of Δ “originating” virtual bits with the
number Δ yet unsettled. However, since we have argued in the above that the
constraint of average price deflation rules out the origination  of “pure”  bitpulses
þ þ
within dS 0 \ dS 0 , we must now further conclude that Zdt  H dS 0 \ dS 0 Δ¼ 0
in the deflationary mode of evolution.
 That is,in the deflationary mode of evolution
þ
we have only a flow Zdt  H dS \ dS of annihilating “pure” bitpulses
 0 0 
þ
counterbalanced by a flow Zdt  H dS0 \ dS0 of “created” virtual bits.
In summary, there is either a surplus of “annihilating” virtual bits (in the
inflationary mode of evolution) or a surplus of “originating” virtual bits (in the
deflationary mode of evolution).
As the inflationary and deflationary mode of evolution rule out one another,
þ
we may extend similar conclusions to the transmission domains dS 0 \ dSi and
þ
dSi \ dS0 in which all money exchange of the sector Si is being handled. In this
respect we must discern sharply between two mutually exclusive cases of money
exchange within the sector Si :
þ
• In the inflationary mode of evolution with PðtÞ  Pi ðtÞ > 0 not only outflux
bitpulses are being created within dSþ  
i dS0 on the selection interval ðt; t þ dtÞ,
5.3 The Circulation of Bitpulses 119

Number of
bitpulses

0
t–t t t+q
time t
current excess
lifetime t lifetime q

lifetime t +q

Fig. 5.1 Any bitpulse can be attributed a total lifetime, a current lifetime τ (or age) and an excess
lifetime θ

 þ

but on top of that a financial entropy Zdt  H dS 0 \ dSi of “pure” bitpulses
þ
is created within dS \ dS in exchange for a counterbalancing flow of
  þ
 00 i
Zdt H dSi \ dS0  Δ “annihilating” virtual bits on the time-interval ðt; t þ dtÞ
of selection.     
Clearly Δ0 must equal the surplus of Zdt  H dS þ
i \ dS0 over Zdt  H dS0 \ dSi
þ

in order to warrant that money exchange balances within Si .



• In the alternative deflationary mode of evolution with Pi ðtÞ  PðtÞ < 0 not only
influx bitpulses are annihilating within dS  þ
i dS0 on the selection 
interval
þ
ðt; t þ dtÞ, but on top of that a financial entropy Zdt  H dS i \ dS 0 of “pure”
 þ
bitpulses is annihilating within dSi \ dS0 in exchange for a counterbalancing
 þ

flow of Zdt  H dS 0 \ dSi  Δ00 “created” virtual bits on the time-interval
ðt; t þ dtÞ of selection.  
Clearly Δ00 must equal the surplus of Zdt  H dS 0 \ dSi
þ
over
  
ZdtH dSi \ dSþ 0 in order to warrant that money exchange balances within Si .
In the sequel we shall avoid to use the adjective “pure” as much as possible if
entropy isn’t virtually.

5.3 The Circulation of Bitpulses

5.3.1 The Probability Distributions of Current Lifetime


and Excess Lifetime of Bitpulses

To set the stage for the treatment of the probability distributions of entropy lifetime
let us reconsider in Fig. 5.1 the various bitpulses that constitute the stock of the set Si
of entropy in the course of time as e.g. earlier depicted in Fig. 4.4. Each bitpulse of
the set Si, observed at time t, has an initial time and a final time, which determines its
total lifetime, current lifetime (or age) and excess lifetime. It has originated at an
120 5 Exchange and the Circulation of Entropy

initial time ðt  τÞ prior to observation time t and will become annihilated at a final
time ðt þ θÞ posterior to observation time t. τ is the current lifetime; θ is the excess
lifetime and ðτ þ θÞ is the (total) lifetime of the bitpulse.
We shall be concerned with the probability distribution of current lifetime of the
bitpulses of Si and also with the probability distribution of excess lifetime of the
bitpulses of Si , as observed at time t. At first we shall deal with the probability
distribution of current lifetime of the outflux bitpulses (Sects. 5.3.2 and 5.3.3). Next
we will consider the probability distribution of excess lifetime of the influx
bitpulses (Sect. 5.3.4). Furthermore we will consider in Sect. 5.3.5 the probability
distribution of current lifetime of the output bitpulses. This probability distribution
can only exist in the inflationary mode of evolution. It does not exist in the
deflationary mode of evolution because output consists partly of virtually “created”
entropy in case the deflationary mode of evolution applies. As the variable of
current lifetime of (partly) virtual entropy cannot be defined (it does not exist),
we cannot define its probability distribution either.
Finally we will consider in Sect. 5.3.6 the probability distribution of excess
lifetime of the input bitpulses. This probability distribution can only exist in the
deflationary mode of evolution. It does not exist in the inflationary mode of
evolution because input consists partly of virtually “annihilating” entropy in case
the inflationary mode of evolution applies. As the variable of excess lifetime of
(partly) virtual entropy cannot be defined (it does not exist), we cannot define its
probability distribution either.

5.3.2 The Probability Distribution of Current Lifetime of


Outflux Bitpulses

Let Φi ðt,τÞ be the probability distribution of current lifetime τ of the outflux


bitpulses of Si : Φi ðt,τÞ is defined as the probability of drawing, at observation
time t , an arbitrary bitpulse from the set Si of Ci bitpulses that has a current
lifetime smaller than or equal to τ conditional to the certainty of events within
dS0 over the complete time-domain:

  
Φi ðt,τÞ ¼ Prob y  τ dS
0 at time t (5.1)

In this, y (bold printed) represents the random variable of current lifetime of an


outflux bitpulse of Si. (Note that the lower case letter y is also used in a completely
different context as the net growth rate of entropy output Y. Confusion may easily be
avoided since it will always be clear in which context the symbol y is used).
Mark also that the conditional listing of dS 0 in the right side of (5.1) defines the
sample space of the outflux bitpulses into which is selected in the course of time t.
This conditional choice affects our outcomes.
5.3 The Circulation of Bitpulses 121

1 1– F i (t,t )
1

0 t-axis

t-axis

 i ðt; τÞ as a function of time t and current lifetime τ


Fig. 5.2 The probability distribution 1  Φ

Note further that Ci ðtÞΦi ðt,τÞ is the total number of outflux bitpulses of the set Si,
observed at time t, that have originated since ðt  τÞ.
In order to conceive Φi ðt,τÞ as a continuous differentiable function of τ , it is
necessary for Ci to tend to infinity. This requirement will be realized since
theoretically the bit is chosen infinitesimally small (See our previous discussions).
As a matter of fact

Φi ðt,0Þ ¼ 0 andΦi ðt,1Þ ¼ 1

The partial derivative φi ðt,τÞ of Φi ðt,τÞ to current lifetime τ is the probability


density function of current lifetime:
@ Φi ðt,τÞ
φi ðt,τÞ ¼

granted that Φi ðt,τÞ is differentiable for all τ.


It follows that
ðτ
Φi ðt,τÞ ¼ φi ðt,ξÞ dξ
0

Generally, φi ðt,τÞ andΦi ðt,τÞ are functions of observation time t as well and we
have referred to this time-dependency by explicitly quoting the dependence on t.
We must after all draw a sharp distinction between the functional dependence on
t and the functional dependence on τ. Figure 5.2 illustrates the difference between
either dependence for the probability 1 Φi ðt,τÞ in solid geometric perspective.
We refer to current lifetime τ as it is observed at time t. Note, we are not allowed to
identify Φi ðt  θ,τ  θÞ with Φi ðt,τÞ. That is, the number of outflux bitpulses of Si
having a current lifetime not larger than ðτ  θÞ and observed at a time-distance θ
before time t, need not equal the number of outflux bitpulses of Si with a current
lifetime not in excess of τ that are perceived at time t. Similarly Φi ðt  θ,τÞ 6¼Φi ðt,τÞ.
122 5 Exchange and the Circulation of Entropy

5.3.3 A Conditional Distribution of Current Lifetime of


Outflux Bitpulses

The conditional probability distribution Φi ðθ j y  τÞ is the probability of y  θ


assuming y  τ:
  
y  τ dS
Φi ðθ j y  τÞ ¼ Prob y  θ j 0
  
Prob y  θ; y  τ dS
¼    0
by definition
Prob y  τ dS 0

  
But, if θ  τ; Prob y  θ; y  τ dS
0 ¼Φi ðt,θÞ Φi ðt,τÞ so that

Φi ðt,θÞ Φi ðt,τÞ


Φi ðθ j y  τÞ ¼
1 Φi ðt; τÞ

and if θ < τ; Φi ðθ j y  τÞ ¼ 0
After differentiating to θ we arrive at the associate conditional density
φi ðθ j y  τÞ:

φi ðt,θÞ
φi ðθ j y  τÞ ¼ for θ  τ
1 Φi ðt,τÞ

and

φi ðθ j y  τÞ ¼ 0 for θ < τ

Let us next define the function

ζ i ðt,τÞ ¼ φi ðτ j y  τÞ

ζ i ðt,τÞdτ is the probability that an outflux bitpulse of Si, observed at time t, has its
current lifetime between τ and τ þ dτ assuming that it is not younger than τ.
Stated differently, ζ i ðt,τÞdτ is the probability that an outflux bitpulse that exists
at observation time t, will have originated at an initial time between t  ðτ þ dτÞ and
t  τ; assuming we extend our inquiry only to those outflux bitpulses, which
originate not later than time t  τ.
Connected with this interpretationζ i ðt,τÞ is called a circulation rate of the outflux
bitpulses that are not younger than τ.
Proceeding further we obtain,
φi ðt,τÞ @ Φi ðt,τÞ=@τ
ζ i ðt,τÞ ¼ φi ðτ j y  τÞ ¼ 1
Ð ¼ (5.2)
1 Φi ðt,τÞ
φi ðt,ξÞdξ
τ
5.3 The Circulation of Bitpulses 123

ζ i ðt,τÞ is a characteristic circulation rate of outflux bitpulses that have originated


at initial time t  τ.
Since Ci ðtÞ is the number of bitpulses stocked in Si, it follows that the number of
outflux bitpulses stocked in Si that have a current lifetime between t  ðτ þ dτÞ and
t  τ (as observed at time t) must be equal to:

ζ i ðt,τÞCi ðtÞdτ

This number does not include the outflux bitpulses originated between
t  ðτ þ dτÞ and t  τ that have ceased existence before time t, because they cannot
be observed at time t anymore.
If we choose τ ¼ 0 , we find the number of outflux bitpulses that come into
existence on the infinitesimally small time interval ðt  dτ; tÞ of duration dτ. With
dτ ¼ dt this number (in bits) is:

ζ i ðt,0ÞCi ðtÞdt ¼ ζ i ðtÞCi ðtÞdt (5.3)

This is what I have called the outflux of Si. ζ i ðtÞ is a rate of outflux circulation of
the sector Si . As PðtÞ is the unit price of a bit of entropy on the selection interval
ðt; t þ dtÞ it follows that the money value of the outflux of Si is equal toζ i PCi dt. This
is what I call the money outflux of Si .

5.3.4 Unconditional and Conditional Distributions of Excess


Lifetime of Influx Bitpulses

In like manner as we have set out the basic theory of the probability distribution of
current lifetime of outflux bitpulses, we can deal with the theory of the probability
distribution of excess lifetime of influx bitpulses. We will sketch the main lines of
the theory of the distribution of excess lifetime, which is associated with the events
of annihilation of the influx bitpulses only.
LetΨ i ðt,θÞ denote the probability of selecting, from the set Si of Ci ðtÞ bitpulses at
observation time t; an influx bitpulse with excess lifetime not in excess of θ
conditional to the certainty of events within dSþ 0 over the complete time-domain:

  
Ψ i ðt,θÞ ¼ Prob x  θ dSþ
0 at time t (5.4)

In this, x is the random variable of excess lifetime of an influx bitpulse selected


at random from Si : (Note that the lower case letter x is also used in a completely
different context as the net growth rate of entropy inflow X. Confusion may easily be
avoided since it will always be clear in which context the symbol x is used).
Mark also that the conditional listing of dSþ 0 in the right side of (5.4) defines the
sample space of the influx bitpulses from which is selected in the course of time t.
This conditional choice affects our outcomes.
124 5 Exchange and the Circulation of Entropy

Finally note that Ci ðtÞΨ i ðt,θÞ is the total number of influx bitpulses of the set Si ,
observed at time t, which will annihilate before ðt þ θÞ. Clearly,

Ψ i ðt,0Þ ¼ 0 and Ψ i ðt,1Þ ¼ 1

The partial derivative ψ i ðt,θÞ of Ψ i ðt,θÞ to excess lifetime θ is the probability


density function of excess lifetime:
@ Ψ i ðt,θÞ
ψ i ðt,θÞ ¼

granted that Ψ i ðt,θÞ is differentiable for all θ.


It follows that
ðθ
Ψ i ðt,θÞ ¼ ψ i ðt,ξÞ dξ
0

Generally, ψ i ðt,θÞ and Ψ i ðt,θÞ are functions of observation time t as well and we
have referred to this dependency by explicitly quoting the dependence on t.
The conditional probability distribution Ψ i ðτ j x  θÞ is the probability of x  τ
assuming x  θ:
  
x  θ dSþ
Ψ i ðτ j x  θÞ ¼ Prob x  τ j 0
  
Prob x  τ; x  θ dSþ
¼    0
by definition
Prob x  θ dSþ0

  
But, if τ  θ; Prob x  τ; x  θ dSþ
0 ¼ Ψ i ðt,τÞ  Ψ i ðt,θÞ so that

Ψ i ðt,τÞ  Ψ i ðt,θÞ
Ψ i ðτ j x  θÞ ¼
1  Ψ i ðt,θÞ

and if τ < θ; Ψ i ðτ j x  θÞ ¼ 0
Differentiating to τ to arrive at the associate conditional density ψ i ðτ j x  θÞ,

ψ i ðt,τÞ
ψ i ðτ j x  θÞ ¼ for; τ  θ
1  Ψ i ðt,θÞ

and
ψ i ðτ j x  θÞ ¼ 0 for τ < θ

Let us next define the function

ρi ðt,θÞ ¼ ψ i ðθ j x  θÞ

5.3 The Circulation of Bitpulses 125


ρi ðt,θÞdθ is the probability that an influx bitpulse of Si, observed at time t, has its
excess lifetime between θ and θ þ dθ assuming that it will still live longer than θ.
Stated differently, ρi ðt,θÞdθ is the probability that an influx bitpulse that exists at
observation time t, will annihilate at a final time between t þ θ and t þ ðθ þ dθÞ,
assuming we extend our inquiry to influx bitpulses that do not annihilate anterior to
time t þ θ.
Connected with this interpretation  ρi ðt,θÞ is a circulation rate of influx bitpulses
that live longer than θ.
Proceeding further we obtain,

ψ i ðt,θÞ @ Ψ i ðt,θÞ=@θ
ρi ðt,θÞ ¼ ψ i ðθ j x  θÞ ¼ 1

Ð ¼ (5.5)
1  Ψ i ðt,θÞ
ψ i ðt,ξÞdξ
θ


ρi ðt,θÞ is a characteristic rate of influx bitpulses that will annihilate at final time
t þ θ.
Since Ci ðtÞ is the number of bitpulses of Si , it follows that the number of influx
bitpulses observed in Si (observed at time t) that has an excess lifetime between t þ θ
and t þ ðθ þ dθÞ must be equal to:


ρi ðt,θÞCi ðtÞdθ

This number does not include the influx bitpulses annihilating between t þ θ and
t þ ðθ þ dθÞ that will come into existence after time t , because they cannot be
observed at time t when they don’t yet exist.
If we choose θ ¼ 0, we find the number of influx bitpulses that cease existence on
the infinitesimally small time interval ðt,t þ dθÞ of duration dθ. With dθ ¼ dt this
number (in bits) is:

ρi ðt,0ÞCi ðtÞdt ¼ 
ρi ðtÞCi ðtÞdt (5.6)

i ðtÞ is a rate of influx circulation of


This is what I have called the influx of Si . ρ
the sector Si : As PðtÞ is the unit price of a bit of entropy on the selection interval
ðt; t þ dtÞ it follows that the money value of the influx of Si is equal to ρi PCi dt. This
is what I call the money influx of Si .

5.3.5 The Inflationary Mode of Evolution and the Associated


Probability Distribution of Current Lifetime of Output
Bitpulses

Like the collection of outflux bitpulses and the collection of influx bitpulses of Si
have their characteristic time-dependent probability distributionsΦi ðt,τÞ andΨ i ðt,θÞ
of current lifetime τ and excess lifetime θ, the collection of output bitpulses has its
126 5 Exchange and the Circulation of Entropy

own time-dependent probability distribution of current lifetime but only if the


inflationary mode of evolution applies. In the present subsection I shall first
consider the creation of output bitpulses if that particular mode of evolution applies.
Let Φi ðt,τÞ be the probability distribution of current lifetime τ of the collection of
output bitpulses within Si : The interesting question is what the connection is
between the probability distributions Φi ðt,τÞ and Φi ðt,τÞ.
Just as in Sect. 5.3.2 for outflux bitpulses, the probability distribution Φi ðt,τÞ of
current lifetime is formally defined as the probability of drawing, at observation
time t, an arbitrary bitpulse from the set Si of bitpulses constituting its stock that has
a current lifetime smaller than or equal to τ:

Φi ðt,τÞ ¼ Probfy  τg at time t

In this, y is now the random variable of current lifetime τ of an output bitpulse of Si.
Furthermore note the condition that the events within dS 0 are certain to occur, as
stated in Sect. 5.3.2 for the outflux bitpulses, has been dismissed for the output
bitpulses. The condition that the events dS 0 are certain to occur defines only the
outflux events that occur in Si , but we are here concerned with all the output
bitpulses.
The partial derivative φi ðt,τÞ of Φi ðt,τÞ to current lifetime τ is the probability
density function of current lifetime of the output bitpulses:

@ Φi ðt,τÞ
φi ðt,τÞ ¼

granted that Φi ðt,τÞ is differentiable to all τ.
The conditional probability distribution Φi ðθ j y  τÞ is the probability of y  θ
assuming y  τ:

Probfy  θ; y  τg
Φi ðθ j y  τÞ ¼ Probfy  θ jy  τg ¼ by definition
Probfy  τg

Differentiating to θ renders the associate conditional density φi ðθ j y  τÞ of the


output bitpulses,

φi ðt,θÞ
φ i ðθ j y  τ Þ ¼ for θ  τ
1  Φi ðt,τÞ

and
φi ðθ j y  τÞ ¼ 0 for θ < τ

The circulation rate ζ i ðt,τÞ of the output bitpulses not younger than τ is defined as

ζ i ðt,τÞ ¼ φi ðτ j y  τÞ
5.3 The Circulation of Bitpulses 127

ζ i ðt,τÞdτ is the probability that an output bitpulse of Si ; which exists at observation


time t, has originated at an initial time between t  ðτ þ dτÞ and t  τ, assuming
we extend our inquiry only to output bitpulses that originate not later than time t  τ.
We have here the equivalent of (5.2):

φi ðt,τÞ @ Φi ðt,τÞ=@τ
ζ i ðt,τÞ ¼ φi ðτ j y  τÞ ¼ 1
Ð ¼
1  Φi ðt,τÞ
φi ðt,ξÞdξ
τ

ζ i ðt,τÞ is a characteristic rate of output bitpulses that have originated at initial


time t  τ.
Since Ci ðtÞ is the number of bitpulses stocked in Si, it follows that the number of
output bitpulses stocked in Si (as observed at time t) that have a current lifetime
between t  ðτ þ dτÞ and t  τ must be equal to:

ζ i ðt,τÞCi ðtÞdτ

This number does not include the output bitpulses originated between
t  ðτ þ dτÞ and t  τ that have ceased existence before time t, because they cannot
be observed at time t anymore.
If we choose τ ¼ 0; we find the number of output bitpulses that come into
existence on the infinitesimally small time interval ðt  dτ; tÞ of duration dτ. With
dτ ¼ dt this number (in bits) is:

ζ i ðt,0ÞCi ðtÞdt ¼ ζ i ðtÞCi ðtÞdt

ζ i ðtÞ is a rate of output circulation of the sector Si. This is what I have called the
output of Si . As PðtÞ is the unit price of a bit of entropy on the selection interval
ðt; t þ dtÞ it follows that the money value of the output of Si is equal to ζ i PCi dt. This
is what I call the money output of Si .

5.3.6 The Deflationary Mode of Evolution and the Associated


Probability Distribution of Excess Lifetime of Input
Bitpulses

The collection of input bitpulses has a time-dependent probability distribution of


excess lifetime only if the deflationary mode of evolution applies. We shall deal
with that subject in the present subsection.
Let us extend the method of analysis applied in the previous subsection to the
probability distribution Ψ i ðt,θÞ of excess lifetime θ of the input bitpulses in the set Si.
The probability distribution Ψ i ðt,θÞ of excess lifetime θ of input bitpulses in the
set Si will be formally defined as the probability of drawing, at observation time t, an
128 5 Exchange and the Circulation of Entropy

arbitrary bitpulse from the set Si of input bitpulses constituting its stock that has an
excess lifetime smaller than or equal to θ:

Ψ i ðt,θÞ ¼ Probfx  θg at time t

In this, x is now the random variable of excess lifetime θ of an input bitpulse of Si.
Furthermore note the condition that the events within dSþ 0 are certain to occur, as
stated in Sect. 5.3.4 for influx bitpulses, has been dismissed. That condition defines
the influx events only. However we are here dealing with all the input events of
annihilation within Si . This represents the unconditional complete set of input
events.
The partial derivative ψ i ðt,θÞ of Ψ i ðt,θÞ to excess lifetime θ is the probability
density function of excess lifetime of the input bitpulses:

@ Ψ i ðt,θÞ
ψ i ðt,θÞ ¼

granted that Ψ i ðt,θÞ is differentiable for all θ.


The conditional probability distribution Ψ i ðτ j x  θÞ is the probability of x  τ
assuming x  θ:

Probfx  τ; x  θg
Ψ i ðτ j x  θÞ ¼ Probfx  τ jx  θg ¼ by definition
Probfx  θg

Differentiating to τ renders the associate conditional density ψ i ðτ j x  θÞ of the


input bitpulses,
ψ i ðt,τÞ
ψ i ðτ j x  θ Þ ¼ for τ  θ
1  Ψ i ðt,θÞ

and
ψ i ðτ j x  θÞ ¼ 0 for τ < θ

The circulation rate ρi ðt,θÞ of the input bitpulses not younger than θ is defined as

ρi ðt,θÞ ¼ ψ i ðθ j x  θÞ

ρi ðt,θÞdθ is the probability that an input bitpulse, which exists at observation


time t, will cease to exist at a final time between t þ θ and t þ ðθ þ dθÞ, assuming
we extend our inquiry only to input bitpulses that will annihilate not earlier than
time t þ θ. We have here the equivalent of (5.5):

ψ i ðt,θÞ @ Ψ i ðt,θÞ=@θ
ρi ðt,θÞ ¼ ψ i ðθ j x  θÞ ¼ 1
Ð ¼
1  Ψ i ðt,θÞ
ψ i ðt; ξÞdξ
θ
5.4 The Probability Distribution of Outflux and Influx and the Markov Property 129

ρi ðt,θÞ is a characteristic rate of input bitpulses that will cease to exist at final
time t þ θ ðθ > 0Þ. Since Ci ðtÞ is the number of bitpulses of Si , it follows that the
number of input bitpulses observed in Si that has an excess lifetime between t þ θ
and t þ ðθ þ dθÞ must be equal to:

ρi ðt,θÞCi ðtÞdθ

This number does not include the input bitpulses annihilating between t þ θ and
t þ ðθ þ dθÞ that will come into existence after time t , because they cannot be
observed at time t when they don’t yet exist.
If we choose θ ¼ 0, we find the number of input bitpulses that cease existence on
the infinitesimally small time interval ðt,t þ dθÞ of duration dθ. With dθ ¼ dt this
number (in bits) is:

ρi ðt,0ÞCi ðtÞdt ¼ ρi ðtÞCi ðtÞdt (5.7)

This is what I have called the input of Si . ρi ðtÞ is a rate of input circulation of
the sector Si . As PðtÞ is the unit price of a bit of entropy on the selection interval
ðt; t þ dtÞ it follows that the money value of the input of Si is equal to ρi PCi dt. This is
what I call the money input of Si .

5.4 The Probability Distribution of Outflux and Influx


and the Markov Property
  
Let us consider the union of the conditional differential sets dSþ   þ
0 dS0 and dS0 dS0 .
We shall denote this union by the symbol dS0 . Thus
     þ
d S0 ¼ dSþ  
0 dS0 [ dS0 dS0

  
Mark dSþ   þ
0 dS0 does not overlap with dS0 dS0 (See the Venn diagram). If we let
dS0 represent the differential sample space dS0 of an economy, it must follow
that for this economy dS0 ¼ d S0 and hence that this must be an economy for which
þ
dS0 \ dS0 is the null set. That is

dS þ
0 \ dS0 ¼ 

In accordance with what has been derived in Appendices F and G this implies
that for this economy all the outflow events are statistically independent
 of all the
þ 
inflow events. As only outflux events are involved within dS0 dS0 and only influx
 þ
events are involved in dS 
0 dS0 , we conclude that generally outflux events are
statistically independent of influx events.
130 5 Exchange and the Circulation of Entropy

This observation is of considerable significance because the property of statistical


independence will reduce the complexity of the expressions for the probability
distributions of current lifetime of outflux and excess lifetime of influx.
A process for which there is statistical independence between the events of
entropy origination and the events of entropy annihilation given current time t is
called a Markov process. I shall therefore say that selection in sample space d S0
possesses the Markov property.
In the sequel I will derive a consequence of the Markovian property that involves
the behavior of the outflux and influx circulation rates ζ i ðt,τÞ and ρi ðt,θÞ in dS0. The
argument follows the same line of reasoning for ζ i ðt,τÞ as well as for ρi ðt,θÞ .
Therefore I will give that argument only in detail for ζ i ðt,τÞ.
We have established in Sect. 5.3.3 that the entropy outflux of the circulating
bitpulses in Si that have a current lifetime between t  ðτ þ dτÞ and t  τ must
be equal to ζ i ðt,τÞCi ðtÞdτ. This does not include the bitpulses, originated between
t  ðτ þ dτÞ and t  τ, that have ceased existence before t.
Similarly we have established in Sect. 5.3.4 that the entropy influx of the
circulating bitpulses in Si that have an excess lifetime between t þ θ and t þ ðθ þ dθÞ
must be equal to  ρi ðt,θÞCi ðtÞdθ. This does not include the bitpulses, ceasing existence
between t þ θ and t þ ðθ þ dθÞ, that have originated after t.
For τ ¼ 0 we get the entropy outflow ζ i ðtÞCi ðtÞdt that originates during the
selection interval ðt; t þ dtÞ: This is a number of bitpulses originating in the
conditional differential subset dSþ  
i dS0 of Si on ðt; t þ dtÞ.
Likewise for θ ¼ 0 we get the entropy inflow  ρi ðtÞCi ðtÞdt that expires during the
selection interval ðt; t þ dtÞ . This is a number of bitpulses annihilating in the
conditional differential subset dS  þ
i dS0 of Si on ðt; t þ dtÞ.
ζ i ðt,τÞdτ is the probability (given that dS 0 is certain to occur) that an outflux
bitpulse drawn at observation time t from the subset of outflux bitpulses of the set
Si, that are older than τ, has originated between t  τ  dτ and t  τ. Thus, if Ci ðtÞ
is the number of outflux bitpulses in Si , the number observed at time t, including
the bitpulses thereof that ceased existence on ðt  τ; tÞ, is ζ i ðt,τÞCi ðtÞdτ . These
ζ i ðt,τÞCi ðtÞdτ outflux bitpulses form a subset S1 of Si . Since these bitpulses are
observed to be present at time t; all of them—as they originated on the time-
interval ðt  τ  dτ,t  τÞ—must have continued to exist until observation time t.
Let now S3 be the subset of ζ i ðt  τ,0ÞCi ðt  τÞdτ outflux bitpulses that came
into existence in the past between t  τ  dτ and t  τ and that were observed to be
present at time t  τ and for that reason have not yet (at time t  τ) ceased to exist on
ðt  τ  dτ,t  τÞ. S3 is not a subset of Si ðtÞ at time t because it contains also outflux
bitpulses that cease to exist between t  τ and t which are not part of Si ðtÞ at time t.
But it is clear that the set S1 is a subset of the set S3 containing all the original
outflux bitpulses that came into existence between t  τ  dτ and t  τ. Additional
to the subset S1 , S3 contains also the outflux bitpulses (created between t  τ  dτ
and t  τ) that have annihilated on the time-interval ðt  τ,tÞ.
Let furthermore S2 be the subset of ζ i ðt  θ,τ  θÞCi ðt  θÞdτ outflux bitpulses
that came into existence in the past between t  τ  dτ and t  τ and that are still
5.4 The Probability Distribution of Outflux and Influx and the Markov Property 131

observed to be present at time t  θ (with θ < τ) and for that reason have not yet (at
time t  θ) ceased to exist on ðt  τ,t  θÞ.
It is obvious that S1 is a subset of S2 and that in turn S2 is a subset of S3 so that

S1  S2  S3

The set S1 is a subset of the set S2 , the latter containing all the original outflux
bitpulses that were observed at time t  θ > t  τ and that came into existence
between t  τ  dτ and t  τ. Additional to the subset S1; S2 contains also the outflux
bitpulses of S3 that will annihilate on the time-interval ðt  θ; tÞ.
Recall that the circulation rate of S1 on the time-interval ðt  τ  dτ; t  τÞ is
ζ i ðt; τÞ at observation time t. Since the outflux bitpulses of S2 are observed at time
t  θ (with θ < τ), their circulation rate on the time-interval ðt  τ  dτ,t  τÞ is
ζ i ðt  θ,τ  θÞ.
S1 is the remaining subset of bitpulses of S2 only after a process of random
annihilation has removed these bitpulses from S2 during the time-interval of
ðt  θ; tÞ. However, since the random selection of annihilating bitpulses at time-
instances that differ from the time-instances of creating bitpulses are mutually
independent as a consequence of the Markov property, it must follow that the
statistical averages of outflux of S2 on ðt  τ  dτ,t  τÞ cannot be affected by
the process of annihilation. Therefore, it follows that the outflux bitpulses in S1 that
remain—after the outflux bitpulses from S2 have been removed by a process of
random annihilation—share the same circulation rate with the outflux bitpulses of
S2 on the time-interval between t  τ  dτ and t  τ. That is,

ζ i ðt  θ,τ  θÞ ¼ ζ i ðt,τÞ for all θ < τ

From the above it follows that, instead of conceiving ζ i as a function of both


observation time t and current lifetime τ, we are allowed to regardζ i as a function of
initial time ðt  τÞ only. That is ζ i ðt,τÞ ¼ ζ i ðt  τÞ. It follows that

ζ i ðt,τÞ ¼ ζ i ðt  τÞ (5.8)

With this in mind, let us integrate both sides of (5.8) over the τ- domain. Then,
with the help of (5.2):
ðτ
 
 ln 1 Φi ðt,τÞ ¼ ζ i ðt  ξÞ dξ (5.9)
0

This results in
8 τ 9
< ð =
Φi ðt,τÞ ¼ 1  exp  ζ i ðt  ξÞ dξ (5.10)
: ;
0
132 5 Exchange and the Circulation of Entropy

and
8 τ 9
< ð =
φi ðt,τÞ ¼ ζ i ðt  τÞ exp  ζ i ðt  ξÞ dξ (5.11)
: ;
0

So far as the process of entropy outflux circulation on an infinitesimally small


time-interval between t  τ  dτ and t  τ is concerned.
The analogous line of reasoning may be followed for the rate ρi ðt; θÞ of influx
circulation on an infinitesimally small time-interval between t þ θ and t þ θ þ dθ.
The outcome will be that the circulation rate 
ρi ðt; θÞ is a function of final time t þ θ
only. The details do not add novel points of view so that we shall leave the subject
as an exercise to the interested reader. Here we shall only state the resulting
expressions:


ρi ðt,θÞ ¼ 
ρi ð t þ θ Þ (5.12)

ðθ
 
 ln 1  Ψ i ðt,θÞ ¼ 
ρi ðt þ ξÞ dξ (5.13)
0

8 θ 9
< ð =
Ψ i ðt,θÞ ¼ 1  exp  ρi ðt þ ξÞ dξ (5.14)
: ;
0

8 θ 9
< ð =
ψ i ðt,θÞ ¼ 
ρi ðt þ θÞ exp  ρi ðt þ ξÞ dξ (5.15)
: ;
0

Equations (5.8) and (5.12) emphasize that the outflux and influx circulation rates
depend on current time t only.

5.5 The Circulation of Output in the Inflationary Mode of


Evolution

5.5.1 The Money Exchange of Outflow

We are here dealing with the inflationary mode of evolution. This implies that the
probability distribution Φi ðt,τÞ of current lifetime τ of output bitpulses exists and
that the probability distribution Ψ i ðt,θÞ of excess lifetime θ of input bitpulses does
not exist.
5.5 The Circulation of Output in the Inflationary Mode of Evolution 133

In foregoing subsections we have explained how the probability distributions


Φi ðt,τÞ and Φi ðt,τÞ of current lifetime relate respectively to the rate of outflux
circulation and to the rate of output circulation in this particular case. We have not
yet bridged the connection betweenΦi ðt,τÞ and Φi ðt,τÞ. This will have our attention
now. The relationship between Φi ðt,τÞ and Φi ðt,τÞ is closely related with the time-
course of the unit price PðtÞ of a bit of entropy. This time-dependent course of P is
the cause that these probability distributions differ from one another. As we are here
dealing with the origination of bitpulses within dSþ i (i.e. including the transmission
domain dSþ 
i \ dS0 ), for analysis to make sense the inflationary mode of evolution
can only apply.
Note that Φi ðt,τÞ ¼ Φi ðt,τÞ if P is a constant over the entire time-domain. Recall
also our discussion with respect to the inflationary mode of evolution in Sect. 5.2. In
þ
this section we demonstrated that if the constraint PðtÞ  Pi ðtÞ > 0 of average  price
þ 
inflation applies, all entropy creation (entropy output) is in dSþ i (i.e. in dS i dS0 as
well as in dSþ i \ dS 
0 ). Financial entropy creation in dS þ
i \ dS 
0 occurs in exchange
for virtual entropy (money).
We shall now consider the structure of the probability distribution of the output
bitpulses subject to the above constraint of average price inflation. Meanwhile we
þ
will solve how the average historic unit price Pi ðtÞ of Si relates to the current unit
price PðtÞ, a question that we haven’t yet considered in Sect. 5.2.
To get things straight we must follow the money value involved with the exchange
of entropy. We can look at that money exchange value from two perspectives: that of
the money involved with the creation of outflux bitpulses and that of the money
involved with the creation of output bitpulses. However, irrespective of the perspec-
tive chosen the money value exchanged cannot be different.
To deal with the matter we need to introduce some more variables that underlie
both Φi ðt,τÞ and Φi ðt,τÞ.
Let Cþi ðt,ξÞ be the number of bitpulses in stock in S0 at observation time t that
have emerged in state i posterior to time t  ξ. Let further Viþ ðt,ξÞ be the aggregate
total of the money value exchanged at time t in response to the emergence of
bitpulses within Si after time t  ξ.
Mark Cþ þ
i ðt; 1Þ ¼ Ci ðtÞ ¼ Ci ðtÞ is capacity, the total of the entropy of bitpulses,
residing in S0 at time t and which has originated within Si in the past, i.e. before time t
(See Sect. 5.1). Mark also Viþ ðt; 1Þ is the total historic money exchange value of
bitpulses, residing in S0 at time t, which have originated within Si in the past, i.e.
before time t. Clearly Viþ ðt; 1Þ like Ci ðtÞ depends on time t only and for this reason
we may write

Viþ ðt; 1Þ ¼ Viþ ðtÞ

Let us next consider how Cþ þ


i ðt,ξÞ and Vi ðt,ξÞ contribute to the gross emergence
of bitpulses and respectively to the money for which they are being exchanged on
this infinitesimally small time-interval ðt  ξ  dξ; t  ξÞ.
134 5 Exchange and the Circulation of Entropy

As Cþ þ
i ðt,ξÞ ¼ Ci ðtÞΦi ðt,ξÞ, the gross number @ξ Ci ðt,ξÞ of bitpulses originating
between t  ξ  dξ and t  ξ is

@ξ Cþ
i ðt,ξÞ ¼ Ci ðtÞ  φi ðt,ξÞdξ (5.16)

On the other hand, as Viþ ðt,ξÞ ¼ Viþ ðtÞ  Φi ðt,ξÞ, the money @ξ Viþ ðt,ξÞ exchanged
in dSþ
i for the acquirement of these bitpulses between t  ξ  dξ and t  ξ is

@ξ Viþ ðt; ξÞ ¼ φi ðt; ξÞ  Viþ ðtÞdξ (5.17)

because φi ðt; ξÞdt is the gross chance that an output bitpulse is created between
t  ðξ þ dξÞ and t  ξ . The bitpulses that have emerged in the sector Si are
exchanged for unit price Pðt  ξÞ at time t  ξ. The money value exchanged is then:

@ξ Viþ ðt,ξÞ ¼ Pðt  ξÞ@ξ Cþ


i ðt,ξÞ (5.18)

Note that integration of (5.16) and (5.17) over ξ yields


 
Ci  Cþ
i ðt,ξÞ ¼ Ci 1 Φi ðt,ξÞ (5.19)

and
Viþ  Viþ ðt,ξÞ ¼ Viþ ½1  Φi ðt,ξÞ (5.20)
 
Herein Ci 1 Φi ðt,ξÞ is the entropy stock of the bitpulses that have originated
before time t  ξ and Viþ ½1  Φi ðt,ξÞ is the money exchange value of the bitpulses
that have originated before time t  ξ.
It follows further from (5.18) and (5.16) that

@ þ
V ðt,ξÞ ¼ Pðt  ξÞCi ðtÞφi ðt,ξÞ
@ξ i

After integration over ξ we get


ðτ
Viþ ðt,τÞ ¼ Ci ðtÞ  Pðt  ξÞφi ðt,ξÞdξ
0

If τ tends to infinity, we get the formula for the money exchange value Viþ ðtÞ of
all the bitpulses that reside in S0 at time t and that have originated in state i in the past.
That is,
ð
1
þ þ
Vi ðtÞ ¼ Vi ðt,1Þ ¼ Ci ðtÞ  Pðt  ξÞφi ðt,ξÞdξ (5.21)
0
5.5 The Circulation of Output in the Inflationary Mode of Evolution 135

þ
The quotient of Viþ ðtÞ and Ci ðtÞ is the average bit price Pi per bit spent within Si
in the past as observed at current time t. It follows that

þ Viþ ðtÞ
Pi ðtÞ ¼ (5.22)
Ci ðtÞ

þ
Of course Pi ðtÞ is also a random function of time.
It follows further that
ð
1
þ
Pi ¼ Pðt  ξÞφi ðt,ξÞdξ (5.23)
0

þ
Pi ðtÞ is the average historic unit price of the outflux bitpulses stocked in S0 at
time t that have originated in state i in the past. This is the average historic unit price
for which these bits have been acquired in the past. It does not match the current
unit bit price PðtÞ. Mark that Viþ ðtÞ is not equal to the product of Ci ðtÞ and PðtÞ,
because the average historical unit price spent on outflux bits in the past (before
observation time t) is another than the current unit price PðtÞ at time t.

5.5.2 Relationships Between Output and Outflux

I shall now derive two important theorems that relate the circulation of the output
bitpulses to the circulation of the outflux bitpulses. The first theorem to be derived is

þ
ζ i ðtÞ ¼ ζ i ðtÞ þ pþ
i ðtÞ conditional to PðtÞ  Pi ðtÞ  0 (5.24)

þ
Mark that we claim (5.24) to be valid only if PðtÞ  Pi ðtÞ  0, i.e. if there is
average price inflation within Si at current time t . This marks the inflationary
constraint for the specific sector Si .
Proof of theorem (5.24): The right side Viþ ½1  Φi ðt,ξÞ of expression (5.20) renders
the money exchange value of output bitpulses that have originated before time t  ξ.
þ
Now recall from (5.22) that Pi ðt  ξÞ is the average price spent per bit within Si in
the past at time t  ξ. Further, the number of outflux bitpulses
 that have originated
before time t  ξ and are still present at time t is Ci 1 Φi ðt,ξÞ . It follows that
þ  
Pi ðt  ξÞ must also be the quotient of Viþ ½1  Φi ðt,ξÞ and Ci 1 Φi ðt,ξÞ . That is,

þ  
Viþ ½1  Φi ðt,ξÞ ¼ Pi ðt  ξÞ  Ci 1 Φi ðt; ξÞ
136 5 Exchange and the Circulation of Entropy

þ
Integration of Pi ðt  τÞ over the time-domain τ yields
8 ξ 9
< ð =
þ þ
Pi ðt  ξÞ ¼ Pi ðtÞ  exp  pþ
i ðt  τ Þdτ
: ;
0

and it follows, on behalf of (5.22) and on behalf of the formula immediately


preceding the latter formula, that
8 ξ 9
  < ð =
1  Φi ðt,ξÞ ¼ 1 Φi ðt,ξÞ exp  pþ
i ðt  τÞ dτ
: ;
0

This can be differentiated partially to ξ:


8 ξ 9
    < ð =
φi ðt,ξÞ ¼ φi ðt,ξÞ þ pþ
i ðt  ξÞ  1 Φi ðt; ξÞ  exp  pþ
i ðt  τÞ dτ
: ;
0

After subsequent division by 1  Φi ðt; ξÞ we have

φi ðt; ξÞ φi ðt; ξÞ
¼ þ pþ
i ðt  ξÞ
1  Φi ðt; ξÞ 1 Φi ðt; ξÞ

or

ζ i ðt,ξÞ ¼ ζ i ðt; ξÞ þ pþ
i ðt  ξÞ

On behalf of (5.8) this can be restated in the form

ζ i ðt,ξÞ ¼ ζ i ðt  ξÞ þ pþ
i ðt  ξÞ (5.25)

The right side of this expression is a function of t  ξ only. Hence the left side of
the expression must be a function of t  ξ only. That is,

ζ i ðt  ξÞ ¼ ζ i ðt  ξÞ þ pþ
i ðt  ξ Þ

The insertion of t0 ¼ t  ξ in this expression completes the proof of (5.24). □


Clearly, the probability ζ i ðtÞdt that an output bitpulse of Si originates in dSþ i
between time t and time t þ dt must   exceed the probability ζ i ðtÞdt that an outflux
bitpulse of Si originates in dSþ 
i dS0 between time t and time t þ dt . Else the
constraint of average price inflation within Si cannot be satisfied at current time t and
5.5 The Circulation of Output in the Inflationary Mode of Evolution 137

there would then be average price deflation rather than average price inflation. Thus
to satisfy the constraint for which (5.24) holds true, it is also required that

þ

i ðtÞ  0 conditional to PðtÞ  Pi ðtÞ  0 (5.26)

In the sequel we will revert to prove this observation.


Moreover we conclude from (5.25) that

ζ i ðt,τÞ ¼ ζ i ðt  τÞ (5.27)

and on the analogy of, (5.9), (5.10) and (5.11),


ðτ
 lnf1  Φi ðt,τÞg ¼ ζ i ðt  ξÞ dξ
8 τ0 9
< ð =
Φi ðt,τÞ ¼ 1  exp  ζ i ðt  ξÞ dξ
: ;
0
and 8 τ 9
< ð =
φi ðt,τÞ ¼ ζ i ðt  τÞ exp  ζ i ðt  ξÞ dξ
: ;
0

The second important theorem I shall derive is

ζ i ðtÞViþ ðtÞdt ¼ ζ i ðtÞPðtÞCi ðtÞ (5.28)

To derive (5.28) I shall first infer the following theorem:

dPi þ þ
¼ pþP
i i ¼ ζ i P  P i for pþ
i 0 (5.29)
dt

in which, in accordance with our notational conventions,


þ
dPi =dt

i ¼ þ
Pi
Proof of theorem (5.29): Differentiate the expression (5.23) to time t. It follows that

þ ð
1 ð
1
dPi @ Pð t  ξ Þ @ φi ðt,ξÞ
¼ φi ðt,ξÞdξ þ P ðt  ξÞ dξ
dt @t @t
0 0
138 5 Exchange and the Circulation of Entropy

@ Pð t  ξ Þ @ Pðt  ξÞ
With ¼ and after partial integration of the first integral
@t @ξ
over the ξ- domain,

þ ð
1
dPi @ φi ðt,ξÞ @ φi ðt,ξÞ
¼ ζi P þ Pðt  ξÞ þ dξ (5.30)
dt dξ dt
0

Let us first deal with the factor of the integrand between braces. In virtue of (5.11):
8 ξ 9
< ð =
φi ðt,ξÞ ¼ ζ i ðt  ξÞ  f in which the factor f ¼ exp  ζ i ðt  τÞdτ
: ;
0

Also

@ ζ i ðt  ξÞ @ ζ ðt  ξÞ
¼ i
@t @ξ

So,

@ φi ðt,ξÞ @ζ ðt  ξÞ  2
¼ i f  ζ i ðt  ξÞ f
@ξ @t

and

@ φi ðt,ξÞ @ ζ i ðt  ξÞ  
¼ f þ ζ i ðt  ξÞ  ζ i ðtÞ  ζ i ðt  ξÞf
@t @t

These expressions may be inserted in (5.30). This yields after some elaboration:

þ ð
1
dPi
¼ ζi P  Pðt  ξÞζ i ðtÞφi ðt,ξÞdξ
dt
0

þ
The second term of the right side is ζ i Pi on behalf of (5.23), so that theorem
(5.29) is established. □
With (5.29) proven, the observation expressed in (5.26) has been verified to hold
þ
analytically. This implies that the constraint PðtÞ  Pi ðtÞ  0, which marks and
defines the inflationary mode of evolution within Si (See Sect. 5.2), may just as well
be replaced by the constraint pþ i ðtÞ  0 . Thus the theory derived in the present
section holds under the constraint that pþ
i ðtÞ  0. □
5.6 The Circulation of Input in the Deflationary Mode of Evolution 139

To prove theorem (5.28) we will rely on theorems (5.24) and (5.29). It follows
from (5.24) and (5.29) that

þ   þ
ζ i ðtÞPi Ci ¼ ζ i ðtÞ þ pþ
i ðtÞ Pi Ci

or

þ þ þ
ζ i Pi Ci ¼ ζ i Pi Ci þ ζ i P  Pi Ci ¼ ζ i PCi

and

ζ i Viþ dt ¼ ζ i PCi dt

This completes the proof of (5.28). □


Recall from our exposition in Sect. 5.3.3 that ζ i PCi dt is the money outflux of Si.
In virtue of (5.28) we conclude that this is the equivalent of ζ i ðtÞViþ ðtÞdt . An
interpretation of the various outflows will be given in Chap. 6.

5.6 The Circulation of Input in the Deflationary Mode of


Evolution

5.6.1 The Money Exchange of Inflow

We are here dealing with the deflationary mode of evolution. This implies that the
probability distribution Ψ i ðt,θÞ of excess lifetime θ of the input bitpulses exists and
that the probability distribution Φi ðt,τÞ of current lifetime τ of output bitpulses does
not exist.
In foregoing sections we have explained how the probability distributions
Ψ i ðt,θÞ and Ψ i ðt,θÞ of excess lifetime relate respectively to the rate of influx
circulation and to the rate of input circulation in this particular case. We shall
now bridge the connection between Ψ i ðt,θÞ and Ψ i ðt,θÞ. The relationship between
Ψ i ðt,θÞ and Ψ i ðt,θÞ is also closely related with the time-course of the unit price PðtÞ
of a bit of entropy. As we are here dealing with the annihilation of bitpulses within
þ
dS 
i (i.e. including the transmission domain dS0 \ dSi ), for analysis to make sense
the deflationary mode of evolution can only apply.
Note that Ψ i ðt,θÞ ¼ Ψ i ðt,θÞ if P is a constant over the entire time-domain. Recall
also our discussion with respect to the deflationary mode of evolution in Sect. 5.2.

In this section we demonstrated that if the constraint Pi ðtÞ  PðtÞ < 0 of average
price deflation applies, all entropy annihilation (entropy input) is in dS i (i.e. in
dS dSþ as well as in dS \ dSþ ). Financial entropy annihilation in dS \ dSþ
i 0 i 0 i 0
occurs in exchange for virtual entropy (money).
140 5 Exchange and the Circulation of Entropy

We shall now consider the structure of the probability distribution of the input
bitpulses subject to the above constraint of average price deflation. Meanwhile we

will solve how the average future unit price Pi ðtÞ of Si relates to the current unit
price PðtÞ, a question that we haven’t yet considered in Sect. 5.2.
We must follow the money value involved with the exchange of entropy. We can
look at that money exchange value from two perspectives: that of the money
liberated with the annihilation of influx bitpulses and that of the money liberated
with the sacrifice of input bitpulses. Irrespective of the perspective chosen the
money value liberated/exchanged cannot be different.
Let Ci ðt,ξÞ be the number of bitpulses residing in S0 at observation time t that will
annihilate in state i prior to time t þ ξ. Let further Vi ðt,ξÞ be the aggregate total of
the money value exchanged at time t in consequence of the annihilation of bitpulses
within Si before time t þ ξ.
þ
C 
i ðt,1Þ ¼ Ci ðtÞ ¼ Ci ðtÞ ¼ Ci ðtÞ is capacity, the total of the entropy of
bitpulses, residing in S0 at time t and that will cease existence within Si in the
future, i.e. after time t (See Sect. 5.1). Mark also that Vi ðt,1Þ is the future money
exchange value of bitpulses, residing in S0 at time t and that will cease existence in Si
in the future, i.e. after time t. Clearly, Vi ðt,1Þ like Ci ðtÞ depends on time t only and
for this reason we may write

Vi ðt,1Þ ¼ Vi ðtÞ

Recall that Vi ðtÞ6¼ Viþ ðtÞ for i 6¼ 0 and that V0 ðtÞ ¼ V0þ ðtÞ (See Sect. 5.1).
Let us next consider how C 
i ðt,ξÞ and Vi ðt,ξÞ contribute to the gross expiration of
bitpulses and respectively to the money value for which they are being exchanged
on this infinitesimally small time-interval ðt þ ξ,t þ ξ þ dξÞ.
As C 
i ðt,ξÞ ¼ Ci ðtÞΨ i ðt,ξÞ, the gross number @ξ Ci ðt,ξÞ of bitpulses annihilating
between t þ ξ and t þ ξ þ dξ is

@ξ C 
i ðt,ξÞ ¼ Ci ðtÞψ i ðt,ξÞdξ (5.31)

On the other hand, as Vi ðt,ξÞ ¼ Vi ðtÞ  Ψ i ðt,ξÞ, the money @ξ Vi ðt,ξÞ liberated in
dS
i with the sacrifice of these bitpulses between t þ ξ and t þ ξ þ dξ is

@ξ Vi ðt; ξÞ ¼ ψ i ðt; ξÞVi ðtÞdξ (5.32)

because ψ i ðt; ξÞdt is the gross chance that an input bitpulse is annihilating between
t þ ξ and t þ ξ þ dξ.
The bitpulses that cease existence in the sector Si are being exchanged for unit
price Pðt þ ξÞ at time t þ ξ. The money value exchanged is then:

@ξ Vi ðt,ξÞ ¼ Pðt þ ξÞ@ξ C


i ðt,ξÞ (5.33)

Note that integration of (5.31) and (5.32) over ξ yields


5.6 The Circulation of Input in the Deflationary Mode of Evolution 141

 
Ci  C
i ðt,ξÞ ¼ Ci 1  Ψ i ðt,ξÞ (5.34)

and
Vi  Vi ðt,ξÞ ¼ Vi ½1  Ψ i ðt,ξÞ (5.35)
 
Herein Ci 1  Ψ i ðt,ξÞ is the entropy stock of the bitpulses that will cease
existence after time t þ ξ and Vi ½1  Φi ðt,ξÞ is the money exchange value of the
bitpulses that will annihilate after time t þ ξ.
It follows further from (5.33) and (5.31) that

@ 
V ðt,ξÞ ¼ Pðt þ ξÞCi ðtÞψ i ðt,ξÞ
@ξ i

After integration over ξ we get


ðτ
Vi ðt,τÞ ¼ Ci ðtÞ  Pðt þ ξÞψ i ðt,ξÞdξ
0

If τ tends to infinity, we get the formula for the money exchange value Vi ðtÞ of
all the bitpulses that reside in S0 at time t and that cease existence in state i in the
future. That is,
ð
1

Vi ðtÞ ¼ Vi ðt,1Þ ¼ Ci ðtÞ  Pðt þ ξÞψ i ðt,ξÞdξ (5.36)


0


The quotient of Vi ðtÞ and Ci ðtÞ is the average bit price Pi per bit to be liberated/
exchanged within Si in the future as observed at current time t. It follows that

 Vi ðtÞ
Pi ðtÞ ¼ (5.37)
Ci ðtÞ

Of course Pi ðtÞ is also a random function of time.
It follows further that
ð
1

Pi ¼ Pðt þ ξÞψ i ðt,ξÞdξ (5.38)
0


Pi ðtÞ is the average future unit price of the influx bitpulses stocked in S0 at time t
that will cease existence in state i in the future. This is the average unit price for

which these bits will be sacrificed in the future. Pi ðtÞ does not match the current
unit bit price PðtÞ. Mark Vi ðtÞ is not equal to the product of Ci ðtÞ and PðtÞ, because
142 5 Exchange and the Circulation of Entropy

the average future unit price to be sacrificed on influx bits in the future (after
observation time t) is another than the current unit price PðtÞ at time t.

5.6.2 Relationships Between Input and Influx

As in Sect. 5.5.2 I shall derive two important theorems that relate the circulation of
the input bitpulses to the circulation of the influx bitpulses. The first theorem to be
derived is

ρi ðtÞ ¼ ρi ðtÞ þ p
i ðtÞ conditional to Pi ðtÞ  PðtÞ  0 (5.39)

Mark that we claim (5.39) to be valid only if Pi ðtÞ  PðtÞ  0, i.e. if there is
average price deflation within Si at current time t . This marks the deflationary
constraint for the specific sector Si .
Proof of theorem (5.39): The right side Vi ½1  Ψ i ðt,ξÞ of expression (5.35) renders
the money exchange value of input bitpulses that will cease to exist after time t þ ξ.

Now recall from (5.37) that Pi ðt þ ξÞ is the average price sacrificed per bit in the
future as observed at time t þ ξ. Further, the number of influx bitpulses that will
 
annihilate after time t þ ξ and that are still present at time t is Ci 1  Ψ i ðt,ξÞ . It

follows that Pi ðt þ ξÞ must also be the quotient of Vi ½1  Ψ i ðt,ξÞ and
 
Ci 1  Ψ i ðt,ξÞ . That is,

  
Vi ½1  Ψ i ðt,ξÞ ¼ Pi ðt þ ξÞCi 1  Ψ i ðt; ξÞ


The integration of Pi ðt þ θÞ over the time-domain θ yields
8ξ 9
<ð =
 
P i ðt þ ξÞ ¼ Pi ðtÞ exp p
i ðt þ θ Þdθ
: ;
0

and it follows, on behalf of (5.37) and on behalf of the formula immediately


preceding the latter formula, that
8ξ 9
  <ð =
1  Ψ i ðt,ξÞ ¼ 1  Ψ i ðt,ξÞ exp p
i ðt þ θ Þ dθ (5.40)
: ;
0

Equation (5.40) can be differentiated partially to ξ:


8ξ 9
   <ð =
ψ i ðt,ξÞ ¼ ψ i ðt,ξÞ  p
i ðt þ ξÞ 1  Ψ i ðt,ξÞ  exp p
i ðt þ θ Þ dθ
: ;
0
5.6 The Circulation of Input in the Deflationary Mode of Evolution 143

After subsequent division by 1  Ψ i ðt,ξÞ we have

ψ i ðt,ξÞ ψ i ðt,ξÞ
¼  p
i ðt þ ξÞ
1  Ψ i ðt,ξÞ 1  Ψ i ðt,ξÞ

or
ρi ðt,ξÞ ¼ ρi ðt,ξÞ  p
i ðt þ ξ Þ

Further, in virtue of (5.12), we have

ρi ðt,ξÞ ¼ ρi ðt þ ξÞ  p
i ðt þ ξÞ (5.41)

The right side of this expression is a function of t þ ξ only. Hence the left side of
the expression must be a function of t þ ξ only. That is,

ρi ðt þ ξÞ ¼ ρi ðt þ ξÞ  p
i ðt þ ξÞ

The insertion of t0 ¼ t þ ξ in this expression completes the proof of (5.39). □


Clearly, the probability ρi ðtÞdt that an input bitpulse of Si annihilates in dS i
between time t and time t þ dt must exceed the probability ρi ðtÞdt that an influx
bitpulse of Si originates in dS  þ
i dS0 between time t and time t þ dt. Else the constraint
of average price deflation within Si cannot be satisfied at current time t and there
would then be average price inflation rather than average price deflation. Thus to
satisfy the constraint for which (5.39) holds true, it is also required that

p
i ðtÞ  0 conditional to Pi ðtÞ  PðtÞ  0 (5.42)

In the sequel we will revert to prove this observation.


Moreover we conclude from (5.41) that

ρi ðt,θÞ ¼ ρi ðt þ θÞ (5.43)

and on the analogy of (5.13), (5.14) and (5.15),

ðθ
 lnf1  Ψ i ðt,θÞg ¼ ρi ðt þ ξÞ dξ
0

8 θ 9
< ð =
Ψ i ðt,θÞ ¼ 1  exp  ρi ðt þ ξÞ dξ
: ;
0
144 5 Exchange and the Circulation of Entropy

8 θ 9
< ð =
ψ i ðt,θÞ ¼ ρi ðt þ θÞ exp  ρi ðt þ ξÞ dξ
: ;
0

The second important theorem I shall derive here is:

ρi ðtÞVi ðtÞdt ¼ ρi ðtÞPðtÞCi ðtÞdt (5.44)

To derive (5.44) I shall first infer the following theorem:



dPi  
  
dt ¼ p i P i ¼ ρ i P i  P for p
i  0 (5.45)

in which, in accordance with our notational conventions,



dPi =dt
p
i ¼ 
Pi

Proof of theorem (5.45): Differentiate the expression (5.38) to time t. It follows that

 ð
1 ð
1
dPi @ Pð t þ ξ Þ @ ψ i ðt,ξÞ
¼ ψ i ðt; ξÞ dξ þ Pð t þ ξ Þ dξ
dt @t @t
0 0

@ Pðt þ ξÞ @ Pðt þ ξÞ
With ¼ and after partial integration of the first integral
@t @ξ
over the ξ- domain,

 ð
1
dPi @ ψ i ðt,ξÞ @ ψ i ðt,ξÞ
¼ ρi P þ Pðt þ ξÞ   dξ (5.46)
dt dt dξ
0

Let us first deal with the factor of the integrand between braces. In virtue of
(5.15):
8 ξ 9
< ð =
ψ i ðt,ξÞ ¼ ρi ðt þ ξÞ  f in which the factor f ¼ exp  ρi ðt þ θÞdθ
: ;
0

Also

@ ρi ðt þ ξÞ @ ρi ðt þ ξÞ
¼
@t @ξ
5.6 The Circulation of Input in the Deflationary Mode of Evolution 145

So,

@ ψ i ðt,ξÞ @ ρi ðt þ ξÞ
¼ f  fρi ðt þ ξÞg2 f
@ξ @t

and

@ ψ i ðt,ξÞ @ ρi ðt þ ξÞ
¼ f þ fρi ðtÞ  ρi ðt þ ξÞg  ρi ðt þ ξÞf
@t @t

These expressions may be inserted in (5.46). This yields after some elaboration:

 ð
1
dPi
¼ ρi P þ Pðt þ ξÞρi ðtÞψ i ðt,ξÞdξ
dt
0


The second term of the right side is ρi Pi on behalf of (5.38), so that theorem
(5.45) is established. □
With (5.45) proven, the observation expressed in (5.42) has been verified to hold

analytically. This implies that the constraint Pi ðtÞ  PðtÞ  0, which marks and
defines the deflationary mode of evolution within Si (See Sect. 5.2), may just as well
be replaced by the constraint p i ðtÞ  0 . Thus the theory derived in the present
section holds under the constraint that p
i ðtÞ  0. □

To prove theorem (5.44) we will rely on theorems (5.39) and (5.45). It follows
from (5.39) and (5.45) that

     dPi
ρi ðtÞVi ðtÞ ¼ ρi ðtÞPi Ci ¼ ρi ðtÞ  p
i ðtÞ P i Ci ¼ ρ i ðtÞP i Ci  C i
dt

or
  
ρi Vi ¼ ρi Pi Ci þ ρi P  Pi Ci ¼ ρi PCi

and

ρi Vi dt ¼ ρi PCi dt

This completes the proof of (5.44). □


Recall from our exposition in Sect. 5.3.4 that ρi PCi dt is the money influx of Si. In
virtue of (5.44) we conclude that this is the equivalent of ρi ðtÞVi ðtÞdt . An
interpretation of the various inflows will be given in Chap. 6.
Chapter 6
The Interpretation of the Economic Variables

Abstract Each differential subset of the Venn diagram is associated with a partic-
ular economic flow. The assignment differs dependent on whether the inflationary
or the deflationary mode of evolution applies. The inflationary and deflationary
modes of evolution are mutually exclusive. Only one of these two alternative modes
can apply within all the subsets of the economy simultaneously at a particular time.
It is demonstrated that the point of transition from the inflationary to the deflation-
ary mode (and conversely) is always in the turning point of evolution. In this point
there is absence of statistical dependence between input and output. Also HðX0 \ Y0 Þ
¼ 0 , H ðX0 Þ ¼ H ðY0 Þ ¼ 0 and the rate of economic growth is zero in this point.
Statistical dependence between input and output (which implies both that HðX0 \ Y0 Þ
> 0 and that there is a sufficient rate of price inflation) is crucial for evolution to
succeed and to go on. The absence of statistical dependence smothers evolution.
Positive evolutionary growth is impossible in the deflationary mode. This explains
that economies can only manifest themselves if there is a small but persistent positive
rate of price inflation on an average. Then a positive rate of capacity growth will be
maintained in case labor input probability exceeds consumption probability (labor
output probability). The general line is that to attain more positive economic growth,
investment must be stimulated relative to consumption.
It is further claimed that to maintain positive evolutionary growth all evolution-
ary systems must have a unit of exchange additional to the unit of selection (the bit
of entropy) that slowly revaluates relative to the unit of exchange.

To produce capital, people must forgo the opportunity to


produce goods for current consumption. People can choose
whether to spend time picking apples or planting apple trees.
In the first case there are more apples today; in the second
case, more apples tomorrow.
Steven Landsberg

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 147


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_6, # Springer-Verlag Berlin Heidelberg 2013
148 6 The Interpretation of the Economic Variables

6.1 Outflow and Inflow in the Inflationary Mode of Evolution

Economic evolution is concerned with the interpretation of and the relationship


between quite a number of different money flows and associated entropy flows. It is
only within a concise and consistent mathematical context that these economic
concepts can be given a precise meaning. The pursuit of such conciseness and
consistency is a fundamental aspect of the design of any scientific theory. I shall
here further be concerned with this subject. It covers the economic interpretation of
the output and input circulation rates ζ i and ρi of Si and the outflux and influx
circulation rates ζ i and ρi of Si in relation to the various entropy and money inflows
and outflows as considered previously in the text and in several Appendices and as
illustrated in various Venn diagrams and figures.
Before entering in these details let me first give the general summary of the
connection between the various entropy flows and the various differential subsets in
which the events of bitpulse origination and bitpulse annihilation occur:
 
• The outflux Y i ¼ ζ i Ci dt attached to the events in the differential subset dSþ 
i dS0
• The influx Xi ¼ ρi Ci dt attached to the events in the differential subset dS  þ
i dS0
þ
• The output Yi ¼ ζ i Ci dt attached to the events in the differential subset dSi
• The input Xi ¼ ρi Ci dt attached to the events in the differential subset dS i

The brief symbolic notation Xi to denote entropy input ρi Ci dt and Yi to denote


entropy output ζ i Ci dt was already introduced in Sects. 1.6 and 1.7. Also the brief
symbolic notation Xi to denote entropy influx ρi Ci dt and Y i to denote entropy outflux
ζ i Ci dt was already introduced in Sect. 2.8. However in these sections we have not
yet drawn the distinction between different sorts of flows such as input, output,
influx, outflux, financial input and financial output. In Sect. 2.8 entropy influx was
still called a conditional entropy inflow and entropy outflux was still called a
conditional entropy outflow, which in essence they are of course.
Let us now first consider the context of outflux, output, influx and input in the
inflationary mode of evolution, for which the theory set out in Sects. 5.3.5 and 5.5
and the constraint pþ i  0 is applicable.
We have argued in the foregoing that in the inflationary mode of evolution (i.e.,
þ þ
for P  Pi ) bitpulses originate within dS 0 \ dSi in exchange for virtual entropy.
On behalf of (5.28) we may then next ascertain that there is a money value of
φi ðt; 0ÞViþ dt ¼ ζ i ðtÞViþ dt of outflux bitpulses originating within Si during ðt; t þ dtÞ.
This is a money outflux of Si .
Further, on behalf of (5.3) there is a number of bitpulses originating within Si
during ðt; t þ dtÞ and equal to ζ i Ci dt. This is an entropy outflux of Si. It corresponds
with a money value ζ i PCi dt because the unit price of a bit is P during the selection
interval ðt; t þ dtÞ.
þ
The link ζ i PCi dt ¼ ζ i Pi Ci dt ¼ ζ i Viþ dt between entropy outflux ζ i Ci dt and its
money value ζ i Viþ dt was established by the proof of (5.28).
6.1 Outflow and Inflow in the Inflationary Mode of Evolution 149

The number of all the bitpulses that originate in Si on ðt; t þ dtÞ is ζ i Ci dt


(see Sect. 5.3.5). This is the entropy output of Si. These bitpulses have originated  in
þ 
the entire differential set dSþ i , either within the conditional differential set dS i dS0
þ 
as entropy outflux ζ i Ci dt or within the intersection dSi \ dS0 as financial output of
Si in exchange for money. The expression for the financial output follows from
(5.24) for pþ
i  0, which characterizes the inflationary mode of evolution:

ζ i PCi dt ¼ ζ i PCi dt þ pþ þ
i PCi dt with pi  0 (6.1)

On behalf of theorem (5.29),


 
þ P

i PCi dt ¼ ζ i P  Pi
þ
þ with pi  0 (6.2)
Pi

and
  P
þ
Financial output ¼ pþ
i PCi dt ¼ ζ i P  Pi  þ dt
Pi

Herein financial output is expressed in the dimensional units of money. If we


wish to express it in bits we must divide by the unit price P.
We have further that
    
ζ i PCi dt ¼ PZdt  H dSþ and ζ i PCi dt ¼ PZdt  H dSþ 
i i dS0 (6.3)

and
  þ    
pþ  H dSþ 
i PCi dt ¼ PZdt  H dSi i dS0 ¼ PZdt  H ðYi \ X0 Þ

It follows also that


 þ 
pþ 
i PCi dt ¼ PZdt  H dSi \ dS0 ¼ γ μi PC0 dt (6.4)

Herein γ is the transmission rate defined by (2.8).


þ þ
Expression (6.2) clarifies that pþ
i and P  Pi share the same positive sign. P  Pi
þ
is positive conditional to average price inflation. P  Pi is also the positive financial
gain per bitpulse exchanged in Si on the selection interval ðt; t þ dtÞ . Therefore
pi þ PCi dt is to be conceived as part of the entropy output on ðt; t þ dtÞ.
From (5.28) it follows further that

þ
ζ i P ¼ ζ i Pi (6.5)
150 6 The Interpretation of the Economic Variables

On behalf of (6.3) this results in


    þ
ζ i H dSþ 
i dS0 ¼ ζ i H dSi (6.6)

(6.5) and (6.6) result also in


   þ  þ
PH dSþ 
i dS0 ¼ Pi H dSi

In accordance with (2.4) the evolutionary growth dCi of the sector Si is the net
result of two opposing flows: output Yi of Si and input Xi of Si :

dCi ¼ Yi  Xi ¼ Zdt  ½HðYi Þ  HðXi Þ (2.4)


 
In the inflationary mode of evolution Xi ¼ Zdt  H dS is the sum of entropy
  þ i  

influx Xi ¼ Zdt  H dSi dS0 and a virtual component Zdt  H dS þ
i \ dS0 .
Note further that generally

     λi  
Zdt  H dS þ þ
i \ dS0 ¼ λi Zdt  H dS0 \ dS0 ¼ Zdt  H dS þ
0 \ dSi
μi
λi þ
¼ p Ci dt
μi i

þ
Let us then define p
i and ρi as follows for pi  0, i.e., in case the inflationary
mode of evolution applies:

λi þ
p
i ¼ p for pþ
i  0 (6.7)
μi i

and

ρi ¼ ρi þ p
i for pþ
i  0 (6.8)

This warrants that


  
p þ
i Ci dt ¼ Zdt  H dSi \ dS0 (6.9)

and
 
Xi ¼ ρi Ci dt ¼ Zdt  H dS
i

so that p i Ci dt can represent financial input, although it is virtual, and so that


Xi ¼ ρi Ci dt can be called entropy input, although it is partly virtual.
6.2 Outflow and Inflow in the Deflationary Mode of Evolution 151

  þ
Finally recall from Sects. 5.2 and 5.3.4 that the entropy influx Zdt  H dS 
i dS0
of the sector Si is defined by
  þ
Xi ¼ ρi Ci dt ¼ Zdt  H dS 
i dS0 (6.10)

6.2 Outflow and Inflow in the Deflationary Mode of Evolution

Let us next consider the context of outflux, output, influx and input in the deflationary
mode of evolution, for which the theory set out in Sects. 5.3.6 and 5.6 and the
constraint p i  0 is applicable.
We have argued in the foregoing that in the deflationary mode of evolution ði:e:
 þ
for P  Pi Þ bitpulses annihilate within dS i \ dS0 in exchange for virtual entropy.
On behalf of (5.44) we may then ascertain that there is a money value of
ψ i ðt; 0ÞVi dt ¼ ρi ðtÞVi dt of influx bitpulses annihilating within Si during ðt; t þ dtÞ.
This is the money influx of Si .
Further, on behalf of (5.6) there is a number of bitpulses annihilating within Si
during ðt; t þ dtÞ and equal to ρi Ci dt. This is an entropy influx of Si . It corresponds
with a money value ρi PCi dt because the unit price of a bit is P during the selection
interval ðt; t þ dtÞ.

The link ρi PCi dt ¼ ρi Pi Ci dt ¼ ρi Vi dt between the entropy influx ρi Ci dt and its
money value ρi Vi dt was established by the proof of (5.44).
The number of all the bitpulses that annihilate in Si on ðt; t þ dtÞ is ρi Ci dt (see
Sect. 5.3.6). This is the entropy input of Si . These bitpulses will annihilate in the
 þ
entire differential set dS i , either within the conditional differential set dSi dS0 as
þ
entropy influx ρi Ci dt or within the intersection dS i \ dS0 as financial input of Si in
exchange for money. The expression for the financial input follows from (5.39) for
p
i  0, which characterizes the deflationary mode of evolution:

ρi PCi dt ¼ ρi PCi dt  p 
i PCi dt with pi  0 (6.11)

On behalf of theorem (5.45),

  P
p
i PCi dt ¼ ρi Pi  P

 with pi  0 (6.12)
Pi

and

   P
Financial input ¼ p
i PCi dt ¼ ρi Pi  P  
Pi
152 6 The Interpretation of the Economic Variables

Herein the financial input is expressed in the dimensional units of money. If we


wish to express it in bits we must divide by the unit price P.
We have further that
    þ
ρi PCi dt ¼ PZdt  H dS and ρi PCi dt ¼ PZdt  H dS 
i i dS0 (6.13)

and
     þ 
 p  H dS 
i PCi dt ¼ PZdt  H dSi i dS0 ¼ PZdt  H ðXi \ Y0 Þ

It follows also that


  
 p þ
i PCi dt ¼ PZdt  H dSi \ dS0 ¼ γλi PC0 dt

Herein γ is the transmission rate defined by (2.8).



Expression (6.12) clarifies that p
i and Pi  P share the same negative sign.
 
Pi  P is negative conditional to average price deflation. Pi  P is also the
negative financial loss per bitpulse exchanged in Si on the selection interval
ðt; t þ dtÞ. Therefore  pi PCi dt is to be conceived as part of the entropy input
on ðt; t þ dtÞ.
From (5.44) it follows further that

ρ i P ¼ ρi Pi (6.14)

On behalf of (6.13) this results in


  þ  
ρi H dS 
i dS0 ¼ ρi H dSi (6.15)

(6.14) and (6.15) result also in


  þ   
PH dS 
i dS0 ¼ Pi H dSi

 
In the deflationary mode of evolution Yi ¼ Zdt  H dSþ is the sum of entropy
 þ  i  

outflux Y i ¼ Zdt  H dSi dS0 and a virtual component Zdt  H dS þ
0 \ dSi .
Note further that generally
    μi  
Zdt  H dS þ
0 \ dSi ¼ μi Zdt  H dS þ
0 \ dS0 ¼ Zdt  H dS þ
i \ dS0
λi
μi 
¼  pi Ci dt
λi

Let us then define pþ 


i and ζ i as follows for pi  0, i.e., in case the deflationary
mode of evolution applies:
6.3 The Impacts of the Inflationary and Deflationary Modes of Evolution 153

μi 

i ¼ p for p
i 0 (6.16)
λi i

and

ζ i ¼ ζ i  pþ
i for p
i  0 (6.17)

This warrants that


  
 pþ þ
i Ci dt ¼ Zdt  H dS0 \ dSi

and
 
Yi ¼ ζ i Ci dt ¼ Zdt  H dSþ
i

so that  pþ i Ci dt can represent financial output, although it is virtual, and so that


Yi ¼ ζ i Ci dt can be called entropy output, although it is partly virtual.
Finally
 recall
   from Sects. 5.2, 5.3.2, and 5.3.3 that the entropy outflux
Zdt  H dSþ 
i dS0 of the sector Si is defined by

  
Y i ¼ ζ i Ci dt ¼ Zdt  H dSþ 
i dS0 (6.18)

Table 6.1 presents a summary and glossary of the various flows, both for the
inflationary and deflationary mode of evolution.

6.3 The Impacts of the Inflationary and Deflationary


Modes of Evolution

We have argued in Sect. 5.2 that the mode of inflationary evolution and the mode of
deflationary evolution in Si are mutually exclusive. That is, either pþ 
i > 0 or pi < 0.
At first glance the dependence of these constraints on the state i might suggest
that the mode of evolution differs dependent on the sector Si we consider. However,
this is not the case.
To substantiate this claim, my task is here to demonstrate that the mode of
evolution is inflationary in the sector Si whenever it is inflationary in S0 and
conversely. Likewise my task is to demonstrate that the mode of evolution is
deflationary in the sector Si whenever it is deflationary in S0 and conversely.
Well, it is easy to see that if pþ þ
0 > 0 applies, it must follow that pi > 0 for any
state i.
For if pþ  þ
0 > 0 , bitpulses can only originate in dS0 \ dS0 in exchange for
 þ
“annihilating” virtual bits. Thus in any subset of dS0 \ dS0 , more specifically the
154

Table 6.1 The nomenclature of the flows and circulation rates of the sector Si of the economy
Inflationary mode of evolution pþ
i 0 Deflationary mode of evolution p
i 0
Virtual Virtual
Flow category Flow variable Yes or no Residence Equivalent Yes or no Residence Equivalent
 
Entropy output ζi Ci dt N dSþ
i ζi Ci dt ¼ ðζi þ pþ
i ÞCi dt Partly dSþ
i ζ i Ci dt ¼ ζ i  μi p
i =λi Ci dt
   
Entropy outflux ζi Ci dt N dSþ  ζi Ci dt N dSþ  ζ i Ci dt
i dS0 i dS0
 þ 
  
Financial output p Ci dt
i
N dS0 \ dSþi Zdt  H dS \ dSþ
i
Y dS0 \ dSþi  μi p i Ci dt=λi
0   
Entropy input ρi Ci dt Partly dS
i ρi Ci dt ¼ ρi þλi pþi =μi Ci dt
N dS
i ρi Ci dt ¼ ρi  p i Ci dt
 
Entropy influx ρi Ci dt N dS dSþ
i 0
ρi Ci dt N dS dSþ
i 0
ρi Ci dt
  þ þ
 þ

Financial input p Ci dt
i
Y dS
i \ dS0 λi pþ
i Ci dt=μi N dS
i \ dS0 Zdt  H dS i \ dS0
Money output ζi PCi dt N dSþ
i  ζi PCi dt Partly dSþ
i  ζ i PCi dt
Money outflux N   N   þ
ζi PCi dt dSþ
i dS0
ζi PCi dt dSþ
i dS0 P  ζi Ci dt ¼ ζ i PCi dt
i
Money input ρi PCi dt Partly dS
i  ρi PCi dt N dS
i  ρi PCi dt
 þ  þ 
Money influx ρi PCi dt N dS
i dS0
ρi PCi dt N dS
i dS0 Pi  ρi Ci dt ¼ ρi PCi dt
Circulation rates
Input circulation rate dS
i ρi ¼ ρi þ p i dS
i ρi ¼ ρi  p i
Output circulation rate dSþ
i  ζi ¼ ζi þ pþ
i dSþ
i  ζ i ¼ ζi  pþ
i
Influx circulation rate ρi dS  þ dS  þ
i dS0 i dS0
   
Outflux circulation rate ζi dSþ  dSþ 
i dS0 i dS0
         
Capacity growth dCi Zdt  H dSþ
i  H dS
i Zdt  H dSþ
i  H dS
i
6 The Interpretation of the Economic Variables
6.3 The Impacts of the Inflationary and Deflationary Modes of Evolution 155

þ
subset dS 0 \ dSi , bitpulses can only originate in exchange for virtual money. And
hence pi > 0 if pþ
þ þ þ
0 > 0. That is, pi is positive whenever p0 is positive.
Likewise if p0 < 0, bitpulses can only annihilate in dS0 \ dSþ
 
0 in exchange for
þ þ
“originating” virtual bits. Thus in any subset of dS0 \ dS0 , e.g., the subset dS

i \ dS0 ,

bitpulses can only annihilate in exchange for virtual money. And hence pi < 0 if
p  
0 < 0. That is, pi is negative whenever p0 is negative.
þ þ
Similarly if p0 gets zero, no longer bitpulses originate in dS 0 \ dS0 and no
longer bitpulses will originate in dS0 \ dSi . Hence it must follow that pþ
 þ
i ¼ 0 if
pþ0 ¼ 0. Also if p 
0 gets zero, no longer bitpulses annihilate in dS 
0 \ dS þ
0 and no
þ
longer bitpulses will annihilate in dSi \ dS0 . Hence it must follow that p

i ¼ 0 if
p0 ¼ 0.
This implies that the evolutionary process can only alternate from inflationary
mode to deflationary mode of evolution or conversely after the rates pþ þ 
i , p0 , pi and

p0 vanish altogether simultaneously. It follows that the mode of evolution is
inflationary in the sector Si whenever it is inflationary in S0 and conversely. And
it follows that the mode of evolution is deflationary in the sector Si whenever it is
deflationary in S0 . □
I shall call the time instance for which pþ 
i and pi change sign the turning point of
evolution. Inflationary mode and deflationary mode can only exist together at a
moment of time t for which one of them vanishes for a particular index i. In that case
all pþ  þ 
i and pi vanish together, thus causing pi ðtÞ ¼ pi ðtÞ ¼ 0 for all i at that
particular time t.
And in case either pþ 
i or pi vanish it is necessary that H ðX0 \ Y0 Þ ¼ 0 as one may
easily check.
Well, the circumstances for which H ðX0 \ Y0 Þ ¼ 0 are very special, but the
consequences are far-reaching. To get an idea of what is at stake when H ðX0 \Y0 Þ¼0,
I refer to the detailed expositions in Appendices F and G. It is demonstrated in Appendix
F that the case with H ðX0 \Y0 Þ¼0 and that the case of statistical independence of input
events and output events go hand in hand. That is, if there is statistical independence
between input and output, it must follow that H ðX0 \Y0 Þ¼0 and, if H ðX0 \Y0 Þ¼0,
it must follow that there is statistical independence between input and output.
Moreover, if HðX0 \ Y0 Þ ¼ 0, it is shown in Appendix G that H ðX0 Þ ¼ HðY0 Þ ¼ 0
as well and that labor output probability μ (consumption propensity) and labor input
probability λ must satisfy λ ¼ μ ¼ 1 and finally that economic growth is then totally
absent. Therefore H ðX0 \ Y0 Þ ¼ 0 marks the begin and the end of evolution as well
as the begin and end of evolutionary selection. It marks both the point of evolution-
ary take off and the point of ultimate evolutionary failure and extinction. This is
why it is a turning point of evolution. Thus, as the constraint pþ 
i ¼ pi ¼ 0 is reached,
the economy has reached that very end of change or that very begin of change. Here
þ
the differential entropy H ðX0 \ Y0 Þ of dS 0 \ dS0 vanishes entirely and also all the
 
differential entropy H Xi \ Yj of the subsets dSi \ dSþ

j and the differential entropy
þ 
of dSi and of dSi vanishes entirely.
156 6 The Interpretation of the Economic Variables

All in all it is not very likely for a modern economy to reach the turning point,
where in fact the economy lands in the middle of nowhere, in effect not a situation
of temporary economic stagnation but more likely a situation of definitive stagna-
tion and downfall.
Of course an economy may sometimes experience that the current price-level P
stops rising and P may even temporarily decline. This is a situation of temporary
deflation. That may reflect a very serious situation of economic stagnation, but the
economy need not yet be in the deflationary mode of evolution, which is much more
demanding because to reach the latter we have to get in the turning point of
evolution. Temporary deflation ðp < 0Þ does not immediately bring about the
average historic price inflation rate pþ i to get zero. On the contrary, due to price
increases in the past this will not happen lightly.
What these observations do reveal is that a deflationary fall of the current unit
price P will have serious devastating effects on the growth potential of any economy,
because it will then approach the turning point closer and closer. It is dangerous to
have the economy kept in a state of declining unit price P or a state of a very low
inflation rate. The longer it stays in such state, the closer it reaches a constant average
þ
historic price level P0 and the more dangerous it is for the economy to decline
further.
This is the main reason why our modern growth economies need a few percents
of average price inflation each year in order to enhance the realization of long term
growth.
Noticing the small probability of survival of an economy in the turning point of
evolution or in the deflationary mode of evolution, it is very likely that all modern
growth economies are in the inflationary mode of evolution. The deflationary mode
of evolution appears to be a very rare exception, a point that is also a point of
evolutionary take off. To analyze that further is interesting but rather irrelevant for
the study of the performance of our modern economies.
I shall therefore proceed in the sequel with analyzing the evolution of the
economy as staying in the inflationary mode of evolution.

6.4 Some Further Relationships of Price and Circulation Rates

The definition (6.7) of pi in the inflationary mode of evolution and the definition
(6.16) of pþ
i in the deflationary mode of evolution, can be condensed in a single
equation:

λ i pþ 
i ¼ μ i pi irrespective whether pþ 
i  0 or pi  0

whereas (5.21), (5.22), (5.23) and (5.29) are valid in the inflationary mode of
evolution and alternatively (5.36), (5.37), (5.38) and (5.45) are valid in the defla-
tionary mode of evolution.
6.4 Some Further Relationships of Price and Circulation Rates 157

The various rates join the following equations of aggregation:


X

0 C0 ¼ pþ
i Ci
i

X
p
0 C0 ¼ p
i Ci (6.19)
i

X X
ζ 0 C0 ¼ ζ i Ci ; ρ0 C0 ¼ ρi C i
i i

X X
ζ 0 C0 ¼ ζ i Ci ; ρ0 C0 ¼ ρi C i
i i

On behalf of (6.3) and (6.13) we attain,


    þ   
ðζ 0 þ ρ0 ÞC0 ¼ Z  H dSþ  þ
0 þ Z  H dS0 dS0 ¼ Z  H dS0 [ dS0 ¼ Z  H ðdS0 Þ

and
         
ζ 0 þ ρ0 C0 ¼ Z  H dSþ  þ
0 dS0 þ Z  H dS0 ¼ Z  H dS0 [ dS0 ¼ Z  H ðdS0 Þ

Hence
 
ζ 0 þ ρ0 C0 ¼ ðζ 0 þ ρ0 ÞC0 ¼ ZH ðX0 [ Y0 Þ ¼ ZH ðdS0 Þ

and
ζ 0 þ ρ0 ¼ ζ 0 þ ρ0

In accordance with (3.6) and (3.7) we obtain:

ρi Ci ¼ λi ρ0 C0 , ρi Ci ¼ λi ρ0 C0 , ζ i Ci ¼ μi ζ 0 C0 and ζ i Ci ¼ μi ζ 0 C0

From this it follows that ðρi  ρi ÞCi ¼ λi ðρ0  ρ0 ÞC0 and


   
ζ i  ζ i Ci ¼ μi ζ 0  ζ 0 C0 so that

p  þ þ
i Ci ¼ λi p0 C0 and pi Ci ¼ μi p0 C0 (6.20)

It follows that
 þ
p Ci ¼ γ μi C0 ¼ Z  HðX0 \ Yi Þ
i

and
 
p Ci ¼ γ λi C0 ¼ Z  H ðXi \ Y0 Þ
i
158 6 The Interpretation of the Economic Variables

Herein γ is the transmission rate as defined by (2.8).


þ
Substitution of i ¼ 0 in these expressions for p
i and pi in (6.20) results in

   
γ ¼  pþ   
0 ¼ p0 (6.21)

Hence the transmission rate γ is the absolute value equivalent of the overall
average rate of historic price increase in the inflationary mode of evolution and it is
the absolute value equivalent of the overall average rate of future price decrease in
the deflationary mode of evolution.
On behalf of (1.1), (2.11), (3.2) and (3.3) we can reformulate the expressions for
ρi , ζ i , ρi and ζ i as
P P
λi Z  λi log λi μi Z  μi log μi
i i
ρi ¼ and ζ i ¼ (6.22)
Ci Ci

λi Z  H ðX0 jY0 Þ μ Z  HðY0 jX0 Þ


ρi ¼ and ζ i ¼ i (6.23)
Ci Ci

Like the variables Ci , Ci , Z, H ðXi jY0 Þ, H ðXi Þ, H ðYi jX0 Þ, H ðYi Þ, λi , μi and qij , the
transmission rate γ and all the circulation rates ρi, ρi, ζ i and ζ i are dynamic functions
of time t.

6.5 The Two-Sector Economy

The sales volume of goods and services produced in the economy is summarized in the
economic concept of spending or output. To keep the production of output going input
is demanded. To that end agents deliver effort which involves wear and tear of their
capacity: physical in the form of labor, and rather more materially but not too strictly
so in the form of wear and tear of mechanical production capacity and production
facilities. From an evolutionary point of view the term spending is less appropriate to
reflect the production of goods and services. Perhaps the term procreation is more
appropriate to denote the productive output resulting from effort.
Procreation is then the output of the economy, effort is the input of the economy.
We can conceive input as the delivery of effort and output as procreation.
Procreation results by effort. In turn procreation feeds the effort delivering agents
in order to sustain the exertion of effort. Procreation is not restricted to apply only
to concrete material entities, neither is effort. Procreation and effort emerge in
physical goods, services, goodwill, patents and more generally in agents as well as
in thoughts, ideas, etcetera in the sense Hodgson and Knudsen describe the
properties of replicators. Financial flow is “stocked” within the transmission area
þ
dS0 \ dS0 .
6.5 The Two-Sector Economy 159

Let us next turn to what concrete meaning the flow variables dealt with in
Sects. 6.1, 6.2, 6.3, and 6.4 have for the two-sector economy of Fig. 2.4 consisting
of a consumption sector S1 and an investment sector S2 . We will here adopt the
division of the sample space dS0 in subsets A, B, C, D, E, F, G and U as given in
Fig. 2.4. 
þ 
Using this scheme we get: dSþ þ 
1 ¼ B [ D [ E, dS1 dS0 ¼ B and dS1 \ dS0 ¼D [ E.
Here we shall use the terms GNP and gross national income (GNI) to denote the
gross national product and the GNI over the time-interval ðt; t þ dtÞ of selection
rather than over a year or quarter. A similar remark applies to all the other flow
variables of the economy.  
Since the economy is closed it is necessary that the valueζ 0 PC0 dt ¼ PZdt  H dSþ
0
of national output (GNP) balances the value of GNI.
Clearly GNP is total spending, the sum of consumption and investment:
 
consumption ¼ labor output ¼ Y1 ¼ ζ 1 C1 dt ¼ Zdt  H dSþ
1
¼ Zdt  H ðB [ D [ EÞ
 
investment ¼ entrepreneurial output ¼ Y2 ¼ ζ 2 C2 dt ¼ Zdt  H dSþ
2
¼ Zdt  HðA [ C [ FÞ

The sum Y0 ¼ Y1 þ Y2 is GNP in case of the two-sector economy.


It follows that Y0 ¼ Y1 þ Y2 ¼ ζ 0 PC0 dt ¼ PZdt  H ðA [ B [ C [ D [ E [ FÞ.
On the income side GNI is the sum of wages, entrepreneurial depreciation, labor
financial input and producer profit.
Wages represent the value of the labor effort delivered
   byþ laborers. This value is
the equivalent of labor influx: ρ1 PC1 dt ¼ PZdt  H dS1 dS0 ¼ PZdt  HðGÞ.
Entrepreneurial depreciation is the value of the sacrifice of effort delivered by the
investment sector. This value equals ρ2 PC2 dt ¼ PZdt  H dS dSþ ¼ PZdt  HðUÞ.
2 0

  Labor financial input


 is the financial
 input of the consumption sector. This equals
p PC1 dt ¼ PZdt  H dS \ dSþ ¼ PZdt  H ðE [ FÞ.
1 1 0  
Producer profit is a residual quantity. It is the surplus of the total PZdt  H dSþ 0
of produced  outputþover
 the total production cost formed by labor financial
   þinput

PZdt  H dS1 \ dS0 and wages + depreciation ρ0 PC0 dt ¼ PZdt  H dS0 dS0 . In
summary this residue of profit is equal to

Producer profit ¼ PZdt  HðA [ B [ C [ D [ E [ FÞ


 PZdt  H ðE [ FÞ  PZdt  H ðG [ UÞ (6.24)

Mark that producer profit is also equal to

Producer profit ¼ ½PZdt  H ðA [ BÞ  PZdt  H ðG [ UÞ þ PZdt  H ðC [ DÞ


160 6 The Interpretation of the Economic Variables

Herein the first term PZdt  H ðA [ BÞ  PZdt   H ðG [ UÞ on the right  side
is equal to the surplus of PZdt  H dSþ dS over PZdt  H dS dSþ . On
0 0 0 0
behalf of (2.18) this surplus is equal to the net
 growth
 dC 0 of overall
 capital
 of S0 .
It is also equal to the surplus of PZdt  H dSþ 0 over PZdt  H dS 0 , which is
the net growth dC0 of overall capacity C0 in accordance with (2.4) and (2.19).
The second
 term on þ
the right, PZdt  H ðC [ DÞ, is entrepreneurial financial input
PZdt  H dS 2 \ dS 0 .

Producer profit
     þ   
¼ PZdt  H dSþ   þ
0 dS0  PZdt  H dS0 dS0 þ PZdt  H dS2 \ dS0

After addition of wages, entrepreneurial depreciation and labor financial input to


this producer profit of (6.24) we get indeed GNI to balance GNP.
That is,

GNI ¼ GNP ¼ ζ 0 PC0 dt ¼ PZdt  H ðA [ B [ C [ D [ E [ FÞ

We have established this equilibrium by considering producer profit as a residual


flow, but it can also be done in a more hidden way by noting that

GNI ¼ PZdt  H ðA [ BÞ þ PZdt  H ðC [ DÞ þ PZdt  H ðE [ FÞ

or

GNI ¼ PZdt  H ðA [ BÞ þ PZdt  H ðD [ EÞ þ PZdt  HðC [ FÞ

Herein PZdt  H ðA [ BÞ is the money cost of total output at average historic unit
þ
production cost P0 rather than at market unit price P per bit. Further, PZdt  H ðC [ DÞ
and PZdt  H ðE [ FÞ are the respective entrepreneurial financial input and labor
financial input. Alternatively, PZdt  H ðD [ EÞ and PZdt  HðC [ FÞ are the respec-
tive labor financial output and entrepreneurial financial output.
Mark that on the input side the following terminology for the two-sector
economy has been employed:
 
labor input ¼ ρ1 C1 dt ¼ Zdt  H dS
1 ¼ Zdt  H ðE [ F [ GÞ

 
entrepreneurial input ¼ ρ2 C2 dt ¼ Zdt  H dS
2 ¼ Zdt  H ðD [ C [ UÞ

  þ
labor influx ðwagesÞ ¼ ρ1 C1 dt ¼ Zdt  H dS 
1 dS0 ¼ Zdt  HðGÞ

  þ
entrepreneurial influx ðdepreciationÞ ¼ ρ2 C2 dt ¼ Zdt  H dS 
2 dS0 ¼ Zdt  HðUÞ
6.6 The Growth of Capacity 161

Table 6.2 Inflows and outflows of the two-sector economy


Inflow Outflow
Set Input Influx Output Outflux
S1 Labor input Wages (labor influx) Consumption (labor Labor outflux
X1 ¼ ρ1 C1 dt X1 ¼ ρ1 C1 dt output) Y1 ¼ ζ 1 C1 dt
Y1 ¼ ζ 1 C1 dt
S2 Entrepreneurial Depreciation Investment Entrepreneurial
input (entrepreneurial influx) (entrepreneurial outflux
X2 ¼ ρ2 C2 dt X2 ¼ ρ2 C2 dt output) Y2 ¼ ζ 2 C2 dt
Y2 ¼ ζ 2 C2 dt
S0 Joint input Joint influx Joint output Joint outflux
X0 ¼ X1 þ X2 ¼ X0 ¼ X1 þ X2 ¼ Y0 ¼ Y1 þ Y2 ¼ Y0 ¼ Y1 þ Y2 ¼
¼ ρ0 C0 dt ¼ ρ0 C0 dt ¼ ζ0 C0 dt ¼ ζ 0 C0 dt

    þ
Labor input Zdt  H dS sum of wages (labor influx) Zdt  H dS dS
1 is here the
   1 0
and labor financial input PZdt  H dS1 \ dSþ 0 . The idea behind this choice of
terminology is that labor realizes its financial input from the return on savings that
ultimately proceed from past wages. Thus labor input is more than wages alone, just
like entrepreneurial input is more than entrepreneurial depreciation alone.
A summary of the inflow and outflow terminology for the two-sector economy
has been given in Table 6.2.

6.6 The Growth of Capacity

Since dCi ¼ Zdt  ½H ðYi Þ  H ðXi Þ ¼ ðζ i  ρi ÞCi dt, let us first observe that

c i ¼ ζ i  ρi (6.25)

With ζ i Ci ¼ Z  H ðYi Þ and ρi Ci ¼ Z  H ðXi Þ we have also

ρ i H ð Yi Þ ¼ ζ i H ð X i Þ (6.26)

Further from (1.1), (3.6) and (3.7),


X X
H ðYi Þ ¼ μi H ðY0 Þ ¼ μi  μj log μj ; H ðXi Þ ¼ λi H ðX0 Þ ¼ λi  λj log λj
j j

After substitution of these expressions for H ðYi Þ and H ðXi Þ in (6.26) we arrive at
X X
μ i ρi  μj log μj ¼ λi ζ i  λj log λj
j j
162 6 The Interpretation of the Economic Variables

After insertion ζ i  ci for ρi we obtain after some elaboration


P P
μi  μj log μj þ λi  λj log λj
j j
ci ¼ P  ζi
μi  μj log μj
j
P P
μi  μj log μj þ λi  λj log λj
j j
¼ P  ρi (6.27)
λi  λj log λj
j

and in particular for c0 ¼ c0 ,


P P
 μj log μj þ λj log λj
j j
c0 ¼ c0 ¼ P  ζ0
 μj log μj
j
P P
 μj log μj þ λj log λj
j j
¼ P  ρ0 (6.28)
 λj log λj
j

For the two-sector economy ðN ¼ 2Þ we have with λ ¼ λ1 ¼ 1  λ2 and


μ ¼ μ1 ¼1  μ2 :
X
 λj log λj ¼ λ log λ  ð1  λÞ logð1  λÞ ¼ QðλÞ
j

and
X
 μj log μj ¼ μ log μ  ð1  μÞ logð1  μÞ ¼ QðμÞ
j

Herein the shorthand notation QðωÞ has—for convenience—been introduced for

QðωÞ ¼ ω log ω  ð1  ωÞ logð1  ωÞ (6.29)

In the particular case that N ¼ 2 expression (6.28) assumes the form

QðμÞ  QðλÞ QðμÞ  QðλÞ


c0 ¼ c0 ¼  ζ0 ¼  ρ0 (6.30)
QðμÞ Q ðλÞ

The function QðωÞ has been plotted in Fig. 6.1. QðωÞ has an absolute maximum 1
for ω ¼ 0:5 and two absolute minima 0 for ω ¼ 0 and 1.
6.6 The Growth of Capacity 163

0.9

0.8 Q( μ)
Q(ω) 0.7
Q( λ)
0.6

0.5

0.4

0.3

0.2

0.1

0
0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1

ω
μ λ

Fig. 6.1 The two-sector economy. The function Q(ω) as a function of ω. The absolute maximum is
Q(ω) ¼ 1 for ω ¼ 0.5. Furthermore Q(ω) ¼ 0 for ω ¼ 0 and ω ¼ 1. Z · [Q(μ)  Q(λ)] ¼ dC0/dt,
the volume of capacity growth. This is positive for λ > μ

All economic investigations point out that the consumption probability ω ¼ μ ¼ μ1


of the modern two-sector money economy fluctuates in the range μ ¼ 0.65 up till
0.80. Thus we can ignore the left side of Fig. 6.1 with ω ¼ μ and ω ¼ λ smaller than
0.5. To obtain positive economic growth the labor input propensity λ must exceed
consumption propensity μ (see Fig. 6.1).
In some applications it may be helpful to approximate QðλÞ  QðμÞ by a power
series of the difference δ ¼ ðλ  μÞ=2 as follows

1β δ2 1 δ3 1  2β
QðλÞ  QðμÞ  δ  log þ  þ  2
β 2 βð1  βÞ  ln 2 6 β ð1  βÞ2  ln 2

with β ¼ ðμ þ λÞ=2. This third order expansion in δ offers very good approximations
for μ and λ in a 15 % vicinity around β between 0.65 and 0.80.
On behalf of (6.30) it can be shown that the common rate c0 ¼ c0 of capacity
growth and capital growth of the economy is mainly determined by the difference
ðλ  μÞ. For λ > μ the rate of economic capacity growth is positive. For λ < μ it is
negative. The dance of that difference about its long run average in the course of
time explains the instantaneous fluctuations of the growth rate c0 of overall capacity.
In accordance with expressions (6.28) and (6.30) c0 is also equal to the growth rate
c0 of overall capital.
164 6 The Interpretation of the Economic Variables

A further relationship involving ci in the inflationary mode of evolution follows


from (6.1), (6.7), (6.8) and (6.25):

μi  λi þ
c i ¼ ζ i  ρi ¼ ζ i  ρi þ pi , pþ
i  0
μi

In the deflationary mode of evolution ci follows from (6.11), (6.16), (6.17) and
(6.25):

λi  μi 
c i ¼ ζ i  ρi ¼ ζ i  ρi þ pi , p
i  0
λi

The growth rate of output Yi ¼ Zdt  H ðYi Þ is equal to the growth rate of Yi ¼
ζ i Ci dt:

dYi =dt dζ i =dt


yi ¼ ¼ þ ci
Yi ζi

Likewise the growth rate of input Xi ¼ Zdt  HðXi Þ is equal to the growth rate of
Xi ¼ ρi Ci dt:

dXi =dt dρi =dt


xi ¼ ¼ þ ci
Xi ρi

It follows that yi and xi have a growth component additional to ci : the rate of


change of the output circulation rate ζ i, respectively of the input circulation rate ρi in
the course of time. Together with the fluctuations of ci this is another source of
instantaneous fluctuations of the business cycle. Whereas the time-averages of
dζ i =ζ i dt and dρi =ρi dt will usually average out and vanish over the full business
cycle, ci need not vanish if a prolonged surplus of labor input propensity λ ¼ λ1 over
consumption propensity μ ¼ μ1 is realized. Ci is therefore a real source of economic
growth and evolution.
In accordance with (6.18) the net growth rate of outflux Y i ¼ Zdt  H ðYi jX0 Þ ¼
ζ i Ci dt is

dY i =dt dζ i =dt
yi ¼ ¼ þ ci
Yi ζi

Likewise, on behalf of (6.10), the net growth rate of influx Xi ¼ Zdt  H ðXi jY0 Þ ¼
ρi Ci dt is

dXi =dt dρi =dt


xi ¼ ¼ þ ci
Xi ρi
6.7 Economic Growth and the Surplus of Output Over Input 165

The various newly introduced flows of entropy enrich macro-economic analysis


with many new variables and exact relationships that each may be subject of
observation, measurement, consistent explanation and optimum prediction.

6.7 Economic Growth and the Surplus of Output Over Input

The surplus of labor output over labor input is equal to the net growth dC1 of labor
capacity C1 :

dC1 ¼ Y1  X1 ¼ Zdt  H ðY1 Þ  Zdt  H ðX1 Þ ¼ ζ 1 C1 dt  ρ1 C1 dt


P P
As Y1 ¼ μ1 Y0 ¼ μ1 Zdt  i μi log μi and X1 ¼ λ1 Y0 ¼ λ1 Zdt  i λi log λi
this results in
h X X i
dC1 ¼ Zdt  μ1 μ
i i
log μ i  λ 1 i
λ i log λ i

For the two-sector economy this assumes the form

dC1 ¼ Zdt  ½ μQðμÞ  λQðλÞ

We are interested in the surplus dC1 of labor output (consumption) over labor
input (wages + financial labor influx), how it depends on ðλ  μÞ. The questions are:
Does the net growth rate c1 of labor capacity display a more or less similar behavior
like c0 as a function of ðλ  μÞ? Is it necessary that labor input X1 (the income side of
the consumption sector) exceeds labor output Y1 (the spending side of the consump-
tion sector) to sustain a positive overall rate c0 of growth, i.e., if ðλ  μÞ > 0 ?
Another question is: what happens with an eventual surplus of X1 over Y1 if c0 is
negative, i.e., if ðλ  μÞ < 0?
To analyze this, the behavior of ωQðωÞ as a function of ω is decisive. The course
of ωQðωÞ as a function of ω has been plotted in Fig. 6.2.
Notice ωQðωÞ has a single maximum for ω ¼ 0:703506. The maximum value of
ωQðωÞ here attained is 0.616949. We shall discern between six different situations:
1. For μ < λ < 0:703506 we have that μQðμÞ < λQðλÞ: c0 > 0, consumption <
labor input and c1 < 0 moving in a direction opposite to c0 . Case of positive
overall economic growth, but negative growth in the consumption sector S1 .
2. For λ < μ < 0:703506 we have that μQðμÞ > λQðλÞ: c0 < 0, consumption >
labor input and c1 > 0 moving in a direction opposite to c0 . Case of negative
overall economic decline, but positive growth in the consumption sector S1 .
3. For 0:703506 < μ < λ we have that μQðμÞ > λQðλÞ: c0 > 0, consumption >
labor input and c1 > 0 more or less behaving like c0 . Case of positive overall
growth.
166 6 The Interpretation of the Economic Variables

0.9

0.8

ω Q(ω ) 0.7
0.6 0.616949

0.5

0.4

0.3

0.2

0.1

0
0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 0.8 0.9 1
ω

0.703506

Fig. 6.2 The two-sector economy. The function ωQ(ω) as a function of ω. The absolute maximum
ωQ(ω) ¼ 0.616949 is attained for ω ¼ 0.703506

4. For 0:703506 < λ < μ we have that μQðμÞ < λQðλÞ: c0 < 0, consumption <
labor input and c1 < 0 more or less behaving like c0 . Case of negative overall
decline.
5. For μ < 0:703506 < λ it is uncertain whether consumption is greater or smaller
than labor input: c0 > 0 but c1 will often tend to be rather small, either positive or
negative.
6. For λ < 0:703506 < μ it is uncertain whether consumption is greater or smaller
than labor input: c0 < 0 but c1 will often tend to be rather small, either positive or
negative.
The economic growth in the investment sector of the two-sector economy is
determined by

dC2 ¼ Zdt  ½ð1  μÞQðμÞ  ð1  λÞQðλÞ

The surplus dC2 of entrepreneurial output (investment) over entrepreneurial input


(depreciation + financial entrepreneurial influx) is largely determined by ð1  ωÞQðωÞ
as a function of ω. We shall not plot this function here, because it is the horizontal
mirror image of the function ωQðωÞ around the vertical axis ω ¼ 0:5. ð1  ωÞQðωÞ is a
strictly decreasing function of ω in the right half plane 0:5 < ω < 1. Thus we conclude
from Fig. 6.2 that
6.8 Economic Evolution and Biologic Evolution 167

1. For μ < λ always ð1  μÞQðμÞ > ð1  λÞQðλÞ: c0 > 0, investment > entrepre-
neurial input and c1 > 0 more or less behaving like c0 . Case of positive overall
growth.
2. For μ > λ always ð1  μÞQðμÞ < ð1  λÞQðλÞ: c0 < 0, investment < entrepre-
neurial input and c1 < 0 more or less behaving like c0 . Case of negative overall
decline.
Thus we conclude that a substantial increase of investment is the best thing to do
in order to resume overall economic growth.

6.8 Economic Evolution and Biologic Evolution

A very well developed system of money exchange distincts our modern growth
economies from evolutionary systems with much slower rates of entropy growth. It
has been shown in Appendices F and G that this must be attended with sufficient
statistical dependence between the output events and the input events. This in turn
demands that a moderate level of price inflation is sustained. In this manner
transmission Zdt  H ðX0 \ Y0 Þ plays a substantial role and is of the same order as
output Zdt  H ðY0 Þ and input Zdt  H ðX0 Þ . The result is the attainment of the
considerable growth rates that our modern money economies characterize. On the
other hand an economy in a state with very low inflation rate is likely to demon-
strate poor positive or even negative growth. It will be in a state of economic
stagnation and decline.
Clearly then, money with a little but sufficient inflationary impetus is the
lubricant of economic performance. This raises the point how the primitive barter
economy has managed to realize economic growth. The conclusion we must draw
here is that economies of a (very) primitive state of development cannot have
survived without a sort of unit of exchange that slowly devalued in the course of
time. Well, the use of a unit of exchange (shells, beads, corn) in primitive
economies has a very old record. Due to the scarce availability of appropriate
units of exchange and the lack of ease of transportation and the limited acceptance
of their units of exchange, these barter economies achieved only small or very small
growth rates, at least much less than the rates of growth the modern economies have
realized and still manage to attain.
It must further be stressed that the prerequisite for any economy to possess a
moderately devaluating unit of exchange does not imply that always the same
unique entity should serve as the unit of exchange. The moment another suitable
unit of exchange appeared on the scene, that unit could take over the role of the
former unit of exchange. Moreover, more units of exchange have been used side by
side or alternately in one and the same economy. Nevertheless there were and there
are still important restrictions for the acceptance of a proper unit of exchange. That
unit ought to be sufficiently scarce and it must remain so in order to prevent the
supply of the exchange unit to rise abundantly beyond control. On the other hand it
168 6 The Interpretation of the Economic Variables

should not be so unique or difficult to supply that it would lead to deflationary


conditions caused by too much money scarceness. Clearly the difficulty to meet the
proper conditions for the usefulness of an exchange unit during prolonged periods
of time must have restricted economic growth of primitive economies considerably.
The ideal solution, a scarce and yet easily reproducible unit of exchange, has been
approximated most closely in the modern economies by an independent central
monetary authority that controls and restricts the monopolistic supply of money as
best as possible in the interest of the growth of the economy.
As I adhere to the idea that the theory of evolutionary selection should provide
for a universal common explanation of all manifestations of evolution, I can’t
escape the conclusion that exchange must be part of the biologic evolutionary
framework as well in order to warrant that biologic evolution will occur at all. At
first glance one is inclined to dismiss a biologic unit of exchange distinct from the
unit of selection as being an unrealistic suggestion. However, the rejection of the
idea might largely be due to a misconception of what must be understood by a
biologic unit of exchange. Nothing economic should be associated with it like
biologic entropy is completely different from economic entropy as well, save the
application of the universal validity of Boltzmann’s principle.
Note further that biologic replicators are also quite different from economic
replicators except for the fact that they carry entropy. The decisive point is that
there are two aspects associated with all evolutionary processes: exchange and
selection. In connection with this there are two units determining evolution: the unit
of exchange and the unit of selection. For economic evolution the unit of selection
is the bit and the unit of exchange is the money unit (Strictly speaking money unit is
the name that economists assign to the unit of exchange of the modern economy).
To seek out the corresponding pair of units of selection and exchange of biologic
evolution, it is easier to begin with the unit of selection. In economics selection is
the allocation of bits (samples) of entropy either in the subjective state of
consumers/laborers (state 1) or in the environmental state of entrepreneurs/
investors, the ecotope1 (state 2). I have argued before that the corresponding states
of selection of biologic evolution are the species (state 1) and the environmental
state of the biotope, the niche or habitat in which species prosper. This is the
phenotypical condition in which biologic selection takes place and it is linked up
with the genotypical condition. But genotypical conditions do not act directly on the
phenotypical adjustment of the environment. It is the entropy of environment (the
biotope) and the phenotype that appear to execute a continual selective dance.
However, the interaction of genotypic and phenotypic conditions takes care of
constantly supplying bits for a changing biologic unit price in the course of time.
Thus I claim that for biologic evolution the bit is the unit of selection and the
selection is between the phenotypic subjective state of the species (state 1) and the
biotopic state (state 2) in which the phenotype selects the significance it prefers.

1
I use the term ecotope on the analogy of the term biotope in biologic evolution.
6.8 Economic Evolution and Biologic Evolution 169

According to Hodgdon and Knudsen genetic inheritance is the third principle of


Darwinian evolution (see Sect. 1.6). Biologic evolution will not come about if it
would not be a key-stone of the evolutionary process. In the very first instance
genetic inheritance causes exchange to take place between the sectors so that
selection can pursue its course. Biologic evolution avails itself of exchange of
inheritable information to initiate and to sustain the process of selection. By
selection the gene pool adjusts itself in accordance with the conditions imposed
by the complete biologic system. However genes also function to exchange infor-
mation. They transport information for recombination. Like the various entities of
economic money value, we can split up the biologic entities just as well in even
units of exchange value (in a manner different from the phenotypic bits of selec-
tion), that we shall call quanta for convenience of description.
Thus we propose the bit as the unit of exchange and the quantum as the unit of
exchange of biologic evolution. Like in economics the unit of selection (the bit) is
the time-varying equivalent of PðtÞ units of exchange, we encounter in biologic
evolution the bit as the time-varying equivalent of PðtÞ quanta.
To understand why there must be a unit of selection additional to the unit of
selection, we should not seek for too much analogy between biologic evolution and
economic evolution, e.g., by a search for the monetary authority of biologic
evolution. That initiative does not have an eye for the variety of evolutionary
systems and the uniqueness of a specific class of evolutionary systems. Neither
the barter economy had a monetary authority.
What we should emphasize here is that biologic evolution is very much slower
than economic evolution and it is just the presence of the much smaller growth rates
of biologic evolution that explains why economic evolution is so different although
the mathematical descriptions of the evolutionary processes do not differ.
We should explain the pair wise existence of a unit of selection and unit of
exchange for biologic evolution from the opposite perspective. The very much
smaller growth rates of biologic evolution indicate that the surplus λ  μ of input
probability λ over output probability μ for the two-sector system of biologic
evolution is often close to zero on an average over time, often momentarily positive
and also often momentarily negative. It is also not very unlikely that in the case of
biologic evolution both λ and μ will regularly be close to 1, i.e., close to the take-off
point and extinction point of evolution for which λ ¼ μ ¼ 1 and for which the
transmission H ðX0 \ Y0 Þ ¼ 0 (see Appendices F and G for the details). At that point
the unit of selection and the unit of exchange melt together. Only a single common
unit both for selection and exchange is left there but there is no biologic change
anymore if HðX0 \ Y0 Þ ¼ 0. Biologic evolution can only proceed when the trans-
mission H ðX0 \ Y0 Þ gets positive. As Zdt  H ðX0 \ Y0 Þ ¼ pþ 0 C0 dt this implies that
þ
the average historic price inflation rate p0 must be positive in order for evolution to
proceed. This requires that there is a unit of exchange that is devaluating (slowly)
with respect to the unit of selection. The devaluation may be so slow in biologic
evolution that we cannot observe the distinct presence of these two processes of
selection and exchange. We only know that it must have gone that way as we
conclude retrospectively after many millennia that biologic evolution has occurred.
170 6 The Interpretation of the Economic Variables

Table 6.3 The core variables and core dimensional units of evolution
Equivalent evolutionary terminology
Core concepts of evolution Biologic evolution Economic evolution
Genotype Quantities of exchange Genes Entities
(article of of variable content each holding a each holding a variable
exchange) variable number number PHðSÞ of
of quanta money-units
Unit of exchange Quantum Money unit
Phenotype Quantities of variable Species/Biotope Subjects/Ecotope
(article of content and different each stocking a each stocking a variable
selection) state variable number number HðSÞ of
of bitpulses bitpulses
Unit of selection Suggested: Bitpulse
Bitpulse holding one bit of entropy
holding one bit of
entropy
Unit price of unit of P quantum units (P is P money units (P is a
selection a variable of time) variable of time)

Whereas in economics variables like P, input X, output Y, influx X and outflux Y


etcetera are measurable, this seems hardly to be the case for biologic evolution. The
drawback is that the idea of a common explanation for all sorts of evolutionary
manifestation within our universe is hardly testable. Moreover there are a lot of
questions with respect to this issue still to be answered. Nevertheless it is worth-
while that—given the assumption that evolvodynamics provides for a universal
explanation of evolution—there need be no conflict between economic and biologic
evolution.
I have summarized the (suggested) corresponding terminology of economic
evolution and biologic evolution in Table 6.3.
Chapter 7
Money and Liquidity, Time, Work
and Effectiveness

Abstract The transmission Zdt  H ðX0 \ Y0 Þ represents all the money-like entities
(expressed in bits) issued in the economy on the time-interval (t,t þ dt). This
justifies articulate mathematical definitions of money flow and money stock for
the economy as a whole and for its separate sectors.
Another line of investigation considered in this chapter is the role of time. We
can calculate outflow and inflow handling rates, the time duration of selective
attention involved per outflow bit respectively per inflow bit on the selection
interval (t,t þ dt). These handling rates assist to calculate the relative time gain
of input handling over output handling per unit of time per bit.
The product of this relative time gain and the circulation rate is a net rate of
capacity growth. Thus the relative time gain can be conceived as a total of work-
units per unit of time passage that goes into the growth of capacity during the
selection interval (t,t þ dt). This suggests a direct and unique relationship between
the stock Li ðtÞ of work-units of an economic sector Si that has accumulated in the
past until present time t and the capacity Ci ðtÞ, the entropy that has accumulated in
the past until present time t: Ci ðtÞ ¼ EðtÞ  Li ðtÞ. Herein EðtÞ is the effectiveness of
production at present time t.

Inflation is always and everywhere a monetary phenomenon.


Milton Friedman

7.1 The Role of Money and Transmission in Production

The basal condition for statistical dependence is the exchange of goods and services
for money. Money is the source of exchange required for facilitating selection. We
may consider money as the lubricant of economic selection. Without money, the

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 171


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_7, # Springer-Verlag Berlin Heidelberg 2013
172 7 Money and Liquidity, Time, Work and Effectiveness

economy stays in the turning point H ðX0 \ Y0 Þ ¼ 0 of evolution. With money,


a positive transmission HðX0 \ Y0 Þ is realizable as well as statistical dependence
between the events of entropy input within dS i and the events of entropy output
within dSþ i so that growth can result. It depends on the sign of ðλ  μÞ whether
growth will be positive or negative (See the equations for the growth rate c0 in
Sect. 6.6).
HðX0 \ Y0 Þ need not vanish when there is virtual money exchange. Once
H ðX0 \ Y0 Þ vanishes, money exchange is powerless. The entropy incorporated in
þ
money manifests itself within the transmission domain dS 0 \ dS0 : We have
therefore called this the domain of financial entropy. H ðX0 \ Y0 Þ represents a
financial entropy flow. This is what Claude Shannon calls the rate of actual
transmission, the surplus of the rate HðY0 Þ of entropy production (output) over
the rate HðY0 jX0 Þ of uncertainty in terms of communication channel analysis. For
economic evolution the interpretation is different.
Let us consider the money outlays and receipts of the two-sector economy
consisting of a consumption sector S1 and an investment sector S2 .
Producers use production resources and hire labor to produce both finished
consumer goods and investment goods, the latter in last instance to facilitate the
production of consumer goods. There are two complementary ways to approach this
production process: one from the output side where we concentrate on what
is earned on output and one from the input side where we concentrate on what is
earned on input.1
We shall approach the economy from an overall producers’ output view. To keep
matters more surveyable we restrict the discussion to the two-sector economy.
Producers sell their production of investment goods/services and consumer
goods/services at the unit price P per bit. That is, the production of investment
entities is sold for ζ 2 PC2 dt money units on the market. And the production of
consumer entities is sold for ζ 1 PC1 dt money units on the market. However the
money outlay involved with producing these ζ 2 C2 dt bits of investment goods and
these ζ 1 C1 dt bits of consumer goods is the money value for which producers have
acquired them in the past, i.e. respectively for Pþ þ
2 and P1 money units per bit.
Hence
 the net  money earned  by producers with the sale of all of their production is
ζ 1 P  Pþ 1 C 1 dt þ ζ 2 P  P þ
2 C2 dt . From an output angle of incidence, the net
money earned and received by producers on the selection interval ðt; t þ dtÞ is then:
     
ζ 0 P  Pþ þ þ
0 C0 dt ¼ ζ 1 P  P1 C1 dt þ ζ 2 P  P2 C2 dt

Herein Y0 ¼ ζ 0 C0 dt is the total of output (investment and consumer goods


together) in bits produced at a unit cost of Pþ
0 per bit and sold at a unit price P
per bit.

1
I use the term “earned” here just for comfort of description. Actually it is a net money amount
collected on input and a net money amount collected on output, which will be shown to balance in
the end.
7.1 The Role of Money and Transmission in Production 173

Now recall, on behalf of (5.29), that

  ζ i þ þ
ζ i P  Pþ
i Ci dt ¼  p P Ci dt ¼ pþ
i PCi dt
ζi i i

Hence, the net money earned and received by producers on the selection interval
ðt; t þ dtÞ can also be restated as:

pþ þ
0 PC0 dt ¼ p þ
1 PC1 dt þ p 2 PC2 dt

This equals γPC0 dt ¼ PZdt  H ðX0 \ Y0 Þ on behalf of (6.21).


pþ
2 PC2 dt is the money surplus received by producers with the sale of investment
goods over the money outlay involved with producing it and pþ 1 PC1 dt is the money
surplus received by producers with the sale of consumer goods over the money
outlay involved with producing it.
The burning question next is what producers do with this net money surplus they
receive. Clearly, they can put it on their bank account. However this is not what
they do only. On the contrary, the net money received is the money that consists of
the net surplus of sales over outlays involved with manufacturing it. This implies
that the original outlays, formerly put in entrepreneurial inventories, must
have reoccurred up to the former level of ζ 0 Pþ 0 C0 dt during ðt; t þ dtÞ . Else
producers are left with more money than the pþ 0 PC0 dt earned. Thus we have
actually assumed that producers have reallocated the same amount of money
value that they originally had tied up in capacity stock before they sold it on the
market. How might producers further have reallocated the amount pþ 0 PC0 dt of
money? Well producers reallocate their money resources in labor input ρ1 PC1 dt
and entrepreneurial input ρ2 PC2 dt. If we look at the money value flow process
from this side we analyze the production process from an alternative overall input
angle of incidence. This is the complementary way of analyzing the production
process. Let us see how this works out with respect to the money flows received by
producers. Producers use up production facilities reflected in entrepreneurial
depreciation and they use labor effort, reflected in the wages they pay, in order
to maintain production. They pay influx cost (wages; see Table 6.2) of labor and
incur influx cost (depreciation; see Table 6.2) of wear and tear of production
facilities at the unit cost price P per bit. That is, a total ρ2 PC2 dt of production
equipment and facilities (in money units) is being used up at a depreciation cost of
P money units per bit and labor is being hired for ρ1 PC1 dt money units on the
market also at a unit price P per bit. This is all the money going into the purchase
of non-financial resources: labor influx  ρ1 PC1 dt and entrepreneurial influx ρ2 PC2 dt.
The rest of the money is the surplus of input ρ0 PC0 dt ¼ ρ1 PC1 dt þ ρ2 PC2 dt
over influx  ρ0 PC0 dt ¼ ρ1 PC1 dt þ  ρ2 PC2 dt . This goes into the remaining input
entries: the financial labor input p 1 PC1 dt ¼ ρ1 PC1 dt   ρ1 PC1 dt and the financial
entrepreneurial input p 2 PC 2 dt ¼ ρ 2 PC 2 dt  
ρ 2 PC 2 dt.
174 7 Money and Liquidity, Time, Work and Effectiveness

From this input angle of incidence, the net money received by producers on the
selection interval ðt; t þ dtÞ is:

p 
0 PC0 dt ¼ p 
1 PC1 dt þ p 2 PC2 dt

of which the financial influx p 2 PC2 dt is the money received by entrepreneurs/
producers and of which the financial influx p 1 PC1 dt is the money received by
consumers for the disposal of financial resources for the benefit of production.
In conclusion, the total money received by producers on the selection interval
ðt; t þ dtÞ is pþ 
0 PC0 dt from the angle of incidence of output. And it is p 0 PC0 dt from
the alternative
 þ   angle of incidence of input. These flows are in equilibrium because
p  ¼ p  ¼ γ in accordance with (6.21).
0 0
We are thus led to the conclusion that p 0 PC0 dt ¼ Zdt  H ðX0 \ Y0 Þ ¼ γPC0 dt is
all the money issued by the banking system during the time-interval ðt; t þ dtÞ of
selection.
Traditional accounts of economic theory define the money stock of agents as the
resources that can be liberated for exchange immediately or within a very short time
period. This depends on the quantity of money volume issued by the banks against
long term loans. The terms under which the loans are to be redeemed, the depen-
dence of these terms on economic performance and also the availability of other
forms of liquidity than issued by the central bank have an impact on the available
means of liquidity in the near future. To account for that, traditional economic
theory employs various definitions of the money stock. However, it appears that the
transmission Zdt  H ðX0 \ Y0 Þ provides for a clear theoretical definition of
the entropy increase dM0 of the money stock M0 (measured in bits of entropy) on
ðt; t þ dtÞ. In the dimension of money units this increase is PdM0 :

PdM0 ¼ PZdt  H ðX0 \ Y0 Þ (7.1)

PZdt  H ðX0 \ Y0 Þ represents the total of financial transactions to be attributed to Zdt


samples during ðt; t þ dtÞ. The financial weight per sample is H ðX0 \ Y0 Þ bits, which
is a quantity between 0 and 1. This is the perfect measure to assess the extent of the
role of money within an economy.

7.2 The Liquidity Flux and Money Flows and Stocks

Let us next consider how the total money flow dM0 is divided between the sectors S1
and S2 of the two-sector economy. In this regard the Venn diagram of Fig. 2.4 will
again be very helpful.
Let dMi denote the increase of the money stock Mi of the sector Si during
ðt; t þ dtÞ. Thus
7.2 The Liquidity Flux and Money Flows and Stocks 175

X X
dM0 ¼ dMi and M0 ¼ Mi
i i

More specifically for the two-sector economy, dM1 is the increase of the money
stock M1 of the consumption sector S1 during ðt; t þ dtÞ and dM2 is the increase of the
money stock M2 of the investment sector S2 during ðt; t þ dtÞ. Of course,

dM0 ¼ dM1 þ dM2 and M0 ¼ M1 þ M2 (7.2)

Mark that it costs the money wage  ρ1 PC1 dt to produce consumer and investment
goods before bringing this production to the market for the money value ρ1 PC1 dt
during the selection interval ðt; t þ dtÞ. The net money realized on the utilization
of labor effort by producers for economic production is then ρ1 PC1 dt  ρ1 PC1 dt ¼
p
1 PC1 dt ¼ PZdt  H ðFÞ (See the Venn diagram of Fig. 2.4). As we have set out
before, this can be regarded to represent the financial input generated by the
consumption sector only. On the other hand the surplus of money sales ζ 1 PC1 dt
of consumer good production over the money cost ζ 1 Pþ 1 C1 dt thereof is
ζ 1 PC1 dt ζ 1 Pþ 1 C1 dt ¼ 
p þ
1 PC 1 dt ¼ PZdt  H ð D Þ. As we have also explained before,
this surplus is the financial output realized on consumer good production. Clearly
the financial input p 1 PC1 dt ¼ PZdt  H ðFÞ realized on the utilization of labor effort
does not match the net financial output pþ 1 PC1 dt ¼ PZdt  H ðDÞ realized on
consumer good production. This is comprehensible because labor effort serves
also to bring forth investment good production. Furthermore consumer good
production will also require the cost of wear and tear of capital equipment. Neither
does the cost of labor effort, required for investment good production, balance the
depreciation cost caused by consumer good production only.
In conclusion it must follow that generally p 1 PC1 dt  p þ
1 PC1 dt 6¼ 0.
p
1 PC 1 dt is the amount by which the money in stock of the consumption sector S1
increments during ðt; t þ dtÞ after all input costing obligations of that sector have
been met at time t þ dt minus the amount pþ 1 PC0 dt by which the money in stock of
the consumption sector p decrements during ðt; t þ dtÞ after all output spending
obligations of that sector have been settled at time t þ dt . It follows that the
difference p 1 PC1 dt  p þ
1 PC1 dt is the remaining net flow of money that enters the
consumption sector S1 during ðt; t þ dtÞ.
Likewise p 2 PC2 dt  pþ2 PC2 dt is the remaining net flow of money that enters the
investment sector S2 during ðt; t þ dtÞ. However, recall that

p þ
1 PC1 dt  p 
1 PC1 dt þ p þ
2 PC2 dt  p 
2 PC2 dt ¼ p þ
0 PC0 dt  p 0 PC0 dt ¼ 0

Hence the surplus of money flow of the consumption sector is the deficit of
money flow of the investment sector or conversely. We have called this surplus of
money flow the liquidity flux of the consumption sector S1 and refer to its entropy
level by the symbolic differential notation dB1 (See Sect. 2.9). That is, on behalf of
(6.4) and (6.19),
176 7 Money and Liquidity, Time, Work and Effectiveness

dB1 ¼ p þ
1 C1 dt  p 1 C1 dt ¼ Zdt  ½H ðFÞ  H ðDÞ
¼ Zdt  ½H ðX1 \ Y2 Þ  H ðX2 \ Y1 Þ

and

dB1 ¼ p þ
1 C1 dt  p 1 C1 dt ¼ ðq10  q01 ÞZdt  H ðX0 \ Y0 Þ ¼ γ ðλ  μÞC0 dt (7.3)

In summary, whereas the entire financial output pþ 0 C0 dt contributes to the


formation of the money stock M0 of S0 , there is dB1 more money available for
the formation of the money stock M1 of S1 than available for the money stock M2 of
S2. Saying the same thing in different order, there is dB1 less money available for the
formation of the money stock M2 of S2 than available for the money stock M1 of S1.
Hence,

dM1 ¼ dB1 þ dM2 (7.4)

After elimination of dM2 from (7.2) and (7.4) we obtain

dM0  dB1
dM1 ¼
2

With dM0 ¼ Zdt  H ðX0 \ Y0 Þ and dB1 ¼ Zdt  ½HðX1 \ Y2 Þ  HðX2 \ Y1 Þ it


follows after some elaboration

H ðX1 \ Y1 Þ þ H ðX2 \ Y1 Þ þ 2H ðX2 \ Y2 Þ


dM1 ¼
2

and

1þλμ 1λþμ
dM1 ¼  Zdt  H ðX0 \ Y0 Þ and dM2 ¼  Zdt  HðX0 \ Y0 Þ
2 2

This can also be restated as

1þλμ 1λþμ
dM1 ¼  γC0 dt and dM2 ¼  γC0 dt (7.5)
2 2

Mark that dB1 and dMi are entropy contents. They are expressed in bits. PdB1 and
PdMi are the corresponding money flows in money units.
For the money economy γ > 0. Thus we see, on behalf of (7.3), that for the
money economy the liquidity flux dB1 is only positive if labor input probability λ
exceeds consumption probability μ. Recall that under this condition also positive
entropy growth of the money economy will sustain [see (6.30)]. Clearly, in the very
first incipient phase of evolution, positive entropy growth is necessary for evolution
to take off. Thus μ should tend to decline below λ at incipience time of economic
7.2 The Liquidity Flux and Money Flows and Stocks 177

evolution. It follows from (7.3) that the liquidity flux of the consumption sector will
be positive when economic evolution takes a path of positive entropy growth and
also that dM1 and dM2 will remain positive as long as economic evolution has
taken off and the money economy endures to exist. On the other hand the liquidity
flux of the investment sector remains negative because it is opposite to the money
flow of dB1 .
For any particular sector Si of the multi-sector economy the liquidity flux dBi in
bits of entropy is defined by:

dBi ¼ Zdt  ½H ðXi \ Y0 Þ  HðX0 \ Yi Þ (7.6)

The corresponding liquidity flow accruing into Si in money units is:

PdBi ¼ PZdt  ½HðXi \ Y0 Þ  H ðX0 \ Yi Þ

On behalf of (6.4), (6.7) and (6.9) we maintain


 
dBi ¼ Zdt  ½H ðXi \ Y0 Þ  H ðX0 \ Yi Þ ¼ p þ
i p i Ci dt ¼ γ ðλi  μi ÞC0 dt (7.7)

Ðt
We should be aware that the integral 1 PðξÞ  dBi ðξÞ is the accumulated
money value of dBi over time. The money value of dBi at current time t is

ðt ðt ðt
PðξÞdBi ðξÞ ¼ p
i ðξÞPðξÞCi ðξÞdξ  pþ
i ðξÞPðξÞCi ðτÞdξ
ξ¼1 ξ¼1 ξ¼1

or

ðt ðt

p
½i ðξÞ  pþ
i ðξÞ  PðξÞCi ðξÞdξ ¼ ½λi ðξÞ  μi ðξÞ  γ ðξÞ  PðξÞC0 ðξÞdξ
ξ¼1 ξ¼1

Direct integration of the liquidity entropy flux dBi over the time-domain yields
the entropy stock Bi of the liquidity surplus in bits, which—as we have seen—may
be positive as well as negative.
 
The surplus dBi ¼ p i p þ
i Ci dt will only differ from 0 (for i 6¼ 0) in case
transactions are being settled in money units on the time interval ðt; t þ dtÞ of
selection. The following properties must always be awarded:
X X
dB0 ¼ dBi ¼ 0; B0 ¼ Bi ¼ 0
i i
178 7 Money and Liquidity, Time, Work and Effectiveness

Ðt
Furthermore the integral 1 PðξÞ  dMi ðξÞ is the accumulated money value of
dMi over time. This differs from Mi . The money value of dM0 at current time t is

ðt ðt ðt
PðξÞdM0 ðξÞ ¼ p
0 ðξÞPðξÞCi ðξÞdξ þ pþ
0 ðξÞPðξÞCi ðτÞdξ
ξ¼1 ξ¼1 ξ¼1

or

ðt ðt
PðξÞdM0 ðξÞ ¼ 2γ ðξÞPðξÞC0 ðξÞdξ
ξ¼1 ξ¼1

7.3 Liquidity Flux, Capital and Capacity

Quite independently of the process of financial exchange, the entropy of Ci is


increasing by dCi on ðt; t þ dtÞ. That is [see (2.4)],
   
dCi ¼ Zdt  H dSþ
i  Zdt  H dS
i

dCi is the real growth of the economy. On behalf of (2.4) and (2.18) we have

dCi  dCi ¼ Zdt  ½HðYi jX0 Þ  H ðYi Þ þ H ðXi Þ  HðXi jY0 Þ

It follows that

dCi  dCi ¼ Zdt  ½H ðXi \ Y0 Þ  H ðX0 \ Yi Þ

Then it follows from (7.6) that

dCi ¼ dCi þ dBi

Further

C0 ¼ C1 þ C2 ¼ C0 ¼ C1 þ C2


7.4 The Handling Rate of Inflow and Outflow Selection and the Net Growth of. . . 179

7.4 The Handling Rate of Inflow and Outflow Selection


and the Net Growth of Capacity and Capital

In the sector Si the selecting economic agents reassemble the input of


Xi ¼ Zdt H ðXi Þ bits and the output of Yi ¼ Zdt  HðYi Þ bits. On an average each bit
of input demands dt=Xi handling time/per unit of time to reassemble in Si and each
bit of output demands dt=Yi handling time/per unit of time to reassemble in Si. I shall
þ
call σ 
i ¼ dt=Xi the input-bit handling rate and σ i ¼ dt=Yi the output-bit handling
rate of Si . Clearly, on behalf of (6.22),

1 1 1
σ
i ¼ ¼ ¼ P
Z  H ðXi Þ ρi Ci λi Z  λj log λj
j
1 1 1
and σ þ
i ¼ ¼ ¼ P
Z  H ðYi Þ ζ i Ci μi Z  μj log μj
j

so that
X X
σ þ 
i ρi ¼ σ i ζ i and σ i λi  λj log λj ¼ σ þ
i μi  μj log μj (7.8)
j j

However instead of dividing dt by Xi and by Yi to calculate the handling rate per


bit of input and per bit of output, we have also the choice of dividing dt by the influx
Xi and by the outflux Yi and so to calculate the handling rate per bit of influx and
per bit of outflux. In that case each bit of influx demands a handling rate σ i ¼
1=½Z  HðXi jY0 Þ to reassemble and each bit of output demands a handling rate σþ i
¼ 1=½Z  HðYi jX0 Þ to reassemble. I shall call σ þ
i the influx-bit handling rate and σ i
the outflux-bit handling rate of Si . On behalf of (6.23) we obtain now

1 1
σ
i ¼ and σþ
i ¼

ρi Ci ζ i Ci

It follows that

σ ρi ¼ σþ 
i  i ζi (7.9)

For the two sector economy equation (7.8) assumes the form

λi QðλÞ  σ  þ
i ¼ μi QðμÞ  σ i for N ¼ 2

The handling rates are associated with a remarkable interpretation.


180 7 Money and Liquidity, Time, Work and Effectiveness

Mark that the handling rate is the time required per unit of time to select a bit.
However, the total time to be distributed over inflow selection and outflow selection
is the same time length dt. Inflow selection and outflow selection occur simulta-
neously on ðt; t þ dtÞ. In fact it is all part of the overall selection experiment. Hence
when the selection of an input-bit is settled, the selection of an output-bit is
þ
concluded simultaneously. What then about the difference σ  i  σ i in handling
rates per bit between input-bits and output-bits. As the bit is our reference unit of
þ
real value, it is clear that there is a surplus σ  i  σ i of input-time per unit of time
over output-time per unit of time required to select a bit in the process of selection.
The relative time-gain realized per unit of time per bit during ðt; t þ dtÞ is

þ
σ
i  σi
σ
i

Herein the time-gain is expressed relative to input-bit handling time.


To understand this more fully, let us write, with the help of (7.8), the rate
ci ¼ ζ i  ρi of capacity growth as
      
ζ i  ρi ρ σþ σi  σþ
c i ¼ ζ i  ρi ¼ ζi ¼ 1  i  ζ i ¼ 1  i  ζ i ¼ i
 ζi
ζi ζi σi σ
i

It follows that
     
σi  σþ
i σi  σþ
i
ci ¼  ζ i ¼  ρi (7.10)
σ
i σþ
i

 þ
 þ
The expression on the right expresses time-gain σ  i  σi σ i relative to
output-bit handling time.
We see that the rate ci of capacity
 growth isthe product of the output circulation
þ
rate ζ i and the relative time-gain σ 
i  σ i σ i per bit. Equation (7.10) can also be
stated as
     
σi  σþ
i σi  σþ
i
dCi ¼  ζ C
i i dt ¼  ρi Ci dt
σ
i σþ
i

or as
     
σi  σþ
i σi  σþ
i
dCi ¼  Yi ¼  Xi
σ
i σþ
i

Thus we conclude that the realized relative time-gain of each bit of output,
originating during ðt; t þ dtÞ, goes into the net growth dCi of capacity Ci during
ðt; t þ dtÞ. Here the unit of time acquires another meaning: the time of attention, the
7.4 The Handling Rate of Inflow and Outflow Selection and the Net Growth of. . . 181

work-time, spent to bring forth a bit of entropy per unit of time. In line with this we
must interpret capacity Ci as the stock in which all the surplus of work-time of the
sector Si has accumulated.
The explanation of the net growth rate ci of capacity Ci in (7.10) is concerned
with the net surplus of input-bit handling time over output-bit handling time
required per unit of time. We can explain the net growth d Ci of capital in quite a
similar manner, as a sort of net growth rate dCi =Ci based on expression (7.9) of
influx-bit handling rate and outflux-bit handling rate. Then the proper way of
explaining is to identify d Ci =Ci with
     þ
dCi σi  σþ
i ζ i dt ¼ σi  σi  ρi dt
¼  (7.11)
Ci σ
i σþ
i

     þ
Herein σi σþ
i σi and σ
i σþi σi are the relative time-gains, respec-
tively measured relative to influx-bit handling time and relative to outflux-bit
handling time.
Equation (7.11) results in
     þ
σi  σþ ζ i Ci dt ¼ σi  σi  ρi Ci dt
dCi ¼ i

σ
i σþ
i

or as
    
σ
i σ þ σi  σþ
dCi ¼ i
 Yi ¼ i
 Xi
σ
i σþ
i

Thus we conclude that the realized relative time-gain of each bit of outflux,
originating during ðt; t þ dtÞ, goes into the net growth dCi of the capital of Si during
ðt; t þ dtÞ.
I shall adhere to the following notation when denoting the various relative time-
gains.

þ þ
σ
i  σi σ
i  σi σ
i σ þ σ
i σ þ
η
i ¼  ; ηþ
i ¼ þ ; η
i ¼ 
i
; η
i ¼ þ
i
σi σi σi σi

þ 
I shall call η ηi and η
i , ηi ,  i rates of relative time-saving. Clearly,

ci ¼ η þ  η  ηþ
i ζ i ¼ ηi ρi and ðd Ci =dtÞ=Ci ¼ i ζi ¼ i 
ρi (7.12)

and

dCi ¼ η þ  η  ηþ 
i Yi ¼ ηi Xi and d Ci ¼ i Yi ¼ i Xi (7.13)
182 7 Money and Liquidity, Time, Work and Effectiveness

þ
The pair of η η
i and ηi is very much related, like the pair of  η
i and i :

η þ  þ
i  ηi ¼ ηi  ηi and η ηþ
i  η
i ¼ ηþ
i i

7.5 The Definition of Work and Effectiveness

In this section I shall be concerned with the definitions of variables such as work
and effectiveness that play a role in circumscribing the role of labor and productiv-
ity of the production process. In economics employment and how employment can
be influenced by economic policy is a major issue. To deal with that issue I shall
initially define the concept of labor force in the following way:
L1 ðtÞ ¼ Labor force (also called labor), the number of employees actively
involved with delivering paid occupational labor at time t.
There are some doubts about the suitability of this definition. E.g. the definition
does not seem to weigh the role of part-time work properly. We shall not immedi-
ately go into that matter here, but later on we shall consider the issue from a more
general perspective.
The total time-effort delivered by the labor force during the production interval
(t,t þ dt) is of course proportional to the length dt of that interval. We shall call that
time-effort work or work-time:
L1 ðtÞdt ¼ Work.2
The labor force is part of the consumption sector, the conglomerate of agents of
S1 delivering work and building up reserves to maintain doing work. Thus so far the
above definitions apply to the sector S1 only. However for purposes of generaliza-
tion we will just as well consider cases with the index 1 of the consumption sector
replaced by the general index i denoting an arbitrary sector Si of the economy. That
is, Li ðtÞdt is defined as the total of work delivered by the sector Si during
the production interval (t,t þ dt). This implies there are Li ðtÞ work-producing
units in Si each delivering dt units of time-effort during (t,t þ dt). We wish to
stress here that we are primarily concerned with definitions here. The physical
nature of these work-delivering units is of no concern here at the moment. We will
discuss that subject later.
The quantity of work delivered is one aspect of economic activity; the other
aspect is the effectiveness, the productivity by which work is delivered. Thus we
must also provide for a definition of the concept of productivity.

2
I realize that the term work may call forth many different associations. Nevertheless I think it is
the best term to refer to the strict economic mathematical meaning that I have in view. It is not the
first time that science claims frequently used words of ordinary language to denote mathematical
strictly defined concepts. In physics the claims are on: energy, matter, force, power, charge, mass
and even work to mention only a few. Mathematically clear developed science needs such
restrictively defined concepts.
7.5 The Definition of Work and Effectiveness 183

The orthodox definition of productivity is the ratio of output production to the


input required to bring forth that output. The crux is then what orthodox theory
understands by output and what by input in this respect. The classical general idea is
that input is one of the real factors, labor or capital, of classical production
theory (See for instance Sect. 1.9). Further it is custom to identify output with
GDP, i.e. Y0 for the two-sector economy. For instance labor productivity is then the
quotient of Y0 and work L1 dt : Y0 =ðL1 dtÞ.
Since Y0 ¼ ζ 0 C0 dt, the classical definition implies that Productivity ¼ ζ 0 C0 =L1.
Then the productivity growth rate is

ζ_ 0
Productivity growthrate ¼ þ c0  l1
ζ0

I think it is a minor flaw that this formula for the productivity growth rate contains
an additional term ζ_ 0 =ζ 0 , which is the rate of change of the output circulation rate.
We might of course reason that it should be that way. The larger the circulation rate,
the faster the economic cycle moves around and the more output we get per unit of
time so that ζ_ 0 =ζ 0 should be one of the components of the productivity growth rate.
However there are very good reasons to refute that and to pursue a more systematic
line of argumentation for the definition of productivity. We shall present that
argument here below. I think it wise to avoid confusion with the classical meaning
of productivity and that is why I shall instead use the term effectiveness with the
similar intention to reflect the efficiency of production.
Let then Ei denote the effectiveness of production of the sector Si. Let us further
þ 
recall the expressions (7.12) that relate the rates of relative time-saving η i , ηi , 
ηi
and ηi and the circulation rates to the rates ci and ðdCi =dtÞ=Ci of economic growth:
þ

ci ¼ η  þ  η  ηþ
i ζ i ¼ ηi ρi and ðd Ci =dtÞ=Ci ¼ i ζi ¼ i 
ρi ð7:12Þ

In Sect. 7.4 it has been explained that the rates of relative time-saving go into the
growth of capacity Ci (respectively the growth of capital of Si). E.g. ηþ
i is the relative
decrease of handling time to effectuate dCi relative to input-bit handling rate σ  i .
The understanding that work-time is the determinant realizing the growth of
entropy on the production interval ðt; t þ dtÞ immediately suggests the notion that
the work-time stored in the entropy stock of Ci consists of Ci bits of entropy, that
each carries some work-units of time. However the number of these work-units
stored per bit differs dependent on the moment of time they have been added to Ci.
The entropy content per work-unit of the total stock Ci is not the equivalent of the
entropy content per work-unit of the currently [on ðt; t þ dtÞ] created “stock” dCi of
work-units. The reason is that the manner entropy is produced currently is more (or
less) effective than it was done yesterday. Hence, by definition,

Ci ¼ Ei Li (7.14)
184 7 Money and Liquidity, Time, Work and Effectiveness

Herein Ei is the effectiveness of production as circumscribed before and Li is the


number of work-units stored in the stock Ci of capacity. The number of work-units
stored per bit is Li =Ci ¼ 1=Ei. The more effective production is, the less work-units
stored per bit. Clearly Li is the total stock of work-units stored in Si .
It follows from (7.14) that

ci ¼ ei þ li (7.15)

Thus we see that economic growth can be made to increase in two alternative
ways:
1. By increasing effort through the rise of the work force Li effectuating a growth
rate li .
2. By increasing the efficiency of production through the rise of effectiveness Ei
effectuating a growth rate ei .
Note the differences between the general definition (7.14) of effectiveness and
the classical definition of productivity given by E1 ¼ ζ 0 C0 =L1. The factor ζ 0 has yet
to be omitted from the classical definition and C0 has to be replaced by C1 .
Well let us now revert to the question what actually Li stands for. The answer
begins with the critical aspects of the initially chosen definition L1 of the labor force:
the number of employees actively involved with delivering paid occupational labor
at time t.
The argumentation given in Sect. 7.4 clarifies that work-time per bit is the
equivalent of the time it takes per bit to effectuate the entropy growth as a result
of the overall selection process. This is the time during which the agents
involved attend the selection process. It appears then that the best measure of
work-time or work L1 dt is the number of hours actively worked by the labor
force during ðt; t þ dtÞ. Thus if we know the average number of hours employees
work per week, we must replace the calculation of work by the product of L1 dt and
the average number of hours per week employees are on duty, divided by the
constant number of 168 h that go in a week. Well instead of correcting the
calculation of work in that manner, I prefer to correct the calculation of L1 by
replacing it by the product of the labor force and the average numbers of hours per
week employees are on duty, divided by the constant number of 168 h that go in a
week. Thus we have a new definition of labor L1 rather than another definition of
work L1 dt.
We must next deal with providing a more concrete notion of the Li work-
delivering units of Si for i 6¼ 1, i.e. for effort delivered by sectors other than the
consumption sector S1 . The same question, restricted to the investment sector with
i ¼ 2 , is also an issue of classical economic theory. The neoclassical claim on
capital represents in fact the physical expression of all the production units of the
investment sector. For the investment sector S2 of the two-sector economy we might
identify L2 with an active stock of entrepreneurial production units capable of
delivering L2 dt time like units of effort such that C2 ¼ E2 L2 : Herein C2 is
entrepreneurial capacity and E2 is entrepreneurial effectiveness in accordance
7.5 The Definition of Work and Effectiveness 185

with (7.14). Well, despite the actual economic existence of factories, workshops,
retail shops, office buildings, assurance agencies, car dealers, building contractors,
showrooms, etcetera, etcetera, it is quite impossible to delimit the physical contours
of a uniform unit of entropy production within the investment sector. To approach
the problem from this side leads nowhere. The solution must be sought in what the
essence of entropy is. Before following that line of explanation, let me first give a
more classical answer.
Note that the sector S1 delivers L1 dt work-units during ðt; t þ dtÞ representing a
value of PL1 E1 dt money units. Similarly the sector S2 delivers L2 dt work-units
during ðt; t þ dtÞ representing a value of PL2 E2 dt money units.
However, if S2 would instead deliver the number L1 dt of work-units delivered
by S1 during ðt; t þ dtÞ, it would represent a value of PL1 E2 dt money units. If
PL1 E1 dt is smaller than PL1 E2 dt, there will be a natural tendency to replace labor
work-units immediately by entrepreneurial work-units. Or to put it in more
classical terms: then there will be a permanent natural tendency to substitute labor
for more advanced production technology. This implies that any disequilibrium be-
tween PL1 E2 dt and PL1 E1 dt cannot subsist. It is necessary that PL1 E2 dt ¼ PL1 E1 dt
and hence that E1 ¼ E2 or more generally that effectiveness cannot depend on
the state i:

Ei ¼ E (7.16)

The effectiveness of production of an economy is the same, irrespective of the


sector at issue. Well, the weakness of this argument is in the presupposition that a
work-unit delivered by S2 is the economic equivalent of a work-unit delivered by S1.
Indeed it is. But the argument does not settle that. Apart from this consideration it
presupposes an intelligent collective of economic agents to exist with sufficient
information, insight and foresight to arrange equilibrium of E1 and E2 . One thing
must be clear at this stage of my exposition, such economic reasoning can no longer
be accepted.
A much better fundamental reason for (7.16) is that bits of entropy must be
everywhere similar in the economy as a matter of selection requirements. They
cannot differ in effectiveness, because then they cannot serve as equivalent units of
selection. In fact, here the same argument applies as given before to explain the
common unit price P of all bits of entropy (See Sects. 2.5, 3.4, 3.5, 3.6).
The crux of the argument is as follows: Any bit that has an effectiveness
different from all the other bits will be selected with a state probability π other
than 12 and as such its entropy will be  log π, which must then differ from 1. Hence
that bit with state probability π represents no longer one single bit of entropy, but
more or less than that. This is a contradiction and therefore effectiveness cannot
differ dependent on state.
The equivalence of sector efficiency does not imply that efficiency is a constant
in the course of time or that capacity Ci is a constant multiple of Li or that all Ci are
186 7 Money and Liquidity, Time, Work and Effectiveness

equal as well. Efficiency is a stochastic function of time and keeps changing all the
time, just like Ci and Li .
Let us finally summarize the general definitions associated with work and
effectiveness of a sector Si :
Work-unit ¼ The effort delivered by an actively engaged unit of the work-force
per unit of time.
Li ¼ Work Force ¼ The number of work-units actively delivering work at time t.
Li dt ¼ Work, the work-time delivered by the work-force during ðt; t þ dtÞ.
E ¼ Ci =Li ¼ Effectiveness ¼ The productivity of delivering work.
The labor force L1 of an economy can be measured independently. Thus, if we
get an estimate of c1 from the study and analysis of the other variables of
the economy, we can calculate the rate of growth e of effectiveness. Then further,
if we get likewise knowledge of the various ci other than c1 from the study
and analysis of the other variables of the economy, we can calculate all the li
including l2 without bothering about the physical aspects of these entropy
producing units of sectors other than the consumption sector.
Additional to the variables of labor force L1 and effectiveness E, some other
variables play a role in the economics of employment and labor:
W1 ¼ Money Wage per work-unit, the average wage earned per work-unit of the
work force per unit of time elapsing.
_
L1 dt ¼ L1 W1 dt ¼ Money Wages, the total of money wages earned by the work
force during the production interval ðt; t þ dtÞ.
On the other hand money wages are also equal to PX1 ¼ PZdt  H ðX1 jY0 Þ. Hence,

PX1 ¼ 
ρ1 C1 Pdt ¼ L1 W1 dt and 
ρ1 C 1 P ¼ L 1 W 1

It follows that

_ ρ_ 1
 _
p þ x1 ¼ l1 þ w1 ¼ l 1 and þ c1 þ p ¼ l1 þ w1 ¼ l 1 (7.17)
1
ρ

The first equation of (7.17) delivers a handsome way to calculate the rate of
_
growth x1 of labor influx (real wages) from the knowledge of the rate of growth l 1
of money wages and the rate of inflation p.
w1  p ¼ x1  l1 ¼  ρ_ 1 =
ρ1 þ c1  l1 is the rise of the wage per work-unit over
the rate of price inflation. In the long run the rate ρ_ 1 =ρ1 averages out.
From (7.15), (7.16) and (7.17) it follows that

ρ_ 1

w1 ¼ þeþp (7.18)
1
ρ
Chapter 8
Calculation

Abstract The foregoing expositions on the basis of the Darwinian/Shannon frame-


work of selection have revealed quite a number of relationships between the many
dynamic variables of an economy. Evolvodynamics explains a variety of economic
phenomena. In this study the impact is discussed only in a qualitative manner
although the theory is typically quantitative. Eventually quantitative confirmation
is the coping-stone of any scientific theory and so it is for evolvodynamics.
Measurements demand a definitional framework of variables that must be the
subject of those measurements and it is this for which evolvodynamics provides
the basis. The measurements often require sophisticated schemes of calculation.
These calculations are the touchstone of theory. All calculation schemes must be
based on derived evolvodynamics equations. It is not the other way around that
measurements determine how variables are defined.
Economic measurements are difficult to collect. Measurements of sufficient
accuracy can often only be obtained by intricate and laborious schemes of calcula-
tion. In this chapter I consider various calculation schemes, embedded in the
evolvodynamic framework.
Compartmentalization of entropy sets and of differential entropy sets is one of
the tools that may be used for calculation purposes.

Why speculate when you can calculate


Anonymous

8.1 Divisia’s Index Formulas for Output Calculation

The question that concerns us here is the measurement of the unit prices and their
rates of change. Thus far we have become acquainted with the unit price P of a bit
of entropy and its relative rate of change pðtÞ ¼ ðdP=dtÞ=PðtÞ per unit of time,
which is also called a rate of (price) inflation.

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 187


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_8, # Springer-Verlag Berlin Heidelberg 2013
188 8 Calculation

Economists apply many different schedules for the calculation of rates of


inflation. The current practice is primarily concerned with postulating practical
and workable formulas of price index calculation. By comparing the outcomes of
the different methods of price index calculation one gets an idea of the differences
of the various methods without knowing which is closest to the theoretically correct
one because traditional economic theory ignores to derive what the latter should be.
This is a dissatisfactory situation and therefore I set myself here to derive the
theoretically correct formulas of price index calculation. Once derived we have a
reference basis for studying the performance of various practical methods of price
index calculation such as Laspeyres’ index formula, Paasche’s index method,
Fisher’s index method and the Törnqvist index formula to mention only a few.
Let me sketch the contours of a theoretical basis for unit price calculation. Let Kj
ðj ¼ 0; 1; 2, 3   Þ be the number of categories of identical economic entities with
the same unit price Pj ðj ¼ 1; 2, 3,  Þ stored in a sector Sj of a warehouse.
P The total
value of all the economic entities stored in warehouse is j Kj P j : Another
warehouse storing K0 hypothetical economic entities of unit price P0 stocks the
same aggregate money value if
X
K0 ðtÞP0 ðtÞ ¼ Kj ðtÞPj ðtÞ for all time t (8.1)
j

As there is equivalence of both sides of the equation all the time, we might call P0
the average unit price of all the entities stored in warehouse. However, there
is ambiguity in fixing K0 and P0 separately if only the product K0 P0 is known.
E.g. K00 ¼ 10  K0 with P00 ¼ P0 =10 will do equally well. Well, this is solvable as the
choice of a unit of dimension is free. Thus we can fix P0 at a constant at a particular
time. However there is still another problem with the application of (8.1), because it
does not work for non-differential sectors Sj. Presuming that Sj is non-differential, the
difficulty is that the economic entities of category j in stock of Sj at current time t have
accumulated in the past for varying unit prices dependent on the variable times for
which they have been acquired. The reason is that Pj varies in the course of time.
Recall that almost all of the stock of non-differential sets remains unselected during
ðt; t þ dtÞ. Price formation at time t will only be affected at the moments agents select,
i.e. within the differential sets of entropy creation and entropy annihilation rather than
within non-differential sets. Hence (8.1) must be rejected if the subsets Sj are non-
differential.
We can still apply (8.1) for price index calculation provided the subsets Sj are
differential. Recall that the entropy in the economy is accumulating from the
surplus of entropy output over entropy input. PðtÞ is the unit price per bit of this
surplus and we can use that property to calculate the average unit price of output
and input from the unit prices of the constituents of the output flow and of the input
flow during a very small time-interval ðt; t þ dtÞ on which time comes to a standstill.
P is an average price that is constant to first order degree of accuracy in dt during the
time-interval ðt; t þ dtÞ of selection. Hence let us then calculate P as an average of
8.1 Divisia’s Index Formulas for Output Calculation 189

the unit prices of all equally priced constituent portions  of economic entities on
which the individual agents spend their money in dSþ dS during ðt; t þ dtÞ.1 Let
i 0
then Yi be the number of equally priced entities of unit price Pj that agents spend on
 
entities of the category j in dSþ 
i dS0 during (t,t þ dt). It follows in accordance with
(8.1) that
X
Yi  P ¼ Yij  Pj (8.2)
j

Herein Yi is the joint entropy outflux of Si. We shall denote the subsector of Si in
which only the economic entities of category j are stocked by Sij. The subdivision of
Si in Sij as well as the subdivision of dSþ   þ 
i dS0 in dSij dS0 we shall call
compartmentalization. Mark Yij is “stocked” in dSij dS0 .
þ 

As regards (8.2) we encounter the same ambiguity problem in fixing Yi and P
separately if only the product Yi  P is known. We can however proceed with
differentiating left and right side of (8.2) to time t as (8.2) holds for all time t.
This results in
X 
ðyi þ pÞ  Yi  P ¼ yij þ pj  Yij  Pj (8.3)
j

Herein we have again adopted the notational conventions, explained in


Appendix I,

d Yi =dt dP=dt dYij =dt dPj =dt


yi ¼ ; p ¼ ; 
y ¼ ; pj ¼
Yi P ij
Yij Pj

Mark that Yi P is the joint money outflux of the sector Si of the economy. It
includes here the outflux of Si only. Also note that Yij Pj is the money spent on
entities of the category j within the sector Si of the economy. Let us here adhere to
_ _
the notation Yij  Pj ¼ Y ij and Yi  P ¼ Y i so that we can restate (8.3) as

_ _
X Y ij X Y ij
yi þ p ¼ yi j _
þ pj _
(8.4)
j Yi j Yi

_
._
The quotients Y ij Y i are measurable quantities. They are often called the budget
index factors. We will denote them by fþ : ij

1
Mark that financial entropy is not part of the collection of economic entities. E.g. interest on
mortgage has an entropy content but it lacks a quantity content like books and cars have. Thus only
the contents of conditional differential sets are suitable for price and quantity index calculation.
190 8 Calculation

_
Y ij
fijþ ¼ _ (8.5)
Yi

(8.4) results then in


X X
yi þ p ¼ yij  fijþ þ pj  fijþ (8.6)
j j

In the left side of (8.6) we encounter the sum of two terms: the relative rate of
quantity change yi and the relative rate of average price change p. Likewise we have
P
on the right side a quantity rate change component ij  fijþ and a price rate
jy
P P
þ þ
change component j pj  fij . It is tempting to equate p and j pj  fij . Then

X X
yi ¼ yij  fijþ and p ¼ pj  fijþ (8.7)
j j

Equations (8.7) give us the means to calculate yi and p from the constituents yij
and pj. It presents two separate expressions for quantity index calculation and price
index calculation. These equations are known as Divisia’s quantity index and price
index formulas.
Divisia refrained from presenting a general proof of his quantity index and price
index formulas. When stating expression (8.7) the first expression of (8.7) was
justified by demanding the average relative price-level change p to vanish should all
pj vanish in (8.6). Similarly, the second expression of (8.7) was justified by
demanding the average relative quantity change yi to vanish should all yij vanish
in (8.6).
Indeed, under these restrictions (8.7) follows from (8.6). However, this argument
fails to establish a universal proof, because (8.7) has not been demonstrated to hold
also in situations were not all pj or all yij to vanish.
The correct argument for inferring (8.7) is as follows.
_
Let us express Y i , Yi and P in (8.2) as dependent variables of time:

_
Y i ðt þ dtÞ ¼ Yi ðt þ dtÞ  Pðt þ dtÞ
 
Herein Yi ðt þ dtÞ is the number of outflux bitpulses originating in dSþ 
i j dS0
during the time-interval (t,t þ dt). Pðt þ dtÞ is the average unit price of these
_
bitpulses. Y i ðt þ dtÞ is their money value. Likewise

_
Y i ðtÞ ¼ Yi ðtÞ  PðtÞ
8.1 Divisia’s Index Formulas for Output Calculation 191

Yi ðtÞ is the number of outflux bitpulses originating during the time-interval
_
ðt  dt; tÞ. PðtÞ is the average unit price of these bitpulses. Y i ðtÞ is their money value.
Clearly, the set of Yi ðt þ dtÞ outflux bitpulses originating on (t,t þ dt) is different
from the set of Yi ðtÞ outflux bitpulses originating on ðt  dt; tÞ . Hence the
_
money value Y i ðt þ dtÞ, observed at time t þ dt, is the money value of a different
number Yi ðt þ dtÞ of bitpulses than the number of bitpulses associated with money
_
value Y i ðtÞ, observed at time t. The same number Yi ðtÞ would cost a money value of
Yi ðtÞ  Pðt þ dtÞ at time t þ dt. The difference of Yi ðtÞ  Pðt þ dtÞ and Yi ðtÞ  PðtÞ is
then the rise of non-financial spending due to price change only. Thus

Yi ðtÞ  Pðt þ dtÞ  Yi ðtÞ  PðtÞ ¼ Yi ðtÞ  dPðtÞ

¼ The rise of non-financial spending due to price change only on (t,t þ dt).
_
The same argument applies to the money valueY ij ðt þ dtÞ ¼ Yij ðt þ dtÞ  Pj ðt þ dtÞ,
spent on Yij ðt þ dtÞ outflux entities of the category j during (t,t þ dt) and the money
_
value Y ij ðtÞ ¼ Yij ðtÞ  Pj ðtÞ, spent on Yij ðtÞ outflux entities of the same category j
during ðt  dt; tÞ. That is

Yij ðtÞ  Pij ðt þ dtÞ  Yij ðtÞ  Pj ðtÞ ¼ Yij ðtÞ  dPj ðtÞ

¼ The rise of non-financial spending on entities of the category j


due to price change only on (t,t þ dt)2
It follows that
X
Yi ðtÞ  dPðtÞ ¼ Yij ðtÞ  dPj ðtÞ
j

resulting in
X
pðtÞ ¼ fij ðtÞ  pj ðtÞ
j

2
The application of this formula is correct for consumer commodities because consumption goods
and services represent only finished goods of which the relative change of unit prices is generally
known. This is different for the complete range of goods and services produced by the investment
sector. This contains also intermediate firm to firm deliveries of which the relative change of the
unit prices is difficult to determine.
192 8 Calculation

This completes the proof of Divisia’s price index formula of (8.7). The proof of
Divisia’s quantity index formula of (8.7) follows from the latter and expression
(8.6).3 □
A disadvantage of the Divisia price-index formula (8.7) is that it requires
continual updating of the budget basket and for that reason it is difficult to
implement in statistical routine calculations. Collecting appropriate budget data is
a time consuming occupation. To make the effort controllable, more practical
schemes have been devised to implement (8.7). Among these the Laspeyres’
index formula, Paasche’s index method, Fisher’s index method and Törnqvist
index formula are quite common. They should be put to the test by comparing
them analytically with Divisia’s index formulas. This is a subject we shall not
consider here.
Since it is impossible to measure output, outflux, input and influx over time-
intervals of infinitesimally small time-length dt, the first practical adjustment is the
numerical approximation of instantaneous output, outflux, input and influx by
measurements over finite time-intervals, e.g. monthly or quarterly.4 This is the
first source of inaccuracy of price and quantity index calculations. The relative error
(and bias) will depend on the statistical properties of the time-series of outflux and
influx (among these properties the frequency spectrum is the most important).
Much research has still to be done in this direction.
For price and quantity calculations in the investment sector Divisia’s price and
quantity index formulas are less suited. The price and quantity index formulas can
best be applied in the consumption sector S1 . To that end we must approximate
Divisia’s formulas by practical schemes.
Most common for calculating the consumer price index (CPI) is Laspeyres’
method. This method treats the budget index factors fiþj in the Divisia price-index
formula as constants. In actual practice the budget basket is periodically determined
by budget research studies extending over one particular year of consumer spend-
ing. Once determined the budget basket remains fixed for several years to come and
will only be revised after consumption patterns and habits have changed so much
that it must be updated in order to remain applicable. The set of budget factors will
therefore be revised once in about 5–6 years. The current intention is to revise the
consumption basket more frequently since modern consumption patterns tend to
change faster and computer technology constantly opens more possibilities to attain

3
Divisia’s index formulas are the only equations of orthodox economic theory that hold exactly,
although the proof here stated for Divisia’s index formula is not part of the orthodox legacy. The
validity of definitional equations of orthodox economic theory such as Y ¼ C þ I does not rest on
a derivation, but on common consent.
4
This is a common practical problem facing all differential quotients in the sciences. E.g. in
physics the measurement of instantaneous velocity v ¼ ds/dt, in which s represents distance and
t time as usual, is confronted with the same difficulties for ds and dt tending to zero. Accuracy of
measurements and observation is always limited irrespective of the domain of investigation. To
tackle the matter we need the powerful techniques of numerical analysis, which is not the subject
of the present treatise.
8.2 Compartmentalization and Influx Calculation 193

that. Another intention is to adjust the set of consumption budget factors each year
in accordance with the consumption pattern over the last period of 2–3 years. The
assumed constancy of the budget-index factors introduces an error-term in the
calculation of the rate of inflation.
Laspeyres’ method is widely used to calculate the rate of inflation of consump-
tion. It appears that it warrants the least error and bias because it is closest to
Divisia’s theoretical index formulas.
We will here not dive into the details of the pros and cons of the various methods
of price index calculation. The problem is one of econometrics. It appears that still
much can be done to improve the accuracy.

8.2 Compartmentalization and Influx Calculation

In the preceding section we have dealt with deriving Divisia’s index formulas of
which approximations have historically been successfully implemented and applied
to labor output (consumption). In principle Divisia’s scheme of index calculation is
applicable to other processes of economic flow: influx, input and output. However,
there are some serious practical limitations. Like Divisia’s formulas are difficult to
implement for the outflux Y2 of the investment sector, the obstacles that  beset
 the

implementation of Divisia-like index formulas for influx Xi ¼ Zdt  H dS  þ
i dS0
are often not less difficult to overcome than for entrepreneurial outflux. Like for
outflux Y2 , the great difficulty is to establish a reliable and practical scheme of
compartmentalization.
Fortunately, compartmentalization for labor influx (wages) X1 appears to be
within reach. As it helps to understand the mechanism of index calculation,
   þ  I shall
therefore sketch how this can be done for the influx Xi ¼ Zdt  H dSi dS0 of the

sector Si .
To that end we shall first devise a general scheme of compartmentalization. All
forms of compartmentalization have in common that they divide up the non-
differential sector Si in non-differential subsectors Sij which do not overlap one
another. We have
[
Si ¼ Sij
j

Further compartmentalization depends on the differential set involved to be


compartmentalized. In this respect we discern between four different kinds of
compartmentalization:
1. The division of the differential set dSþ i in non-overlapping differential subsets
P
dSþ
ij . In this case Yij is the output of Sij with Yi ¼ j Yij .
2. The division of the differential set dS i in non-overlapping
P differential subsets
dS
ij . In this case X ij is the input of S ij with X i ¼ X
j ij .
194 8 Calculation

 
3. The division of the differential set dSþ 
 i dS0 in non-overlapping differential
  P
subsets dSþ   
ij dS0 . In this case Y ij is the outflux of Sij with Y i ¼ j Y ij .

 þ
4. The division of the differential set dSi dS0 in non-overlapping differential
 þ P
subsets dS    
ij dS0 . In this case X ij is the influx of Sij with X i ¼ j X ij .

We have, dependent on the kind of compartmentalization,


[ [  [   [ 
þ     þ  þ
dSþ
i ¼ Sþ 
i j ; dSi ¼ S
i j , dSi dS0 ¼ Sþ
i j dS0 ; dSi dS0 ¼ S
i j dS0
j j j j

Pj ðtÞ is the average unit price of entropy within Si j at time t. This will generally
differ from the average unit price PðtÞ of entropy within Si. We introduce further Cij
and Cij to denote the capacity, respectively the capital, stocked in Sij .
The compartmentalization dealt with in Sect. 8.1 is a typical example of the third
kind of compartmentalization.  þ
In the present section we shall deal with compartmentalization of dS dS in

 þ
i 0

dSij dS0 such that Xi j is the influx of Sij. This is the fourth kind of compartmentali-
zation listed above and for i ¼ 1 it deals here with labor and wages. However,
although we shall do so in the sequel, we need not delimit the discussion to the case
i ¼ 1 only.
We have in the general case:
_ X_ X X
Li dt ¼ Li Wi dt ¼ Xi  P ¼ Lij dt ¼ Lij  Wij dt ¼ Xij  Pj (8.8)
j j j

With i ¼ 1, PX1 is the total of money wages within the economy. Pj X1j is the total
of money wages within dS  þ
1j dS0 . The basal idea is that generally the quotients, the
weighing factors
_
Pj Xij Lij
fij ¼  ¼ _ (8.9)
PX 1 Li

are measurable quantities and are fairly well to measure independently in the course
of time. Moreover it is assumed that the price inflation rates pj of the subsets Sij can
be measured with sufficient accuracy. After differentiating left and right side of
(8.8) to time t we obtain
X X
xi þ p ¼ xij  fij þ pj  fij
j j
8.2 Compartmentalization and Influx Calculation 195

By a similar argument as in Sect. 8.1 we can then demonstrate that


X X
xi ¼ xij  fij and p ¼ pj  fij (8.10)
j j

Thus for i ¼ 1 this delivers a rather roundabout way to calculate xi from its
compartmentalized portions xij as well as another manner to determine the inflation
rate p. The relationship p þ x1 ¼ l1 þ w1 of (7.17) suggests to substitute l1 for x1, w1
for p in (8.10) and introduce the labor force L1j employed in S1j for X1j and the money
wage W1j dt earned per employee in S1j during (t,t + dt) for Pj in (7.17). Then for
i ¼ 1 (8.10) would transform into
X X
l1 ¼ l1j  f1j and w1 ¼ w1j  f1j (8.11)
j j

_ _
As PX1 ¼ W1 L1 dt ¼ L1 dt and Pj X1j ¼ W1j L1j dt ¼ L1j dt, we have

_ _
f1j ¼ Pj X1j =ðPX1 Þ ¼ W1j L1j =ðW1 L1 Þ ¼ L 1j L 1 (8.12)

confirming (8.9).
Well the crux is: Is (8.11) correct? Let us analyze this in much more detail in the
_
way we derived (8.7) in Sect. 8.1. With L1 dt ¼ L1 W1 dt being the total of money
wages earned within dS  þ
1 dS0 during (t,t þ dt) we notice that

_ X
L1 dt ¼ L1 W1 dt ¼ L1j  W1j dt (8.13)
j

_
Let us further express L1, L1 and W1 in (8.13) as dependent variables of time. We
have

_ _
L1 ðtÞ ¼ L1 ðtÞW1 ðtÞ and L1 ðt þ dtÞ ¼ L1 ðt þ dtÞW1 ðt þ dtÞ

L1 ðtÞ is the average number


 1 of work-units
 at time t. L1 ðtÞdt is the work exerted
during the time-interval t  2dt; t þ 2dt . W1 ðtÞ the average unit cost per unit of
1
_
time of this labor  time-interval. L1 ðtÞdt is the money value of wages
 effort over that
earned during t  12dt; t þ 12dt .
L1 ðt þ dtÞ is the average number of work-units
  t þ dt. L1 ðt þ dtÞdt is the
at time
work exerted during the time-interval t þ 2dt; t þ 2dt . W1 ðt þ dtÞ is the average
1 3
_
unit cost per unit of time of this labor effort
 over that time-interval.
 L1 ðt þ dtÞdt is
the money value of wages earned during t þ 12dt; t þ 32dt .
196 8 Calculation

The same number L1 ðtÞ of work-units would cost a money wage of


L1 ðtÞW1 ðt þ dtÞ per unit of time at time t þ dt. The difference of L1 ðtÞW1 ðt þ dtÞdt
and L1 ðtÞW1 ðtÞdt is then suggested to represent the rise of wages over (t,t þ dt)
due to an increase of the money wage per work-unit only. Thus

L1 ðtÞW1 ðt þ dtÞdt  L1 ðtÞW1 ðtÞdt ¼ L1 ðtÞdW1 ðtÞ


 þ
¼ The rise of money wages in dS 
1 dS0 due to the change of money wage per
work-unit only on (t,t þ dt).
Similarly,

L1j ðtÞW1j ðt þ dtÞdt  L1j ðtÞW1j ðtÞdt ¼ L1j ðtÞdW1j ðtÞ


 þ
¼ The rise of money wages in dS 
1j dS0 due to the change of money wage per
work-unit only on (t,t þ dt).
P
Well, does this result in L1 ðtÞdW1 ðtÞ ¼ j L1j ðtÞdW1j ðtÞ?
It definitely does not. What we forgot to take into account is that the effective-
ness is altering over a time-interval of length dt as well. An increase of effectiveness
enables to produce more outflow or to use less inflow in the course of time. The
work-force L1 is not a measure of an entropy stock and therefore L1 dt is not an
P
inflow of entropy during ðt; t þ dtÞ . Instead in Xi ðtÞdPðtÞ ¼ j Xij ðtÞdPj ðtÞ the
influx Xi is entropy inflow.
Recall that p þ x1 ¼ l1 þ w1 . This can be compartmentalized to hold for each
differential subset dS  þ
1j dS0 . That is,

_
pj þ x1j ¼ l1j þ w1j ¼ l 1j

Herein pj is the inflation rate of the average unit price for which the influx X1j can
be produced. From (8.10) we obtain
X  X
x1 ¼ l1j þ w1j  pj  f1j and p ¼ l1 þ w1  x1 ¼ pj  f1j
j j

_
Mark that l 1 ¼ x1 þ p so that the first equation can be restated as
_ X  X_
l1 ¼ l1j þ w1j  f1j ¼ l 1j  f1j (8.14)
j j

Note the subtle difference between (8.14) and the incorrect (8.11). The
coefficients f1j represent the relative weight of the wages by definition of (8.9)
and (8.12). Differentiation of (8.8) to time yields
_ _ X_ _
l 1 L1 ¼ l 1j  L1j
j
8.3 Aggregation Properties of Capacity and Capital 197

_
Subsequent division by L1 yields (8.14). The relative rate e of effectiveness
growth is easy to calculate from the knowledge of w1 and p [consult (7.18) for help:
if there is additional knowledge about  ρ_ 1 =
ρ1 ]. With the knowledge of the rate e of
effectiveness growth we can find x1 as the sum of l1 and e.
Equation (8.10) gives a correct scheme of index calculation of x1, but it is not the
most practical to calculate x1 . We have only used it to explain the theoretical
background of index calculation. Of course a more practical scheme for the
calculation of x1 is furnished by (7.17):

_
x1 ¼ l 1  p

Once we know x1 we have a basis to calculate X1 and, if we know Y1 as well, we
can also calculate dC1 .

8.3 Aggregation Properties of Capacity and Capital

Let Sij represent the compartmentalized subset of Si , as explained in the previous


section. Let dSþ þ
i j represent the compartmentalized subset of dSi . And let dSi j


represent the compartmentalized subset of dSi . Recall that Yij is the output of the
subset Sij and that Xij is the input of the subset Sij . Let further Cij be the capacity
stocked in subset Sij and Pj be the average price level of Sij . The following
aggregation formulas hold for money output and money input:
X X
Yi  P ¼ Yij  Pj and Xi  P ¼ Xij  Pj (8.15)
j j

Differentiation of the first expression to time results in


X X
Yi  dP þ P  dYi ¼ Yij  dPj þ Pj  dYij
j j

Likewise differentiation of the second expression of (8.15) to time yields


X X
Xi  dP þ P  dXi ¼ Xij  dPj þ Pj  dXij
j j

After subtracting the latter equations from one another we get


X  X  
ðYi  Xi Þ  dP þ P  dðYi  Xi Þ ¼ Yij  Xij  dPj þ Pj  d Yij  Xij
j j
198 8 Calculation

The insertion of dCi for Yi  Xi and dCij for Yij  Xij delivers
X X
dCi  dP þ P  d2 Ci ¼ dCij  dPj þ Pj  d2 Cij
j j

This can be restated in the form


X  
d ðPdCi Þ ¼ d Pj dCij
j

Integration yields
X
PdCi ¼ Pj dCij (8.16)
j

Formally a constant should be added to this equation. However, this constant


must vanish because for vanishing dCij, the left side should vanish as well. Also for
P
P ¼ Pj , it is necessary that dCi ¼ j dCij and this can only be realized if the
constant vanishes.
PdCi in (8.16) is the money value of the net increase of capacity Ci . Expression
(8.16) provides for an additional index calculation formula:
X X  
PdCi ¼ Pj  dCij and PðYi  Xi Þ ¼ Pj  Yij  Xij
j j

 
It might help to calculate dCi assuming that the data of Yij  Xij , Pj and P are
available.
In the above we have derived the aggregation formulas for capacity. We may
follow the same approach for capital Ci with Yij representing the outflux of the
subset Sij and Xij the influx of the subset Sij. Let further dCij be the growth of capital
Cij stocked in subset Sij : The aggregation formulas for money outflux and money
influx are:
X X
Yi  P ¼ Y  Pj and Xi  P ¼
j ij j
Xij  Pj

Differentiation yields
X X
Yi dP þ Pd Yi ¼ Yij dPj þ Pj dYij
j j
X X
and Xi dP þ PdXi ¼ Xij dPj þ Pj dXij
j j
8.4 The Calculation of the Macro Variables of the Economy 199

After subtracting the latter equations from one another we get


X  X  
ðYi  Xi Þ  dP þ P  d ðYi  Xi Þ ¼ Yij  Xij  dPj þ Pj  d Yij  Xij
j j

The insertion of d Ci for Yi  Xi and d Cij for Yij  Xij delivers
X X
dCi  dP þ P  d2 Ci ¼ dCij  dPj þ Pj  d2 Cij
j j

This can be restated in the form


X  
dðPd Ci Þ ¼ d Pj d Cij
j

Integration with a vanishing constant of integration yields


X
Pd Ci ¼ Pj d Cij
j

This is the equivalent of (8.16) for capital.

8.4 The Calculation of the Macro Variables of the Economy

Let us recall the first equation of (7.13) dealing with the relationship between the
growth dCi of sector capacity and the relative saving of work-time:

dCi ¼ η
i Yi (8.17)

In (8.17) η0 s are rates of relative time-saving. This equation lends itself for
compartmentalization.
S That is, Si will be divided in separate small subsectors Sij
ð j Sij ¼ Si Þ that serve as entropy producing units with money input Pj Xij and
^
money output Pj Yij . Let us introduce the notation Xij ¼ Pj Xij for money input and
^
Y ij ¼ Pj Yij for money output of Sij . It follows that

^ X^ ^ X^
Xi ¼ Xij and Y i ¼ Y ij
j j

Pj is the unit price-level in Sij .


Each of the production units Sij produces its own contribution dCij to dCi in
accordance with
200 8 Calculation

dCij ¼ η þ
ij ζ ij Cij dt ¼ ηij ρij Cij dt (8.18)

þ
η
ij and ηij are the rates of relative time-saving of the subsector Sij . Further ρij
denotes the input circulation rate of Sij and ζ ij denotes the output circulation rate of
Sij .
Then, with Xij ¼ ρij Cij dt and Yij ¼ ζ ij Cij dt, we can restate (8.18) as

dCij ¼ η þ
ij Yij ¼ ηij Xij (8.19)
P
Mark that dCi ¼
6 j dCij because the unit prices of entropy of the subsets Sij differ
from one another. To arrive at variables that can be aggregated directly, we must
first multiply by the unit prices. The multiplication of (8.17) by its average price
^
level P results in PdCi ¼ η
i Y i and the multiplication of (8.19) by its average price
^
level Pj results in Pj dCij ¼ η
ij Y ij . P
Then, on behalf of (8.16), PdCi ¼ Pj dCij . Hence it must follow that
j

^ X ^
η
i Yi ¼ η
ij Y ij (8.20)
j

Herein

σ 
ij  σ ij Yij  Xij σ 
ij  σ ij Yij  Xij
η
ij ¼ ¼ and η þ
ij ¼ þ ¼
σ
i Yij σ ij Xij

þ
σ
ij and σ ij represent the input-bit handling rate, respectively the output-bit
þ
handling rate of Sij . They satisfy the equation σ 
ij ρij ¼ σ ij ζ ij .
Equation (8.20) can be restated in the form:

^
X Yij
η
i ¼ η þ
i j fij with fijþ ¼ ^
(8.21)
j Yi

^
.^
In this equation the weighing factors fijþ ¼ Y ij Y i should not be confused with
the budget index factors fþ of (8.5). The coefficients f þ represent measurable
ij ij
quotients of money output rather than quotients of outflux. The scheme of (8.21)
requires another compartmentalization scheme. The focus is on the calculation of
η 
i for which we need to know the rates ηi j of relative time-saving in the course of
production within Si j during ðt; t þ dtÞ. To do that separately for the production
of consumption ði ¼ 1Þ and the production of investment ði ¼ 2Þ is difficult if not
8.4 The Calculation of the Macro Variables of the Economy 201

impossible. If it can be done, it will be preferably implemented for overall eco-


nomic production in S0 ði ¼ 0Þ. In that case S0 is compartmentalized in subsets S0j .
The difficulties concentrate on the measurement of the rates η0 j . Mark that

Y0j  X0j dC0j Pj dC0j


η
0j ¼ ¼ ¼
Y0j Y0j Pj Y0j

To calculate this coefficient we must know the total money value added Pj Y0j of
the subsector S0j as well as its net money result Pj dC0j, the surplus of money output
over money input, which is the most difficult to determine sufficiently accurate.
The index formula (8.21) is not intended to include the entire collection of
subsectors S0j that together form the economy S0 . But it should include a represen-
tative collection of sample subsets S0j of the economy S0 large enough to average out
the errors in the determination of the coefficients η0 j, especially those due to errors
and bias in the measurement of the money results Pj dC0j .
η
Instead of calculatingP 0 by employing
P the index formula (8.21), we could just as
well calculate the totals j Pj Y0j and j Pj dC0j directly from the available samples
of S0j :
P
j Pj Y0j
η ¼P
0
j Pj dC0j

Mark that for the two-sector economy

QðμÞ  QðλÞ
η
0 ¼
QðμÞ

Thus once we know η 0 and consumption probability μ, we can calculate λ.


Further if we know also Y0 , (7.13) may be used to calculate dC0 ¼ η 0 Y0 .
Let us summarize our knowledge position of the two-sector macro-economy as
follows:
We suppose that we are in possession of sufficiently accurate measurements of
money consumption PY1, joint money output PY0 and money wages PX1. Thus also
money investment PY2 ¼ PY0  PY1 and μ ¼ Y1 =Y0 can be calculated.
Further we get from index calculation by (8.7) measurements of the variables p;
P, y1 and Y1 .
Let us further assume that η 0 has also been calculated so that we can calculate λ
from η 0 and μ with the help of

QðμÞ  QðλÞ
η
0 ¼
QðμÞ
202 8 Calculation

Now that we have calculated λ we can calculate PX0 ¼ PX1 =λ and PX2 as the
difference of PX0 and PX1 .
Next we find PY0 from PY0 ¼ PY1 =μ and further PY2 as the difference of PY0 and
PY1 .
As P has already been calculated we can get all the entropy flows Xi, Xi, Yi and Yi
by dividing the corresponding money flows by P.
Net capacity growths dC0 , dC1 and dC2 follow from dCi ¼ Yi  Xi . This will
assist us to calculate C0 , C1 and C2 as well as the growth rates c0 , c1 and c2 in the
course of time.
Also the financial influxes p 
1 C1 dt , p 
2 C2 dt , and p 0 C0 dt and the financial
þ þ þ
outfluxes p1 C1 dt, p2 C2 dt, and p0 C0 dt can now be calculated with the help of

p  þ 
i Ci dt ¼ Xi  X i and p i Ci dt ¼ Yi  Y i

  þ þ
This    in the knowledge of p1 , p2 , p1 , p2 and in the knowledge of
 þ  results
γ¼ p  ¼ p . Then dCi follows from
0 0

dCi ¼ Yi  Xi

and also dBi ¼ dCi  dCi can be calculated.


Further H ðX0 Þ ¼ λ log λ  ð1  λÞ logð1  λÞ and H ðY0 Þ ¼ μ log μ  ð1  μÞ
logð1  μÞ can be calculated knowing λ and μ. Then Zdt follows from

X0 Y0
Zdt ¼ ¼
H ð X 0 Þ H ð Y0 Þ

Let us next recall (4.8):

1 1  
 qij log qij ¼  H ðXi Þ þ  H Yj  qij HðX0 \ Y0 Þði; j ¼ 1,2,3,    ,NÞ (4.8)
N N

With i ¼ 1 and j ¼ 1 we obtain for the two-sector economy

H ðX1 Þ þ H ðY1 Þ  2H ðX1 \ Y1 Þ ¼ 2q11 log q11

With i ¼ 1 and j ¼ 2 we obtain

H ðX1 Þ þ H ðY2 Þ  2H ðX1 \ Y2 Þ ¼ 2q12 log q12

Addition of the latter two equations yields

2H ðX1 Þ þ H ðY0 Þ  2H ðX1 \ Y0 Þ ¼ 2q11 log q11  2q12 log q12


8.5 An Alternative Route to Calculate the Macro-Variables of the Economy 203

Mark HðX1 \ Y0 Þ ¼ H ðX1 Þ  H ðX1 jY0 Þ and q12 ¼ λ  q11 . Hence

2H ðX1 jY0 Þ þ HðY0 Þ ¼ 2q11 log q11  2ðλ  q11 Þ logðλ  q11 Þ

After multiplication by Zdt we establish that

2X1 þ Y0 ¼ Zdt  ½2q11 log q11 þ 2ðλ  q11 Þ logðλ  q11 Þ

Herein X1 , Y0 , Zdt and λ have already been calculated.


After solving the latter equation for q11 , the other qij follow from q12 ¼ λ  q11 ,
q21 ¼ μ  q11 and q22 ¼ 1  λ  q21 . P
This enables us to calculate HðX0 [ Y0 Þ ¼  ij qi j log qi j and further to find
H ðX0 \ Y0 Þ by H ðX0 \ Y0 Þ ¼ HðX0 Þ þ H ðY0 Þ  H ðX0 [ Y0 Þ.
Subsequently H ðXi jY0 Þ and H ðYi jX0 Þ can be calculated.
This completes the calculation of the macro-variables of the economy.
It should be noticed that all the variables thus calculated are behaving as
dynamic stochastic variables of time t. The calculations do not stand the fundamen-
tal and essential properties in the way but respect them to the full as time and
economic events progress.

8.5 An Alternative Route to Calculate the Macro-Variables


of the Economy

A more direct measurement of circulation rates appears quite difficult to achieve.


However, there is perhaps one exception. The labor outflux circulation rate ζ 1
applies to the circulation of labor. This rate is closely connected with the average
time employees are in service since they were recruited. This labor circulation rate
ζ 1 appears to be measurable after providing for some subtle but necessary
adaptations. Let us see how this can be done.
Recall from Sect. 6.6 that

ζ_
y1 ¼ 1 þ c1 (8.24)
ζ1

We shall assume that p and y1 have been determined by price and quantity
index calculation in the way set out in Sect. 8.1. We need next to calculate ζ 1 ðtÞ and

ζ_ 1 ðtÞ ζ 1 ðtÞ sufficiently accurate at observation time t.
Well ζ 1 is the labor outflux circulation rate, which is connected with the
probability density function φ  1 ðt; τÞ of current lifetime of the labor outflux bitpulses
as given by (5.11):
204 8 Calculation

8 τ 9
< ð =
 1 ðt,τÞ ¼ ζ 1 ðt  τÞ exp  ζ 1 ðt  ξÞ dξ
φ
: ;
0

Here τ is the current lifetime of outflux bitpulses. This differs slightly from the
current lifetime τ0 of work-units.
Current lifetime τ0 is the time elapsed at observation time t since the work-unit
has been recruited in S1 . Thus we must collect the data of the various initial times
t  τ0 at which the work-units of S1 have been recruited for delivering effort. This
can be done by collecting all the initial times at which the employees of S1 have
been recruited while weighing these data appropriately for the effect of part-time
labor.
This will be used to determine the aggregate statistical circulation rate χ 1 ðtÞ of
the current lifetime τ0 of the work-units of S1. We shall not go into a discussion of the
technical details of how this can be done. It appears that it can be done quite
accurately.
However we must take into account that  χ 1 ðtÞ is the outflux circulation rate of the
work-units L1 of S1. To get the outflux circulation rate ζ 1 ðtÞ of the outflux bitpulses
we need compensate for the change of the effectiveness E of the work-force L1
during ðt; t þ dtÞ as follows:

ζ 1 ðtÞ ¼ 
χ 1 ðtÞ þ eðtÞ

The problem is now that we have been able to calculate χ 1 ðtÞ, but we don’t know
ζ 1 ðtÞ and eðtÞ yet. However, (7.15) comes to our rescue:

c1 ¼ e þ l1

After elimination of the growth rate eðtÞ of effectiveness we attain

ζ 1 ðtÞ ¼ 
χ 1 ðtÞ þ c1 ðtÞ  l1 ðtÞ

Furthermore, c1 ðtÞ can be eliminated from the latter equation with the help of
(8.24). This results in

_
ζ 1 ðtÞ þ ζ 1 ðtÞ ¼ 
ζ 1 ðtÞ χ 1 ðtÞ þ y1 ðtÞ  l1 ðtÞ


Knowing  χ 1 , y1 and l1 this differential equation can be solved for ζ 1 and ζ_ 1 ζ 1 .
Subsequently the growth rate c1 of labor capacity and hence dC1 can be
calculated. Also the growth rate eðtÞ of effectiveness follows from e ¼ c1  l1 .
The calculated dC1 and Y1 may then be used to determine η 1 on behalf of (7.13).
It can be shown that
8.6 Other Sources of Data Collection 205

μQðμÞ  λQðλÞ ð1  μÞQðμÞ  ð1  λÞQðλÞ


η
1 ¼ and η
2 ¼
μQðμÞ ð1  μÞQðμÞ

This opens a way to calculate λ from the knowledge of μ and all the other
variables of the economy as discussed in more detail in Sect. 8.4.
If our expectation is confirmed that 
χ 1 can be calculated sufficiently accurate, this
alternative route of calculation may be a very attractive one to implement.

8.6 Other Sources of Data Collection

We have concluded the latter two sections with particular schedules for calculating
all the statistical dynamic averages of the economy. However there are more ways
of how this can be done and much of that is still to be investigated given the many
newly derived equations that determine economic evolution.
One major issue is whether we can measure the transmission Zdt  HðXi \ Yi Þ and
more specifically Zdt  H ðX0 \ Y0 Þ directly. On behalf of (7.1) the total money dM0
(in bits) issued by the banking system during ðt; t þ dtÞ is equal to the latter
transmission. That is

dM0 ¼ Zdt  H ðX0 \ Y0 Þ ¼ γC0 dt

We may succeed to measure this quantity or more appropriately its rate of


change in the course of time and so to get an idea of the course γC0 takes in time.
Moreover, measurements on the increase of the money stocks of consumption
sector and investment sector in the case of the two-sector economy, may help to
determine λ  μ, γ and C0 more accurately on behalf of (7.5).
Whereas in orthodox economic theory one is only concerned with the surplus of
outflow over inflow, evolvodynamics is also concerned with the addition of outflow
to inflow. Whether there will exist practical schedules to measure the transmission
sufficiently accurate is a question difficult to answer without further investigation,
but it must be mentioned here as a serious possibility.
Another matter is the eventual determination of the average historic price level
Pþ
i by calculating the integral given by (5.23), which holds in the common
inflationary mode of evolution:

ð
1

Pþ
i ¼ Pðt  ξÞ
φi ðt,ξÞdξ (5.23)
0

 i ðt; τÞ of current lifetime of the outflux


The probability density function φ
bitpulses is given by (5.11):
206 8 Calculation

8 τ 9
< ð =
 i ðt,τÞ ¼ ζ i ðt  τÞ exp  ζ i ðt  ξÞ dξ
φ (5.11)
: ;
0

Thus if we have knowledge of the historic time-course of PðtÞ and ζ i ðtÞ for the
determination of φ  i ðt; τÞ in accordance with (5.11), we can use that information to
calculate Pþ
i ðtÞ.
Chapter 9
Theory and Confirmation

Abstract The ins and outs of evidence and the interplay of evolvodynamics with
Keynesianism, monetary policy, Euro crisis and orthodoxy are discussed.
In science consistency and coherence of laws with explanations and observations
have top priority. Postulated principles and equations that derive from these
principles must be mutually consistent and coherent. If there is absence of evidence
for a theory or if our derivations from these principles lead to mutual conflicts and
contradictions, the premises of a theory are the first to be questioned and, only if
possible, reshaped and reformulated We must uncompromisingly stand up for these
scientific standards. Nevertheless it is possible to maintain a theory, in spite of its
failure in a general sense, if there is a well-defined region of its variables for which
the theory is still accurate. However no such orthodox economic theories are known
to exist.
A major obstacle to test for evidence, certainly for the discipline of economics, is
the limited accuracy by which we can do our calculations and measurements. We
must always take into account the inaccuracy of our measurements and insist on
improving the accuracy where we can, e.g. by improving our calculation schemes
or by introducing other schemes of calculation or by adjusting the way we collect
data. What we can’t tolerate is to adopt theories when measurements of sufficient
accuracy contradict what the theory asserts.

If you cannot see immediately that a new theory is wrong,


and it is simpler than it was before, then it is right.
Richard P. Feynman

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 207


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7_9, # Springer-Verlag Berlin Heidelberg 2013
208 9 Theory and Confirmation

9.1 Consistency, Yes or No?

The equations of successful physical science are based on the principle of physical
homogeneity. This principle requires that the dimensions of each of the terms of the
equation on both sides of the equation are the same. The principle does allow
conversion of the scale of dimension in which a variable is expressed to another
scale of that dimension without affecting the validity of the equation.
The principle of physical homogeneity is in fact the equivalent of the principle of
evolutionary homogeneity that applies to the variables of economic evolution (See
Sect. 1.2).
The principle implies that the measure in which the content of a variable is
expressed is relative. Absolute variables do not exist, neither in physics nor in
economics. Without this principle physics is inconceivable and I claim that the
formulation of economic theory without this principle of homogeneity, focused on
time-dependent variables of entropy, money value and time, is just as
inconceivable.
The curious thing is that orthodox economics cherishes instead her definition of
homogeneity, which is quite different from the definition of homogeneity applicable
to physics and evolvodynamics. We shall state that definition here for completeness
sake with respect to an equation with one independent variable F and two dependent
variables x and y: The following equation involving the function F ¼ Fðx; yÞ is called
homogeneous of degree g if

FðAx; AyÞ ¼ Ag  Fðx; yÞ

The definition can be easily extended to cases with many independent variables
and many dependent variables.
To distinguish the evolutionary definition of homogeneity from the orthodox
definition of homogeneity we shall add the adjectives “evolutionary” and/or “physical”
to the first.
Core orthodox economic theories like neoclassical theory of production and the
Marshallian theory of demand, rely on the assumption that the equations are
homogeneous, e.g. of degree zero, degree one or degree 2.
I have great doubts about the admissibility of these orthodox homogeneity
assumptions. Neoclassical production functions are usually said to satisfy homoge-
neity of first or second degree. It appears to me that this is in direct conflict with the
principle of evolutionary homogeneity because output F is a flow (per unit of time)
and the inputs x (capital) and y (labor) are stock variables in accordance with the
neoclassical model.
This is a conflict of dimensions between the two sides of the equation that should
not be lightly accepted. I have already criticized the neoclassical theory of produc-
tion from another angle in Sect. 1.9 so that I shall not go into this matter further with
respect to neoclassical production theory. Instead I shall here focus on the signifi-
cance of orthodox homogeneity for mainstream demand theory.
9.1 Consistency, Yes or No? 209

The economist Keuzenkamp has written an interesting book on the latter matter
in which he confronts methodological considerations with the acceptance of ortho-
dox demand theory as an explanatory scientific device for explaining the demand
side of price-formation (Keuzenkamp 2004). As Keuzenkamp remarks, “The con-
dition of homogeneity of degree zero in prices and income of Marshallian demand
functions belongs to the core of micro-economic wisdom. Simply put, this condi-
tion says that if all prices and income change proportionally, expenditure in real
terms will remain unchanged.” (Keuzenkamp 2004, page 180).
The principle is more widely known as the principle of the absence of money
illusion. In this respect the state of mind by which economic agents might think to
effectuate a change in their real volume of expenditures consequent on a propor-
tional change of prices and income is considered to be an illusion.
Keuzenkamp investigates the validity of the absence of money illusion by
discussing the outcomes of the many tests that economists have carried out in
that respect. He begins with remarking that the homogeneity condition gives an
idealized picture of the world of demand. Whether it is valid, so he pursues,
depends on the validity of auxiliary assumptions [page 190].
Then he makes mention of quite a number of serious tests to verify demand
homogeneity of which almost all confirm that the empirical data are inconsistent
with the homogeneity property [pages 196–199]. Eventually Keuzenkamp had at
least to admit that “economists have tested these (homogeneity) conditions, and, in
many cases, have had to reject them statistically” [page 181]. Clearly then, the
results point in one conclusive direction: the hypothesis of homogeneous demand is
not more than a speculation on shaky ground.
Keuzenkamp is very detailed in enumerating the various testing attempts and
one should expect that he would have concluded with rejecting the homogeneity
property of functions of demand because of the lack of evidence. Well, this is not
what he does.
The principle of homogeneity of degree zero is definitely a pillar of orthodox
demand theory. To reject orthodox demand theory is manifestly a step too far to go
for Keuzenkamp. So, he devotes a considerable part of his book on discussing the
philosophy of scientific reasoning and, particularly, of econometric reasoning,
which he imputes a methodology distinctive of that of the exact sciences. In this
respect he pays much attention to contradict Popper’s realist philosophy of science
with its emphasis on consistency and falsification. What the connection of these
methodological considerations is with the subject is not very clear. It appears that
the oddity of ignoring the consequence of negative test results (i.e. to renounce
Marshallian demand theory) is concealed by sheltering behind the methodological
dust-cloud of a great many of partially conflicting views about the meaning and
significance of scientific theory formation. Notwithstanding Keuzenkamp’s
expositions on diverse schools of methodology, the matter is more likely an
exercise in propositional logic:
Let A be the statement that demand is homogeneous (of degree zero). Let B be
the statement that micro-economic demand theory is correct. For B to hold good it
is required that A is true. But evidently Keuzenkamp’s hope might be that this does
210 9 Theory and Confirmation

not exclude the possibility that B is true in some exceptional cases for which A is
false. However, it seems impossible to derive the properties of micro-economic
demand theory if A is false. Thus this is not a good escape. And we must then
conclude that if A is false, B must be false. The very last hope for Keuzenkamp is
then that there might still be exceptional cases for which A is true. However, this
reduces the validity of B to exceptional cases, not a very attractive prospect for a
scientific theory that is supposed to provide for explanations as widely universal as
they can be formulated.
Keuzenkamp avoids discussing the matter from this side. Instead he focuses on
what philosophers of science have to say about methodology and the truth status of
scientific laws.
Much what Keuzenkamp says looks reasonable in the passages devoted to
methodology: “I believe explanations serve a purpose: they are useful in
constructing analogies which may improve theoretical understanding.” [page
215]. He remarks that “explanations are not roads to truth”. Well that remark forces
an open door. What is truth? In the sense Keuzenkamp uses it, he seems to hint at
big truths, but why should scientific economic explanations have that status? Only a
convinced materialist or lop-sided scientist may identify an economic testresult or
theoretical derivation with a big truth. Let us remain modest in science but keep
demanding consistency and coherence and satisfying the principles of propositional
logic of our empirical findings and of our derived theoretical laws describing the
behavior and relationships of economic variables! No more and no less than that.
Keuzenkamp accepts the negative test results with respect to the homogeneity of
demand. In line with that he thinks also that money is an illusion: “In the form of a
penny or a dime money is pretty real, but its true value may be an illusion! And as
an aggregate, like M1, it is highly problematic.” [page 216]. He remarks further that
it has no real existence outside the context of a specific theory [page 216]. Does he
intend to suggest with the latter remark that—as far as money is illusive—it cannot
be described within a scientific framework? And that money is scientifically elusive
so that we can only analyze it scientifically if we render it reality and if we accept
the absence of money illusion contrary to what money actually is?
If this is what Keuzenkamp is hinting at, that does not make very much sense. It
implies that we do better to accept A as true although it is false because it is
otherwise impossible to formulate as good a theory as B is.
Or should we interpret his latter remark as an apology that economic science
cannot be done better than that?
According to Keuzenkamp econometrics is positivist. “It is characterized by an
emphasis on observation, measurement and verification. Furthermore, positivists do
not believe in the need to search for ‘true causes’ and tend to be sceptical about deep
parameters.” [page 258]. Well no problem, but why should that imply that we must
accept the negation of a core premise not to be of much significance for a theory that
is crucially based on that premise?
Keuzenkamp concludes that “the homogeneity condition survived thanks to its
strong prior support.” [Page 212]. After all falsification is not applicable to
9.2 Evolvodynamics and Keynes 211

econometric science because “no economic theory is without anomalies.”


(Keuzenkamp 2004, page 11).
Well, what is the benefit of a science if we are told to adopt it even if it is refuted
by the facts?
Can we perhaps understand why the orthodox principle of homogeneity is false?
Well, an economy can follow any path that is a solution of the equations of
evolvodynamics, because the economic system is not a determinist system with a
single unique solution. There are multiple dynamic solutions to the system of
equations. As the number of freedom of the system of equations is more than 1,
many different paths can be followed. We can nevertheless predict the most
probable course on the basis of as many measurements that we have gathered
over the past and as many policy initiatives that we plan (and succeed) to implement
in the future. The economic process is stochastic rather than determinist. There is
ample freedom of choice for an economy to deviate gradually from a particular path
and to take another dynamic course that satisfies the derived system of equations as
well. In fact with so much choice it is an illusion to think that demand will behave
according to a postulate of orthodox economic theory that is primarily accepted for
its convenience.

9.2 Evolvodynamics and Keynes

Today it is a little more than three quarters of a century ago that the great economist
Keynes introduced the consumption function as an explanatory device to demon-
strate the multiplier effect in response to increments of investment (Keynes 1936).
The model was appropriate to elucidate the argument that investment stimulation
was first and for all required to accelerate the growth of the economy. The fact that
consumption probability μ is nearer to 1 than ð1  μÞ is to 1 played a vital role in
Keynes’ explanation. The model illustrated that the larger μ is, the greater the
multiplier effect and the more the investment impulses will bring about the growth
of the economy. These investment impulses will ultimately work out that μ gets
reduced.
The great merit of Keynes’ consumption function theory was that it foresaw in a
descriptive explanation of the requirement to invest in order to get economic
recovery and to regain growth rather than to effectuate that by a reduction of
those and other expenses. The bad thing was that the argumentation was mathemat-
ically incomplete, even unsound and impossible to translate into a mathematically
adequate model. As far as it has been done, it has very often led astray and to a crisis
in policy implementation. I shall not discuss that in detail further here. Cognizance
and interpretation of the alternative theory of evolvodynamics explained in the
foregoing is enough because this delivers the correct dynamic relationships.
What I wish to emphasize here is that Keynes himself held a much more
complete idea of the economics of growth stimulation than the many mathematical
212 9 Theory and Confirmation

parametric interpretations, devised and hypothesized by other economists after him,


were and are capable to reflect.
When Keynes published his general theory he had no intention to state it in the
form of a system of mathematical equations. Although he bore the mathematical
scheme of the multiplier in mind, he was suspicious to work that out mathemati-
cally, assuming that the best explanation at hand was descriptive.
Let us, to keep matters simple, discuss the business cycle for the two-sector
economy only (That is: no export, no import, no government).
Recall that the general and exact explanation of the rate c0 of economic growth of
the two-sector economy is provided by (6.30):

QðμÞ  QðλÞ QðμÞ  QðλÞ


c0 ¼  ζ0 ¼  ρ0 (6.30)
QðμÞ QðλÞ

and that y0 ¼ c0 þ ζ_ 0 =ζ 0 in which ζ_ 0 ¼ dζ 0 =dt in accordance with Newton’s fluxion


notation.
Let us next see in what manner Keynes’ original ideas about the stimulation of
economic growth are reflected in these equations. For a qualitative analysis the
fluctuations of the circulation rates ζ 0 and ρ0 in (6.30) are immaterial to c0, because
ζ 0 and ρ0 are positive definite and relatively stable. On the other hand the relative
fluctuation ζ_ 0 =ζ 0 of the output circulation rate ζ 0 is much more sensitive to
fluctuations and this has an impact on the growth rate y0 of output.
As argued in Sect. 6.6 the rate c0 of net growth of the economy is mainly
determined by the difference ðλ  μÞ. The growth rate c0 is roughly proportionate to
ðλ  μÞ. The larger ðλ  μÞ, the larger c0 . This implies that

the smaller μ; the larger c0 ; further the larger λ; the larger c0

Keynes’ descriptive ideas about economic growth were nearly as reflective as


that. Keynes’ central emphasis was on the stimulation of investment relative to
consumption. That this policy had to work, he motivated by referring to the
multiplier effect for which he put the consumption function upon the stage. But
that was only to underpin his argument. In the first place Keynes wanted the
stimulation of investment Y2 ¼ ð1  μÞY0 and hence μ to decrease and not to
increase. Further the increase of investment would induce entrepreneurs to employ
more labor so that wages would ultimately rise and production capacity would be
utilized more effectively. The rise of wages simultaneously with increased degree
of capacity utilization would also induce savings within the consumption sector to
step up with investment so that the process of growth acceleration could go on.
Keynes’ reasoning fits wonderfully well within the framework of (6.30). The
induced rise of money wages PX1 ¼ λP X0 simultaneously with increased capacity
utilization would cause labor input probability λ to rise if prices are held under
control. The joint effect of a decrease of μ together with an increase of λ will
increase ðλ  μÞ and stimulate growth in a very effective manner.
9.2 Evolvodynamics and Keynes 213

Keynes’ plea for investment stimulation has often resulted in output stimulation
programs that also stimulate consumption. As the stimulation of consumption will
usually cause the output circulation rate ζ 0 to rise, it will often induce y0 ¼ c0 þ ζ_ 0 =ζ 0
to rise initially. As a result a policy of output stimulation that stimulates consumption
relative to investment will sometimes look successful in the short run.
E.g. if λ < μ < 0:703506, the situation discussed in Sect. 6.7 under number 2,
this will bring about growth in the consumption sector ðc1 > 0Þ, but nevertheless
overall economic decline ðc0 < 0Þ. Such policy may appear to work out reasonably
well in the short run, especially if ζ_ 0 =ζ 0 is positive such that y0 may remain slightly
positive for a while, which may convince policy-makers that they are on the right
track to reach recovery. However, the stimulation of consumption will likely cause
μ to rise so that the long-term condition μ < λ for economic growth will not be
reached. A prolonged increase of ζ 0 may extend the period of positive growth of Y0
and it may be very reasonable to achieve if ζ 0 were lagging much behind its normal
magnitude. But ζ 0 cannot rise forever and may even decrease again so that y0 will
not have increased in the end. Thus a policy that concentrates on consumption
stimulation rather than on investment stimulation will likely ultimately reach the
point where c0 is reduced and it will hence be unsuccessful in the end and often
postpone the recovery process.
However in case c0 is sufficiently large, y0 may nevertheless be too small or even
negative due to a negative growth rate ζ_ 0 =ζ 0 of output circulation. In that case
consumption stimulation is enough to eliminate the negative ζ_ 0 =ζ 0 and to restore the
growth of output Y0 again. Thus a policy of consumption stimulation may incidentally
or accidentally be effective to combat some stagnation. Such stagnations are usually
mild and relatively easy to overcome.
Keynes was of course unaware of (6.30), but he had a profound intuitive
understanding of the economic process. To endorse his views he used the consump-
tion function in combination with the multiplier effect. He did not intend to embed
it in a fabric of parametric mathematical equations like the following generation of
economists did. What happened afterwards was a mathematical consumption func-
tion fitted in a parametric model in which consumption probability was merely a
constant parameter so that the most sensitive component δ ¼ ðλ  μÞ=2 of economic
growth could no longer theoretically change in response to changes of μ. Well, for
our quantitative engagements it can be done in that way, but it can also be done
much and much better.
The bottom line is that investment stimulation is the best policy to regain
economic recovery after an economic recession. However, how that must be
worked out and will work out for a particular economy depends strongly on the
state of growth the economy is in. The equations that determine the time-course of
economic growth demonstrate complicated relationships, not less complicated for
the two-sector economy, which in fact can only be properly analyzed with the help
of the calculating power of digital computers. However, some qualitative insight
can be gathered by considering four different growth-positions an economy can be
in and by analyzing the prospects of growth for each of these positions. This has
214 9 Theory and Confirmation

been done in Appendix H. The policy requirements to improve economic growth


have been listed there. Two of the growth positions deal with economies with
negative growth. The worst is the growth-position number 4 characterized by the
conditions

δ ¼ ðλ  μÞ=2 < 0; λ rises relative less than μ; i:e: λ_ =λ < μ_ =μ

It appears that the Dutch economy reached growth position 4 in 2012, although
the economic growth rate is only slightly negative.

9.3 Eurocrisis and Monetary Expansion

One of the problems of economic stimulation is the misinterpretation of what


should be done. It is not uncommon that the stimulation of consumption rather
than investment is advocated to restore economic growth. And indeed Keynes has
often been misinterpreted in this manner. On the other hand the many factors that
influence the course of the economy have also their impact and do not help to
understand what should be done.
In this respect the influence of the monetary factor is of considerable weight and
often not well understood. Therefore I shall here elucidate the role of money in
maintaining economic growth.
If the transmission H ðX0 \ Y0 Þ gets too small, the money stock declines, growth
will slow down, price inflation rates become small and deflation is on the look-out.
This is the salient eventual consequence that develops during the aftermath of a
typical credit/banking crisis as we experience in the western world economy since
the autumn of 2007. In those circumstances it will usually take much more time to
recover from the recession because massive government support has been supplied
and will still be required for some time to save the banks. Once arrived in that low
or negative growth-state of the economy and of large government budget deficits,
there is a natural inclination of an economy to dwarf near the turning point of
evolution and to stay close to it, especially since the policy makers often seek the
solution, wrongly but understandably, in jamming on the brakes by cutting govern-
ment expenses and convincing or prescribing the banks to hold on much greater
buffers than they held before the crisis. The immediate effect is the tightening of
credit rules by the banks and a fall of investments.
The present situation of the Euro credit crisis is a typical instance. With the start
of the Eurozone the Eurozone memberstates have refrained from embedding the
introduction of a common currency within the framework of a full fledged financial/
fiscal union. Without that fiscal union common fiscal discipline is nowhere and will
ultimately end up in economic and financial chaos. This is the lesson that history
has taught us many times.
9.3 Eurocrisis and Monetary Expansion 215

Current policy to combat the crisis, strongly and persistently advocated by the
Northern Eurozone-memberstates with a good budget record, stresses to restore
government budget equilibrium as the first and immediate thing to be done by each
of the memberstates. However, given the untenable critical state of budget
disequilibria combined with very high interest rates in some of the member states,
the fiscal union should be implemented without delay. Once the member states had
made the choice for a monetary union nearly two decennia ago, a political/fiscal
union was actually inevitable and it must therefore now be implemented without
delay to avoid persistent serious economic and political drawbacks within Europe.
This requires political wisdom and solidarity among the member states rather than
the play of nationalist populist sentiments, which has brought us only adversity in
the past and will bring us nothing else than that in the future if we don’t succeed to
dress up the political/fiscal union timely.
The absence of a political/fiscal union has not only led to a wide variation of
budget deficits among the memberstates but also to a wide variation in the interest
rates these memberstates pay. The good-record memberstates consider their low
interest rate as their own inalienable reward for their disciplinary budget behavior
of the past. However, that is only very partially so because they would certainly not
have borrowed money for such extreme low interest rates if each of the Euro
memberstates would have kept its own currency.
Moreover one should take into account that within a great economic zone like
the USA, like China or like the Eurozone there will always be regions performing
better and regions performing worse and some even much better or much worse.
This is inevitable and absolute solidarity within the system is a must to prevent that
the zone disintegrates, certainly if democracy is the basis of the cooperation.
The point is that a rigid policy to restore budget equilibrium by each country
separately will everywhere and immediately induce still greater differences in
interest rates between the countries, which does not help to solve the problem but
will only help to worsen it. It appears that a substantial part of the decline of the
interest rates of the good-record member states is connected with the sharp rise of
the interest rates for which the less-disciplinary memberstates borrow money.
All member states of the Eurozone, including the member states with good
budget record, must accept their common responsibility for the total of budget
deficits. As far as this acceptance will have a drawback on the economies of the
Northern member states, it is much more preferable than the serious drawback
caused by muddling on with our own national priorities. Moreover, all member
states should accept their individual responsibility for having contributed to imple-
ment a monetary union in the past without a backbone of sufficient political and
fiscal unification.
Once the Eurozone has established this political/fiscal union of common solidarity,
budget equilibrium can soon be reached by each of the member states. Presumably
interest rates for which the Northern member states borrow will rise, but it is rather
unlikely that it will rise very much because the overall budget state of the Euro zone is
more favourable than the American with its already low interest rate.
216 9 Theory and Confirmation

No doubt the political fiscal union has to be implemented with strict budget
rules. Solidarity between the member states implies that each of the member states
will strictly subscribe to the same budget rules.
The current credit crisis has primarily been caused by the banks and is also due to
insufficient control on the banks by the monetary authorities. The crisis reflects the
general pattern of the most severe recession an economy can go through. Therefore
I shall give it the necessary attention here. To begin let me first state where banks
are for.
The banking system is there to finance the economy. That is the only task banks
have. To that end banks have been granted the monopoly of money creation under
certain restrictions and under independent control of a central monetary authority.
The monopoly of money creation is not the exclusive property of banks. On the
contrary, it has been granted to the banking system by law with the mandate to
manage the financial needs of the economy as good as possible.1 Most important in
this respect are the financial needs of small and middle-sized firms. It is here where
new innovative ideas are brought to life within an economy, often with great
personal sacrifice of time and welfare of the entrepreneurs concerned. It is here
where the risks of financing may be greater than elsewhere (although I doubt it
whether this is really true), but where the economic rewards in the long run are the
greatest. In brief, this is pre-eminently the sphere of work for which the banking
system is first and for all needed and for which it was intended. The general rule
appears to be that economies without a middle class of entrepreneurs are always
stagnating. Nevertheless time and again banks have neglected this essential role of
their mandate and their curious reasons were always that small credit financing is
too costly for the banks and that the risks are too great relative to the risks in other
domains of financing, as if it were not a very special mandate they were endowed
with. But actually this is nothing else than the failure of banks to comply with their
mandate. Banks have been granted the monopoly of money creation to help finance,
not to withdraw from what they are supposed to do. And first and foremost to
sustain and bring forth economic growth is to provide for financing the middle class
of entrepreneurs.
Well banks often forget to stay with the special and very important task they
have been given literally as a gift. As they grow larger, their executives get to dream
of complementary financial activities and the banks begin to supply their customers
with all sorts of often superfluous financial (even usurious) products other than
lending money, just to increase their share of the national pie. Their executives get
the idea that they seriously contribute to (inter)national economic performance in
this manner, but what they achieve for the greater part is creating additional money
value, which is in fact merely a financial portion of the national pie snatched from
the non-banking sector. That is, the banking sector manages in effect to raise the
costs of financing and banking considerably beyond the level it should have in a

1
We should be aware that much of the current banking practice (such as investment banking and
the bonus-culture) does not accord with the intentions of a responsible banking mandate.
9.3 Eurocrisis and Monetary Expansion 217

normal competitive market. The financial share they take and redistribute among
their personnel and executives rises to unrealistic proportions.
As this process goes on and on, the capital actually accumulated by the banking
sector is primarily backed by paper claims on banks and third parties that the
banking/financial sector herself has issued. The accumulation of these paper claims
goes as far as it can go. The more it grows the relatively less the buffer capacity of
banks and the closer the limits are reached that the non-financial sector can cough
up. Thus the more vulnerable the banks get to hitches in the solvability of the non-
banking sector. If it keeps on growing in this manner, the entire system will
ultimately break down and—as a default of the banking system is a very inattractive
option—governments are forced to save the banks massively. In this manner banks
will not, but society will be confronted with the ultimate burden of their behavior.
In effect banks have misused their monopoly of money creation.
This is in a nutshell what happened since the turn of the century and even before
but then yet at a smaller scale.
To recover from this recession is not an easy matter. In the Netherlands mone-
tary and fiscal authorities have put rigid emphasis on reduction of government
expenses, paying off debts, raising bank buffers. This has effectuated credit restric-
tion in the private domain or at least affected businesses to delay their plans of
expansion. Well, clearly, government expenses must be reduced, debts must be paid
off, bank buffers must be raised all in the interest of recovery but such policy should
never accept credit financing to decline. Governments and banks have the bounden
duty to provide sufficiently for the financial needs of firms and businesses in order
to stay far enough off from the turning point of evolution with its very low inflation
rates and growth rates. Policy should have emphasized a different order: first and
foremost credit expansion and then the other policy objectives. Credit expansion
should have priority even if it leads to greater risks (Well, I doubt the risk is greater
because credit expansion will stimulate growth and diminish the risks of failure).
Actually rescuing the banks from default has costed and will cost a lot more,
certainly if we fail to change the rules the banks must accord to.
In the past the lack of sufficient financial means has often driven firms and
businesses into despair and time and again it has resulted in initiatives to found new
banks with the task to finance a specific sector of the economy that until than had
almost no access to the financial resources that banks control. Unfortunately, when
these newly founded banks grew more and more, they gradually withdrew from the
tasks they had been founded for and sooner or later the lack to provide for financing
the small and middle-sized business sector was again on the menu. This has been
too manifest in Europe. (In the Netherlands small banks are gradually disappearing
from the stage). The rules for the entry of newly founded banks have perhaps been
too restrictive and the market dominance of the large banks has outgrown far too
much.
Since the early begin of the current crisis, the business credit problem has popped
up with vehemence. For the investment sector credit limitation rather than credit
expansion became the current fate. Particularly starters’ businesses, small and
medium-sized enterprises were and still are the victim. These entrepreneurs began
218 9 Theory and Confirmation

to encounter increasing difficulties to finance their expansion plans. The insufficient


willingness of banks to provide for the financial demands of the investment sector is
now a major cause of stagnation within the entire Eurozone and if nothing will
dramatically change in this respect, we may prepare for many years of stagnation
and very little growth.
The investment sector cannot invest sufficiently because of the restrictions in
financing. As a consequence economic transmission gets too small and the outlook
for the resumption of a reasonable rate of economic growth of the economy is
waning. It is here where governments should intervene without delay and assist, at
need oblige the banks to resume their responsible financing task in the way it should
be done.

9.4 Evolvodynamics and Monetary Expansion

The stimulation of the economy should be directed at increasing the surplus of λ


over μ as we concluded from the consultation of (6.30) in Sect. 9.2. Stimulation can
only be affected by spending money in the right ways and it is therefore necessary
also to consider the monetary implications of the increase of the surplus λ  μ. The
equations applicable here for the two-sector economy are (7.5) and (7.7):

1þλμ 1λþμ
dM1 ¼  γ C0 dt and dM2 ¼  γ C0 dt (7.5)
2 2

dB1 ¼ b1 B1 dt ¼ γ ðλ  μÞC0 dt

dM1 is the increase of the money stock of the consumption sector during
ðt; t þ dtÞ. dB1 is the liquidity surplus of the consumption sector during ðt; t þ dtÞ.
Additional to its own money resources the investment sector employs the liquidity
surplus dB1 of the consumption sector S2 to realize its investment objectives during
ðt; t þ dtÞ. The larger the flow of dB1 the larger the availability of liquidity for S2 .
After differentiation of dM1 and dB1 to time we obtain

m_ 1 γ_ 2δ_ b_1 γ_ δ_
m1 þ ¼ þ þ c0 and b1 þ ¼ þ þ c0 (9.1)
m1 γ 1 þ 2δ b1 γ δ

with δ ¼ ðλ  μÞ=2 as defined in Sect. 6.6.


In (9.1) we have adhered to the Newtonian fluxion-notation: m_ 1 ¼ dm1 =dt , γ_ ¼
dγ =dt, b_1 ¼ db1 =dt etcetera.
In the short run the terms m_ 1 =m1, b_1 =b1, 2δ_ =ð1 þ 2δÞ and δ_ =δ will play a role. In
the long run all terms of (9.1) play a role.
We shall restrict here our discussion to apply to the inflationary mode of
evolution only.
9.4 Evolvodynamics and Monetary Expansion 219

Let us first discuss the stationary growth solution. Under stationary economic
growth of an economy we understand an economy for which all λi , μi , and the
transmission rate γ remain constant in the course of time as well as the growth rates
ci of capacity. On behalf of (6.27) and (6.30) the maintenance of stationary growth
warrants that ζ i , ρi , ζ i and 
ρi are time-independent constants as well.
For the stationary growth two-sector economy it follows thatδ ¼ ðλ  μÞ=2,m1 and
b1 are independent of time. In that case (9.1) result in m1 ¼ b1 ¼ c0 . This is indeed
what might be expected: the liquidity stock and the joint capacity stock must share the
same growth rate under the condition of stationary growth. Moreover H ðX0 Þ, H ðY0 Þ
and transmission H ðX0 \ Y0 Þ become constants for stationary growth, whereas the
number Z of samples per unit of time, Zdt  HðX0 \ Y0 Þ ¼ γ C0 dt, X0 ¼ Zdt  H ðX0 Þ
and Y0 ¼ Zdt  H ðY0 Þ share the same stable growth rate z ¼ m1 ¼ b1 ¼ c0. Further γ, λ
and μ behave as constants independent of time under stationary growth.
However, the condition of stationary growth is exceptional and it is entirely
inadequate for economic forecasts to rely on. The economic process is concerned
with stochastic time-series. Much more relevant is the general case for which every
variable is a dynamic stochastic variable of time. Non-stationarity reflects the
general condition of the economy, e.g. the circumstances we face in the time course
from top to bottom of the economic cycle and conversely. We must therefore
consider (6.30) and (9.1) in full ornate in order to draw sensible conclusions.
These equations are appropriate for getting a tentative general qualitative idea of
the effect of monetary expansion and contraction in the case of the two-sector
economy. Let us then assume that the initial condition of a two-sector economy is
stationary growth and that from then onwards a policy of monetary expansion is
pursued discontinuing stationarity and resulting in the increment of the transmis-
sion rate γ and of the transmission HðX0 \ Y0 Þ ¼ γ C0 =Z proportional to γ . The
question is then: what happens next?
Let us first conclude that in case of accelerated monetary expansion the
growth rates m1 and b1 of the money stock and B1 will increase and in particular
m_ 1 =m1 and b_1 =b1 will increase, even more the greater the amount of money injected
into the economy. In virtue of (9.1) γ_ =γ þ 2δ_ =ð1 þ 2δÞ þ c0 and γ_ =γ þ δ_ =δ þ c0
must increase as well. An increase of c0 will not be effectuated immediately.
The immediate effect of a change of m_ 1 =m1 and b_1 =b1 will have an impact on
γ_ =γ þ 2δ_ =ð1 þ 2δÞ and on γ_ =γ þ δ_ =δ.
As far as the change of m_ 1 =m1 and b_1 =b1 affects γ_ =γ, this will have the secondary
effect of raising inflation (in case the inflationary mode of evolution applies)
because γ ¼ pþ 0 ¼ p 0 on behalf of (6.21). On the other hand as far as the change
of m_ 1 =m1 and b_1 =b1 affects 2δ_ =ð1 þ 2δÞ and δ_ =δ, this will have the secondary effect
on the economic growth rate c0 on behalf of (6.30). Whether that raises c0 in the
longer run depends on the sign of δ. In Appendix H several scenarios have been
listed.
220 9 Theory and Confirmation

Consequent on a rise of 2δ_ =ð1 þ 2δÞ and δ_ =δ, c0 will eventually also rise. Hence it
seems at first glance that the change of m_ 1 =m1 and b_1 =b1 will likely to have more
effect on c0 þ 2δ_ =ð1 þ 2δÞ and on c0 þ δ_ =δ than on γ_ =γ. However, this conclusion is
too rash. Note that the changes in m_ 1 =m1, b_1 =b1, γ_ =γ, 2δ_ =ð1 þ 2δÞ and δ_ =δ are short
run changes and that the affected secondary effect on c0 manifests itself in the
longer run, when the short run changes of m_ 1 =m1, b_1 =b1, γ_ =γ, δ_ =ð1 þ δÞ and δ_ =δ may
have smoothed out. Moreover, as a secondary response to the initial rise of γ_ =γ, the
transmission rate γ will eventually rise as well in the longer run while γ_ =γ will then
smooth out. Thus,

In the short run : m_ 1 =m1 and b_1 =b1 effects γ_ =γ þ 2δ_ =ð1 þ 2δÞ and γ_ =γ þ δ_ =δ
In the longer run : m1 ; b1 ; pþ 0 ; δ and c0 rise

If stable growth will be regained afterwards; we reach in the end :


m_ 1 ¼ b_1 ¼ γ_ ¼ δ_ ¼ 0 and m1 ¼ c0

The success of realizing more economic growth in the longer run by an impul-
sive rise of m_ 1 =m1 and b_1 =b1 depends on how much λ_ =λ, 2δ_ =ð1 þ 2δÞ and δ_ =δ will be
affected separately. The growth-position the economy is in at the moment a
liquidity flux impulse is injected into the economy, has considerable influence on
that matter (See Appendix H). We should further be aware that the effect of the
impulse of m_ 1 =m1 and b_1 =b1 on λ_ =λ and μ_ =μ will be of the same order of magnitude
as the effect of m_ 1 =m1 and b_1 =b1 on γ_ =γ , 2δ_ =ð1 þ 2δÞ and δ_ =δ.
For a moderately growing economy, a monetary spending impulse will bring
about a rise of the rate of inflation as well as a rise of the rate of economic growth.
How the increase is divided between inflation and real growth depends on the state
the economy is in.
If the growth rate c0 is not affected simultaneously in the longer run, the price
inflation rate p must increase. Then accelerating inflation is our fate and eventually
this will lead to hyperinflation if we keep accelerating monetary expansion condi-
tional to an immovable c0. Hence accelerated monetary expansion is only effective
if it is accompanied by an accelerating growth rate c0 .
Observations on modern growth economies have taught us that usually a part of
m_ 1 =m1 and b_1 =b1 goes eventually into c0 and the remainder into γ_ =γ. The higher the
attainable growth rate c0 , the higher the inflation rate as well.
If monetary expansion is directed at economic recovery or at more growth, it is
necessary that it boosts an initial rise of δ ¼ ðλ  μÞ=2 and ultimately a rise of c0 as
we have argued in Sect. 9.2. For that matter monetary policy must be accompanied
by stimulating investment relative to consumption (which decreases the propensity
μ to consume) as well as by keeping depreciation low relative to wages (which
increases λ). These incentives can best be realized if economic policy concentrates
on expansion investing rather than on replacement investing. The more monetary
9.5 Evolvodynamics and Orthodoxy 221

expansion is accompanied by such policy incentives, the less chance that money
expansion will leak away in the growth of the rate of price inflation p and in the
transmission term γ_ =γ of the right side of (9.1).
A policy of monetary restriction can be pursued to reduce inflation. However, its
effectiveness depends on how we succeed to avoid that δ ¼ ðλ  μÞ=2 will not
decrease as a result of that policy. If we do not succeed so and δ will only decrease,
as a result, monetary contraction will have little effect on the rate of inflation.
Success can only be realized if investment is not reduced relative to consumption.
The nature of the above expositions of the present and preceding sections is
qualitative. The expositions demonstrate the feasibility and power of the theory of
evolvodynamics. It is of course possible to postulate an alternative system of
parametric equations that may more or less also provide for a qualitative explana-
tion of monetary expansion and economic growth.
However, these alternative systems of equations do not consistently provide for
a general explanation covering the entire time-domain and every economy. They
must be “repaired” continuously in the course of time by adjusting the parameters,
which demonstrates that the parameters are not time-independent despite the oppo-
site assertion by the proponents of those systems. Because of their lack of universal-
ity and their maltreatment of time it is very questionable whether these systems
provide for as good a dynamic explanation as the theory of evolvodynamics does.
The great merit of the equations of evolvodynamics is that they are universally
valid and fully dynamic and that they have been derived. Moreover these univer-
sally valid equations demonstrate that economic constants do not exist (as all
economists are actually aware of) and hence constant parameters cannot exist
either. The application of evolvodynamics is not restricted to qualitative
expositions but is appropriate for quantitative calculations to forecast with optimum
attainable accuracy. If performed without blemish, these calculations are reliable as
long as the few underlying principles of Darwinian selection keep their validity.
Our above qualitative exposition applies to the two-sector economy only. For the
N- sector economy ( N  3 ) the equations become so complicated that useful
qualitative expositions appear to be very difficult. We must then resort to quantita-
tive calculations. To analyze quantitatively rather than qualitatively, it is of course
necessary to oversee the complete system of evolvodynamic equations in detail and
to apply sophisticated tools of numerical analysis that need to be handled by digital
computers. Since the number of the degrees of freedom of the system of equations
is 3 (See Sect. 4.6), it is sufficient to collect the data of three different time-series for
the computation of complete forecasts of the economy.

9.5 Evolvodynamics and Orthodoxy

At this point my exposition of the generalized synthesis of Darwin’s conjecture of


evolutionary selection with Shannon’s theory of entropy/information has reached a
tentative though not definite completion. Many well-known economic variables and
222 9 Theory and Confirmation

several new ones have been fitted in a general definitional context and satisfy quite
many exact universally valid relationships, so far unheard of and unexploited in
orthodox economic theory.2 These relationships have not been postulated, but have
been derived from a very minimum of basic principles of Darwinian evolutionary
selection. Moreover, Shannon’s conception of entropy has been shown to represent
the inevitable proper measure of uncertainty, information and value: uncertainty
that agents face, information and value that agents gather and get rid of while
selecting.
It has also been demonstrated that economic behavior of agents is purposeful
rather than purposeless. Nonetheless the way economic agents behave is very
selective. Purpose manifests itself in the way economic agents avoid to select the
enormous bulk of potential variations that can possibly be chosen but that they
consider being useless. Instead they prefer to choose from a much and much smaller
set of typical variations deliberately. The latter set contains an infinite number of
equally meaningful opportunities to choose from. Clearly, this corresponds with our
human experience that as individual decision makers we have very great freedom to
choose between the things we consider meaningful to consume, and between the
things in which to invest purposefully and how to use them up, as well as to decide
between the jobs that we choose to do and to create.
This implies that orthodox economic models in which agents are programmed to
seek equilibrium and to optimize some postulated object function (production
function, output, input, profit, utility) are far from realistic. The purported equilib-
rium and/or optimization always results in a single or a very limited number of
possible solutions to choose from. Moreover it clings together very many
variegated individual decisions of individual consumers, investors, employees
and entrepreneurs as if there is only one decision maker per category that makes
the same consideration for that entire category.
These robot-like agents weigh the aggregate of consumption, the aggregate of
investment, the aggregate of economic resources and the aggregate of jobs as if it
were only a single grand item, or a single grand job. Time is often not considered to
change and if time is considered to change, it is always a poor model of deficient
dynamics.
Growth theories will usually reach not much further than describing theorems of
stable growth and the listing of some golden rules of accumulation.
This slavish conception of economic reality does not correspond with the
unrestricted dynamic freedom of behavior economic agents have and demonstrate
with respect to the way they spend on and choose between multifarious goods and
the way they select between the great variety of jobs under dynamically ever
changing economic conditions.

2
With the exception of Divisia’s index formulas.
9.6 Science, Premise and Prejudice 223

9.6 Science, Premise and Prejudice

Notwithstanding its relevance and despite its anchorage in the logic of proper and
consistent scientific reasoning I foresee that there is a long way to go before the new
theory will meet some acceptance among economists. This is nothing to worry
much about. Let me in this respect reproduce a famous quote from James Lovelock:
“If you start any large theory, it takes about 40 years for mainstream science to
come around”. So if you may have stumbled on this quote while glancing through
this book, you may lay the book aside for 40 years before reading it.
A major obstacle is the prejudice with which generations of economists have
been educated as to what to understand by good and sound economic reasoning.
Ask any economist, accomplished in orthodox economic theory, what he thinks
about the existence and bearing of economic laws. He will certainly respond by
remarking that economic laws like the derivable type of laws in the physical
sciences do not exist (whether he has any real notion of the struggle by which
these physical laws have evolved, often from originally primitively formulated
parametric equations,3 is—to say the least—questionable). And he will certainly
stress that you cannot describe economic (human) behavior fully by equations
(since he seems to think human behavior is of some other and higher order exalting
far above the material laws that can only describe the dead world of physics. Why
he thinks so is a riddle. It has never been explained nor demonstrated. We are told to
believe it.). The idea that the methodology of scientific reasoning is a common one
for all sciences, he will reject as absurd and qualify as sheer nonsense, because it
conflicts with the prejudices he cherishes.
Well, in accordance with the standards of rational science, any conception,
premise or prejudice that is at the basis of the human pretention of scientific
explanation should be subjected to meticulous scrutiny. There have always been
two procedures to achieve that. Both of them must be well observed to warrant good
science in accordance with good methodology of science. The first is that the
forecasts of a scientific theory must be tested and confirmed by field
measurements.4 This is consistency of facts. The second is to subject the consecu-
tive steps of deductive reasoning to meticulous scrutiny and to compare whether all
the derived laws are consistent with one another as well as universally valid.5 This
is consistency of laws.

3
Ptolemaic astronomy is an example. Another instance is Planck’s derivation of the law of black
body radiation.
4
Mark that confirmation is always tentative, never definitive.
5
One might mention Occam’s razor here, which states that the less the number of basic postulates,
the better and more general the theory. But I think Occam’s razor is just as much a natural result of
the two procedures of scientific scrutiny. The greater the applicable domains of space (read here
also: economy) and time for which there is mutual consistency between the various laws derived
from the first postulates (the principles) of a theory and for which these laws remain sustained by
measurements, the more universal the theory is and the more probable it is that the number of basic
postulates will be reduced to a minimum. For if there are more postulates on which a theory is
224 9 Theory and Confirmation

The difficulty with orthodox economic scientific reasoning is that insufficient


heed is given to the second procedure of good science. It is not that economic
orthodoxy is not concerned with deductive reasoning. It certainly does. It is just that
orthodox economists are doubtful of the attainability and usefulness of very critical,
consistent, scrutinous, inference given their prejudice that economic behavior
cannot be fully described in such manner. The great riddle is then why they
theorize? Or is the answer in their failure to realize that scientific laws should be
foremost mutually consistent and cover as wide a range of phenomena as possible
without permanently changing these laws e.g. by continual adjustment of
parameters?6 Simply in consequence of the unlimited adaptability of parameters,
the orthodox models of economic explanation lose much of their relevance and
universality. Moreover there are many parametric equations that contradict each
other provided the comparison is pushed far enough, which is often neglected. Thus
it should be realized that—as regards the second procedure of science—the theory
of evolvodynamics expounded here is far superior to any orthodox model of
economic explanation because there are no parameters to be adjusted continually
whereas the various laws are consistent and since there is no contradiction between
any of them as far as I am aware of at the moment of writing this.
Unfortunately the prejudice of economists that no laws of economic behavior
exist other than parametric, which has been taught to them decennia after decennia,
stands in the way of considering the second procedure of good science as being
utmost relevant.
Human prejudices are very difficult and inert to overcome. That may be
connected with the survival chances in human evolution. Choose the common
generally accepted point of view and you will be most successful. There is no
exception, but rather confirmation of this rule as the evolution of human science is
concerned. Once a particular dogma has engraved itself on the human mind, it will
not soon be abandoned. The general rule is that for change one must await the dawn
of a new generation. A generation that has nothing to lose but only to gain.
One of the instructive examples of this mechanism is Ptolemaic astronomy.
Ptolemy lived from circa 100 until circa 170 A.D. He adopted the basic principles
that the earth is the center of the universe and that all celestial motions of the stars,
sun, moon and planets are reducible to circular motion. Thus he devised a system
that explained any orbit of a celestial body as a superposition of circular motions of
epicycles on a circular orbit around the earth. By adjusting the parameters of the
epicycles he foresaw in the required correspondence between the astronomical

based, there is greater chance that a law derived from one or a few of the postulates is inconsistent
(or incompatible) with a law derived from another postulate.
6
The following consideration clarifies the shortcomings from a Popperian perspective. While
neglecting the importance of the second procedure (the consistency of laws), practitioners of
orthodox science can propose infinite many parametric models as providing for a universal
economic explanation, because one can always add and adjust the parameters so that
measurements are always in harmony with what the model predicts. Thus there is no way to
refute the “laws” of economic orthodoxy.
9.6 Science, Premise and Prejudice 225

observations of the orbit and the calculated orbit predicted by the theory. The
Ptolemaic system was of course very accurate in explaining the motion of the
distant stars without the need to add any epicycle. Further to explain the orbit of
the sun, epicycles were also unnecessary. An eccentric circle was sufficient to
account for the sun’s orbit around the earth within reasonable limits of accuracy.
For the motion of the planets and moon more was required and here Ptolemy was
lavish in applying epicycles.
Like the parametric models of orthodox economics, it was necessary to adjust
the parameters regularly, those for explaining the orbits of the moon and the planet
Mars often, those for some of the other planets only after several decades. The
appraisal of the success of the Ptolemaic model depends considerably on how
accurate astronomical observations can be made. Science is of course concerned
with explaining the smallest differences that we can observe. Well, it has been
demonstrated that by introducing still more epicycles Ptolemaic astronomy can
explain away any smallest deviation between theory and observation, certainly with
the help of the calculating power of our computer technology age. However, we
must keep on adjusting the many parameters regularly and continually. Every
second of the world-time-clock has in fact its own system of Ptolemaic parameters
and we must recalculate these parameters every second so that unprecedented
accuracy of prediction will be realized for the next second. Well, does that affect
the extent of our scientific appreciation of the suitability of the Ptolemaic model?
Yes or no? Well, if we keep believing and preaching that we can’t replace the old
dogmas by deductive reasoning (like the dominating authority, the Church, did at
least until the year 1633 when Galileo was compelled to repeal his heliocentric
world view), it appears that we may definitely answer that question in the negative.
Indeed “no” is the answer of the orthodoxy! And it was the answer of all the
astronomers that practiced the science of astronomy for more than 1300 years after
Ptolemy, upon whose work the Church based her calendar and the improvements
thereof confirming that the idea of the earth as the immovable center of the universe
was a fruitful one. All well in accordance with the prejudices of that time.
That prejudices have a long lifetime is illustrated by the time it took to adopt the
heliocentric system. Copernicus published his revolutionary heliocentric world
view in the year 1543, also the year he died. It was immediately rejected almost
by anyone who took note of it with the exception of a few. True enough, there was
the difficulty that the Copernican system was still based on circular motion and
epicycles, which did not really contribute to improved accuracy of its predictions
and that did neither contribute much to the acceptance of the Copernican system.
Thus, when the leading Danish astronomer Tycho Brahe (1546–1601) made his
pre-telescopic celestial observations of unprecedented accuracy, he took the stand
that the Copernican system was definitely wrong. Instead Brahe kept working on his
own geocentric system of explanation without succeeding to complete it. It was the
more mathematically oriented Johannes Kepler who—since 1600 in possession of
the observations of Tycho Brahe—discovered that the planetary orbits around the
226 9 Theory and Confirmation

sun were elliptic7 (Crowe 1990; Dreyer 1953). His eight years older contemporary
Galileo was immediately convinced (Galileo 1954), but the latter was compelled by
the Church to recall his position in 1633 and to admit that a moving earth “is
contrary to Holy Scripture and therefore may not be defended or held” (Stillman
Drake 1980).
With Kepler’s publication of 1609 there was overwhelming evidence for
adopting the heliocentric world view. Kepler’s discovery of elliptical orbits implied
also the expulsion of time-dependent parameters from the model. This, I believe,
was the greatest scientific innovation of the new theory. No dynamic parametric
adjustments anymore in the course of time. Nevertheless it took still many years
before the Ptolemaic system with its parametric burden was definitely overthrown
by Isaac Newton and replaced by a general deductive theory of celestial mechanical
motion.8 The lesson is that prejudices have a long survival time. That our genera-
tion is less conservative than the generation of the seventeenth century is improba-
ble. Each generation cherishes its prejudices. The prejudice of orthodox economics
is the clincher that human behavior cannot fully be caught in a deductive theory. If
our belief in this principle is unshakable it places orthodoxy on the thrown of
authoritive inaccessibility like the Church in the dispute with Galileo in 1633.
In this respect we should realize that the idea of Darwinian selection is a
fundamental premise as well. It must permanently be subjected to meticulous
scrutiny just as well as other dogmas. We can’t prove the principles of Darwinian
selection by deductive reasoning. What we can do is to establish evolutionary laws
that derive from it and collect measurements to test the predictions of the laws and
phenomena following from it. If there is correspondence between measurements
and predictions this does not imply that we have proved the basic premise. We will
only be strengthened in our conviction—how much depends on the extent of the
evidence—that the premise of Darwinian selection offers a correct and effective
tentative description of the basic fabric of our domain of investigation as long as it
is not overthrown by a still more general explanatory theory.

9.7 Theory and Measurements

That orthodox theory is offering a better testing record than the theory of evolvo-
dynamics does would be a false impression. In the practical situation of collecting
and predicting macro-economic statistics, orthodox economics offers only a frame-
work of unproved parametric equations. Sufficient correlation with test results can
only be sustained by adjusting the parameters all the time, like for the Ptolemaic
system. And even then economic predictions are not better than the predictions a

7
Kepler published his findings in the year 1609.
8
Newton devised his theory of mechanical and gravitational motion in the years 1665–1967 and
kept silent on the matter for many years. It was finally published in 1687.
9.7 Theory and Measurements 227

great many of alternative systems of parametric equations offer simultaneously.


Thus economic orthodoxy does not provide for a unique and universal description
of economic performance, not in time, not per economy, not per economic institute
giving such predictions. Sufficient reason to conclude that there are no tests that
contribute to genuine verification of orthodox economic theories because we don’t
even know what theory is to be tested if we allow the parameters to vary in that
manner.
Well, this is the primitive way all science began but in economics we should now
reach a step further.
With the exposition of evolvodynamics in this treatise we must nevertheless be
aware that we are also still not in a position to draw more definite conclusions
about its capability of offering a reliable description of the domain of economic
phenomena. But at least there is a body of derivable equations ready for national
economic institutes to work on. In fact the exposition given in previous pages deals
mainly with the theoretical side of economic evolution. This exposition of the
theoretical side I consider as where my contribution in presenting the theory of
evolvodynamics ends. However, despite the power of deductive reasoning which
I have tried to expose in previous pages, we are far from completion. We must be
cautious in drawing definite conclusions given the pile of work of testing still to be
done. Deductively based theoretical analysis is necessary to create a theory as
reliable as possible that is ready for testing. Subsequent testing is needed to verify
its significance.
All aspects (theoretical and experimental) of the scientific enterprise demand the
deployment of diversified expertise. The current macro-economic forecasts of
governmental planning agencies are the result of the cooperative effort of two
specialisms: the expertise of econometric model-design and the expertise of data
collecting.
Each nation has its own system of parametric equations to describe the economy.
It reflects the compromise to which has been decided by that nation in a cooperative
econometric effort. Now and then the parameters and the system of equations will
and must be adjusted. We can’t conclude that such operational system of parametric
equations reflects the attainments of certain schools of orthodox economic thought.
In fact the present systems represent a mixture of ideas not so much the approach of
a particular economic mindset but rather a practical compromise that is currently
believed to give the best correlation with observations. No dogmatism but pragma-
tism prevails. However, there is no indication afterwards that the preferred model
does indeed produce the best correlation. Moreover there are often alternative
economic agencies within a country that employ a completely different system of
macro-economic parametric equations that produces forecasts of similar quality.
Clearly, there are many orthodox systems of equations of equal merit. This is of
course the typical problem of economic orthodoxy. With the formulation of the
theory of evolvodynamics the situation will be quite different: econometrists need
no longer be involved in constructing the applicable economic theory because only
a single theoretical system is available. Apart from extending and improving the
theory of evolvodynamics further, their task is different now.
228 9 Theory and Confirmation

The task of the scientific experimenter remains to verify and test the theoretical
forecasts against observations. This is a role that has to be fulfilled with respect to
the theory of evolvodynamics. Gathering the required data about macro-economic
time-series is a major enterprise. Many variables of the theory of evolvodynamics
are differential quotients. Their measurement demands an indirect approach.
Measurements always extend in time so that numerical procedures and filtering
techniques are required to prepare them for comparison with the theoretical
predictions. It is a classic problem of time-series analysis, also well known in the
physical sciences, communication and signal processing sciences. This is where
numerical analysis and the expertise of econometrists are badly needed. Thus
instead of composing a set of parametric equations, econometrists must take up
the classic role of the translation between the instantaneous variables of
evolvodynamics and the measurements of those variables by the experimenters
involved in data measurement.
In this respect the present practice of seasonal detrending by economists needs
critical reconsideration. Economic time-series contain information. One of the main
attainments of time series analysis is that data mutilation is fundamentally wrong,
e.g. by the application of the wrong filtering techniques. By filtering out seasonal
fluctuations information gets lost. As E.T. Jaynes remarks in the preface of his book
on probability theory, “this is happening constantly from orthodox methods of
detrending or seasonal adjustment in econometrics” (Jaynes 2004, page xxvii).9
The subject deserves the utmost attention in the process of implementing the
equations of evolvodynamics in numerical computational routines.
The seasonal fluctuations are of considerable importance and optimum use of
them in computational routines improves the interpolations and extrapolations of
the variables over longer periods of time. Economists should therefore be on their
guard with applying the right techniques to link the momentary flow variables, such
as money input PXi money influx PXi , money output PYi , money outflux PYi , the
price levels and circulation rates, to the observed averages over a fixed period T of
time. E.g. Xi ðtÞ respectively Yi ðtÞ is something different than

ð0 ð0
1 1
 Xi ðt þ θÞdθ and  Yi ðt þ θÞdθ
T T
T T

Ð0 Ð0
We cannot simply replace Xi ðtÞ by T1  T Xi ðt þ θÞdθ and Yi ðtÞ by T1  T
Yi ðt þ θÞdθ. That will cause a loss of information, the more so the larger T is. On the
other hand, some smoothing out over time is inevitable to assure that the zero-mean
errors of measurement smooth out. This is however not a typical economic prob-
lem. It is a common problem of time-series analysis with respect to all sorts of
quantitative scientific disciplines.

9
Neoclassicism is an example of an approach with a very substantial waste of information because
the tenets of neoclassicism do not hold in the short run as we have argued in Sect. 1.7.
Appendix A

The Number of Samples and the Principle of Evolutionary


Homogeneity

Let us consider two-sector input selection for the case that there are only Zdt samples
of which two thirds turn out to be in state 1 and one third in state 2 (See Fig. 1.2).
Then the probability of selecting a sample in state 1 is λ1 ¼ 23 and the probability of
selecting a sample in state 2 is λ2 ¼ 13. In accordance with Shannon’s formula (1.1) the
reassembled entropy input is Zdt  HðX0 Þ ¼ Zdt  ½ð1  λ1 Þ logð1  λ1 Þ þ λ1 log λ1 
and it follows in this special case that Zdt  H ðX0 Þ equals 0:9183  Zdt units of
value (u.o.v.).
Well there is a snake in the grass. Shannon’s formula (1.1) is an asymptotic
approximation, which is the better the more samples there are, i.e. the larger Zdt is.
In fact the formula is very accurate for Zdt sufficiently large but it is not if Zdt
remains quite small. The exact general expression for HðX0 Þ is

k!
Zdt  H ðX0 Þ ¼ log with k ¼ k1 þ k2 (A.1)
k1 ! k2 !

in which k ¼ Zdt is the total number of samples (in state 0), k1 ¼ λ1 Zdt the number
of samples that turn out to be in state 1 and k2 ¼ λ2 Zdt the number of samples that
turn out to be in state 2.
Suppose then that the statistical experiment is chosen so that Zdt ¼ k is finite and
equal to 21 as for example is illustrated by the input sequence in Fig. 1.2. Calcula-
tion with the help of the exact formula (A.1) results in

Zdt  H ðX0 Þ ¼ log116;280 ¼ 16:827243 u:o:v: (A.2)

However, Shannon’s formula (1.1) delivers Zdt  H ðX0 Þ ¼ 0:9183  21 ¼ 19:2842


u.o.v. (see Sect. 1.7). The difference between the two calculations is an error in the

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 229


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7, # Springer-Verlag Berlin Heidelberg 2013
230 Appendix A

Table A.1 The reassembled information content of input selection for different numbers k ¼ Zdt
of samples
Number of Number of ReassembledP information
samples in state 1 samples in state 2 content Zdt  λi logλi
Unit of value relative to i
standard u.o.v. λ1 Zdt λ2 Zdt in standard u.o.v.
Standard 14 7 16.827243
10 times as small 140 70 18.874421a
100 times as small 1,400 700 19.226624a
1,000 times as small 14,000 7,000 19.276793a
10,000 times as small 140,000 70,000 19.283304a
100,000 times as small 1,400,000 700,000 19.284105a
1,000,000 times as small 14,000,000 7,000,000 19.284200a
10,000,000 times as small 140,000,000 70,000,000 19.284211a
100,000,000 times as 1,400,000,000 700,000,000 19.284212a
small
a
To calculate these numbers I have used the following very accurate asymptotic approximation:
log[k!/(k1!k2!)] ¼ –[(1 – λ)log(1 – λ) + λlogλ]k – ½log[(1 – λ)λk] – ½log(2π) with λ ¼ λ1

Shannon calculation due to the circumstance that the number of samples is chosen
too small. The point is that Shannon’s theory is only applicable for Zdt sufficiently
large, i.e. in the limit Zdt should tend to 1. On the other hand Shannon’s formula is
compatible with the principle of evolutionary homogeneity, but the calculation of
16.827243 u.o.v. on behalf of (A.1) is not. The problem is however easy to manage.
We must choose the number of samples much larger and simultaneously adjust the
choice of the u.o.v. so that the outcome of Zdt  H ðX0 Þ on behalf of (A.1) tends to the
outcome on behalf of Shannon’s formula (1.1). Thus all statistical experiments will
be so executed that the number Zdt of samples is increased by a sufficiently large
factor while simultaneously choosing the new unit of value inversely proportion-
ately smaller. The error between the outcome of the Shannon formula and the
outcome of (A.1) will vanish then. This is illustrated in Table A.1. In this table each
row reflects a particular choice of Zdt ¼ k and the u.o.v., starting with k ¼ 21 in the
second row. Each following row has 10 times as many samples and 10 times as
small units of value as the preceding row. E.g. in the third row of Table A.1 the
number Zdt ¼ k samples is fixed at k ¼ 10  21 ¼ 210 so that k1 ¼ 140 and k2 ¼ 70
with a new u.o.v. that is 10 times as small as the old one in the second row. A
calculation with the help of (A.1) yields Zdt  H ðX0 Þ ¼ 188:74421 units in the new
u.o.v. This is 18.874421 units in the old unadjusted u.o.v. The error between the
Shannon measure (19.2842) and the correct outcome (18.874421) has declined
considerably. If the number of samples is multiplied once more by a factor 10
and the u.o.v. is reduced once more by a factor 10 we have k ¼ 2; 100, k1 ¼ 1; 400
and k2 ¼ 700 (See fourth row in Table A.1) and the new outcome is 19.226624 units
in the old unadjusted u.o.v. This is now very close to the Shannon measure 19.2842.
Appendix A 231

Note that the larger the number of samples and the proportionately smaller
the choice of the unit of value, the smaller the error in the calculation of the
reassembled information content. This illustrates that it is necessary to choose
the number of samples as large as possible together with the u.o.v. as small as
possible to attain evolutionary homogeneity.
There is of course still the question why economic selection should, by neces-
sity, take place against the background of a sufficiently (very) small u.o.v. and an
infinite sequence length.
I can think of two reasons for that:
• It is a necessity effectuated by the requirements of economic exchange. If the
unit of value is too large, exchange will be hampered and even obstructed,
because transactions between agents can then only be rounded off in a way
that injures one of the agents and benefits the other unnecessarily and against the
will of both. Hence noticing the exchangeability, fluidity and divisibility of
money, agents will seek and find ways to settle transactions in a smaller u.o.v.
• Agents will seek to reassemble as much entropy as they can. They will not leave
attainable knowledge (by selection) unexploited, thus maximizing the informa-
tion that they gather about input and output separately. As the data in the fourth
column of Table A.1 teach us: the smaller the unit of value, the larger the input
and output in terms of an invariable u.o.v. Hence agents will apply the smallest
unit of value in which to reassemble their samples.
Appendix B

Selection-Probabilities and Entropy of the Multi-Sector Economy

The probabilities of input and output selection in sample space dS0 ¼ dS 
0 [ dS0
based on the Shannon-inspired conception of Darwinian evolution are the
following:
• The probability λi that a sample annihilates in state i on (t,t + dt).
• The probability μj that a sample originates in state j on (t,t + dt).
• The probability λðij jÞ that a sample annihilates in state i on (t,t + dt) conditional
to another sample originating in state j on (t,t + dt).
• The probability μðjjiÞ that a sample originates in state j on (t,t + dt) conditional
to another sample expiring in state i on (t,t + dt).
• The unconditional joint probability qij that a sample annihilates in state i on
(t,t + dt) and a sample originates in state j on (t,t + dt).
The following general rules of probability calculus hold with respect to these
probabilities:
1. Any trial of a sample expiring in state i ði ¼ 1; 2, 3,    ; N Þ and another
sample concurrently originating in state j ðj ¼ 1; 2, 3,    ; N Þ will induce
the emergence/cancellation of entropy in overall sample space dS0 ¼ dS 
0 [ dS0 .
See the discussion in Sect. 2.2. The event of expiration of a sample in state i is
statistically dependent on the event of origination of a sample in state j. This
þ
implies that the subsets of dS i and dSj overlap (See the Venn diagrams of
Figs. 2.2, 2.4 and 2.5) for any i; j ¼ 1; 2, 3,    ; N.
2. The event of expiration of a sample in state i and the event of expiration of
another sample in state j are mutually independent. Likewise the event of
origination of a sample in state i and the event of origination of another sample
in state j are mutually independent. Such independent events are selected
sequentially, i.e. in the process of executing two successive singular trials, one
with the outcome in state i, the other in state j.

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 233


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7, # Springer-Verlag Berlin Heidelberg 2013
234 Appendix B

Fig. B.1 Venn diagrams


representing the same
economy 3 times.
Circle on the left is aggregate
joint outflow Y0. Ellipse on
μ1
the right is aggregate joint
inflow X0.
Top configuration with the
probabilities of outflow
selection: μ1 + μ2 = 1. μ2
Center configuration with the Y0 X0
probabilities of inflow
selection: λ1 + λ2 = 1.
Bottom configuration with the
probabilities of transmission
selection. From (B.1) and
(B.2) of Appendix B:
q11 þ q21 ¼ q01 ¼ μ1 λ1

q12 þ q22 ¼ q02 ¼ μ2 λ2


q11 þ q12 ¼ q10 ¼ λ1
Y0 X0
q21 þ q22 ¼ q20 ¼ λ2

q10 þ q20 ¼ 1

q01 þ q02 ¼ 1
Mark that
q21  q12 ¼ μ1  λ1 ¼ λ2  μ2 q11
q21
q22  q11 ¼ μ2  λ1 ¼ λ2  μ1 q12
q22

Y0 X0

The Venn diagram of Fig. B.1 gives a geometrical insight into the various
relationships between the entropy variables and the probabilities for the two-sector
economy.
I have extended the range of i and j to include also the state 0, the union of all the
other states of the multi-sector economy. That is,
X X X X
μj ¼ q0j ¼ qij ; λi ¼ qi0 ¼ qij ; q00 ¼ qi0 ¼ q0j ¼ 1 (B.1)
i j i j

The probabilities λi and μj and the conditional probabilities λðij jÞ and μðjjiÞ satisfy
the necessary partition requirements (Papoulis 1985, Chap. 15):
Appendix B 235

X X X
λi ¼ λ0 ¼ 1; μj ¼ μ0 ¼ 1; λðij jÞ ¼ λð0j jÞ ¼ 1;
i j i
X
μðjjiÞ ¼ μð0jiÞ ¼ 1
j

λð0j jÞ ¼ 1 and μð0jiÞ ¼ 1 because it is certain that a sample will annihilate in S0


and it is also certain that a sample has originated in state S0 .
In accordance with Shannon’s definition the conditional entropy H ðY 0 jX0 Þ is
the average of the entropy Y 0 for each value of X0 weighted according
to the probability of getting that particular X0 . Likewise the conditional entropy
H ðX0 jY 0 Þ is the average of the entropy X0 for each value of Y 0 weighted according
to the probability of getting that particular Y 0 :
X X
H ðY 0 j X 0 Þ ¼  qij logμðjjiÞ and H ðX0 jY 0 Þ ¼  qij  logλðij jÞ (B.2)
i;j i;j

Herein the conditional probabilities μðjjiÞ and λðij jÞ satisfy

qij qij
μðjjiÞ ¼ and λðij jÞ ¼ (B.3)
λi μj

It follows from (B.2) and (B.3) that


X X
H ðY 0 jX0 Þ ¼  qij  logqij þ qij  logλi
i;j i;j

and
X X
H ðX 0 j Y 0 Þ ¼  qij  log qij þ qij  logμj
i;j i;j

We have
X
H ðX 0 [ Y 0 Þ ¼  qij  log qij (B.4)
i;j

H ðX0 [ Y 0 Þ is the entropy of the union X0 [ Y 0 of joint aggregate input X0 and


joint aggregate output Y 0 . Thus
X
H ðY 0 jX0 Þ ¼ H ðX0 [ Y 0 Þ þ qi0  logλi
i

and
X
H ðX0 jY 0 Þ ¼ H ðX0 [ Y 0 Þ þ q0j  logμj
j
236 Appendix B

Since q0i ¼ λi and qj0 ¼ μj on behalf of (B.1) it follows that


X
H ðX 0 j Y 0 Þ ¼ H ðX 0 [ Y 0 Þ þ μj  logμj and H ðY 0 jX0 Þ
j
X
¼ H ðX 0 [ Y 0 Þ þ λi  logλi (B.5)
i

Furthermore, in virtue of Shannon’s definition,


X X
H ðX 0 Þ ¼  λi  logλi and H ðY 0 Þ ¼  μj  logμj (B.6)
i j

Herein H ðX0 Þ is the aggregate joint entropy input. H ðY 0 Þ is the aggregate joint
entropy output. It follows from the two expressions (B.5) and (B.6) that

H ðY 0 jX0 Þ ¼ H ðX0 [ Y 0 Þ  H ðX0 Þ


and H ðX0 jY 0 Þ ¼ H ðX0 [ Y 0 Þ  H ðY 0 Þ (B.7)
  
Mark also that H ðY 0 jXi Þ and H X0 Xj satisfy a related and more general
relationship:
      
HðY 0 jXi Þ ¼ H ðXi [ Y 0 Þ  H ðXi Þ and H X0 Y j ¼ H X0 [ Y j  H Y j

Furthermore it is demonstrated in Sect. 3.3 that


X
H ðXi jY 0 Þ ¼ λi H ðX0 jY 0 Þ ¼ λi  qij logλðij jÞ;
j
  X
H Y j j X 0 ¼ μ j H ðX 0 j Y 0 Þ ¼  qij  logμðjjiÞ
i

See the proof of (3.2) and (3.3).


We maintain further that:
X   X
H ðXi Þ ¼ λi  H ðX0 Þ ¼ λi  λj logλj ; H Y j ¼ μj  H ðY 0 Þ ¼ μj  μi logμi
j i

It follows that
X X  
H ðXi Þ ¼ H ðX0 Þ and H Y j ¼ H ðY 0 Þ
i j
Appendix B 237

Let us next consider the equalities following from the associated Venn diagram:
     
H X i [ Y j ¼ H ðX i Þ þ H Y j  H X i \ Y j (B.8)
   
Herein H Xi [ Y j is the entropy of the union Xi [ Y j of Xi and Y j . H Xi \ Y j
 
is the entropy of the intersection Xi \ Y j of Xi and Y j . H Xi \ Y j is related to
 
H ðX0 \ Y 0 Þ by H Xi \ Y j ¼ qij H ðX0 \ Y 0 Þ. The easiest way to check that is with
the help of the Venn diagram of Fig. B.1. Mark that the probability of selecting both
a sample originating in state j and another sample annihilating in state P i is equal to
μj  λðij jÞ ¼ λi  μðjjiÞ. On behalf of (B.3) this is equal to qij. Note q00 ¼ i;j qij ¼ 1.
Hence
 
H Xi \ Y j
qij ¼ for i; j ¼ 0; 1, 2, 3     (B.9)
H ðX 0 \ Y 0 Þ

This equation has also been listed as (2.6) in Sect. 2.2.


Likewise the probabilities λi and μj are given by
 
H ðX i Þ H Yj
λi ðt Þ ¼ ; μ j ðt Þ ¼ for i; j ¼ 0; 1, 2, 3     (2.11)
H ðX0 Þ H ðY 0 Þ

These formulas have also been presented in Sect. 2.2.


From (B.8) it follows that

H ðX 0 \ Y 0 Þ ¼ H ðX 0 Þ þ H ðY 0 Þ  H ðX 0 [ Y 0 Þ

On behalf of (B.4) and (B.6) we obtain then that


X X X
H ðX 0 \ Y 0 Þ ¼  λi log λi  μj log μj þ qij log qij
i j i;j

 
Substitution of H ðXi Þ ¼ λi H ðX0 Þ and H Y j ¼ μj H ðY 0 Þ in (B.8) yields
   
H X i [ Y j ¼ λ i H ðX 0 Þ þ μ j H ðY 0 Þ  H X i \ Y j
 
H Xi \ Y j can be replaced by qij H ðX0 \ Y 0 Þ on behalf of (B.9). It follows that
 
H Xi [ Y j ¼ λi H ðX0 Þ þ μj H ðY 0 Þ  qij ½HðX0 Þ þ H ðY 0 Þ  HðX0 [ Y 0 Þ

Since λi  qij ¼ qi0  qij and μj  qij ¼ q0j  qij we obtain


     
H Xi [ Y j  qij H ðX0 [ Y 0 Þ ¼ qi0  qij HðX0 Þ þ q0j  qij H ðY 0 Þ
238 Appendix B

In Fig. B.1 the following summary of equations, applying to the two-sector


economy, has been listed:
q11 þ q21 ¼ q01 ¼ μ1 , q12 þ q22 ¼ q02 ¼ μ2 , q11 þ q12 ¼ q10 ¼ λ1
q21 þ q22 ¼ q20 ¼ λ2 , q10 þ q20 ¼ 1 and q01 þ q02 ¼ 1
Appendix C

Mutual Exclusiveness and Statistical Independence

The technical vocabulary to describe the property of non-overlapping sets differs in


the literature of probability theory dependent on the vocabulary the author prefers:
the two sets SA and SB are called non-overlapping or disjoint or mutually exclusive or
non-concurrent if their intersection is the null set, i.e. if

SA \ S B ¼  and hence if ProbfSA \ SB g ¼ 0 (C.1)

Herein  is the null set.


In general we have

ProbfSA [ SB g ¼ ProbfSA g þ ProbfSB g  ProbfSA \ SB g (C.2)

Hence it follows from (C.1) that ProbfSA [ SB g ¼ ProbfSA g þ ProbfSB g is a


property of mutually exclusive sets. Note that Probf  g is an elementary probabil-
ity. It is not a state probability (See Sect. 2.7). The elementary probability ProbfSg
of a set S is proportionate to the entropy H ðSÞ of that set. It follows from (C.2) that

H ðSA [ SB Þ ¼ H ðSA Þ þ HðSB Þ  HðSA \ SB Þ (C.3)

The property of mutual exclusiveness does not apply to all experiments of


statistical selection within differential sample space dS0 . Generally in differential
þ
sample space, dS i and dSj are mutually inclusive. They overlap in differential
sample space:
n o
dS þ
i \ dSj 6¼  and Prob dS
i \ dS þ
j 6¼ 0

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 239


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7, # Springer-Verlag Berlin Heidelberg 2013
240 Appendix C

That general situation has been depicted in Figs. 2.2, 2.3, 2.4 and 2.5. In the
particular case that i ¼ j ¼ 0, we have also

dS þ
0 \ dS0 6¼ 

The surface area that a set occupies in the Venn diagram is proportional to the
entropy content of that set.
On behalf of Boltzmann’s principle it follows from (C.3) that for any two sets
SA and SB
 HðSA [SB Þ  HðSA Þ  HðSB Þ  HðSA \SB Þ
1 1 1 1
¼ 
2 2 2 2

and the state probabilities must satisfy

PrfSA g: PrfSB g
PrfSA [ SB g ¼ (C.4)
PrfSA \ SB g

Since probabilities take only values between 0 and 1, it follows that

PrfSA [ SB g  PrfSA g: PrfSB g

Mark that Prf  g denotes a state probability.


Equation (C.4) is a general statement regarding state probabilities.
We need to revert to elementary probabilities in order to deal with the concept of
statistical independence. Mutual dependence/independence is concerned with the
elementary probability of an event/outcome of a single trial of an experiment
conditional to another event or series of events being certain. Generally the
following axiom of probability theory applies with regard to two elementary events
εA and εB :

ProbfεA \ εB g ¼ ProbfεA jεB g  ProbfεB g ¼ ProbfεB jεA g  ProbfεA g (C.5)

We use the notation ProbfεA \ εB g with the operator \ here, but we should
be aware that ProbfSA \ SB g with the same operator \ has a completely different
interpretation. In ProbfSA \ SB g we are concerned with the chance that a sample
is drawn from (or into) the common area of the subset SA and the subset SB . In
ProbfεA \ εB g we are concerned with the chance that both the event εA and the
event εB occur.
By definition two events εA and εB are statistically independent if their
elementary probabilities satisfy

ProbfεA \ εB g ¼ ProbfεA g  ProbfεB g (C.6)


Appendix C 241

Hence it follows from (C.5) that ProbfεA jεB g ¼ ProbfεA g and ProbfεB jεA g ¼
ProbfεB g are properties of two independent events εA and εB . If (C.6) is not satisfied
the events are statistically dependent.
From the above expositions it follows that the general concepts of mutual
exclusiveness of selection and statistical independence of selection differ markedly
in definitional respects. They should therefore not be confused with one another.
Appendix D

P
Derivation of H ¼  ωi logωi as the Measure of Information
i
Per Sample

On behalf of requirement (4.5),


 
F gA ¼ A  FðgÞ with g ¼ W 1

Let us consider g as a constant and A as a continuous variable. After differentia-


tion to A we obtain

dFðgA Þ dFðgA Þ d ðgA Þ dFðgA Þ A


¼  ¼  g  ln g ¼ FðgÞ
dA d ð gA Þ dA d ð gA Þ

It follows that

dFðgA Þ d ðgA Þ
ln g  ¼ A
Fð g Þ g

After insertion of FðgA Þ for A  FðgÞ we arrive at


    
A ln g  d ln F gA ¼ d ln gA ¼ dðA ln gÞ

and

   dðA ln gÞ
d ln F gA ¼ ¼ d lnðA ln gÞ
A ln g

This results in

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 243


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7, # Springer-Verlag Berlin Heidelberg 2013
244 Appendix D

    
ln F gA ¼ lnðA ln gÞ þ ln η and F gA ¼ Aη  ln g

Herein η is a constant independent of the variable A. Since FðgA Þ ¼ A  FðgÞ it


follows that FðgÞ ¼ η  ln g and hence that
 
F W 1 ¼ η  ln W 1

 The choice of the constant η is a matter of convenience. Recall we demanded


F W 1 ¼ η  ln W 1 to be proportional to Zdt ¼ k. Thus we will set η ¼ Zdt=ln 2 so
that
 
F W 1 ¼ Zdt  log W

This completes the proof of expression (4.6). □


Appendix E

Repeated Selection Without Replacement

We consider the statistical experiment of repeated drawings without replacement


from a number of k ¼ k1 þ k2 bitpulses of which k1 bitpulses are in state 1 and k2
bitpulses are in state 2 (note that in the main text k ¼ Zdt). k is the number of
bitpulses in state 0, i.e. the number of bitpulses that is either in state 1 or in state 2.
The experiment will be continued until all the k bitpulses have been selected. Our
task is to determine the state probability of the selected sequence. We shall denote
the ensemble of the bitpulses that are in state i by Z i ði ¼ 0, 1 or 2Þ. Z 1 and Z 2 are
mutually exclusive. The sets Zi satisfy the rules:

Z0 ¼ Z1 [ Z2 and Z1 \ Z2 ¼ 

in which  is the null set.


The determination of the selection probability of this experiment without
replacement is a standard piece of combinatorial analysis of probability theory.
So I could suffice here with stating the formula for the state probability Π and to
refer to textbooks on probability theory for its derivation. However, the details of
the derivation uncover the context and ins and outs of economic processes of
selection. Therefore I prefer to present here the individual steps of the argument
in full detail. Let us then carefully follow the steps by which the selection probabil-
ity is to be derived.
If a bitpulse drawn from Z0 happens to have the outcome of being in state 1, this
results—after selection—in the removal of one bitpulse from the number of
bitpulses in the current population of Z 1 that will reside in state 1. This implies
also that one bitpulse is removed from the current population of Z0 since Z1 is a
subset of Z0 . On the other hand, if the bitpulse that is drawn happens to have the
outcome of residing in state 2, that will result in the simultaneous removal of one
bitpulse from the current population of Z2, which happen to reside in state 2, and one
bitpulse of the number of bitpulses from the current population of Z 0 .

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 245


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7, # Springer-Verlag Berlin Heidelberg 2013
246 Appendix E

Let us first sum up the various variables and elementary events that we shall need
for the derivation of the probabilities of the sequences that may be formed as
outcomes of the selection process:
• k1 ¼ The number of bitpulses of Z 0 in state 1.
• k2 ¼ The number of bitpulses of Z 0 in state 2.
• k ¼ The total number k ¼ k1 þ k2 of bitpulses in state 0.
• Λi  The event that the selected bitpulse is in state 1 on the i-th draw.
• Γ i  The event that the selected bitpulse is in state 2 on the i-th draw.
• u  The number of bitpulses in state 1 that have been drawn.
Let us start the experiment by drawing the first bitpulse of Z 0 . The probability
ProbfΛ1 g that the first bitpulse being drawn is in state 1 is

k1
ProbfΛ1 g ¼
k

and the probability ProbfΓ1 g that the first bitpulse being drawn is in state 2 is

k2 k1
ProbfΓ 1 g ¼ ¼1
k k

The interpretation is crucial here. When the first bitpulse is drawn, all of the k
bitpulses that are currently present in the population are engaged in the selection of
this bitpulse. In a world of many uncertainties this engagement is properly
expressed in the two expressions above for ProbfΛ1 g and ProbfΓ 1 g.
Next we consider the probability ProbfΛ1 \ Λ2 g that the first two bitpulses are
selected in state 1.1 This requires the second draw to be performed conditional to
the event that a bitpulse in state 1 was selected with the first draw. That is,

ProbfΛ1 \ Λ2 g ¼ ProbfΛ1 g  ProbfΛ2 j Λ1 g

The calculation of the conditional probability ProbfΛ2 j Λ1 g in the right side of


this expression demands that the removal of a bitpulse in state 1 should be taken
into account. This yields

k1  1 k1 k1  1
ProbfΛ2 j Λ1 g ¼ and ProbfΛ1 \ Λ2 g ¼ 
k1 k k1

The interpretation is again crucial here. Since one of the bitpulses in state 1 has
been taken into account as having been selected on the first draw, it is removed from

1
Mark that ProbfΛ1 \ Λ2 g is the elementary probability that both the event Λ1 and the event Λ2
occur.
Appendix E 247

the current population and does not play a role anymore in the selection of a bitpulse
on the second trial and on successive draws thereafter.
In this manner we may proceed with the consecutive selection of bitpulses in
state 1 on the third, fourth etc. trial.
In the end we arrive at the probability ProbfΛ1 \ Λ2 \ Λ3 \ . . . \ Λu g of u
¼ k1 consecutive draws of bitpulses in state 1:

k1 ðk1  1Þðk1  2Þ . . . . . 3  2  1
ProbfΛ1 \ Λ2 \ Λ3 \ . . . \ Λu g ¼
kðk  1Þðk  2Þ . . . . . ðk2 þ 1Þ
k1 ! k2 !
¼ (D.1)
k!

Each time a bitpulse in state 1 is selected and taken into account, the number of
the remaining bitpulses in state 1 reduces by one and the probabilities of forthcom-
ing selections must be adjusted accordingly because, since the moment a bitpulse is
selected, it does not contribute to the forthcoming selection of bitpulses anymore.
After all u ¼ k1 draws of bitpulses in state 1 have been executed, all the k2
bitpulses in state 2 form the remainder population of Z 0 . From then on, the
continuation of the selection process has no secrets anymore.
Each time we select a bitpulse, we know it will be in state 2, i.e. it will be
selected with probability 1.
Hence, (D.1) gives the complete expression for Π ¼ ProbfΛ1 \ Λ2 \ Λ3 \ . . .
\Λu g:

k1 ! k2 !
Π¼
k!
Appendix F

The Role of Statistical Dependence in Evolution

We shall here discuss the crucial role of statistical dependence in evolution and its
relationship with the overlapping of input and output. To this end we shall prove
that both the transmission H ðX0 \ Y 0 Þ will vanish relative if the elementary events
of input and output are statistically independent. This implies that the overlapping
of input and output will vanish if there is statistical independence, but that
overlapping will be more the more statistical dependence between the events of
input and output there is. Moreover we will see that the complete absence of
overlapping, with H ðX0 \ Y 0 Þ ¼ 0, is the point where evolution begins or ends. It
need not imply that selection is totally absent at that turning point of evolution so
that always evolutionary development can return as a result of random processes of
selection. However if the transmission H ðX0 \ Y 0 Þ vanishes relative to input HðX0 Þ
and output HðY 0 Þ such that

k  H ðX 0 \ Y 0 Þ
lim ¼ 0 with k representing the number of samples
k!1 log k

selection reduces to a determinist choice between only one single state and so
ultimately rules out selection to occur at all because we need at least two states to
select between. We are then leaving the free world of random occurrences to
replace it by a determinist world view.
For good order’s sake note that we are here concerned with the interaction
between the events of entropy origination in dSþ 0 , which are the output events,
and with the events of entropy annihilation in dS 0 , which are the input events.
Thus we are not considering the output events of dSþ0 relative to the inflow events of
dS dSþ . Neither do we consider the input events of dS relative to the outflow
0 0   0
events of dSþ dS .
0 0

L.H. Wallast, Evolvodynamics - The Mathematical Theory of Economic Evolution, 249


Lecture Notes in Economics and Mathematical Systems 665,
DOI 10.1007/978-3-642-34056-7, # Springer-Verlag Berlin Heidelberg 2013
250 Appendix F

To demonstrate the above assertions with respect to the input and output events
we must take full account of the asymptotic bias error in (1.1) and (2.7). These
Shannon equations are based on expression (4.4), which is the first order asymptotic
approximation of (4.4) for k ¼ Zdt ! 1. However a more accurate second order
asymptotic approximation of (4.3) takes also in account the terms that are propor-
tional to log k in (4.3), so acknowledging that also log k is tending to 1. This implies
that the Shannon equations (1.1) and (2.7) should be replaced by
X
k  H ðX0 Þ ¼ k  λi log λi  12ðN  1Þ  log k (F.1)
i

X
k  H ðY 0 Þ ¼ k  μj log μi  12ðN  1Þ  log k (F.2)
j

X  
k  H ðX0 [ Y 0 Þ ¼ k  qij  log qij  12 N 2  1  log k (F.3)