THE ECONOMY AS AN EVOLVING COMPLEX SYSTEM II THE ECONOMY AS AN EVOLVING COMPLEX SYSTEM II Editors W Brian Arthur Santa Fe Institute Santa Fe, New Mexico Steven N Durlauf Department of Economics University of Wisconsin at Madison Santa Fe Institute Santa Fe, New Mexico David A Lane University of Modena Italy Proceedings Volume XXVII Santa Fe Institute Studies in the Sciences of Complexity Advanced Book Program CRC Press Taylor & Francis Group Boca Raton London New York CRC Press is an imprint of the Taylor & Francis Group, an informa business A CHAPMAN & HALL BOOK Director of Publications, Santa Fe Institute: Ronda K Butler-Villa Production Manager, Santa Fe Institute: Della L Ulibarri Publication Assistant, Santa Fe Institute: Marylee Thomson First published 1997 by Westview Press Published 2018 by CRC Press Taylor & Francis Group 6000 Broken Sound Parkway NW, Suite 300 Boca Raton, FL 33487-2742 CRC Press is an imprint of the Taylor & Francis Group, an informs business Copyright © 1997 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(SFI) is a private, independent, multidisciplinary research and education center, founded in 1984 Since its founding, SFI has devoted itself to creating a new kind of scientific research community, pursuing emerging science Operating as a small, visiting institution, SFI seeks to catalyze new collaborative, multidisciplinary projects that break down the barriers between the traditional disciplines, to spread its ideas and methodologies to other individuals, and to encourage the practical applications of its results All titles from the Santa Fe Institute Studies in the Sciences of Complexity series will carry this imprint which is based on a Mimbres pottery design (circa A.D 950-1150), drawn by Betsy Jones The design was selected because the radiating feathers are evocative of the outreach of the Santa Fe Institute Program to many disciplines and institutions Santa Fe Institute Series List Lecture Notes Volumes in the Santa Fe Institute Studies in the Sciences of Complexity Volume I: John Hertz, Anders Krogh, Richard G Palmer, editors: Introduction to the Theory of Neural Networks Volume II: Gerard Weisbuch: Complex Systems Dynamics Volume III: Wilfred Stein and Francisco J Varela, editors: Thinking About Biology Volume IV: Joshua M Epstein: Nonlinear Dynamics, Mathematical Biology, and Social Science Volume V: H.F Nijhout, Lynn Nadel, and Daniel L Stein, editors: Pattern Formation in the Physical and Biological Sciences Proceedings Volumes in the Santa Fe Institute Studies in the Sciences of Complexity Volume I: David Pines, editor: Emerging Synthesis in Science Volume II: Alan S Perelson, editor: Theoretical Immunology, Part One Volume III: Alan S Perelson, editor: Theoretical Immunology, Part Two Volume IV: Gary D Doolen, senior editor: Lattice Gas Methods for Partial Differential Equations Volume V: Philip W Anderson, Kenneth J Arrow, and David Pines, editors: The Economy as an Evolving Complex System Volume VI: Christopher G Langton, editor: Artificial Life Volume VII: George I Bell and Thomas G Marr, editors: Computers and DNA Volume VIII: Wojciech H Zurek, editor: Complexity, Entropy, and the Physics of Information Volume IX: Alan S Perelson and Stuart A Kauffman, editors: Molecular Evolution on Rugged Landscapes: Proteins, RNA, and the Immune System Volume X: Christopher G Langton, Charles Taylor, J Doync Farmer and Steen Rasmussen, editors: Artificial Life II Volume XI: John A Hawkins and Murray Gell-Mann, editors: The Evolution of Human Languages Volume XII: Martin Casdagli and Stephen Eubank, editors: Nonlinear Modeling and Forecasting Volume XIII: Jay E Mittenthal and Arthur B Baskin, editors: The Principles of Organizations in Organisms Volume XIV: Daniel Friedman and John Rust, editors: The Double Auction Market: Institutions, Theories, and Evidence Volume XV: Andreas S Weigend and Neil A Gershenfeld, editors: Time Series Prediction: Forecasting the Future and Understanding the Past Volume XVI: George J Gummerman and Murray Gell-Mann, editors: Understanding Complexity in the Prehistoric Southwest Volume XVII: Christopher G Langton, editor: Artificial Life III Volume XVIII: Gregory Kramer, editor: Auditory Display: Sonification, Audification, and Auditory Interfaces Volume XIX: George A Cowan, David Pines, and David Meltzer, editors: Complexity: Metaphors, Models, and Reality Volume XX: David Wolpert, editor: The Mathematics of Generalization Volume XXI: P.E Cladis and P Palffy-Muhoray, editors: Spatio-Temporal Patterns in Nonequilibrium Complex Systems Volume XXII: Harold J Morowitz and Jerome L Singer, editors: The Mind, the Brain, and Complex Adaptive Systems Volume XXIII: Bela Julesz and Ilona Kovacs, editors: Maturational Windows and Adult Cortical Plasticity Volume XXIV: Joseph A Tainter and Bonnie Bagley Tainter, editors: Evolving Complexity and Environmental Risk in the Prehistoric Southwest Volume XXV: John B Rundle, Donald L Turcottc, and William Klein, editors: Reduction and Predictability of Natural Disasters Volume XXVI: Richard K Belew and Melanie Mitchell, editors: Adaptive Individuals in Evolving Populations Volume XXVII: W Brian Arthur, Steven N Durlauf, and David A Lane, editors: The Economy as an Evolving Complex System II Volume XXVIII: Gerald Myers, editor: Viral Regulatory Structures and Their Degeneracy Santa Fe Institute Editorial Board December 1996 Ronda K Butler-Villa, Chair Director of Publications, Santa Fe Institute Prof W Brian Arthur Citibank Professor, Santa Fe Institute Dr David K Campbell Chair, Department of Physics, University of Illinois Dr George A Cowan Visiting Scientist, Santa Fe Institute and Senior Fellow Emeritus, Los Alamos National Laboratory Prof Marcus W Feldman Director, Institute for Population & Resource Studies, Stanford University Prof Murray Gell-Mann Division of Physics & Astronomy, California Institute of Technology Dr Ellen Goldberg President, Santa Fe Institute Prof George J Gumerman Center for Archaeological Investigations, Southern Illinois University Prof John H Holland Department of Psychology, University of Michigan Dr Erica Jen Vice President for Academic Affairs, Santa Fe Institute Dr Stuart A Kauffman Professor, Santa Fe Institute Dr Edward A Knapp Visiting Scientist, Santa Fe Institute Prof Harold Morowitz Robinson Professor, George Mason University Dr Alan S Perelson Theoretical Division, Los Alamos National Laboratory Prof David Pines Department of Physics, University of Illinois Dr L Mike Simmons 700 New Hampshire Avenue, NW, Apartment 616, Washington DC 20037 Dr Charles F Stevens Molecular Neurobiology, The Salk Institute Prof Harry L Swinney Department of Physics, University of Texas 569 Index B backward linkages, 247 balloon mortgages, 288 bankruptcy, 271-272, 276-280 role of, 277 bargaining strength, 230-231, 233 evolution of, 230-231 base-multiplier model, 243, 245-246 basic population model, 428 described, 428-435 BDS test, 388, 391 beliefs formation, 416 structures, 230 evolution of, 231 systems, 225, 229-230, 232, 234, 236, 406-407, 418 building, 410 evolution of, 225, 229-230 evolving, 232, 234 bid/ask effect, 393, 396 bid/ask spreads, 393, 396 bifurcations, 246, 248 bilateral interactions, 86, 97 communication, 149 links, 149 matching, 155 trades, 146, 159 billiard ball model, 449 binary choice, 83, 100 binary decisions, 83-84 binary response models, 377 birth-death formalism, 433 birth-death processes, 269, 429-430, 450 reversible, 430 Blume, L E., 9, 12 bootstrap-based method, 398 verification of conditions in, 398 bootstrapping, 385, 387, 390-391, 395-398 borrowing, 275-277 bounded rationality, 45-46, 49, 78, 333 models, 46-47 Boylan, R T., 154 Bray, M M., 49-51, 54 Brock-Durlauf model, 98, 100 Brock, W A., 2, Brownian motion models, 399 buyer-seller markets, 538, 552-555, 558 buyer-seller matching, 541 C capital asset pricing model (CAPM), 404 cellular automaton (CA) model, 342-343, 345, 351, 354, 362 central limit theorem, 405 centralized setting, 156, 159 centrifugal forces, 247, 252 centripetal forces, 247, 252 chaos, 2, 389-390, 410 edge of, 48 chaotic dynamics, 331 circular interaction, 140, 142, 155 models, 143, 156 patterns, 160 circular settings, 156 vs centralized settings, 156 equilibrium in, 157 circular topology, 143 circular trade, 143 patterns, 155 structures, 150 cities distribution of, 256 formation process, 255 interaction among, 151-152 clear foresight horizon, 171, 190 defined, 173 coalition structures, 521 coevolutionary systems, 338 cognition, 7, 9, 12 cognitive ambiguity, 174 cognitive foundations, cognitive theory, coherent price system, 333 collateral, 286, 294-297, 299, 303, 308-309 absence of, 299 complexity of, 295 levels of, 315 570 The Economy as an Evolving Complex System II collateral equilibrium, 305, 310, 313 collateral levels, 317 collateral model, 300 collateralized mortgage obligation (CMO), 286, 288-291, 295 history of, 289-291 market, 286 promises, 289 tranches, 289, 291 collective behavior, 77 collective interdependence, 82 collective learning, 235 collective order emergence of, 200 commodity markets, 297 common knowledge, 5, 109 assumptions, 109 communication, 149, 493, 514-515, 537, 561 between industries, 149 bilateral, 149 one way, 514 pattern of, 524 structure, 492 centralized, 492 communication network, 491, 493, 513, 515-516, 520 evolving, 491 random, 515 communication classes, 430-434 compatible interaction, 201 competition, 207, 226, 229-230, 235, 252 competitive equilibrium, 492 competitive markets, 199 analysis of, 370 competitive reproduction, 215 complete graph topology, 143 complete markets economies, 301 complete markets economy, 302 complete markets equilibrium, 300 complete pairwise interactions, 140-141 complex adaptive systems, 408, 534 complex dynamics, 246-247, 416, 418 complex environment, 331-332 complex foresight horizons, 170-171, 174, 182, 185-188 defined, 173 recognition of, 187 complex foresight horizons (continued) strategy in, 187-190, 193, 197 structural change, 188, 190 complex patterns, 29, 36 of interaction, 155 complex regime, 28-29, 31-33, 35, 38, 40 kurtosis in, 31 robustness, 35 technical trading in, 29, 31-32 complex systems, 386 methods, 402 complex systems techniques, 402 complex systems theory, 386, 388 complex trading arrangements, 151 complexity, 331, 389, 410, 416 complexity approach, description of, 3-4 complexity perspective, 2-3, 5, contributions of, complicated foresight horizon, 171 defined, 173 computational modeling, 461-463, 485-486 computational models, 464-465, 469, 477, 482, 484-485 advantages, 485 Tiebout, 484 computational theory, 462 vs mathematical theory, 462 conformity, 85, 87, 90 effects, 88 constant absolute risk aversion (CARA), 23 constant relative risk aversion, 41 contemporaneous interactions, 90-91 contextual interaction, 371-374, 381 convergence, 47, 62, 74, 207-208, 469, 520 cooperation, 344, 349-351, 354, 361, 510 cooperative behavior, 349, 361, 362 , 509, 560 cooperative games, 46 vs competitive games, 75 cooperative strategies, 342, 345, 359 coordinated regime, 76-77 coordination, 54 failure, 454 global, 63 problems, 53 571 Index coordination games, 54, 62, 64 ,427, 432, 435, 440-442, 449, 458 two-by-two, 440, 443-444, 447-448, 450, 519 correlated effects, 138, 371, 381 defined, 138 correlation integral, 394 court system, 295, 297, 299, 301 Curie-Weiss model, 87, 143, 414 applications, 415 cyclical behavior, 286, 318 cyclical economy, 273-274, 276 D Darley, V M., 6-8 Darwinian selection, 495 Debreu-Mantel-Mas Colell-Sonnenschein Theorem, 426 decentralized market economies, 533, 561 individual-level, 105 decision-making, 82 collective interdependence in, 82 deductive reasoning, 19-20 deep nonlinearities, 388 deep nonlinearity, 386 default, 294-297, 299-300, 303, 315 penalties, 308 with collateral, 301 deferred choice and refusal (DCR) matching mechanism, 541, 547, 553-555, 557-559 degrees of freedom, 235-236 directional, 69, 71 dependence patterns of, 132, 156 spatial, 131 detailed balance condition, 430, 433 439-440 deterministic chaos, 389 deterministic population models, 443 detrending, 387 direct interaction, 82, 441, 497 linkages, 137 discontinuous change, 240, 243, 246 discrete choice, 54, 84, 90, 94-95, 410 literature, 405 model, 139, 141-142, 405, 407 modeling, 406 perspective, 96 dispersed interaction, defined, distribution of wealth, 565-566 Durlauf, S N., 2, 7, 10, 134, 137, 149-150 dynamic equilibrium model, 145 dynamic landscape, 248, 250 dynamic models, 158, 491, 493-494 of local interaction, 516-517 dynamic programming, 450 dynamic system, 251 shocks to, 433 dynamical attractors, 68 dynamical systems, approach, theory, 386-387 dynamics of interaction, 160 of pricing decisions, 153 E econometric models, 387 economic geography, 151, 240, 243, 245-246, 249, 255, 257-258 models of, 249 economic growth, 224-225, 227 primary source of, 224 process of, 224 economic hypercycle, 200 economic theory, 9, 200 dynamic constraints on, 200 urban, 151-152 economies of scale, 243, 247, 255 eductive game theory, 433 efficient markets, 232, 234 creation of, 232 hypothesis, 385, 395 political growth of, 232-233 theory, 16-18, 29 572 The Economy as an Evolving Complex System II Ellison-Fudenberg model, 118 emergence, 27, 203, 214 of collective order, 200 of cooperation, 537 emergent behavior, 240 emergent structure, 6, 174 relationships in, 174, 178-180 endogenous assets, 303 endogenous communication graph, 521 endogenous effects, 137 defined, 138 endogenous expectations approach, 19 market, 18, 27, 38 behavior of, 27 computational experiments, 27 model, 36 theory, 37 endogenous interactions, 371-373, 375, 379, 381, 383, 536-537 endogenous interactions models pure, 374, 381 endogenous neighborhood models, 98-100 endogenous preferences, 89-90 endogenous utilities, 158 England early economic development, 229-232 Engle GARCH Test, 33 equilibrium, 3, 51, 64, 156, 208, 211, 264, 281, 303, 374, 494-496, 502, 507-508, 513, 518, 520 ,524 approach, assetless, 301 behavior, 203, 301, 426 in circular settings, 157 clusters, 213 with default, 303 economics, 264 emergence, 436 defined, 436 interactions, 155, 158 model of, 155 metastable, 62, 64 multiplicity properties, 159-160 punctuated, 64-65, 77, 240 selection, 436 defined, 436 theorems, 444 equilibrium (continuted) self-sustaining, 254 stability properties, 159-160 stable, 208 static, 59, 63-65, 68-69, 71, 499 equivalent deterministic system, 506 error-correcting mechanism, 358 error-correcting pattern, 359 error-correcting strategy, 337, 341, 354 evolution of, 341 Europe early economic development, 230-231, 233 evolution, 263, 338, 538-539, 543 of choice, 429 dynamic, 493 in games, 508-511 of trade behavior, 539, 561 of trading structures, 160 evolutionarily stable strategy (ESS), 341 361, 511 evolutionary economic models, 491 evolutionary economics, 264 evolutionary economies, 534-535 evolutionary game theory, 45, 407, 413 426-427, 433, 458, 495, 535-536 evolutionary games, 46, 535 evolutionary learning process, 47 evolutionary models, 339-340, 362, 491 Evstigneev, I V., 144-145 exchange economy model, 278 exogenous (contextual) effects, 138 defined, 138 exogenous perturbations, 78 expectational models, 21-22, 24, 26, 37 advantages of, 26 architecture of, 39-40 design of, 27-28 experiments, 28-29, 32-33 expectational-learning mechanism, 35 expectations, 15, 17, 19, 21, 37, 85-87, 91-92, 281 adaptiveness of, 22 adjustment of, 17 common, 87 derivation of, 17 evolution of, 17 formation of, 19-21, 23-24, 37 573 Index expectations (continued) heterogeneous, 18 modeling, 24 prediction of others', 19-21, 37 rational, 16-17 shared, 20 expectations generation mechanism, 437 extreme-value distribution, 140, 142 F Fair strategy, 354, 356, 359, 361-363 defined, 354 mutations in, 361 states of, 354, 356 feedback, 60, 77, 106, 118, 132, 145 185-186, 331, 496-497, 503 constructive positive, 185-186 negative, 186 feedback effects, 118, 340 fiat money, 269-271, 275, 277, 499 defined, 270 financial institutions, 264, 279 role of, 264, 278-279, 281 safeguards, 279-280 theory of, 264 financial markets, 16, 19, 29, 31, 33, 37-38 price volatility in, 33 trading volume in, 33 finite automata strategies, 354-356, 358-359, 361, 363 finite horizon model, 271-273, 276 extensions of, 271 finite memory strategy, 339, 341-342, 345 347, 356, 358, 361, 363, 511 deterministic, 345 finite state machine (FSM), 543, 553 fitness, 39 fitness function, 338 fitness measure, 406 fitness scores, 538 fix-price behavior, 332 fix-prices, 326-328 fixed effects model, 476 flex-prices, 326-327 Follmer, H., 89-91, 500-502, 504, 512-513 Follmer model, 89-91 forecasting, 449 foreign exchange, 391 foresight horizons, 170-175, 182, 186, 190, 197 clear, 171, 190 defined, 173 complex, 170-171, 182, 185-191, 193, 197 defined, 173 complicated, 171, 190 defined, 173 examples of, 171-172 recognition of kinds, 186 uncertainty in, 172 forward linkages, 247 forward-planning horizons, 48, 76 Fourier series, 250 Fujita approach, 254-255 Fujita-type models, 254 Fujita, M., 254 G Gale-Shapely deferred acceptance mechanism, 541 See also deferred choice and phantomMMrefusal mechanism game theory, 5, 264, 426, 464, 509 models, 464, 491, 493 See also evolutionary game theory GARCH, 396, 401 behavior, 33, 38 signature ,19 test, Engle, 33 -type models, 388 Garreau, J., 244 Geanakoplos-Zame-Dubey, 304 Geanakoplos, J., 12 GEI economy, 301 GEI equilibrium, 301-303, 308 GEI model, 302-303, 309 general equilibrium, 246, 274, 303, 305 analysis, 5, 264 with incomplete markets, 302-303 model, 246, 268, 322, 497 theory, 280-281, 306, 425, 426 574 The Economy as an Evolving Complex System II general graph topology, 143 Generalized Autoregressive Conditional Heteroscedastic See GARCH generative relationships, 179, 184-186, 188 defined, 171 examples, 180 genetic algorithm (GA), 24-25, 33, 36, 39-40, 338, 341, 386, 466-467, 511, 535 553 involving elitism operations, 543 involving mutation, 543 involving recombination, 543 geograhical structure, 514 Gibbs measure, 86, 137, 139 Gibbs state, 135, 137, 158 global interaction, 47, 86, 95, 101, 491, 493 502, 512 examples of, 503 models, 91-92, 427, 441, 448, 495, 502-503 global interdependence model, 499-501 global phase, 500-501 government behavior, 266 modeling of, 265 role of, 234-235, 267, 301, 305 See also political organizations growth cumulative proccess of, 244, 254 models, 264 self-reinforcing, 239 theory, 223-224 See also economic growth H Hamiltonian, 147, 159 herd behavior, 502-503 herd effects, 16, 38 herding, 37 heterogeneity, 58, 60 behavioral, 60 degree of, 483-484 local, 58 in systems, 66 heterogeneous expectations, 18 heterogeneous expectations models, 418 heterogeneous price expectations, 20 Hicksian aggregation theorem, 326 Hicks, John, 326 high inflation, 322-328, 331, 333 defined, 322 hill-climbing, 466-467 historical influence, 64 See also memory hoarding, 274-278 vs depositing, 274-276 vs spending, 274 Holland, J H., 6-7, 409-410 homogeneous rational expectations, 29 Hopf bifurcation, 410-412 hypercycles complexity in, 213-214 model, 208 nonspatial, 207-209, 214-215 odd-numbered, 213 simple, 204, 208 spatial, 202, 208-209, 214-215 vs nonspatial, 208 technology, 201-202, 208-209 theory, 200 three-element, 209-211, 213 two-element, 204, 209-210 hyperinflation, 323, 328-330 in Argentina, 328-330 I identification, 369, 371, 373 nonparametric, 377-381 impersonal exchange, 232, 234 defined, 232 impulse response analysis, 395 nonlinear, 395 incentives, 224, 227 importance of, 224 productive, 227 redistributive, 227 structure, 224, 226 increasing returns, 246 index fund paradox, 416-417 Index inductive reasoning, 19, 21-23, 29, 33, 37 by agents, 19 defined, 22 industrial agglomerations, 257 inference, 370, 375, 377-378, 382 inferential problem, 373 inferential problems, 369 infinite horizon model, 276-277 infinite-horizon optimization models, 330 infinitely iterated PD, 355 inflation tax, 322-323, 331 information contagion model, 106-109, 111-112, 115, 118-120, 122 information inversion in, 112-113 rational agents in, 108-109 summary of results, 106 information inversion, 111, 113, 116, 118 information inversions, 112 institutional adaptation, 229 institutional change, 225-226 propositions for, 225-227 institutional structure, 5, 224, 227-228 institutions, 11 definitions, 11-12, 225 structure of, 225 interacting industries model, 93-94 interacting systems models, 400, 416 interactions, 77, 109, 129, 140, 145, 157, 202-203, 207-209, 226, 245, 338-339, 496, 501, 507, 509, 513-514, 524 among cities, 151-152 anisotropic topology of, 133 anonymous endogenous, 370 between individuals, 339 bilateral, 86, 97 circular, 142, 155 circular patterns of, 129, 160 compatible, 201, 203 complete pairwise, 140-141 contemporaneous, 90-91 costs of, 149, 158 cyclical patterns of, 132 direct, 82, 491-492, 497 dynamics of, 129, 160 effects, 138 environments, 83-84, 87, 95-96, 99 Brock-Durlauf model in, 098 conformity in, 86 575 interactions, environments (continued) noncooperative, 87 intertemporal, 92, 95-96 limiting, 351, 515, 520 modeling of, 136 models, 130, 340, 342, 375, 427, 449, 451, 458 mutual, 59, 78 nonadditive effects of, 155 nonspatial, 204 patterns of, 133-134, 154-155, 157, 177, 184, 200 recurrent, 184 processes, 6, 378 random, 97, 99 self-organizing, 203-204 short-range, 241 social, 203, 216 socioeconomic, 99 spatial, 204 successful, 203 technology, 454 topology of, 129, 131, 157-158, 160 transmission of, 379 Walrasian, 129, 140-142 See also global interaction; local interaction interactive choice model, 159 interactive choice probabilities, 158 interactive discrete choice model, 138, 157 dynamics of, 158 interactive discrete choice system, 141-142 evolving networks of, 159 patterns of, 145 interdependence, 90, 94, 500-501 collective, 82 interest rates, 267, 269, 273-279 endogenous, 277, 280 exogenous, 277, 280 intertemporal interactions, 92, 95-96 intertemporal markets, 331 disappearance of, 330, 333 invisible hand phenomena, 457-458 defined, 457 modeling of, 458 Ioannides, Y M., 6, 10 Ising model, 89, 93 576 The Economy as an Evolving Complex System II iterated Prisoner's Dilemma (IPD) game, 75, 337-338, 341-342, 344-345, 348, 354-355, 536, 554 extended to choose/refuse (IPD/CR), 536, 552, 554 with mistakes, 354 J joint reproduction, 201-204, 207, 209-210 213 Jovanovic, B., 155-156 K Kauffman, S A., 6-8, 141, 150, 159 Keynes, J M., 455 Keynesian coordination failure, 454-455 kin selection, 351, 362 Kirman, A P., 6, 10, 146, 148 KMR model, 435-438, 443-444, 446, 450-451 birth-death version, 436 Kollman, K., 6, 11, 13 Kolmogorov's condition, 439 Kovalenko, I N., 148 Krugman, P., 2, 6, 10, 151 L lagged volatility, 391 lagged volume, 391 lags, 393-394, 410-411 landscape slope, 469, 471-472 Lane, D., 2, 6, 9-10 large type limit (LTL), 408-409, 411-412 large-scale structure, 241, 243 lattice game, 441 lattice models, 359, 362 lattice structure, 512-513 learning, 5, 9, 24-26, 35, 37, 50, 66, 107, 119, 202-204, 207-210, 226, 263, 331, learning (contined) 405-406, 414, 491, 494-496, 499, 508, 511, 512, 520-521, 523 altruistic, 202, 204, 208-210 vs selfish, 204 collective, 235 by discovery, 24 effects of, 106 flexibility of, 215 modes of, 208 nonlocal, 227 past, 208-209, 215 selfish, 202, 204, 207-209 social, 106, 109 learning dynamics, 414 learning organization, 170 learning process, 25 LeBaron, B., 6-7 Leijonhufvud, A., 2, 7-8, 11 lending, 275-276 secured, 278-279 unsecured, 279 limit behavior, 518 limit distribution, 520 Lindgren, K., 6, 10 linear-in-means model, 371-372 linear-in means model, 375 linear-in-means model, 376, 381 extension of, 376 linkages, 246-247, 252, 254-255 range of, 252 local interactions, 46-47, 53-54, 56, 69, 77, 89-91, 95, 241, 342, 371, 491, 493, 502, 511-514, 516-517, 519-520, 534 models, 91, 427, 429, 435, 441, 448, 496 technological, 92 log-linear choice model, 447 log-linear choice rule, 429, 456 log-linear model, 446, 448 low-dimensional chaos, 389 low-dimensional deterministic chaos, 390 M macroeconomics, 321 analysis, 265 Index macroeconomics ( continued) time series, 395 Mandelbrot, 398-400 Manski, C F., 11 market behavior, 18-19 characteristic learning, 28 market clearing, 492 market psychology, 16, 19, 22, 28, 36, 38 market signals, 498 nature of, 498 precison, 400 markets inductively rational, 37 self-organizing, 18, 36 market-share allocation process, 106-108, 111, 114, 116, 121 agents' modeling of, 108 aggregate-level, 105 path dependence in, 114-115, 121 market-share distributions, 114-115 types of, 115 Markov random fields, 132, 134-137, 512 approach, 517 model, 133, 136-137 theory, 133 matching, 154 bilateral, 155 multilateral, 155 model, 154 random, 154, 157 Matsuhama, K., 452-453 Mattis model, 97-98 Max rule, 120-122, 124 defined, 120-121 Maxfield, R., 6, mean-field analysis, 75, 77 approach, 523 approximation, 69 assumption, 70 effect, 158 model, 77, 342-344, 348, 358, 362 theory, 137, 140 memory, 215, 331, 347, 350-352, 407, 413, 437, 511 length of, 348, 350-352, 511 long, 398 short, 398 577 memory (continued) tests for, 398 methodological individualism, 425 microeconomic theory, 264 Miller, J H., 6, 11, 13 mistakes, 342, 345, 348, 350, 355, 361 defined, 361 models, 429, 446-447 vs misunderstandings, 361 misunderstandings, 361 models of adaptive belief systems, 402 anisotropic, 146, 148 arbitrage pricing (APT), 19, 404 Arrow-Debreu, 130, 143-145, 264, 497 Arrow-Debreu-Evstigneev, 144 asset market, 23 autoregressive, 377 base-multiplier, 243, 245-246 billiard ball, 449 binary response, 377 boundedly rationality, 46-47 Brock-Durlauf, 98, 100 Brownian Motion, 399 capital asset pricing, 404 cellular automaton (CA), 342-343, 345, 351, 354, 362 circular interaction, 143, 156 collateral, 300 Curie-Weiss, 87, 143, 414 discrete choice, 139, 141-142, 400, 405, 407 dynamic equilibrium, 145 dynamic, 158, 491, 493-494, 516-517 Ellison-Fudenberg, 118 endogenous neighborhood, 98-100 equilibrium, 498 evolutionary, 338-340, 491 exchange economy, 278 expectational, 21-22, 24 ,26 fixed effects, 476 Follmer, 89-91 Fujita-type, 254 GARCH-type, 388 GEI, 301-303, 309 general equilibrium, 246, 268, 322, 497 global interaction, 91-92, 427, 441, 448, 495, 502-503 578 The Economy as an Evolving Complex System II models (continued) growth, 264 infinite horizon, 276-277 information contagion, 106-108 of interacting industries, 93-94 interaction, 130, 340, 342, 375, 449, 451, 458 interactive discrete choice, 138, 157 Ising, 89, 93 KMR, 435-438, 443 444, 446, 450-451 local interaction, 427, 429, 435, 441, 448, 496 market participation, 157 Markov random fields, 133, 136-137 matching, 154 Mattis, 97-98 mistakes, 429, 446-447 nearest neighbor, 204 null, 396-398 overlapping generations, 265-266 political parties, 478, 482 population, 428, 442 predictive, 21-22, 46, 55-58, 68, 75, 396 process, 264, 268, 280-281 punctuated equilibrium, 228 racetrack, 248-250, 254, 258 random graph, 145, 148 random matching, 496-497 rational choice, 464-465 rational expectations, 49, 419 segregation, 241 selection, 435, 437, 444 skill-centered, 201 social learning, 109, 118-119 spatial differentiation, 159 spatial voting, 462, 465, 469, 477 statistical mechanics, 84, 86, 100-101, 415 Stayskaya-Shapiro, 94 Tiebout, 464-465, 477, 479, 481-482, 484 uniform matching, 523 Vector AutoRegressive, 390 volatility, 396 voter, 451 Walrasian trading, 156 modeling government, 265 modeling (continued) noise, 448 adaptive/nonoptimizing behavior, 465 decentralized market economies, 536 modeling principles invariant properies, 268-269 laws of conservation, 267 list of, 267-269 process models, 267, 268 role of symmetry, 268 monetary general equilibrium theory, 324 money theory of, 264, 268, 280 Monte Carlo, 398 mortgages, 288 multiagent systems, 536 multimedia firms, 174 agent/artifact space in, 174 See also ROLM multiskilled individuals, 211, 213-215 mutations, 342-343, 467 types of, 347, 356 N Narduzzo, A., 120-121 Nash equilibrium, 46, 49, 54, 59, 77, 137, 140-142, 157-158, 269, 337, 344, 426-428, 430-431, 435, 439, 455, 493, 508, 510 analysis, 140 strict, 431-432 natural rationality, 49, 77-78 natural selection, 340, 351 neighborhood structure, 513, 521, 524 defining, 513 neoclassical economics, 3, 224, 228, 236 theory, 5, 199 Netherlands early economic development, 229-232 network structure, 5, 11 neural nets, 386 no global controller, noise, 72, 74, 78, 119, 341-343, 347, 361, 427, 429, 446-449, 464, 520 absence of, 78 Index noise (continued) random, 74 traders, 17, 32, 38 defined, 17 theories, 17 nonlinearity, 390 tests for, 399 nonparametric identification, 377-381 nonparametric inference, 379, 381, 383 nonspatial reproduction schemes, 205 nonstationarity, 390 nonstochastic economies, 277 nonsynchronous trading, 393 effects of, 393 North, D C., 2, 8, 11 Nozick, R., 457 odd-numbered hypercycles, 213-214 optimal complexity, 47-48 organizations, 225-227 out-of-equilibrium dynamics, defined, overlapping generations (OLG) games, 265 269 overlapping generations model, 265-266 P Padgett, J F., 9-10 Page, S., 6, 11, 13 Palmer, R., 6-7 path dependence, 114, 228-229, 233, 235, 240, 245 patterns, complex, 29, 33, 35 of interaction, 129, 134, 154, 157, 177 of interconnection, 145 of ownership, 156 of trading links, 144 PBX industry, 175 product design, 176-177 transformation, 184-185 579 PBX industry (continued) structural changes in, 176, 181-182 perceptions, 227-229 perpetual novelty, 4, 6, 13 defined, perturbations, 65-66, 72, 445, 510 exogenous, 65 external, 65 random, 427, 432 stochastic, 432-433 phase transitions, 73-74, 99-100, 135, 523 political economy, 224, 461, 464, 484 structure of, 224 theory, 467 political organizations, 234-236 role of, 230-234 population dynamics, 46 population games, 45, 426, 444, 446, 449 451, 454, 458 defined, 426 deterministic, 443 long-run behavior, 442 short-run behavior, 442 potential games, 439-440, 442 power laws, 255-257 prediction, 45-48, 50, 52-53, 55-58, 70 75-76, 387-389, 391, 395-396, 400, 416-417, 466 difficulty of, 70-74 discrete, 75 prediction paradox, 416 predictive economic systems, 52 predictive errors, 60, 73 predictive models, 21-22, 46, 55-58, 68, 75 agent scenarios, 58-59, 61-66 described, 52-56 frequency of adaptation, 75 update rule, 57 Pred, A., 243 price flexibility, 332 price system, 264 Prigogine, I., 243 Prisoner's Dilemma (PD) game, 10, 337, 341-342, 344-345, 362, 502, 542 See also iterated Prisoner's Dilemma game; repeated Prisoner's Dilemma process models, 264, 268, 280-281 580 The Economy as an Evolving Complex System II process-and-emergence perspective, 3, 6, 13 promises, 286-288, 293-297, 299-304, 317 punctuated equilibrium, 48, 64, 77, 240 models, 228 R racetrack economy, 249-250 model, 248-250, 254, 258 random fields, 136, 155 controlled, 155 random graph, 147-148, 152 directed, 523 emergent properties in, 146, 149 evolution of, 516 model, 145, 148 anisotropic, 148 statistical inference, 153 structure, 97-98 theory, 97, 129, 133, 145-146, 148-149, 152-153, 159 defined, 146 economic applications, 149 random interactions, 97, 99 random matching, 157, 159, 498, 553-554 557, 559 difficulties of, 154 models, 496-497 random perturbations, 427, 432 random search algorithm, 466-467 random topology, 145, 149 random-walk behavior, 214 rational choice models, 464-465 rational choice paradigm, 224 rational expectations (RE), 16-18, 36, 49, 71, 77, 413-414, 418 beliefs, 385 defined, 49 homogeneous, 28-29, 40-41 relaxation of, 49 equilibrium, 22, 28-29, 32, 38, 49 static, 78 models, 49, 418 regime, 28-29, 31, 33, 39-40 states, 48, 59 rational population equilibrium, 449-450 rational selection, 351 rationality assumption, 223 deductive, 20 inductive, 21-23 recursive modeling depth, 48 reference groups, 370, 373-375, 377-382 out of equilibrium, 381 unobserved, 373-374 reflection problem, 378 defined, 378 repeated game models, 523 repeated games, 494-495 repeated Prisoner's Dilemma, 510-511, 523 tournament, 509-510 See also iterated Prisoner's Dilemma game; Prisoner's Dilemma game replicator dynamics, 407, 510 reproduction, 200, 467 competitive, 215 joint, 201-203, 207, 210, 213-214 modes of, 208 nonspatial, 205 spatial, 205 source-only, 201-203, 207, 210, 213214 target-only, 201-203, 207, 210, 213214 reproductive equilibria, 214 residential mortgage, 287 resource-constrained traders, 537 response function, 375, 377-380 risk aversion, 305 risk dominance, 435-436 risk management, 389 risk-adjusted dividend, 403 risk-adjusted profit, 405, 412-413 risk-dominant equilibria, 427, 435 risk-dominant equilibrium, 440, 444, 446 risk-dominant selection, 446, 449 risk-dominant strategy, 440, 442, 447-451 robustness, 462, 466 ROLM, 169 ROLM, case study, 174-188 initial PBX marketing strategy, 178-179 PBX entry by, 175, 177-178 market, 169 Index S Santa Fe artificial stock market, 15, 18, 41 code access, 41 mission of, Santa Fe perspective, 3, 5-7 principle of organization in, scaling laws, 400-401 Schelling, T., 46, 131, 240-241, 246, 427 Schumpeterian economy, 534 search algorithms, 466 search equilibrium, 455, 498 securities, 392-393 capitalized, 392 segregation, 241 segregation model, 241 selection, 75 models, 435 noisy, 437, 444 natural, 340, 351 pressure, 199, 207-208 evolutionary, 538 self-correcting system, 281 self-organization, 60-61, 77, 203-204, 240 245, 249-250, 255, 258, 561 market, 18, 36 system, 68, 240, 524 self-reinforcing behavior, 69 self-sustaining equilibrium, 254 serial correlation, 392, 399 positive, 396 short-range interactions, 241 Shubik, M., 6, 11-12 Simon, H., 257 simulated annealing, 480-481 defined, 481 skill, 200, 202-203, 208-209 defined, 200 multiple, 210-211 organization of, 200 self-reproducing, 209 skill reproduction, 201 skill-centered models, 201 vs person-centered, 201 Smith, A., 457 581 social ecology, 204, 207, 214 emergence of, 214 stability in, 207, 214 social equilibrium, 373, 375-377, 383 social interaction, 9, 54, 203, 216, 369-371, 373, 376-377, 380, 382, 414, 416 modeling of, 370 processes, 369-370 social learning, 106, 109, 507 models, 109, 118-119 social networks, 371 emergence of, 10 pattern, 202 social pathologies, 82, 88 explanation of, 88 social utility function, 139 social utility, 85, 91, 96 social welfare, 561 socioeconomic behavior, 81 study of, 81 socioeconomic interactions, 99, 101 source-only learning, 209 source-only reproduction, 201-204, 207, 209-210, 213-214 selfish, 207 Spain Spain, economic decline of, 229 spatial complexity, 150 spatial dependence, 131-132 spatial differentiation model, 159 spatial distribution, 250 spatial economics, 160 spatial economy, 250-251 spatial election model, 464, 467 spatial hypercycles, 202 spatial interaction, 204 spatial interaction system, 214 spatial voting models, 462, 465, 469, 477 spatiotemporal patterns, 345, 354, 363 spatiotemporal phenomena, 351, 362 spatiotemporal structures, 10, 362 spillovers, 252-253 spot markets, 331 fragmentation of, 325 spreading risk, 289, 300, 304 standard monetary theory, 322 states of nature, 300-301, 304, 308 582 The Economy as an Evolving Complex System II states of the world, 292-294 static equilibrium, 59, 63-65, 68-69, 71-72 statistical mechanics, 45, 81, 95, 97, 386 approach, 92, 98, 100-101 limitations of, 100-101 neighborhood composition in, 98 methods, 82, 89, 100 models, 84, 86, 100-101, 415 voting model in, 95 Stayskaya-Shapiro model, 94 stochastic interaction, 524 stochastic perturbations, 432-433 stochastic strategy revision processes, 441 stochastically stable state, 427, 433, 447 defined, 427 stock market, 325 artificial, 15, 18, 41 indices, 391, 393 strategic complementarities, 454-455 strategic market games, 12, 267, 278 equilibrium in, 278-279 models, 278-279 strategy, 78, 169-171, 265-266, 273, 340, 342, 344-345, 350-351, 356, 441, 493-494, 510, 518-520 defined, 169 evolutionarily stable, 341, 511 flexible, 188 redefined, 170 risk-dominant, 442 strategy revision opportunities, 57, 428-430, 433-435, 441, 443-445, 449-451 strategy revision process, 428, 439, 441 stochastic, 441 structural foundations, 5-6 structure, 9-10, 12 geographical, 514 topological, 514 substitution games, 62, 64 supermodular games, 427 survival skills, 226 role of, 268, 276 system heterogeneity, 60, 66 systems, 299 self-organizing, 68, 240 T target-only learning, 209 target-only reproduction, 201-204, 207 209-210, 213-214 altruistic, 204, 208 Tayler, P., 6-7 technical trading, 16, 19, 27, 29, 31-32, 36, 38 strategies, 17 technological choice, 505 modeling, 505-506 technological spillovers, 239 Tesfatsion, L., 6, 10, 13 theory asset pricing, 18 efficient market, 16, 18 evolutionary game, 427 of financial institutions, 264 growth, 224 of money, 264, 268, 280 monotone operators, 145 random graph, 146, 149, 152-153 three-element hypercycles, 209-210, 213 complexity in, 210 folding in, 211, 213 multiskilled individuals in, 210-211, 213 Tiebout equilibrium, 479-480 Tiebout model, 464-465, 477, 479, 481-482, 484 time series analysis, 386 time series econometrics, 387 tit-for-tat, 553-554 tit-for-tat strategy, 344, 358, 361 tit-for-two-tats, 543-545, 547, 549-550 trade network game (TNG), 538-539, 541-543, 545-546, 554-555, 561 agent-based, 561 basic, 538 modular design of, 537 experiments, 554 computer, 552 with random matching, 554 topological structure, 514 583 Index topology defined, 133 general graph, 143 of interactions, 131, 149, 158 of interconnections, 133, 152 prediction of, 159 random, 145 trade behavior, 533, 543, 545-546, 549-550 evolution of, 561 trade network formation, 561 trade network game (TNG), 537-538 trade network game, 533 trade network, 549 trade networks, 545-547, 561 emergence of, 561 endogenous formation of, 537 evolution of, 537 trade strategies, 554-555 trade strategy, 543-544, 552 traders' viewpoint, 16-17 vs academic viewpoint, 16 biased, 409 links between, 159 noise, 17, 32, 38 unbiased, 409 bilateral, 159 trading structures, 129-130, 150 circular, 150 evolution of, 129-130, 149-150, 160 spatial aspects of, 150 topological properties of, 160 trembling hand, 342 Turing, A., 250, 252 Turing approach, 252, 254 two-by-two coordination game, 440, 442-444, 447-448, 450, 519 two-element hypercycle, 204, 209-210 two-sided market experiments, 557, two-sided market experiments, 559-560 two-sided markets, 538, 540 U U-statistics, 394 undercut game, 75 defined, 75 uniform matching model, 523 urban economics, 151-152 spatial evolution of, 152 urban hierarchy, 255 emergence of, 255 utility functions, 53-54, 74, 269, 271-273 responses, 54 V Vector AutoRegressive model, 390 volatile behavior of prices, 286 volatility measures, 391, 393 volume measures, 391, 393 voter model, 451 Wall Street, 286-289, 291, 317 Walrasian economies, 148 Walrasian equilibrium, 132 Walrasian interactions, 129, 140-142 Walrasian trading model, 156 Warglien, M., 120 -121 ... two legacies The first was a volume of essays, The Economy as an Evolving Complex System, edited by Arrow, Anderson, and David Pines The The Economy as an Evolving Complex System II, Eds Arthur,.. .THE ECONOMY AS AN EVOLVING COMPLEX SYSTEM II THE ECONOMY AS AN EVOLVING COMPLEX SYSTEM II Editors W Brian Arthur Santa Fe Institute Santa Fe, New Mexico Steven N Durlauf Department of... While a few of the papers completely avoid mathematics, most of the papers present mathematical models—whether based on statistical mechanics, strategic market games, random graphs, population games,