Ceteris Paribus

Ceteris Paribus means “all other things being equal”. You might remember it from school, where it is used sometimes in mathematics proofs. It is a little phrase that we would all do well to remember.

I am bamboozled by the recent advances in science. First we had the Higgs boson, and now we have something about the first moments after the big bang. Science correspondents on the TV make valiant efforts to explain the concepts, supported by graphics reminiscent of the “Tomorrow’s World” programme of my youth, but I am comprehensively defeated. I am sure I am not alone.

Ceteris Paribus helps me. Many of the hardest concepts to understand in science try to explain things on the edge of normality. I was asked to study the very basics of both quantum theory and relativity during my first university year, and failed completely. I remember sitting one three hour exam where I could not understand a single question, and submitted an answer paper only quoting Maxwell’s equations.

From my very limited understanding, both concepts try to deal with situations at extremes, such as travel close to the speed of light. Because we can never experience this, it is hard for us to understand. For centuries, we had good old, simple, Newton’s laws. These were intuitive because they explained things as we experienced them. If a truck hits another truck, they both continue movement at different speeds and angles, in ways we can derive formulae for and test in school laboratories. Thanks, Newton.

Then Einstein debunked Newton, and Quantum theory debunked someone else. This is because our lovely equations only work in normal conditions. If the trucks are travelling at unlikely speeds or pressure conditions or in unusual magnetic fields, the equations fail. And so does my understanding.

My simple mind at this point evokes Ceteris Paribus. The equations are good, but they assume external conditions lie within a range. Other things are assumed equal. When they are no longer equal, we need an enhanced theory. Enter Einstein and Maxwell.

I am not sure, but I believe that Higgs Boson and the more recent advance are modeling even more extreme conditions than those explained by Einstein and Maxwell. Other things are now even less equal than they were before, and still better theories are required. No doubt in several more years someone else will enhance even these new theories.

Why this musing on a subject I know nothing of (as supposed to subjects I know little, as usual)? Well, because I find the Ceteris Paribus concept can help us in more mundane fields, especially Economics. Scientists find all this natural, but Economists seem to struggle with it.

Health professionals do their best to isolate conditions. Experiments always have control groups, and try to cover every external variable. That is tough, which is why it takes so long for new drugs to emerge, and why sometimes new data emerges only after a drug is in common use. Other things are not equal, and there are so many other things that firm rules are hard to find.

Economics is even less mature, and the variables are even harder to model, since so many of them are behavioural. It starts at the very beginning. Much of Economics is built from something called utility theory, whereby we assume that people act somewhat rationally and seek to maximize their utility. So offered something at half price and double effectiveness, we will choose it over the full price, ineffective item.

Of course we are not always that rational. We form habits. We are confused by packaging. We like to show our expensive but useless trainers off to our friends. Utility theory is very flimsy. Other things are not equal enough. Economists make a brave effort to account for our foibles, but they struggle mightily.

Progress is finally being made by the combination of Economics with another imperfect science, psychology. Instead of utility, people maximize something like happiness. It is fuzzy, but great progress is being made, and I predict major impact from this combination of fields in the next decade.

Meanwhile, Economics goes through the embarrassment of finding apparently useful formulae and then discovering them to fail some years later. The 2008 crash was not the first time textbooks have required ripping up – there have been a few iterations since I studied the subject back in the 1970’s.

At that time, inflation was the bugbear, and monetarists had come up with the theory that simply controlling the money available in an economy would hold down prices. The equation quoted was MV = PT, a truism, where M is money supply, V is how fast it circulates, P is average price and T the number of transactions. First generation monetarists felt that T and especially V were sort of constants, and concluded that reducing M would reduce P.

Even I could see through this, and argued long and hard with my Economics teacher (he must have loved that!). It seemed clear to me that V is likely to be an equalizing variable. PT would be determined by other factors, and reducing M would simply increase V. The reason V had been a constant historically was that no one had previously tried to manage PT via M.

This is a good example of Ceteris Paribus as a healthy check. The lazy assumption about V came from analyzing history within one set of conditions, whereas the “rule” would break down under different conditions, in this case precisely the conditions that would change by applying the “rule”. Sometimes it is not so blatant, and the different conditions arise for unrelated reasons. Nonetheless the rule has to be treated with great caution. Remember that whenever someone tries to sell you an investment based on past performance.

In the 1970’s we also had something called the Phillips curve, where inflation and unemployment were deemed to be correlated (I think their multiple was meant to be a constant). I have no idea what the flaw in that one was, but I can guess it had something to do with ignored external variables. In any case, Mr Phillips has been consigned to the dustbin of history now.

I should not criticize Mr Phillips too much. In an imperfect world, policy makers need some clues. Looking for correlations and rules is a reasonable response. We just need to always add the magic words Ceteris Paribus. The ones who tend to fail to do that are those with vested interests, either seeking academic acclaim or as advocates of a particular policy. Early monetarists fell into the second category.

The advent of Big Data should help, since theories can be more rigorously tested and then monitored during implementation. I expect great strides in Economics during the next generation. I wish more practitioners were less dogmatic and less in thrall to vested interests. It is not called the dismal science for nothing. Even the Economist is not immune: it builds its theories on axioms, even after many such axioms become challenged.

A current example is about allocation of labour and capital. In a mature capitalist economy, prices of these factors are supposed to move in cycles, driven by trends, external factors and policy. Prices change in response to signals, and a good outcome is reached. The Economist continues to argue for policies such as education and labour market flexibility as a result.

But can we be sure such policies are still effective or sufficient? In recent years, we have seen a breakdown in the historical relationship between labour and capital. The share for labour has been largely constant if viewed across cycles, but no more – there seems to be a new definitive trend reducing labour’s share.

This is precisely the sort of change that Ceteris Paribus should alert policy makers and economists to. Globalisation could certainly have invalidated the fundamental assumption, and a fundamental rethink of policy is required as a result.

Science is lucky, even if progress is expensive and requires people with planet-sized brains. Ceteris Paribus only comes along to bite scientists rarely, and even then progress can still be made, by doing something inexplicable at the South Pole for example. Economics is messier. For me that makes it more interesting. But a result is that poverty and stupid policy persists longer in the world than perhaps it should. Ceteris Paribus can help us all.