– December 19, 2019
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About 15 years ago a strange cultural controversy raged between the American Left and Right. While Charles Darwin’s theory of evolution had informed scientists for well over 100 years, some right-wing and Christian intellectuals cloaked older creation science in the friendlier veneer of “intelligent design.” It was a fairly transparent attempt to reverse engineer the way the world worked in order to confirm religious doctrine, not to mention troll the Left.

Nobody on the left should pat themselves on the back either. Rather than engage with the nuts and bolts that make the theory of evolution one of the greatest discoveries in history, their defense of Darwin amounted to little more than the equivalent of wearing an “I’m With Science” t-shirt — a way to portray their political rivals as backwards and deluded. In short, the Left won, but it got lucky.

A decade and a half later, as the Left attempts to more ambitiously plan the country’s wealth distribution, and the Right promises an “America first” strategy that seeks to control trade and immigration from the top down, both sides could stand to brush up on how evolution actually works. In economics and governance, we see an analogy to evolutionary biology that while far from perfect is nonetheless profound.

Fact, Not Theory

Biological evolution, like a modern market economy, is rooted in complexity — a huge number of small events adding up in ways that we often have difficulty approaching on an intuitive level. But with a small number of demonstrably true ingredients in place, the process of evolution must occur. 

Biological evolution requires that offspring roughly inherit their parents’ traits, that traits (from eye color to intelligence) vary throughout the species’ population, and that those traits impact individuals’ likelihood of passing on genes to the next generation. Take those facts, repeat the process over billions of years, let species and ecosystems coevolve (that is, influence each others’ evolution ad infinitum), and you go from microbial life to an economist writing about how we got here.

Biological evolution is fueled not just by routine variation in traits but by mutations — random accidents, most of which are fatal flaws, but a very small number of which are successful adaptations. Mistakes are a feature of evolution rather than a bug. Millions of individuals trying new things at random with a way to identify the most successful solutions, replicate them, and repeat again and again will outperform the plans of the smartest guy in the room every time. This is starting to sound familiar.

The Process of Progress

The irony of economists so often using “perfect” in the same sentence as “markets” or “competition” would be amusing were it not a major impediment to people’s understanding of how commercial society works. Technological innovation, entrepreneurship, and the price system itself are in reality dynamic processes rather than static equilibria as presented by most texts. 

The analogy to biological evolution, while far from exact, is tremendously informative. Individuals continuously make imperfect decisions, learn from each others’ mistakes, and adjust their behavior. From this bottom-up learning process emerges an economic order vastly superior to what any planner could arrange.

We can easily see this process at work in the invention and diffusion of new technology in the market. When Joseph Schumpeter called the process by which new technologies and production methods replace old ones “creative destruction,” he may have coined too catchy a name. For many the term conjures a cataclysmic sweeping away of the old by the new, but it’s clear Schumpeter had continuous evolution in mind:

The opening up of new markets, foreign or domestic, and the organizational development from the craft shop to such concerns as U.S. Steel illustrate the same process of industrial mutation — if I may use that biological term — that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism.

Virtually every inventor stands on the shoulders of giants, adjusting, revising, and combining older technologies. The result is something akin to the passing of traits to the next generation, with market forces selecting the best ideas. This evolutionary-process gain is fueled more from a large number of innovative minds than a few brilliant ones. Think of it as more draws from the innovative lottery leading to a greater chance that the best ideas are found.

A similar process unfolds for startup entrepreneurs utilizing new technologies. The process isn’t always gradual. Tech bubbles play a similar role to mass extinction events in nature, creating a boundary through which only the strongest ideas pass. It’s a phenomenon we see most recently in the shakeout of the first wave of ICO-funded startups using blockchain technology.

The process of innovation characterized by boom, proliferation, bust, and sustained growth, while far from tidy and perfect, could never be mimicked from the top down. Some readers might point to the internet, developed for decades with some degree of centrality by government agencies, as a counterexample. But to go from geeky curiosity to foundational technology embedded in our lives, the internet needed market-based evolution — thousands of entrepreneurs and a recession-triggering bubble that left in its wake the tech giants we know today.

Hayekian Intelligence

We typically think of technology and entrepreneurship as processes of change, but conceptualize the system of prices as the heart of a market economy instead of the product of a static equilibrium. Nobody would deny that prices take time to adjust, but most of the 20th century’s greatest economic minds placed that process on the back burner in favor of theoretical notions of equilibrium.

F.A. Hayek, perhaps without peer in his intuitive comfort with concepts like complexity, networks, and evolutionary learning, was an exception. Building on his insight that free markets incorporate vastly more information dispersed among millions of individuals than any central planner, Hayek’s 1968 speech “Competition as a Discovery Procedure” revealed that adjustment process as more important than an imagined equilibrium:

It would not be easy to defend macroeconomists against the charge that for 40 or 50 years they have investigated competition primarily under assumptions which, if they were actually true, would make competition completely useless and uninteresting. If anyone actually knew everything that economic theory designated as “data,” competition would indeed be a highly wasteful method of securing adjustment to these facts.

Just like in the evolution of species, the limits on what any single member of the population can know or understand are a feature rather than a bug:

It might at first appear so obvious that competition always involves such a discovery procedure that this is hardly worth emphasizing. When this is explicitly underscored, however, conclusions are immediately obtained that are in no way so obvious. The first is that competition is important only because and insofar as its outcomes are unpredictable and on the whole different from those that anyone would have been able to consciously strive for; and that its salutary effects must manifest themselves by frustrating certain intentions and disappointing certain expectations.

Note the recurring theme that evolutionary processes require large numbers of opportunities for variation to take place. Technology evolves when many inventors experiment and make mistakes, creating the opportunity for the best ideas to appear in unpredictable places. Ditto for entrepreneurs. And market prices get closest to our theoretical notions of efficiency when many buyers and sellers respond, adjust, and respond again.

Beautiful Mistakes

What does all of this evolutionary logic have to tell us about government? Hayek and most of his closest followers view his insights as strongly arguing against most government intervention, while many who are predisposed to big government preemptively mischaracterize and reject these ideas altogether.

An interesting exception to this dichotomy comes from some economists informed by complexity theory, which combines many Hayekian insights with quantitative and computational methods that greatly depart from the equations of equilibrium analysis. In a 2017 article from the Journal of Economic Perspectives, Samuel Bowles, Alan Kirman, and Rajiv Sethi find “considerable lasting value in Hayek’s economic analysis while nonetheless questioning the connection of this analysis to his [free market] political philosophy.”

The authors’ primary critique of what they term Hayek’s “laissez faire” political philosophy is twofold. First, while the evolution of prices can be a method of information discovery, it can also be a means to mislead market participants. Asset bubbles and strategic incentives to game the system are two examples they cite.

Second, the authors view the regularity with which societies develop welfare states and top-down regulatory systems as vindicating these institutions and placing them within the same evolutionary discovery process as market competition:

As it happens, most high-income countries have grown institutions that sharply constrain the operation of markets in many spheres, with the delivery of childhood education, health, and old-age pensions being prime examples.

While both points are correct in a sense and important to consider, they fail as a critique of Hayekianism by neglecting the mantra repeated throughout this article — in evolutionary systems, mistakes are a feature rather than a bug. Indeed, Hayek observes in his 1968 speech:

The fact that catallaxy serves no uniform system of objectives gives rise to all the familiar difficulties that disturb not only socialists, but all economists endeavoring to evaluate the performance of the market order. 

Like Bowles et al., virtually everyone would prefer to live in a world without financial crises or dishonest dealing. But nowhere do the authors explain how a centralized government will overcome Hayek’s basic information problem to mitigate these issues without greater collateral damage.

The observation that government cannot be separated from the evolutionary systems of modern society is more interesting. After all, governance institutions evolve, whether the polycentric-private-governance variety favored by many libertarians or nation-states imposing their will by force.

Again, evolutionary fitness doesn’t perfectly correspond to what any given person would consider “good” or “bad,” and once in place, governments as we know them undeniably constrain the bottom-up learning process of market competition. Part of the reason lies in another recurring theme of this article — the need for a large number of opportunities for variation. Decentralized mistakes in the market may fuel learning, but governments that impose their decisions on entire populations only get a few shots. Big centralized governments turn mistakes from a feature to a bug.

Taking this evolutionary thinking seriously leaves an agenda for economists that goes well beyond demanding the end of the state. It’s easy to tout the long-run knowledge benefits of mistakes in the market, but less easy when they cause people to live through years of unemployment or poverty. We would do well to think more about how to mitigate the pain of markets without stalling the evolutionary engine that in the long run has profoundly reduced such pain. Such design might go beyond good intentions and credibly be called intelligent.

Max Gulker

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Max Gulker is an economist and writer who joined AIER in 2015. His research focuses on two main areas: policy and technology. On the policy side, Gulker looks at how issues like poverty and access to education can be addressed with voluntary, decentralized approaches that don’t interfere with free markets. On technology, Gulker is interested in emerging fields like blockchain and cryptocurrencies, competitive issues raised by tech giants such as Facebook and Google, and the sharing economy. Gulker frequently appears at conferences, on podcasts, and on television. Gulker holds a PhD in economics from Stanford University and a BA in economics from the University of Michigan. Prior to AIER, Max spent time in the private sector, consulting with large technology and financial firms on antitrust and other litigation. Follow @maxgAIER.
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