Saturday, September 29, 2018

"Schumpeterian Profits and the Alchemist Fallacy"

I've referred to the Alchemist Fallacy quite a few time over the years, most recently in the context of mining the moon or asteroids or somesuch but haven't highlighted the paper where I first saw the term.
It's by Yale's Professor Nordhaus, one of the heavyweights.
(if you glance through his c.v. you'll find at least three Nobel Laureates he's co-authored with, among other stuff)

Via the Social Science Research Network:
27 Pages Posted: 5 Oct 2005  
William D. Nordhaus Yale University - Department of Economics; Cowles Foundation, Yale University; National Bureau of Economic Research (NBER)
Date Written: April 2, 2005
The present study examines the importance of Schumpeterian profits in the United States economy. Schumpeterian profits are defined as those profits that arise when firms are able to appropriate the returns from innovative activity. The paper derives the underlying equations for Schumpeterian profits. It then estimates the value of these profits for the non-farm business economy and for major industries. It concludes that only a miniscule fraction of the social returns from technological advances over the 1948-2001 period was captured by producers, indicating that most of the benefits of technological change are passed on to consumers rather than captured by producers. These results indicate that the bubble of new-economy stocks in the 1990s resulted from the alchemist fallacy.
Alchemy was an ancient art devoted to discovering a miraculous substance that would transmute common metals into gold. Most recently, this philosophy resurfaced with the view that the “new economy” could spin rapid technological change into profits and fantastic stock values.

Many have scoffed at the idea that base metals can be transmuted into precious ones. However, that is not the alchemist fallacy. Many far more miraculous things have arisen than such a physical transformation. Rather, the alchemist fallacy is to think that, once such a process for producing gold is discovered, gold would retain its scarcity, and the discoverers would be rich beyond belief.

The modern analog to alchemy is the new economy, which indeed provides miraculous productivity growth along with a dazzling array of new goods and services. The phenomenal increases in computer power over the twentieth century, for example, were far more rapid than anything in the historical record. Many financial analysts apparently believed that a substantial part of the economic value of the innovations in new-economy firms would be captured by the innovators, and this in part drove the stock market boom of the firms and the NASDAQ market sector. The result was the rise in the value of computer-related firms from virtually nothing to over $4 trillion in early 2000.

The present paper investigates whether in fact investors in the 1990s once again succumbed to the alchemist fallacy. The United States economy did indeed benefit from rapid technological change over the last decade. Were innovators able to capture a significant fraction of the benefits from new technologies? Alternatively, were most of the benefits of improved productivity passed on in lower prices? These are among the topics studied below.

I. A Model of Appropriability and Schumpeterian Profits 
A. Background 
Endogenous growth theory, alon g with the theory of induced innovation, has developed important new approaches to understanding the role of innovation in economic growth. Joseph Schumpeter introduced modern approaches in his pathbreaking book, The Theory of Economic Development.

The formal theory of induced i nnovation arose in the 1960s in an attempt to understand why technological change appears to have been largely labor saving. 3 More recently, theories of induced technological change were revived as the new growth theory, pioneered by Robert Lucas and Paul Romer.
This has blossomed into a major research field, with a wide variety of theories and applications.

The underlying idea to be developed in this section is straightforward. Numerous individuals and firms in a modern economy are engaged in innovative activities designed to produce new and improved goods and services along with processes that reduce the cost of production. Some of these are formalized in legal ownership of intellectual property rights such as patents, copyrights, and trademarks, while others are no more than trade secrets or early-mover advantages. Some of the innovative activities produce extra-normal profits (called Schumpeterian profits), which are profits above those that would represent the normal return to investment and risk-taking....
...MUCH MORE (27 page PDF) Here is the SSRN download page.

Like another of our fav. economists, Professor Shiller, Nordhaus also hangs his hat at the Cowles Foundation. which, as we've noted has been home to Econ. Laureates (Robert Shiller, Tjalling Koopmans, Kenneth Arrow, Gerard Debreu, James Tobin, Franco Modigliani, Herbert Simon, Lawrence Klein, Trygve Haavelmo, and Harry Markowitz) at a rate approaching, but inferior to, that of Cambridge's Cavendish Lab, 29 Laureates, mainly in physics, at last count but then the econ version isn't one of the original Nobels and hasn't been around as long.

Some of our previous mentions of the alchemist fallacy.
From 2015's "It is Now Legal to Own an Asteroid in the U.S."
You know the first things they want to mine are those things with the highest price per ounce back on earth which ex-truffles and saffron probably means the so-called precious metals.
However, with all that gold and platinum coming back, you might want to bone up on Another Post On Glass, This Time With "The Alchemist's Fallacy" (And Professor Nordhaus).

The miners will probably also keep an eye peeled for Californium-252 at $27 million per gram, but finding any is a bit of a long shot, 8 grams known to date....
Platinum Extends 6 1/2-Year Lows as Asteroid With $5.4 Trillion Worth of the Stuff Whizzes Past Earth
See also:

"The Price of Gold in the Year 2160"

And "We Are About to Start Mining Hydrothermal Vents on the Ocean Floor" (now with added alchemist's fallacy"

The thing is, such an enormous increase in supply would crash the market, something the ancient alchemists didn't mention when they were pitching their lead-into-gold private placements to their version of accredited investors, the princely class, back in the day.

It is for this reason that the astro-miners have changed their approach and are now talking about looking for oxygen, water, nitrogen and other elements that can be used to take us farther into the universe.
Presumably to sell to Elon Musk to speed him on his way.