The Semantics of Efficiency
By: Hans Balgobin
Tags: Reality, Thermodynamics, Efficiency, Economics, Physics

Economics is, fundamentally, a very specific study of the physical laws of thermodynamics applied to a tiny sample of the universe — human civilisation. At best, this study generalises over all sentient life but, as far as we can tell, economics may stay hopelessly overfitted to us.

If we were to try to reconnect economics to the higher laws of thermodynamics, we then have to reinterpret “common” concepts such as demand and supply, efficient frontiers/MPT or Black-Scholes into the fundamental language of thermodynamics — energy gradients and flows. However, we may generate unnecessary granularity if we go down so far and deep from the statistical comfort that economics, in its current form, provides. Instead, a compromise could be found if we move away from the relative arbitrariness of these common concepts and create a conceptual understanding of economics around efficiency.

Now, efficiency is a vast term so let me define my understanding of the word so we have a coherent view going forward. Efficiency, here, is the speed at which a community of entities (a market) implements value discovery and settles into equilibrium. Absolute market efficiency, in this context, would mean that markets find equilibrium instantaneously. We know that in a universe where the speed of light is finite, absolute efficiency is impossible since information/energy flows are temporally constrained. The consensus-building process to accept equilibrium is, therefore, hopelessly staggered over multiple time steps, preventing any instantaneous value discovery.

As an aside, it is important to understand the consequences of a hypothetical infinite speed of light on the markets. Imagine, a universe where market participants could eventually reach infinite processing and communication speeds. In such a setting, participants would not only predict the next step of life but go on to predict the whole future eternity and since they have infinite processing speed, they would proceed to implement this eternity immediately. The start and end of the universe then cease to have any distinction and time would have no meaning.

Thankfully, efficiency can still be useful as a concept in the form of relativistic efficiency. Relative efficiency means that an entity entering an existing system/market with its own marginally better strategy would implement value discovery better and hence help the system as a whole find equilibrium faster. Relative efficiency is, therefore, insidiously, the ultimate societal value. It is important to remember that relative efficiency is not simply relevant to the restricted environments that current-state economics govern but it is something that permeates everything we do. If you are relatively efficient as a person, you will be able to better yourself according to your own definitions of betterment (personal success). If a sentient AI is relatively efficient, it would be able to implement a relative singularity by staying relatively efficient (one step ahead) compared to humans.

The beauty of thermodynamics is that it allows us to take a step back from “determinism” as we zoom out from the micro and look at macro effects. The implicit understanding here is that chaos theory will play a part and create non-trivial “surprising” future effects naturally. What this means in practice for human civilisation is that the relative market efficiency of any given elite can never be taken for granted. There will always be a way for “new normals” to be found. Even critics of market efficiency are, naively and ultimately, just another set of participants vying for relative market efficiency and they may succeed by creating varying degrees of change to the existing system — evolutionary steps or revolutionary leaps.

Relative efficiency is a special concept that straddles both the functional and the “meta” levels of reality. For instance, the meta side of efficiency should mean that it is intrinsically auto-recursive and dynamically able to resolve when the mechanisms underpinning the contemporary comprehension of efficiency is about to shift. Practically, efficiency is, therefore, the ability to hold the ground truth of reality and act in such a way as to allow one to keep holding the ground truth in the future.