The Summer of Economic Theories : The Elliott Wave

I descended rather appropriately during a spare few hours last Friday to the Radcliffe Science Library's Reading Room in Oxford. It's literally buried away beside the Natural History Museum, a Deane and Woodward folly that goes well beyond what the contemporaneous Houses of Parliament architects would allow.

Approaching it is a little like potholing. One enters through a door set in a corner, into a newly-refurbished reception area, and then descends to a strange, cool sixties-style cavern beneath the ground. The launch area is light, and airy, and completely deceptive. It's like finding a fruit stand or a food hall beside the Cheyenne Mountain complex.

The Library is an odd space. At Racine, Wisconsin, in a building that dates from the thirties, Frank Lloyd Wright created a forest of concrete. He used 'dendriform' columns, which always make me think more of mushrooms than trees, to create a sort of modernist forest as the main room of the S.C.Johnson and Son Administration building (the 'Johnson Wax' HQ). The Lankester room makes me think of nothing so much as the sumps and caves and roots that must be below such a room, but laid out in chrome and concrete. Here are traps, and cracks, and places beneath to earth to squeeze past, and there are odd, movement activated lights that add to the atmosphere.

It was finished in 1975, and is one of Jack Lankester's more successful additions to Oxford. It is younger than me.

I was down there, with a few strained looking graduates, some quietly efficient librarians, and a couple of people who looked as though they were retaking something, to read Robert Prechter's book on The Elliott Wave.

Hence a slight fraud on my part. I had wanted to look at alternative economic theories, but in fact was starting off with a tendentious item of financial mechanics. Prechter makes great claims for it; the wave principle in markets and human behaviour that he has elaborated from Elliott's mid-thirties work on stock markets has, after all, made him a great deal of money. His book, which seeks to establish a 'new science' of socionomics compares itself to the Principia Mathematica of Newton.

That's not all, of course. Just like the Principia, the book seems to have emulsified a little whackiness as it rose through the mental waters. Between pages nine and eighty three, at odd points, Prechter compares his theory to a dodgy analysis of Stonehenge, appears to push an explanation for the 'real' identity of Shakespeare that most scholars don't agree with, and promotes as fact a psuedoscientific and now discredited argument that the Nevada Indians at Massacre Lake wrote Sanskrit in Libyan script.

Creative people are somewhat latitudinarian in their associations and there's no law against entertaining yourself with asides like those. Nor is Prechter actually claiming to be an historian. Things like that do matter, however, if you are attempting to describe a serious financial theory which is now prescribed as part of professional exams in London and New York. They hit needlessly at credibility and undermine the brief. I tutted and set them aside, conscious that here, under the outsized TARDIS-style roundels of the ceiling, that I was not exactly in Kansas anymore.

Elliott wave theory is based on the idea that the Fibonacci sequence can be used to plot a limit to wave behaviour. If one steps back from the 'random walk' of the efficient markets hypothesis, what it is essentially saying is that the behaviour of people in markets, and possibly elsewhere, can be described in terms of a five-step sequence which is fractal. That means that, at the 'minute, minuette, and subminuette' levels, activities and behaviours run in the same shape as they do at the level of Grand supercycles that could last years.

I thought of Paracelsus at this point, and his medieval concern for microcosm, the order of the heavens reflected in the behaviour of the ants. Like the idea of ether, some outlooks, possibly because the brain finds them comforting in ways that we do not yet understand, just will not go away--despite the evidence of reason. Then again, as our Orthodox brethren would say, perhaps western rationalism is just one way of getting from the truth to a complex elaboration and back again, a circle of Niti-grit and Nyaya.

Wave theory posits that markets are not random, but that they only look so because we look at them with the mathematics of physics rather than of biology. It holds that;
an unconscious herding impulse impels social mood trends and changes that are specifically patterned according to a natural growth principle...which is in turn the engine of cultural expression and social interaction
By understanding the compulsions arising from self-similar formology, one can, in a sort of glass bead game way, then plot where markets are going and where society is going.

Really, what is it with social scientists and their ilk? What? Disrespect? I recall sitting in the upper balcony of the cinema on Magdalen Street watching Stephen Pinker and Richard Dawkins on the stage, presenting trite Cartesian and Augustinian ideas to people under the cleaned-up glow of 'genetic research' that revealed 'epistemological truths'. If they'd respected the past more and bothered to crack open some of the great works of western philosophy, riddled though they may be by religion, they would have saved themselves a great deal of time. In Pinker's case he could have improved his writing style too.

Wave theory struck me as a sort of self-validating melange of Asimov's invented psychohistory, and recursive astrology. Simon Forman, when astrologising to great profit in London in the seventeenth century, was an acute observer who was able to tell people that he could indicate what the future could hold before it happened. He wasn't silly enough to present his insights and instincts raw. The clear and rational way his mind probably understood things was instead dressed it up in an astrological language lined with escape hatches. When the future happened, for a fee, he could explain it for you or you could even give his predictions a meaning yourself.

The Elliott Wave might be built around with a power law, a sense of fractals, and a neat naturalistic analogy of spiral growth--it might even kick off all sorts of productive connexion with your Burkean 'instinctive understanding'--but it cannot tell you what is going to happen until it has happened It is therefore recursive, tautological even, rather than predictive. It is not falsifiable. It is not science. One may as well look to Aristotle's idea of essences to explain gravity--and this from a new Principia Mathematica!

I resisted sneering. Sneering isn't useless, but in my experience it usually indicates that a prideful fall is fairly close at hand. Life has a way of showing to others the chump that one occasionally can be, so I ploughed on.

I learned many things. Pentagram angles are expressed on a Fibonacci basis; sunflower kernels spiral in two directions, with one following on from another in a Fibonacci way even though both sets of spirals exist simultaneously in one set of seeds. I learned that human markets and activities and everything should be viewed in relation to the golden mean, that Phi was as important as Pi. I learned a new word, arborate, to explain branching and the morphology of robust fractals.

What I did not learn, and I may be at fault here, was why I should take the 'new science' built on top of the elliot wave, seriously. Socionomics has a web and faceboook presence, and purports to offer, for a fee, a new way of understanding the economy. For $24.95, you can turn your 'conventionally received' wisdom on its head, provided of course that you forget that wisdom is learned individually and through tradition, and not downloaded. Of course, if you were really broke and wanted to be taught A-level Jean Baudrillard by marketing men, you could get yourself over to the 'Herd' site for free, or maybe even embrace a bit of Gerald Celente. What you wouldn't do, I suspect, is learn very much. Except from Celente. He's great.

Nothing much would learn two fairly useful things. One is how credulous and naive the shrewd can be, and another is how people in a chaotic market will cling to a way of explaining it that has to their mind some secular validity and to the people who will elaborate it for them. It doesn't beat mass, by a long chalk, but for a proper mass you have to believe in an humble and irrational way, I suppose. You have to believe, before you can understand, but in a proper way.

I mean, what would a Society based on the Elliott Wave look like? An elite playing the glass bead game would add an epicycle here, a supercycle there, every time they got it wrong, until they got enough data in to construct a view of the past that smoothed over randomness with order. It'd look like global warming or carbon schemes or some such nonsense.

Who knows? Maybe its practitioners could be as smart as people who could drive banks and economies into the ground by abusing derivatives, get governments to issue electronic money to pay for their losses, then buy treasury bonds with the money and threaten the governments that they would drop the bonds if the governments didn't take real money away from poor people.

No, that would be too cynical, and anyway, it's happened.

I left the Radcliffe to hear a silly English middle class man berating his child, his life, and his holiday in what were probably unintentionally pompous terms--who uses the word 'wretched' anyway?--and had dinner with a friend of mine.

Two human, timeless things. It was cosy, and cheap, in a nice French restaurant, on the pre-theatre menu. We walked through the parks afterwards. She was beautiful, and funny, and clever, and honest, and we were twenty years younger again, and I didn't care when I dropped a fiver on the breezy train, didn't notice myself sleepy at Paddington, smiled at the nuns climbing the steps to get to Earl's Court on the District Line, and chatted with my girl when I got in, still smiling. I even brought chips.

The day took me away from things; from all those pressures great and small that are complicating my life. You learn things from a day in which you do nothing conventionally productive, since of course I earned nothing for all this. I made love to ideas, and made women laugh, and ate and drank nice things, of course. I whetted an appetite for better thoughts. But--I can't help it, I'm sure Prechter means well--the one thing that I cannot discern in all this is a self-similar fractal elliot wave.

That same day, walking past blackwells as I have done a thousand times before, I discovered Amartya Sen's Idea of Justice. Result.


Toni said…
Elliot Wave Theory has been marketed, mostly as a trading platform plug in for ages. The chartists seem to like it and many of the quants, but I am not a chartist although you have to keep an eye on them.

Banking of all types comes down to one single choice. Is it risky to lend to this borrower? Doesn't matter if your lending to GM or to some guy from a local branch. Next decision is if he is willing to pay interest far above the market - do you really want to lend to him. Securitisation represents the greengrocer attitude to finance - "I need product to sell sure some of its going to go bad but I'll make more than enough from what does sell to cover any losses easily". Thats why people way down the securitisation chain like mortgage brokers were instructed to book business, even if it meant handing out $500,000 mortgages to Vegas Bellhops and strippers. People say it'll never happen but its already happened many times before. I am sure when the first Dutch ships went to get Tulip bulbs some of their cargo rotted, it isn't even the first time its happened with mortgage backed securities, that was what caused the eighties S&L crisis. But it's ok, now banks know they are too big to fail. The banks played a game of poker with the politicians and won.

I don't follow market theory much but in my experience, the old adage of fear and greed runs true, markets start selling and it's like a Chinese wedding - everyone rushes to the door at once.

By the way you make Oxford sound so idyllic.
Martin Meenagh said…
Oxford, when visited occasionally and on a nice day, is idyllic, Toni. It drove me up the wall when I was stuck there though, because of all its limitations and contradictions. I'm back next week for a three-week series that I'm teaching for Berkeley at Merton, and am looking forward to it.

I've never been to Cambridge, or Edinburgh, which are probably just as distinctive. Me, I love the City-State of London.

Thanks for your comment. I'm not convinced of socionomics, as you can tell from the piece. However, I'm prepared to believe two things. Firstly, (and I find this unlikely) there may well be predictable waves to market behaviour which only become apparent when one is in the thick of things.

Alternatively, there may well be a need for any human community, especially one concerned so much with numbers, to impose explanations that become structures so that they can understand things. That's what most struck me about VAR formulae. When that all goes wrong, though, like with derivative products or black-scholes-merton, boy does it go wrong!

That's me off to the gym. I'm loving the Amartya Sen book by the way, which I'll blog about soon. All the best.
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Martin Meenagh said…
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All the best, Martin