TLDRUpFront: The trophic model of interactions between levels in an ecosystem is a useful analogy for understanding market function and dysfunction. And how removing the apex predator, which is risk in free markets, can lead to trophic collapse.
Bison, Elk & Willows only thrive where Wolves roam
What is a Trophic Model?
In Discover magazine, I came across a fascinating article(1) describing the long term consequences of meddling with trophic equilibirum at Yellowstone Park. Trophic levels(2) are a model of ecosystems that look at where one sits on the food chain by a hierarchical arrangement, starting with Level 0 and going up, and how those different hierarchies interact with one another in something called trophic dynamics(3). In the Discover article, focused specifically on Yellowstone (which we actually have a very strong historic record), they laid out the trophic levels as they existed in the park upon the first recorded obersvations, these levels are roughly analogous with basic trophic levels you’ll find anywhere.
Level 0 was the soil and nutrients in the soil, deposited there over hundreds and thousands of years.At
Level 1 were the flora and fauna that grew off the nutrients in the soil. Specifically a certain type of willow tree prolifically grew on that nutrient mix, as well as the undergrowth (bushes, plants etc.).
Level 2 were the herbivores (elk) that fed on the undergrowth and the young leaves of the lower trees.
Level 3 were the wolves (carnivores) that fed off the elk.
In its natural state these four levels create a trophic equilibrium, similar to homeostasis(4), but for an ecosystem wherein all the Levels are balanced out. A trophic cascade occurs, when for natural or other reasons, the equilibrium is breached. One of the interesting things about trophic models is that they can be used to demonstrate the unintended consequences via a cascade that accompany a modification of the equilibrium.
Trophic Cascade in Yellowstone Park – the Historical Case
Removal of the Apex Predator Initiates the Cascade
The main focus of the article was the different kind of trophic problems they’ve had at Yellowstone, and how that led to an unforseen cascade. When the wolves (Level 3) were entirely absent from the park (~1926-199) there was no predation of the Elk which caused the herds to swell(5). The cascade effect was that the Elk overate the available food supply of undergrowth and trees. As a result when old willow trees died, new ones could not grow sufficiently tall so that their buds would be out of reach of the Elk, and subsequently the willow tree population was decimated.
The cascade reached down into Level 0 as the old trees were the only ones with sufficient root systems to keep in check soil erosion. The lack of old-growth trees was known, but the problem as to why they weren’t growing wasn’t very well understood, until they reintroduced the wolves in 1995.
Restoring the Apex Predator Returned Balance
With a return of the Apex predators, the Elk populations thinned somewhat. Through an ecology of fear of open spaces, Elk began avoiding open spaces where they were most at risk of wolves(6). And in those open spaces they avoided, new trees grew tallest and fastest.
To be clear, the reintroduction of the wolves, was not done to restore the Aspen trees, but that was a consequence as the balance was partially restored. Partially restored because although Levels 1-3 restored somewhat quickly (in 15 years), the Level 0 soil nutrients that had been lost due to erosion would take hundreds of years to replace.
When we meddle with good intent but poor understanding – a trophic cascade can result.
In the Discover article there was also other discussion of other human caused cascades through well meaning efforts such as putting out forest fires. A forest fire is a regularly occuring but rather cataclysmic event (if you’re in it), however it serves a critical need for killing off the undergrowth, redpositing the nutrients back in the soil. Absent forest fires due to human efforts the soil eroded and was weakened even further. When they let the fires burn, yeah it sucked for those animal and undergrowth lost in the fire, but was critical to the overall health of the ecosystem over the long term. Also, when they couldn’t control a wildfire, the presence of so much undergrowth added as fuel, making the fire much worse than what might have historically been the case.So this really got me thinking.
From Ecosystems to Market Systems
I’ve always suspected that we can find parallels for how free markets work from evolution and ecosystems, but here was a very clear dilleniated model of how an ecosystem comes to find equilibrium. I began to struggle with, in the market ecosystem trophic model – what occupied what level?
Remember it’s not suffiicent to just identify what is the food chain, because the checks and balances of equilibrium work both ways, too few Elk mean less wolves, too many wolves leads to too few Elk, too many Elk lead to too few trees, but the trees are critical to keep the soil from eroding to produce the undergrowth the Elk survive on when they aren’t eating trees.
In the Strong Market Ecosystem, I think in the very broadest of terms you could identify 6 Trophic Levels:
Level 0 – Primary Consumers: Individuals and businesses who seek to acquire things they value.
Level 1 – Primary Production: Organizations capabilities, resources and technology to provide for Primary Consumption.
Level 2-3 – Secondary Consumption & Production: This is the same as level 0 and 1 but between businesses, the supply chain, which results in Primary Production.
Level 4 – Asset Investment: The utilization of financial resources acquired by either Level 1, 2 or 3 participants to acquire, create, expand, or sustain long term assets which will over time create returns for the investor through appreciation and profits.
Level 5 – Credit: The provision of loans, debts, for which the provider does not enjoy in the appreciation of assets, but is paid regular installments.
Level 6 – Risk: The chances for either Level 3 or Level 4 activities to lose part or all of the investment or provided credit due to the non-performance of the entity provided too.
A few things right off the bat, my market trophic model is metaphoric to the ecosystem one – so there are some important differences. Rather than in a true ecosystems where each participant only fits in one level, as free human beings we can actually participate, to the extent our means allow us, in any or all of these levels, and can fairly directly control that level of participation. We can choose to reduce our Consumption by becoming self-reliant, or we can only focus on Primary Producing for others, or only in offering Credit. But we are all involved in that trophic system. A cascade failure anywhere can affect the dynamic equilibrium of the whole system.
Another nice plus of the market trophic system is that dying isn’t an implicit part of any one level. No one’s going to eat you. You may lose material things, but those can be regained. You may experience disjarring economic mobility changes, which are really fun on the way up and very unfun on the way down, but no one is going to consume your corpse for sustenance.
I think what I and others would term “free markets” is the existence of dynamic equilibrium or homeostasis where all the Levels properly interact, check and keep in check, one another – and it is all based on the free choices of unforced decision makers at all levels. No one is forced to loan credit who doesn’t want too, no on is forced to consume anything they don’t want to buy, no certain actors are protected from competition.
Where do Governments fit in the trophic model?
Governments are a wierd aside. They obviously play at every level of that trophic model – by being both consumers, producers, investors and loaners of credit. But perhaps unlike animals in a real ecosystem, governments have the power to modify the rules of the trophic system in the intermediate-term measured in years and even decades.
A totally planned economy is where the government determines who consumes what, who gets to produce what is consumed (and how), and generally chokes off higher level forms of investment. A crony-capitalist government, can pick the winners and losers at each level through marekt intervention. GM can be bailed out as a Primary Producer (who then feeds an entire supply chain of secondary producers)but Circuit City will not. AIG gets a bailout, Lehman not so much.
Governments can also attempt to remove, again in the intermediate term, predation by eliminating the negatives of risk. I don’t think they can do this sustainably over the long run (see Greece), but it’s certainly a theory you can and should do it in the short term.
We can begin to see the trophic interactions at play here. Without consumption, there is no need for business, conversely the only way businesses can survive is with some form of consumption. Do away with consumers (Level 0)and the whole chain begins to fall apart. Do away with Level 4 and Level 5 – and you begin to see ripple effects in the ability of Level 1-3 to respond to Level 0 needs.
Keneysians would say this is why Government steps in to provide consumption when no one else can. Austrians would point out that through the removal of Risk at the top level, Credit and Asset Investment get sloppy and are allocated poorly to inefficient or unsustainable operations. When “free money” ends, a bust results.
There’s a lot more to this that can be filled out and worked through.I’m not sure the above levels are necessarily the absolutely correct ones, and I’ll work on them further.
Parallels between Yellowstone and Government efforts to remove risk
But I think this model can begin to explain a lot of what has been going on. When Yellowstone killed off all the wolves, they removed the Apex predator, and a cascade resulted. The Elk gorged themselves on the fauna, and that killed off the ability to replenish the soil.
Likewise in the markets we’ve been through an extended period of time where the removal of Risk (the chances you’ll lose everything) led to an explosion of Credit an Asset Investment, creating the bubble.
In an effort to increase access to housing, we removed Risk from home borrowers by weakening guidelines on what Fannie & Freddie would guarantee on a loan. In an effort to increase access to higher education, we’ve removed Risk from students by guaranteeing their college debt so lenders will lend to them, largely regardless of circumstance or ability of the degree sought to repay the loan. Generally through the use of interest rates, unemployment benefits, entitlements we tried to quote “control wildfires” (busts, recessions etc.) and in doing so removed even more of the Risk.
Real Estate Financial Collapse Case Study
To take the real estate financial collapse as a case study, as Credit and Asset Investment lost the check upon them, they became inherently more risky. CDO’s, CDS’s, synthetic CDO’s, zero-down, interest only loans, paper-doc loans, 40 year loans proliferated.
When the system crashed, it crashed at the very high end first with a credit freeze. But that crash then cascaded through the lower levels as Producers (both primary and secondary) went out of business and Consumption withered away.
We’ve restored, to some extent, Credit, but just like the restoration of the Soil may take longest in Yellowstone, it could take years before our Consumption fully recovers, if it ever does.
There’s also the nagging question as to what extent our extinction of Risk (remember the wolves) is setting the system up for another cascade failure.
Aside on Profits
Now I know “profits” is an evil word for some. Which is suprsing, because I’m not sure breathing is an evil word – but profits are to human economic activity as caloric consumption is to physical survival. Whether you call it resources, cash, capital, bling-bling – profits are the accumulation of more than you need to do something. Likewise, if you’re a living organism, and you want to do things, it’s generally wise to consume calories, drink water, and obtain some sort of oxygen. If, over a long period of time, you don’t get enough of one of those three things, you’ll wither away and die. If you only just “break even” with what is absolutely essential, you’ll be unable to do a whole lot, always on the verge of health problems.
The reasons both profit, non-profit and even charity companies must take in more than they give out (i.e. profits) is that, like caloric consumption is that they need to be able to sustain themselves to continue doing what they’re doing, and also sustain the days/weeks/months where they are providing more than they take in. This can be caused due to waste, mismanagement, poor planning or strategic choice – but it consumes the reserves, once you run out of reserves, it consumes the organization.
Sustainment over the long term requires a surplus (profits).
If you don’t believe me, try this test. Take in less air than you need to stay conscious. Or, only eat 500 calories a day for a few months.Or take in less water than you need for a week or two. Now try to do a combination of all three of these things. What you’ll find is the scope of available activities you can do get narrower, and if you try to make changes during this time, well, let me know how it works out for you.
As another aside, if you believe that companies are legally required to maximize their profits, you’ve been fed a load of crap somewhere and need to go back and metaphorically slap whoever told you that for feeding you nonsense. Just as eating 5000 calories a day when you only need 1500 can be very bad for you over the long term, though it feels great at the time, maximizing profits at the expense of everything else is a quick road to ruin, as long as you have competition.