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Economic Arbitrage and the Econophysics of Income Inequality

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  • Shaikh, Anwar
  • Jacobo, Juan Esteban

Abstract

Yakovenko and his co-authors have established that the bottom 97– 99% of individual incomes (labor incomes) follow a near-exponential distribution while the top incomes (property incomes) follow a power law. Initial explanations of these patterns relied on various monetary analogues to the physics principle of energy conservation. Subsequent approaches turned to the stochastic dynamics of economic processes, including those of labor and property income modeled as a drift-diffusion processes. Our paper is in the latter tradition, but our specifications of drift-diffusions are derived from the fundamental economic principle of turbulent arbitrage modeled as a mean-reverting process. This approach is well developed in the domain of interest rate arbitrage as in the case of CIR models. Our contribution is to demonstrate that arbitrage can also explain the observed distributions of wages, rates of return on assets, and property income. In the energy conservation approach, stationary distributions are derived from the assumption of entropy maximization. In both stochastic dynamics approaches, the dynamic paths give rise to stationary distributions that turn out to be entropy maximizing.

Suggested Citation

  • Shaikh, Anwar & Jacobo, Juan Esteban, 2020. "Economic Arbitrage and the Econophysics of Income Inequality," Review of Behavioral Economics, now publishers, vol. 7(4), pages 299–315-2, December.
  • Handle: RePEc:now:jnlrbe:105.00000129
    DOI: 10.1561/105.00000129
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    References listed on IDEAS

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    1. John C. Cox & Jonathan E. Ingersoll Jr. & Stephen A. Ross, 2005. "A Theory Of The Term Structure Of Interest Rates," World Scientific Book Chapters, in: Sudipto Bhattacharya & George M Constantinides (ed.), Theory Of Valuation, chapter 5, pages 129-164, World Scientific Publishing Co. Pte. Ltd..
    2. Shaikh, Anwar, 2016. "Capitalism: Competition, Conflict, Crises," OUP Catalogue, Oxford University Press, number 9780199390632.
    3. Anand Banerjee & Victor M. Yakovenko, 2009. "Universal patterns of inequality," Papers 0912.4898, arXiv.org, revised Apr 2010.
    4. Shaikh, Anwar & Papanikolaou, Nikolaos & Wiener, Noe, 2014. "Race, gender and the econophysics of income distribution in the USA," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 415(C), pages 54-60.
    5. Victor M. Yakovenko, 2003. "Research in Econophysics," Papers cond-mat/0302270, arXiv.org, revised Mar 2003.
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    8. A. Drăgulescu & V.M. Yakovenko, 2001. "Evidence for the exponential distribution of income in the USA," The European Physical Journal B: Condensed Matter and Complex Systems, Springer;EDP Sciences, vol. 20(4), pages 585-589, April.
    9. F. Clementi & M. Gallegati, 2005. "Pareto's Law of Income Distribution: Evidence for Germany, the United Kingdom, and the United States," Papers physics/0504217, arXiv.org, revised Mar 2006.
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    11. Victor M. Yakovenko & J. Barkley Rosser, 2009. "Colloquium: Statistical mechanics of money, wealth, and income," Papers 0905.1518, arXiv.org, revised Dec 2009.
    12. A. Christian Silva & Victor M. Yakovenko, 2004. "Temporal evolution of the "thermal" and "superthermal" income classes in the USA during 1983-2001," Papers cond-mat/0406385, arXiv.org, revised Oct 2004.
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    Cited by:

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    More about this item

    Keywords

    Economics; arbitrage; econophysics; income distribution; entropy maximization; Fokker–Planck equations;
    All these keywords.

    JEL classification:

    • B12 - Schools of Economic Thought and Methodology - - History of Economic Thought through 1925 - - - Classical (includes Adam Smith)
    • C10 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - General
    • C18 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Methodolical Issues: General
    • D31 - Microeconomics - - Distribution - - - Personal Income and Wealth Distribution
    • D33 - Microeconomics - - Distribution - - - Factor Income Distribution

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