Pareto Distribution & Price's Law | Dr. Jordan Peterson

so okay so now there's a number of things to consider if you're thinking about performance prediction and one of them is to what degree do people vary in terms of their performance capacity and you might say well there's very little performance variability or you might say there's a tremendous amount of performance variability or you might say there's an absurd amount of performance variability and it turns out that the claim that there's an absurd amount of performance variability is the proper claim IQ is normally distributed so is conscientiousness but productivity is distributed along the purrito distribution and I'll show you why and that follows a law called prices law from someone named Derek to soul a price who was studying scientific productivity in the early 1960s and what he showed was that a vanishingly small proportion of the scientists operating in a given scientific domain produced half the output and so what you see and this is what's happening is that to do really well at a given productive task which would also include generating money as a proxy for for creative productivity is that you have to be a bunch of things have to go your way simultaneously so maybe you have to be really really smart you have to be really really lucky you have to be really healthy you have to be really energetic you have to be really conscientious you have to be in the right time at the right place and maybe you also have to have the right social network right like so it's a lot of things and each of those are small probability they're each of those are small probabilities and then if you multiply the small probabilities together you get an extraordinarily tiny probability and you have to have all those things functioning before you're going to end out on the on the extreme end of the productivity distribution but if you do end up there then you produce almost all of everything so it's a tiny number of people that produce almost all of everything that's prices law and technically it is and I mentioned this to you before it's the square root law the square root of the number of people in a productive domain produce half the output right so if you have ten employees three of them produce half the output if you have a hundred ten of them produce half the output if you have 10,000 a hundred of them produce half the productive output and so what that also means is that because there's massive variability in performance you don't have to shift your ability to predict performance very they're very very much up towards being better at it to gain substantially on the positive side because there's so much difference in productivity and that actually happens to be also a function of the complexity of the job if the job is simple which is means you can this job has ten rules you know that's a janitorial job let's say you know you do you it takes a little while to learn it but once you've learned that you basically do the same thing all the time there's not a lot of performance variability in those jobs and most of that would be eaten up by conscientiousness and also to some degree by neuroticism because the higher people who are higher neuroticism would be more likely to miss work but you're but but general cognitive ability for example is not a good predictor at all it'll predict how fast you learn in the tasks initially but not how well you perform the test but if the tasks you're doing are shifting constantly so your responsibilities change or you're in a creative job where you're constantly solving new problems those are kind of the same thing then IQ as the complexity of the job increases the predictive utility of IQ increases which is only to say that smarter people can handle complex situations faster so that doesn't seem like a particularly radical claim so prices law dictates that there's massive individual productivity differences between people so increasing your predictive your capacity for predicting performance even by small increments has a huge economic consequence that was established in the 1990s the equations were first developed in the 1990s and that's part of the reason that I started working on performance prediction tests because I read the economics and I thought oh my god you can produce a test that costs $30 x say maybe you have 50 applicants for the position $1500 to administer and it'll produce and the increments of something like thirty percent of salary permanently for the person that you put in the position so let's say you hire a $75,000 employee and it increases their productivity by 30% so we'll say roughly $25,000 you get a $25,000 return on a $1,500 investment every single year that person occupies the position on average that's four years that's $100,000 pay off for your $1,500 investment I read that I thought ho-ho that'll be easy to sell its like wrong wrong even though the economic payoff was so massive I told you the other impediments that did emerge but the arithmetic are the capacity to produce these calculations was established in the in the 1990s and I'll show you the equations in a bit here ok so we already talked about what a normal distribution looks like that's the red line and a normal distribution emerges as a consequence of chance processes so we'll take a look at those here all right so here's a Pareto distribution this is the distribution remember I showed you with the creative achievement questionnaire that almost everybody stacked up at zero people have zero creative output the median person has zero lifetime creative output and then there's a tiny proportion that are way the hell out on the you know right hand end of the distribution right those are the people have hooves everything is cycling forward for them and as they get more well-known of course they get more opportunities as well so I just I'll just run this simulation for you ok and and this shows you why the Pareto distribution emerges now you have to watch this quickly because it's a fairly fast animation so here's what happens everybody starts out with ten dollars there's a there's a thousand people playing the game everybody starts out with ten dollars we I have a dollar you have a dollar I flip a coin if I get heads you give me a dollar if I get tails I give you daughter we go around and we trade with everyone okay so the first thing that happens when people start to trade is this normal distribution develops right because some people lose and some people win it's just like the golden board that I showed you okay so you keep playing people start to stack up a zero watch because they lose ten times in a row bang they're done the bottom graph is a graph of the entropy of the distribution which increases us the game continues because at the beginning it's maximally ordered right everybody has exactly the same amount now it's being distributed same equations apply to the distribution of gas into a vacuum well what happens now someone you know there are people out there at the at the 50 dollar range or at the $60 range at the 70 dollar range you keep playing it well eventually what happens if you play it right to its conclusion is that one person ends up with all the money that's to those who have everything more will be given from those who have nothing everything will be taken that's the law of economic productivity it's called Matthew is the Matthew principle and it's actually an economic principle that was derived from a saying in the New Testament I'll tell you some more about this on Tuesday because I didn't get through all of it I want to I want to finish up the performance prediction lecture and show you a couple of things I didn't get to show you the last time that we talked and then I want to do the closing lecture since we're done today so we'll start with the performance prediction and so I've been thinking more about this Pareto distribution issue because it's it's a really big deal and and I it's it's difficult it's still difficult for me to understand see I didn't really learn about this till about ten years ago which is quite a shock to me because it's such a fundamental phenomena that it seems to me that it would have been addressed in my training somewhere along the way and so and so I'm still thinking it through what it means exactly now here's here's an interesting thing you know that IQ is normally distributed and it's a good predictor of long-term performance and conscientiousness is normally distributed and it's a good predictor of long-term performance and so and openness is also normally distributed and it's a good predictor of creative behavior but creative output is not normally distributed it is distributed in this weird Pareto distribution that that's indexed here and I showed you that with the creative achievement questionnaire most specifically because that provides a really concrete example of it so it looks like the capacity to think creatively might be normally distributed that would be openness say and intelligence but the consequence of that turns into this strange Pareto distribution and the Pareto distribution with regards to creative achievement was best the the catastrophe of it in some sense is best indexed by the fact that if I remember correctly 70% of people who complete the creative achievement questionnaire which indexes lifetime creativity score zero so and zero is a strange number you know zero isn't like other numbers and that part of the reason for that is that it's difficult to do anything with nothing so you know if you if you buy a stock and them and the price syncs to you like - Sansa Stark you're still alive but if the price sinks to zero you're done right that's it the game's over and that's the thing about zero when you're hit zero or maybe when you're at zero the game is over and so there's these weird barriers to moving forward in life and you see this there's a poverty trap that's sort of like this - like if you're if you're so broke that you can't keep up with paying your bills it's really really difficult to get out of that because you can't get a bank account for example and you can't pay your rent I said and that there's there's there's economies of scale that you can't take advantage of because you don't have any money at all and so you can't get going in the game and then so there's the problem of starting out with zero which is a big problem and very difficult to get out of and then there's the problem of falling to zero if you are in the game because when you fall to zero that it's very difficult to get going again and so now I want to show you something about how how trading games work so I think we stopped we closed with this last time but so this is a this is a graph that shows you how a Monopoly game starts roughly speaking but you could say this is how you would set up the world if you wanted perfect equity if you wanted everybody to have the same outcome everybody would have the same amount of money in this case it's ten dollars and so it's it's it's dollars along the along the bottom axis and it's number of players along the left hand a axis and you can think about this as a Monopoly game everybody starts since the same amount of money and then you start trading randomly and you know if if you have $10 and you're trading $1 each trade if you have enough people some unlucky person is going to end up with zero dollars after ten trades and if they end up with $1 after nine trades they still have a chance of recovery it's a low chance but it's not zero but once they hit zero they're out of the game and so what happens is if you run this simulation you have people flip a coin to determine how they're going to trade then this is what happens so the first thing that happens is you generate a normal distribution because some people win and some people lose and most people sort of half win and half lose but some lose continually and some win continually and so it turns into a normal distribution that's but then when the game continues to play then what happens is that people start to stack up on 0 end of things and a tiny proportion at the upper end and if you play the game right to cessation which is what you do if you play Monopoly for example somebody ends up with all the money and the funny thing about playing Monopoly as you know if you've played Monopoly multiple times is that the probability that you'll win continually across games is pretty low you know there's a lot of randomness and monopoly and if you play with the same 5 people 10 games the probability is pretty good you're not going to win more than two games so so there's chance elements that come into play that determine the outcome and and so anyways I was thinking about this more a little bit more last night and somebody asked me I was talking about it with somebody and he asked me if the Pareto distribution was a necessary consequence of the fact that production is number one measured and number two social and that's that I thought that was a really interesting question it's like do you get a preeto distribution every time creative output ends up being measured in some way and even if you can conceptualize it so because it might be the the idea might be that anything that you can assign monetary value to is first of all is something you can measure because assigning monetary value to something is in fact measuring it right you're measuring it with money and then as soon as you assign a monetary value to it you can you can trade it you can trade it and it also takes on some aspects of a zero-sum game and most of the things that we talked about with regards to the production of period of distributions were measured entities and were were were trading games as well so even because I mentioned to you for example that number of of basketball hoops successfully managed by NBA players is freed or distributed but that's also those are measurable with money because of course you get paid to do it and it's an it is a social game and so maybe it is inevitable consequence of trading in a social game that you produce pre Doyle comes and then I was trying to figure out why and I've always had the suspicion that what happens to people is that as they move toward zero the feedback loops get set up so they're more likely to hit zero and as they move away from zero positive feedback loops get set up so that they're increasingly more likely to move away from zero

Channel: The Art of Trading

Views: 171,661

Keywords: jordan peterson, pareto distribution, price's law, forex, trading, trading psychology, why do traders fail

Id: BZMBdRfbk6A

Length: 13min 32sec (812 seconds)

Published: Mon May 27 2019