By Grace Zhiwei Tan

“It has been my quest to understand the economy, but as a physicist – not an economist. The term ‘econophysics’ was coined only twenty years ago by physicists who wanted to apply techniques of analysis used in physics to financial data.

The Global Financial crisis in 2007 was the catalyst that sparked my interest in econophysics. When the crisis began, I was undertaking a post-doc in England – having completed a PhD in astrophysics. I realised, as I saw the crisis unfold on a global scale, that problems with the financial system had a calamitous effect on everyone. Yet the key decision-makers of the global economy – the central banks – appeared to be ignorant of what drove the system.

One area I was particularly concerned with was how economists tended to ignore the role that money plays in the economy. It came to light through the crisis that the people who were making decisions about how much money was entering the economy were not democratically-elected representatives.  Instead, they were the bankers and the mortgage providers.

It was with the intent of using my experience in physics to understand the role money plays in an economy, that I embarked on a PhD in econophysics at the University of Melbourne.

My supervisors at the university had limited experience in econophysics research.  Hence, the onus was on me to develop research topics. I decided to find something interesting across a range of topics rather than do an in-depth study on a single topic. By the end of my PhD, our research team had developed several studies in econophysics.

One study our research team undertook was on the existence of network effects within the Australian banking system. Economic interactions are not random, and individual agents interact with some agents more than others. For instance, a person living in Melbourne would frequent a certain café more than the many other cafés in the city – by virtue of his or her preference for the coffee there. Herein, a favourite café would be part of a person’s network. Similarly, the whole economy can be visualised as a network of interactions. Our study was the first empirical investigation conducted with actual interbank-transaction data provided by the Reserve Bank of Australia.

In particular, our study examined the money flows between banks interacting within the Australian interbank market. Every trading day, each bank would have its own suite of credit and debit flows which would result in a net position of surplus or deficit of funds by the end of that day. Depending on its net position, a bank would then go to the overnight interbank market to lend or borrow from other banks for the night.

Our study found that although there is a strong negative correlation between a bank’s net position at the end of a trading day and the amount it would then need to lend or borrow on the overnight interbank market, there is no correlation in where all the money comes from or goes to. Large flows of money could come into or out of a bank from a given random group of banks in the day, but that bank’s overnight borrowing or lending could come from another random group of banks. Money flows within the Australian interbank network were not correlated.

In another study, our research team looked at the money exchanges between economic agents. Economists run computer simulations of an artificial world within which many agents exchange money, i.e. transact. One of the purposes of such a simulation is to compute the distribution of wealth, within the artificial world, which will eventuate. This distribution of wealth takes on a certain unchanging shape when the simulation reaches a certain point – which economists call the steady state. The simulation, which is a time-consuming exercise, does not yield accurate results on wealth distribution at higher levels of wealth. The main contribution of our study was the proposal of a new numerical technique that could compute the distribution of wealth in the steady state – with high precision – without the need of a simulation.

A range of work which future students of econophysics can expand on was produced during my PhD, providing those students with more versatility to proceed in this field.

Although I am now enjoying my work as a programmer at the Australian Centre of Field Robotics, having completed my PhD, I continue to read up on research relating to the role of money in the economy. I believe it is important for everybody to understand these things, if we are to avoid a global financial crisis happening again.”