Tuesday, May 07, 2019

The Model Thinker #18 : Systems Dynamics Models.

Systems Dynamics models are so useful that I have decided to come up with my own spin on why it is so powerful.

A systems dynamics model allows an engineer to model feedback loops and gain a holistic understanding of now a system works. This frame work is sufficiently flexible such that it can apply to any domain.

Here is how I intend to use this framework to teach the fundamentals of personal finance to my students.

The diagram above summarises our financial lives.

Upon first inspection, our monthly cash flow is influenced by our salary from work which is determined by our life-energy exchange.

For the greater part of the financial blogosphere, I think we have make the mistake of thinking that the moment we can start investing part of our money into dividend stocks, we would spark a virtuous cycle of getting more passive income to farm more of our salaries into passive income assets.

Fortunately,  the systems dynamics model also allows us to start thinking about negative feedback loops.

One of the effects of getting passive income is that we find that there is less motivation to work and possibly even more impetus to spend money on discretionary consumer goods. This creates a negative feedback loop decreasing our propensity to generate more cash-flow every month.

I suspect this will be a major theme for many bloggers who are at the cusp of financial independence.

The final effect is that folks who FI do not accumulate wealth forever.

Many will reach a comfortable steady state that varies based on their own personalities.

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