Stochastic Flow Diagrams Add Topology to the Econometric Toolkit

Abstract

Just as Geometry could not help Euler solve the “Seven Bridges of Königsberg” problem, Econometric analysis or Linear Algebra alone are not able to answer many key questions about how financial markets coordinate. Statistical tables are detailed in terms of reporting estimated values, however that level of detail also obfuscates the logical and hierarchical relationships between variables.

Stochastic Flow Diagrams (SFDs) are more insightful than the standard collection of statistical tables because SFDs shift the focus from the algebraic solution of the system to its logical structure. SFDs open the possibility to apply Topology and Graph Theory results to the study of Economic and Financial systems.

Keywords: Time Series, Graph Theory, Topology, Financial Flows, Macro Trading

JEL Classification: G0, G1, G2, G15, G24, E44