Yeah, as a dagger I had to change the stats to make it work; it only had defensive stats. I've switched it over to a shield now... I'll let everyone know when there are some links up.
Still delving into PSI now. I can't specifically find a damage algorithm, but I ran some tests giving characters and monster various attack and defense stats... and man is that game RANDOM!! Log of Odin maxed out against a maxed out defense: Miss, Miss, 2, 14, 3, 47???, 20, 17, 12, 33, 1... etc. Not to mention overflow bug madness, (that's why Noah with his puny Wand will do a ton of damage to a White Dragon, he's lapped around the counter so that he's actually powerful against a high defense.)
In my search for people with some data on PSI I came across a patch for the game, (has to be applied to the Japanese version,) where some people got together and added twice as much dialogue to the game. I've only tried it to see if it works, but it looks like it is worthy of a play-through! They used all the Japanese names for things. Here's a link:
http://www.smspower.org/translations/phantasystar-en/