JW Mason – Page 31 – J. W. Mason

Mehrling on Black on Capital

In a post last week, I suggested that an alternative to thinking of capital as quantity of means of production accumulated through past investment, is to think of it as the capitalized value of expected future profit flows. Instead of writing

α = r k

where α is the profit share of national income, r is the profit rate, and k is the capital-income ratio, we should write

k = α / r

where r is now understood as the discount rate applied to future capital income.

Are the two rs the same? Piketty says no: the discount rate is presumably (some) risk-free interest rate, while the return on capital is typically higher. But I’m not sure this position is logically sustainable. If there are no barriers to entry, why isn’t investment carried to the point where the return on capital falls to the interest rate? On the other hand, if there are barriers to entry, so that capital can continue to earn a return above the interest rate without being flooded by new investment with borrowed funds, then profits cannot all be attributed to measured capital; some is due to whatever privilege creates the barriers. Furthermore, in that case there will not be, even tendentially, a uniform economywide rate of profit.

In any case, whether or not we have a coherent story of how there can be a profit rate distinct from the discount rate, it’s clearly the latter that matters for corporate equity, which is the main form of capital Piketty observes in modern economies. Verizon, to take an example at random, has current annual earnings of around $20 billion and is valued by the stock market at around $200 billion. Nobody, I hope, would interpret these numbers as meaning that Verizon has $200 billion of capital and, since the economy-wide profit rate is 10%, that capital generates $20 billion in profits. Rather, Verizon — the enterprise as a whole, its physical capital, its organization and corporate culture, its brand, its relationships with regulators, the skills and compliance (or not) of its workers — currently generates $20 billion a year of profits. And the markets — applying the economy-wide discount factor embodied in the interest rate, plus a judgement about the likely change in share of the social surplus Verizon will be able to claim in the future — assess the present value of that stream of profits from now til doomsday at $200 billion.

Now it might so happen that the stock market capitalization of a corporation is close to the reported value of assets less liabilities — this corresponds to a Tobin’s q of 1. Verizon, with total assets of $225 billion and total liabilities of $50 billion, happens to fit this case fairly well. It might also be the case that a firm’s reported net assets, deflated by some appropriate price index, correspond to its accumulated investment; it might even also be the case that there is a stable relationship between reported net capital and earnings. But as far as market capitalization goes, it makes no difference if any of those things is true. All that matters is market expectations of future earnings, and the interest rate used to discount them.

I was thinking about this in relation to Piketty’s Capital in the 21st Century. But of course the point is hardly original. Fischer Black (of the Black-Scholes option-pricing formula) made a similar argument decades ago for thinking of capital as a claim on a discounted stream of future earnings, rather than as an accumulation of past investments.

Here’s Perry Mehrling on Black’s view of capital:

As in Fisher, Black’s emphasis is on the market value of wealth calculated as the expected present value of future income flows, rather than on the quantity of wealth calculated as the historical accumulation of savings minus depreciation. This allows Black to treat knowledge and technology as forms of capital, since their expected effects are included when we measure capital at market value. As he says: “more effective capital is more capital” (1995a, 35). Also as in Fisher, capital grows over time without any restriction from fixed factors.

…

For Black, the standard aggregative neoclassical production function is inadequate because it obscures sectoral and temporal detail by attributing current output to current inputs of capital and labor, but he tries anyway to express his views in that framework in order to reach his intended audience. Most important, he accommodates the central idea of mismatch to the production function framework by introducing the idea that the “utilization” of physical capital and the “effort” of human capital can vary over time. This accommodation makes it possible to express his theory in the familiar Cobb-Douglas production function form: y = A(eh)^α(fk)^(1-α), where y is output, h and k are human and physical capital, e and f are effort and utilization, and A is a temporary shock (1995, eq. 5.3).

It’s familiar math, but the meaning it expresses remains very far from familiar to the trained economist. For one, the labor input has been replaced by human capital so there is no fixed factor. For another, both physical and human capital are measured at market values, and so are supposed to include technological change. This means that the A coefficient is not the usual technology shift factor (the familiar “Solow residual”) but only a multiplier, indeed a kind of inverse price earnings ratio, that converts the stock of effective composite capital into a flow of composite output. In effect, and as he recognizes, Black’s production function is a reduced form, not a production function at all in the usual sense of a technical relation between inputs and outputs. What Black is after comes clearer when he groups terms and summarizes as Y=AEK (eq. 5.7), where Y is output, E is composite utilization, and K is composite capital. Here the effective capital stock is just a constant multiple of output, and vice versa. It’s just an aggregate version of Black’s conception of ideal accounting practice (1993c) wherein accountants at the level of the firm seek to report a measure of earnings that can be multiplied by a constant price- earnings ratio to get the value of the firm.

…

In retrospect, the most fundamental source of misunderstanding came (and comes still) from the difference between an economics and a finance vision of the nature of the economy. The classical economists habitually thought of the present as determined by the past. In Adam Smith, capital is an accumulation from the careful saving of past generations, and much of modern economics still retains this old idea of the essential scarcity of capital, and of the consequent virtue attached to parsimony. The financial point of view, by contrast, sees the present as determined by the future, or rather by our ideas about the future. Capital is less a thing than an idea about future income flows discounted back to the present, and the quantity of capital can therefore change without prior saving.

In comments, A H mentioned that Post Keynesian or structuralist economics seem much closer to the kind of analysis used by finance professionals than orthodox economics does. I think one reason is that we share what Mehrling calls the “money view” or, here, the “finance vision” of the economy. Orthodoxy sees the economy as a set of exchanges of goods; the finance vision sees a set of contractual money payments.

Mehrling continues:

In The Nature of Capital and Income, Irving Fisher (1906) straddled the older world view of economics and the emerging world view of finance by distinguishing physical capital goods (for which the past-determines-present view makes sense) from the value of those goods (for which the future-determines-present view makes sense). By following Fisher, Black wound up employing the same straddle.

Piketty may be in a similarly awkward position.

Chekhov on Data

From On Official Business:

“Tell me, old chap, how long have you been village constable in these parts?”

“Well, must be nigh on 30 years. It was about five years after the serfs was freed that I began, so you can work it out for yourself. Since then I’ve been doing it every day. … To the treasurer’s department, to the post office, to the police inspector’s house, the magistrate, council offices, tax inspector, gentle folk, village folk, and all God-fearing Christians, I carry parcels, summonses, letters, all kinds of forms and lists. Nowadays, my good sir, there’s no end to these forms — yellow, white, red — all for writing figures on. Every squire, parson and rich farmer has to write down, ten times a year, how much he’s sown or reaped, how many bushels or hundredweight of rye he’s got, how much oats and hay, what the weather’s like, and about different sorts of insects. They please themselves what they write, of course, it’s only just forms, but I has to run around handing them sheets of paper out — and then it’s me what has to collect ‘em all in. Now, that dead gent over there. There’s no need to slit him open, you yourself know it’s a waste of time and you’ll only get your hands dirty. But you’ve had to go to the bother, sir, you’ve driven out here, all because of those forms.”

It’s a reminder that underlying every economic statistic is a concrete process of making human activity legible as quantities. One person asks another person a question, and the other answers (or doesn’t) in the context of some particular relationship between them.

People often quote Josiah Stamp to make this point. Nice to have another option.

UPDATE: While we are talking about Chekhov, I can’t resist sharing this passage from “Rothschild’s Fiddle”:

There before him stood an ancient, spreading willow tree with a massive trunk, and a crow’s nest among its branches. … He sat down at its foot and thought of the past. On the opposite shore, where that meadow now was, there had stood in those days a wood of tall birch-trees, and that bare hill on the horizon yonder had been covered with the blue bloom of an ancient pine forest. And sailboats had plied the river then, but now all lay smooth and still, and only one little birch-tree was left on the opposite bank, a graceful young thing, like a girl, while on the river there swam only ducks and geese. It was hard to believe that boats had once sailed there. It even seemed to him that there were fewer geese now than there had been. …
He was puzzled to know why he had never once been down to the river during the last forty or fifty years of his life, or, if he had been there, why he had never paid any attention to it. The stream was fine and large; he might have fished in it and sold the fish to the merchants and the government officials and the restaurant-keeper at the station, and put the money in the bank. He might have rowed in a boat from farm to farm and played on his fiddle. People of every rank would have paid him money to hear him. He might have tried to run a boat on the river, that would have been better than making coffins. Finally, he might have raised geese, and killed them, and sent them to Moscow in the winter. Why, the down alone would have brought him ten rubles a year! But he had missed all these chances and had done nothing. What losses were here! Ah, what terrible losses! And, oh, if he had only done all these things at the same time! If he had only fished, and played the fiddle, and sailed a boat, and raised geese, what capital he would have had by now! But he had not even dreamed of doing all this; his life had gone by without profit or pleasure. It had been lost for nothing, not even a trifle. Nothing was left ahead; behind lay only losses, and such terrible losses that he shuddered to think of them. But why shouldn’t men live so as to avoid all this waste and these losses? Why, oh why, should those birch and pine forests have been felled? Why should those meadows be lying so deserted? Why did people always do exactly what they ought not to do? Why had Yakov scolded and growled and clenched his fists and hurt his wife’s feelings all his life? Why, oh why, had he frightened and insulted that Jew just now? Why did people in general always interfere with one another? What losses resulted from this! What terrible losses! If it were not for envy and anger they would get great profit from one another.

UPDATE 2: Not like anyone is reading this, but I feel obliged to point out that while I find this passage affecting, I certainly don’t endorse it or anything. What Chekhov has captured perfectly is the attitude of what we used to call, quite precisely, the petty bourgeoisie, the self-employed commodity producer. (In this case, a coffin-maker and musician.) The mixing-up of personal virtue, use-values and profit is characteristic, along with the fretting about “envy” and “interference” as the obstacles to mutual profit. If a real-life Hank Rearden were described by someone with a deep and sympathetic understanding of human nature, he might sound something like this.

Which reminds me — on a very different note, does anyone who lived in Chicago in the 1990s remember a play at the Annoyance Theater called “Ayn Rand Gives Me a Boner”? The protagonist was the world’s most insufferable micromanaging boss, a supervisor at a grocery store obsessed with perfecting the checkout process. His adversary was a man with terminal cancer using the sheer power of sympathy to take over the world. Whatever you think of the title, it was kind of brilliant.

How Not to Think about Negative Rates

Last week’s big monetary-policy news was the ECB’s decision to target a negative interest rate, in the form of an 0.25 percent tax on bank reserves. This is the first time a major central bank has announced a negative policy rate, though some smaller ones (like the Bank of Sweden) have done so in the past few years.

Whether a tax on reserves is really equivalent to a negative interest rate, and whether this change should be expected to pass through to interest rates or credit availability for private borrowers, are not easy questions. I’m not going to try to answer them now. I just want to call attention to this rather extraordinary Neil Irwin column, as an example of how unsuited mainstream discussion is to addressing these questions.

Here’s Irwin’s explanation of what a negative interest rate means:

When a bank pays a 1 percent interest rate, it’s clear what happens: If you deposit your money at the bank, it will pay you a penny each year for every dollar you deposited. When the interest rate is negative, the money goes the other direction. … Put bluntly: Normally the banks pay you to keep your money there. Under negative rates, you pay them for the privilege.

Not mentioned here, or anywhere else in the article, is that people pay interest to banks, as well as receiving interest from them. In Irwin’s world, “you” are always a creditor, never a borrower.

Irwin continues:

The theory is that when it becomes more costly for European banks to keep money in the E.C.B., they will have incentive to do something else with it: Lend it out to consumers or businesses, for example.

Here’s the loanable funds theory in all its stupid glory. People put their “money” into a bank, which then either holds it or lends it out. Evidently it is not a requirement to be a finance columnist for the New York Times to know anything about how bank loans actually work.

Irwin:

Banks will most likely pass these negative interest rates on to consumers, or at least try to. They may try to do so not by explicitly charging a negative interest rate, but by paying no interest and charging a fee for account maintenance.

Note that “consumers” here means depositors. The fact that banks also make loans has escaped Irwin’s attention entirely.

Of course, most of us are already in this situation: We don’t receive any interest rate on our transaction balances, and pay are willing to pay various charges and fees for the liquidity benefits of holding them.

The danger of negative rates, per Irwin, is that

It is possible that, assuming banks pass along the negative rates through either fees or explicitly charging negative interest, people will withdraw their money as cash rather than keeping it on deposit at banks. … That is one big reason that the E.C.B. and other central banks are going to be reluctant to make rates highly negative; it could result in people pulling cash out of the banking system.

Again the quantity theory in its most naive and stupid form: there is a fixed quantity of “money” out there, which is either being kept in banks — which function, in Irwin’s world, as glorified safe deposit boxes — or under mattresses.

Evidently he’s never thought about why the majority of us who already face negative rates on our checking accounts continue to hold them. More fundamentally, there’s no explanation of what makes negative rates special. Bank deposits don’t, in general, finance holdings of reserves, they finance bank loans. Any kind of expansionary policy must reduce the yield on bank loans and also — if margins are constant — on deposits and other bank liabilities. Making returns to creditors the acid test of policy, as Irwin does, would seem to be an argument against expansionary monetary policy in general — which of course it is.

What’s amazing to me in this piece is that here we have an article about monetary policy that literally makes no mention of loans or borrowers. In Irwin’s world, “you” are, by definition, an owner of financial assets; no other entities exist. It’s the 180-proof distillation of the bondholder’s view of the world.

Heterodox criticism of the loanable-funds theory of interest and insistence that loans create deposits, can sometimes come across as theological, almost ritual. Articles like this are a reminder of why we can’t let these issues slide, if we want to make any sense of the financial universe in which we live.

Three Ways of Looking at alpha = r k

Piketty’s “first law of capitalism” is the accounting identity

α = r k

where α is the share of capital income in total output, r is the average return on capital, and k is the aggregate capital-output ratio.

As accounting, this is true by definition. As economics, what kind of economic behavior does it describe? There are three ways of looking at it.

In the standard version, the profit share is determined by a production function, which is given by technology. The profit rate r* required by capital owners is fixed by technology in combination with time preferences. In this closure, k is the endogenous, or adjusting, variable. Investment rises or falls whenever the realized profit rate differs from the required rate, thus keeping k at the level that satisfies the equation for r = r*.

In Piketty’s version, r is fixed (somehow; the mechanism is not clear) and k is determined by savings behavior and (exogenous) growth according to his “second law of capitalism”:

k = s/g

That leaves α to passively accommodate r and k. Capitalists get whatever the current capital stock and fixed profit rate entitle them to, and workers get whatever is left over; in effect, workers are the residual claimants in Piketty’s system. (This is the opposite of the classical view, in which wages are fixed and capitalists get the residual.)

In a third interpretation, we could say that α and r are set institutionally — α through some kind of bargaining process, or by the degree of monopoly, r perhaps by the interest rate set in the financial system. The value of the capital stock is then given by capitalizing the flow of profits α Y at the discount rate r. (Y is total output.) This interpretation is the natural one if we think of “capital” as a claim to a share of the surplus as opposed to physical means of production.

This interpretation clearly applies to pure land, or to the market value of a particular firm. What if it applied to capital in general? Since claims on the surplus — including claims exercised through nonproduced assets like land — are not created by reserving output from consumption, aggregate savings would be a meaningless accounting construct in this case. (Or we could adopt a Hicksian view of saving in which it equals the change in net wealth by definition.) Looking at things this way also puts r > g in a different light. Suppose we think of the capital stock as a whole as something like the stock of a firm, which entitles the owners to the flow of profits from that firm. If the profits today are α Y and output is expected to grow at a rate g, what is the value of the stock today? If we discount future profits at r, then it is the sum from t=0 to t=infinity of α Y (1 + g)^t / (1 + r)^t, which works out to α Y / (r – g). So if we can take the rate of return on capital as the discount rate on future profits, then r > g is implied by a finite value of the capital stock.

We shouldn’t ask what capital “really” is. It really is a quantity of money in a process of self-expansion, and it really is a mass of means of production, and it really is authority over the production process. But the particular historical questions Piketty is interested in may be better suited to thinking of capital as a claim on the social surplus than as a physical quantity of means of production. Seth Ackerman has some very interesting thoughts along these lines in his contribution to the Jacobin symposium on the book.

Further Thoughts on Anti-Financialization

I want to amplify the last point from the previous post, about anti-financialization.

If we go back to the beginning of the national accounts in 1929, we find personal consumption accounts for around 75% of GDP. (This is true whether or not we make the C&F adjustments, since in 1929 the imputed and third-party component of consumption were either nonexistent or small.) During the Depression, the consumption share rises to 85% as business investment collapses, during the war it falls to below 50%, and it rises back to around two-thirds after 1945. It’s in the second half of the 1940s, with the growth of pension and health benefits and the spread of homeownership, that we start to see a large wedge between headline consumption and actual cash expenditures by households.

We can think of the ratio of adjusted consumption to GDP as a measure of how marketized the economy is: How much of output is purchased by people for their own use, as opposed to allocated in some other way? In this sense, the steady fall in adjusted consumption as a share of GDP represents a steady retreat of capitalist production in the postwar US. It was squeezed from both sides: from “above” by public provision of health care, education and retirement security, and from “below” by the state-fostered growth of self-provision in housing.

Consumption spending by households bottomed out at 47 percent of GDP in 1981. With the neoliberal turn, the process of de-marketization largely halted — but it did not reverse. Since then, consumption spending by households has hovered around 47-48% of GDP. The phenomena of household financialization, “markets for everything,” etc. are real — but only at the level of ideology. Private life in the US has not become more commodified, marketized or financialized in recent decades; over a longer horizon the opposite. What has happened is that a thickening veneer of fictional market transactions has been overlaid on a reality of social consumption.

In reality, neither collective provision of health care (or of education, public safety, etc.) nor self-provision of housing has been replaced to any noticeable degree by market purchases. What we’ve had, instead, is the statistical illusion of rising private consumption spending — an illusion fostered by the distortion of the national accounts by the dominant economic theory. When health insurance is purchased collectively by government or employers, the national accounts pretend that people were paid in cash and then chose to purchase health coverage individually. When retirement savings are carried out collectively by government or employers, the national accounts pretend that people were paid in cash and then chose to purchase financial assets. When people buy houses for their own use, the national accounts pretend they are profit-maximizing landlords, selling the use of their houses in the rental market. When liquidity constraints force people to hold financial wealth in low-yield forms, the national accounts pretend that financial markets are frictionless and that they are receiving the market yield in some invisible form. Together, these fictional transactions now make up 20 percent of GDP, and fully a third of apparent household consumption.

Of course, that might change. The decline of homeownership and the creation of a rental market for single-family homes may turn the fiction of a housing sector of tenants and profit-seeking landlords into a reality. One result of Obamacare — intended or otherwise — will be to replace collective purchases of health insurance by employers with individual purchases by households. Maybe the Kochs and Mark Zuckerberg will join forces and succeed in privatizing the schools. But none of that has happened yet. What’s striking to me is how many critics of contemporary capitalism — including Cynamon and Fazzari themselves — have accepted the myth of rising household consumption, without realizing there’s no such thing. The post 1980s rise in consumption is a statistical artifact of the ideology of capitalism — a way of pretending that a world of collective production and consumption is a world of private market exchange.

The Nonexistent Rise in Household Consumption

Did you know that about 10 percent of private consumption in the US consists of Medicare and Medicaid? Despite the fact that these are payments by the government to health care providers, they are counted by the BEA both as income and consumption spending for households.

I bet you didn’t know that. I bet plenty of people who work with the national income accounts for a living don’t know that. I know I didn’t know it, until I read this new working paper by Barry Cynamon and Steve Fazzari.

I’ve often thought that the best macroeconomics is just accounting plus history. This paper is an accounting tour de force. What they’ve done is go through the national accounts and separate out the components of household income and expenditure that represent cashflows received and made by households, from everything else.

Most people don’t realize how much of what goes into the headline measures of household income and household consumption does not actually correspond to any flow of money to or from households. In 2011 (the last year covered by the paper), personal consumption expenditure was given as just over $10 trillion. But of that, only about $7.5 trillion was money spent by households on goods and services. Of the rest, as of 2011:

– $1.2 trillion was imputed rents on owner-occupied housing. The national income and product accounts treat housing on the principle that the real output of housing should be the same whether or not the person living in the house happens to be the same person who owns it. So for owner-occupied housing, they impute an “owner equivalent rent” that the resident is implicitly paying to themselves for use of the house. This sounds reasonable, but it conflicts with another principle of the national accounts, which is that only market transactions are recorded. It also creates measurement problems since most owned residences are single-family homes, for which there isn’t a big rental market, so the BEA has to resort to various procedures to estimate what the rent should be. One result of the procedures they use is that a rise in hoe prices, as in the 2000s, shows up as a rise in consumption spending on imputed rents even if no additional dollars change hands.

– $970 billion was Medicare and Medicaid payments; another $600 billion was employer purchases of group health insurance. The official measures of household consumption are constructed as if all spending on health benefits took the form of cash payments, which they then chose to spend on health care. This isn’t entirely crazy as applied to employer health benefits, since presumably workers do have some say in how much of their compensation takes the form of cash vs. health benefits; tho one wouldn’t want to push that assumption that too far. But it’s harder to justify for public health benefits. And, justifiable or not, it means the common habit of referring to personal consumption expenditure as “private” consumption needs a large asterix.

– $250 billion was imputed bank services. The BEA assumes that people accept below-market interest on bank deposits only as a way of purchasing some equivalent service in return. So the difference between interest from bank deposits and what it would be given some benchmark rate is counted as consumption of banking services.

– $400 billion in consumption by nonprofits. Nonprofits are grouped with the household sector in the national accounts. This is not necessarily unreasonable, but it creates confusion when people assume the household sector refers only to what we normally think of households, or when people try to match up the aggregate data with surveys or other individual-level data.

Take these items, plus a bunch of smaller ones, and you have over one-quarter of reported household consumption that does not correspond to what we normally think of as consumption: market purchases of goods and services to be used by the buyer.

The adjustments are even more interesting when you look at trends over time. Medicare and Medicaid don’t just represent close to 10 percent of reported “private” consumption; they represent over three quarters of the increase in consumption over the past 50 years. More broadly, if we limit “consumption” to purchases by households, the long term rise in household consumption — taken for granted by nearly everyone, heterodox or mainstream — disappears.

By the official measure, personal consumption has risen from around 60 percent of GDP in the 1950s, 60s and 70s, to close to 70 percent today. While there are great differences in stories about why this increase has taken place, almost everyone takes for granted that it has. But if you look at Cynamon and Fazzari’s measure, which reflects only market purchases by households themselves, there is no such trend. Consumption declines steadily from 55 percent of GDP in 1950 to around 47 percent today. In the earlier part of this period, impute rents for owner occupied housing are by far the biggest part of the difference; but in more recent years third-party medical expenditures have become more important. Just removing public health care spending from household consumption, as shown in the pal red line in the figure, is enough to change a 9 point rise in the consumption share of GDP into a 2 point rise. In other words, around 80 percent of the long-term rise in household consumption actually consists of public spending on health care.

In our “Fisher dynamics” paper, Arjun Jayadev and I showed that the rise in debt-income ratios for the household sector is not due to any increase in household borrowing, but can be entirely explained by higher interest rates relative to income growth and inflation. For that paper, we wanted to adjust reported income in the way that Fazzari and Cynamon do here, but we didn’t make a serious effort at it. Now with their data, we can see that not only does the rise in household debt have nothing to do with any household decisions, neither does the rise in consumption. What’s actually happened over recent decades is that household consumption as a share of income has remained roughly constant. Meanwhile, on the one hand disinflation and high interest rates have increased debt-income ratios, and on the other hand increased public health care spending and, in the 2000s high home prices, have increased reported household consumption. But these two trends have nothing to do with each other, or with any choices made by households.

There’s a common trope in left and heterodox circles that macroeconomic developments in recent decades have been shaped by “financialization.” In particular, it’s often argued that the development of new financial markets and instruments for consumer credit has allowed households to choose higher levels of consumption relative to income than they otherwise would. This is not true. Rising debt over the past 30 years is entirely a matter of disinflation and higher interest rates; there has been no long run increase in borrowing. Meanwhile, rising consumption really consists of increased non-market activity — direct provision of housing services through owner-occupied housing, and public provision of health services. This is if anything a kind of anti-financialization.

The Fazzari and Cynamon paper has radical implications, despite its moderate tone. It’s the best kind of macroeconomics. No models. No econometrics. Just read the damn tables, and think about what the numbers mean.

Gurley and Shaw on Banking

Gurley and Shaw (1956), “Financial Intermediaries in the Saving-Investment Process”:

As intermediaries, banks buy primary securities and issue, in payment for them, deposits and currency. As the payments mechanism, banks transfer title to means of payment on demand by customers. It has been pointed out before, especially by Henry Simons, that these two banking functions are at least incompatible. As managers of the payments mechanism, the banks cannot afford a shadow of insolvency. As intermediaries in a growing economy, the banks may rightly be tempted to wildcat. They must be solvent or the community will suffer; they must dare insolvency or the community will fail to realize its potentialities for growth.

All too often in American history energetic intermediation by banks has culminated in collapse of the payments mechanism. During some periods, especially cautious regard for solvency has resulted in collapse of bank intermediation. Each occasion that has demonstrated the incompatibility of the two principal banking functions has touched off a flood of financial reform. These reforms on balance have tended to emphasize bank solvency and the viability of the payments mechanism at the expense of bank participation in financial growth. They have by no means gone to the extreme that Simons proposed, of divorcing the two functions altogether, but they have tended in that direction rather than toward endorsement of wildcat banking. This bias in financial reform has improved the opportunities for non-monetary intermediaries. The relative retrogression in American banking seems to have resulted in part from regulatory suppression of the intermediary function.

Turning to another matter, it has seemed to be a distinctive, even magic, characteristic of the monetary system that it can create money, erecting a “multiple expansion”of debt in the form of deposits and currency on a limited base of reserves. Other financial institutions, conventional doctrine tells us, are denied this creative or multiplicative faculty. They are merely middlemen or brokers, not manufacturers of credit. Our own view is different. There is no denying, of course, that the monetary system creates debt in the special form of money: the monetary system can borrow by issue of instruments that are means of payment. There is no denying, either, that non-monetary intermediaries cannot create this same form of debt. …

However, each kind of non-monetary intermediary can borrow, go into debt, issue its own characteristic obligations – in short, it can create credit, though not in monetary form. Moreover, the non-monetaryintermediaries are less inhibited in their own style of credit creation than are the banks in creating money. Credit creation by non-monetary intermediaries is restricted by various qualitative rules. Aside from these, the main factor that limits credit creation is the profit calculus. Credit creation by banks also is subject to the profit condition. But the monetary system is subject not only to this restraint and to a complex of qualitative rules. It is committed to a policy restraint, of avoiding excessive expansion or contraction of credit for the community’s welfare, that is not imposed explicitly on non-monetary intermediaries. It is also held in check by a system of reserve requirements. … The [money multiplier] is a remarkable phenomenon not because of its inflationary implications but because it means that bank expansion is anchored, as other financial expansion is not, to a regulated base. If credit creation by banks is miraculous, creation of credit by other financial institutions is still more a cause for exclamation.

The first paragraph of this long footnote is a succinct statement of a basic tension in bank regulation that remains unresolved. (Recall that Simons’ proposal to eliminate the intermediation function of banks was recently revived by Michel Kumhof at the IMF.) The other two paragraphs are a good clear statement of the argument I’ve been trying to develop on this blog, that there is no fundamental difference between money and other forms of financial claims, and a macroeconomically meaningful “quantity of money” was an artifact of mid-20th century regulatory arrangements.

In a World of Bullshit, This Is Some Egregious Bullshit

Via Scott McLemee and Corey Robin, I learn that Lawrence & Wishart, the publishers of the collected works of Marx and Engels, have issued takedown notice to the Marxist Internet Archive to remove all the material that L & W have copyright on. Which apparently they’re going to do — on May Day, appropriately enough.

As Scott points out, its not clear that this assertion of its property rights is going to earn L & W any money:

Somehow it has not occurred to Lawrence & Wishart that, by enlarging the pool of people aware of and reading the Collected Works, the archive is actually expanding the audience (and potential market) for L & W’s books, including the somewhat pricey MECW volumes themselves, available only in hardback at $25-50 per volume. … If Lawrence & Wishart still considers itself a socialist institution, its treatment of the Archive is uncomradely at best, and arguably much worse; while if the press is now purely a capitalist enterprise, its behavior is merely stupid.

The probability that copyright infringements can increase the income of copyright-holders has been mentioned on this blog before. If you take five minutes to think about who the market is for the collected work of Marx and Engels, it’ll be clear that that the existence of the Marxist Internet Archive is probably not cutting into it.

But beyond the pure stupidity of this, there’s the ideological stupidity.

I’m on an email list about teaching. The issue was raised recently, the list is a space for people to talk about what they do in the classroom, what works, what doesn’t, to vent about what pisses them off. It won’t work if stuff gets shared outside the list. Which, I totally agree! But what struck me, the request not to disseminate things people say on the list elsewhere, it wasn’t phrased in terms of privacy or professional courtesy, it was about respecting people’s intellectual property. That is how ideology happens.

L & W have put up response to being called out on this. We are, they say

not a capitalist organisation engaged in profit-seeking or capital accumulation, but a direct legatee of the Communist/Eurocommunist tradition in the UK, having been at one time the publishing house of the Communist Party of Great Britain. Today it survives on a shoestring, while continuing to develop and support new critical political work by publishing a wide range of books and journals. It makes no profits other than those required to pay a small wage to its very small and overworked staff, investing the vast majority of its returns in radical publishing projects…

In other words, it’s ok for us to use the power of the state to prevent people from reading Marx because we are Good Communists and we are going to do something awesome with whatever rents we can squeeze out of our copyrights. Raskolnikov had nothing on these guys.

Besides, they say, it’s so unfaaaaaair to ask them not to steal every penny they can get their fingers on. If you were real radicals, you’d respect the sacred rights of Property.

In asking L&W to surrender copyrights in this particular edition of the works of Marx & Engels, the Marxist Internet Archives and their supporters are asking that L&W, one of the few remaining independent radical publishers in the UK, should commit institutional suicide.

I guess there’s some dramatic irony in seeing Marx’s publishers engaged in this kind of primitive accumulation. But seriously, this is some egregious bullshit.

Cases like this bring out the black-is-white language of IP piracy. Here we have a group of people engaged in ongoing economic activity — an ongoing sharing of knowledge — and then an outsider arrives and tells them to stop what they’re doing on threat of violence, unless they pay up. Wouldn’t the pirates in this case be that outsiders? Wouldn’t the pirates be the ones using the threat of violence to disrupt an ongoing sharing of in order to appropriate a little booty? — which, as Scott points out, may not even be enough to defray the costs of their pillaging expedition.

“Disgorge the Cash” in The New Inquiry

The New Inquiry, an excellent new online magazine some readers may be familiar, has published an article I wrote based on the various disgorge the cash posts on this blog. Thanks to the superb editing of Mike Konczal and Rob Horning, the article develops the argument more cohesively than I’ve been able to on the blog. Go read it there, and then, if you like, comment here.

UPDATE: Matt Levine at Bloomberg calls me “the world’s leading Marxist analyst of the capital structure of the modern corporation.” That’s very flattering, but not remotely the case. What little I’ve written about this is all based on things I’ve learned from Jim Crotty, Dumenil and Levy, and Doug Henwood. (Including the phrase “disgorge the cash,” which I got from Doug.) Any of them might be contenders for that title (I won’t pick one), but not me. I’m just developing their ideas. And of course the original source of all this stuff is Part 5 of Volume III of Capital, especially chapter 27.

Notes from Capital in the 21st Century Panel

by Suresh Naidu

While I have a long piece on Piketty’s book coming out in Jacobin,
I was lucky enough to be a discussant on a panel with Thomas last Thursday,
where I got a chance to lay out some second-order reactions to the book as well
as talk with him a bit. Here are my notes from that, tidied up a bit and
including some things I didn’t get to say.

Perhaps a useful analogy
is that this is the “Free to Choose” or “Capitalism and Freedom” for
our time, from the left. I can’t think of a book that emerged from economics
for a mass audience with as much reception since then. And what good news this is
for economics! For 50 years Milton Friedman was the public face of partisan
economics, and stamped it with a conservative public face that persisted. Maybe
now Piketty’s book will give my discipline another public face.

But
let me push back against the book a bit. I think there is a
“domesticated” version of the argument that economists and people
that love economists will take away. Then there is a less
domesticated one, one that is more challenging to economics as it is currently
done. I’m curious which one Thomas believes more. I worry that the
impact of the book will be blunted because it becomes a “Bastard Piketty-ism”
and allows macroeconomics to continue in its modelling conventions, which are particularly ill-suited to questions of inequality.

The domesticated version is a story about
technology and the world market making capital and labor more and more
substitutable over time, and this is why r does not fall very much as wealth
accumulates. It is fundamentally a story about market forces, technology and
trade making the demand for capital extremely elastic. We continue to understand
r as the marginal contribution of capital to the production of the economy. I
think this is story that is told to academic economists, and it is plausible,
at least on the surface.

There is another story
about this, one that goes back to Keynes. And the idea here is that the rate of
return on capital is set much more by institutions, norms and
expectations than by supply and demand of the capital market. Keynes writes that “But the most stable, and the least easily shifted, element in
our contemporary economy has been hitherto, and may prove to be in future,
the minimum rate of interest acceptable to the generality of wealth-owners.”
Keynes footnotes it with the 19th century saying that “John Bull can stand many things, but
he cannot stand 2 percent.”

The book doesn’t quite
take a stand on whether it is brute market forces and a production function with a high elasticity of substitution or instead
relatively rigid organization of firms and financial institutions that lies
behind the stability of r.

I think the production
approach is less plausible, partly because housing plays such a large role in
the data, partly because average wages would have increased along with K/Y, partly because the
required elasticity of substitution is too big for net quantities, and partly because of the
differences between book and market capital. The (really great) sections
from the book on corporate governance actually suggest something quite
different, that there is a gap between cash-flow rights and control rights, and
this is why Germany has lower market relative to book values. This political dimension
of capital, the difference between the valuation written down in the balance
sheet and the real power to dispose of the asset, is something that the
institutional view of capital can capture better than the marginal product view. This is, I think, also a fruitful interpretation of what was at stake behind the old capital controversies.

The policy stakes from
this are also potentially large, because if it is just a very high substitutability,
a variety of labor market reforms are taken off the table, as firms just
replace workers with machines if you try to raise the wage.

Second, what is gained by producing long-run data?
Why do economic historians do what we do? And why is it important that the
series go before 1960? Part of the answer is that we discipline the modelling with useful analogies to a past. History gives us a library of options for understanding the present.
So if the wealth or income share looks like 1890 or 1913, maybe our social structure
is also starting to look like 1890 or 1913. And the book uses literature to
make some of those analogies vivid. For example maybe our marriage
patterns will start to look like those in the literature of the period.

But let us look at other
dimensions of that time. The Gilded Age U.S. North was riven with labor
conflict and the South was an apartheid state. U.S. military forces were deployed on U.S. territory more times in the late 19th century than any other period, solely for breaking up strikes and repressing labor conflict.And this points us towards one of the costs of inequality, which is a large
amount of social conflict. But note that this doesn’t have to be actually
observed to be costly. You could have a peaceful high inequality society by
spending a lot on security guards and gated enclaves (or hired economists to tell people it is all efficient and for the best), but that is still costly, in
that social resources are getting unnecessarily spent to repress, persuade, and
manage social conflict. We see the same thing in unequal societies like India,
South Africa or the gulf countries.

There is a place where the analogy breaks down,
however. We live in a world where much more of everyday life occurs on
markets, large swaths of extended family and government services have
disintegrated, and we are procuring much more of everything on markets. And
this is particularly bad in the US. From health care to schooling to
philanthropy to politicians, we have put up everything for sale. Inequality
in this world is potentially much more menacing than inequality in a less commodified
world, simply because money buys so much more. This nasty
complementarity of market society and income inequality maybe means that the
social power of rich people is higher today than in the 1920s, and one response
to increasing inequality of market income is to take more things off the market
and allocate them by other means.

Finally, let me suggest
that if we’re aiming for politically hopeless ideas, open migration is as least
as good as the global wealth tax in the short run, and perhaps complementary.
One weakness of the book is its focus on the large core economies (the data
obviously is better and the wealth is obviously larger). But liberalizing
immigration, while not solving the ultimate problem the book diagnoses,
can go some of the way by raising growth of both income and population. With
political rights and liberties, it is also one thing that could set off a new
set of progressive political energies. These restless and young populations of
the developing world might catalyze a new set of political energies, just as
socialist movements of the Gilded Age were powered by immigrant workers.

Another constituency for
the global wealth tax could also be from this same group, demanding reparations for past slavery and colonialism. If those primordial injustices created the
initial conditions for the accumulation of wealth in the core, perhaps those
legacies can build energy for rectifying them in the future.