My Letter to the Fed: Stop Misrepresenting the National Debt

February 14th, 2017 No comments

The Fed data portal, Fred, just posted a blog item that I take exception to, “suggested” by Christian Zimmermann, Assistant Vice President of Research Information Services. Here’s my response.

Dear Mr. Zimmerman:

I’m pleased to see that this post focuses on the interest burden of the federal debt. It’s an important measure that doesn’t get enough attention in discussions of the subject.

But still I’m shocked by how many things are poorly represented in the post. I have no doubt you know all of this, but:

1. Public Debt is not Debt Held by the Public. (“The Public” here meaning the private sector.) Public debt includes money owed by government to itself (SS trust fund, etc.).

Almost every economist agrees that Debt Held by the Public, not “Gross Debt,” is the economically significant measure. Highlighting gross debt is not useful in educating the public on this subject. Quite the contrary.

This measure of course paints a very different (and less dire) picture:

2. This of course impacts the interest burden, and also paints a very different picture.

3. Even for Debt Held by the Public: Federal Reserve Banks are included in “the public” for this measure — even though their balance sheets and profits/losses redound to Treasury, IOW government, not “the public.”

Here’s actual Debt Held by The actual Public — only 60% of GDP:

One can discuss whether the Fed will ever shrink its balance sheet, and how it would do so, but this is the current condition.

4. Again, the interest burden: Treasury’s interest payments to Fed banks on their bond holdings cycle directly back to Treasury. So true, total government out-of-pocket interest payments:

Less than 1% of GDP.

5. Circa 50% of those interest payments are to the U.S. domestic private sector, so are in no way a drain on the U.S. domestic sector.

Interest payments to foreign entities come to less than .5% of GDP.

Probably unintentionally, this Fred post contributes to the widespread “scare tactics” that result in such economically destructive fiscal decisions by our legislators.

Thanks for listening,

Steve Roth
Publisher, Evonomics

When Did Hillary Lose the Election? In 1964.

January 13th, 2017 No comments

The half-century story of Democrats’ abdication and decline

By Steve Roth. Publisher, Evonomics

On January 1, 1964, John F. Kennedy posthumously initiated the half-century decline of the Democratic Party, beginning its descent into this moment’s dark and backward abysm of slime. His massive tax cuts for the rich, implemented in ’64 and ’65, were the turning point and beginning of Democrats’ five-decade abandonment of its longtime winning formula: full-throated, unabashed, progressive economic populism. It was the signal moment when Democrats began to abandon the working and middle class. The working and middle class, betrayed and feeling betrayed, have now returned the favor.

Unapologetic progressive economic populism — starting really with Teddy Roosevelt’s slash-and-burn trustbusting, and turned up full-throttle in his namesake’s New Deal — had given Democrats three decades of electoral success. FDR lost two states and eight electoral votes in 1936. He got 523 out of 531. Over four campaigns, he never got less that 432. Eisenhower got a couple of terms as a very moderate Republican, really a progressive, but Democrats’ dominance of Congress and state governments seemed eternal.

Because: that economic populism also delivered success for America. The New Deal, combined with the government deficit spending of World War II, resulted in the greatest burst of widespread growth, progress, prosperity, and individual economic freedom in American history — before or since.

James Carville was certainly right: “It’s the economy, stupid.”

Democrats’ remaining progressivism under Johnson — civil-rights legislation, Medicare and Medicaid, and the wholesale movement of liberated women into the workforce — eventually pushed a hot middle-out economy into the demand-driven inflation of the 70s. That torrid growth brought government debt down from 120% of GDP in 1947, to 35% in 1980. (You know what happened after that.)

But even amidst that burst of growth and sustainable government finance, Democrats were abandoning the very source of their economic and electoral success. Kennedy’s top-tier tax cuts were a preemptive, voluntary abdication to trickle-down theory, before “trickle-down” even existed. When Reagan turned that dial to eleven, he was only occupying ideological ground that Democrats had ceded and abandoned to the enemy, long before. It was an epochal own-goal of historic proportions.

Democrats have been kicking the economic ball into their own net ever since. The obvious solution to the 70s inflation was to raise taxes, reducing government deficit spending, to drain off excess demand from a too-hot economy. Instead they acceded to the banker-industrial complex and the diktats of childish monetarism, again conceding the win to an economic belief system that is egregiously self-serving for the rich, and anathema to Democratic progressive economic populism.

That’s when the enthusiastic, progressive Democratic base stopped turning out in force. (Exception: Obama. For other reasons.) Progressive baby boomers have spent their whole lives voting against Republicans and their swingeing, destructive economic policies, not for inspiring Democrats. Think about the Democratic presidential candidates since 1964. McGovern was a true social progressive, but really a one-issue anti-war candidate. Bill Clinton did okay, within the confines of the post-Reagan economic belief system, which he never seriously challenged as FDR did. Obama didn’t either, in rhetoric or practice. His administration’s failure to prosecute a single prominent bankster is arguably the best single explanation for Hillary’s electoral meltdown.

Can you name one full-throated economic progressive Democratic candidate in the past half century? I’m not even asking for fire-eating. Here’s some help: Humphrey. Carter. Mondale. Dukakis. Gore. Kerry. (Are you still awake?) Aside from Obama, no Democratic candidates had the Democratic base flocking to the polls. (Compare: Republicans and their rabid Tea-Party base.) Add Hillary to that rather stultifying list.

Starting in the 60s, Democratic candidates stopped delivering an inspiring economic message. But the real failure was substantive. In their sellout to the enrich-the-rich supply-siders, Democrats abandoned the working and middle class, and the party’s winning legacy of widespread prosperity. The Democratic party elite bought into and helped promulgate an economic belief system (the “Washington Consensus”) in which distribution and concentration of wealth and income not only don’t matter, they can’t matter. The quite predicable results are upon us — decades of working-class wage stagnation, and wealth concentrations that are as high or higher than any period in modern world history.

It’s no wonder the Democratic base feels betrayed. They were betrayed.

Still: despite those decades of weak-kneed collaborationism, Democrats have obviously remained more economically progressive than Republicans. Clinton and Obama managed to raise taxes some, and Obama gave us Obamacare. And the economy has shown the results. Democratic presidents have delivered growth, progress, widespread prosperity, individual economic security, and true personal economic “freedom” that Republicans — the self-proclaimed “party of growth” — can only imagine in their fever dreams.

By almost any economic measure — GDP or income growth, job creation, stock-market runups, deficit reduction, people in poverty…choose your measure — Democrats’ economic performance has unfailingly beggared what Republicans have offered up. That is true for any multi-decade period you choose to look at since World War II, or over the last century for that matter. It’s true at the national, state, and local levels. Republicans constantly promise prosperity and growth. Democrats consistently deliver it (at least compared to Republicans). They’ve kicked Republicans’ economic asses, decade after decade.

Bigger pie? Raise all boats? Talk to the Democrats.

But nobody seems to know that. Did you? And Democrats never even say it — much less repeat it endlessly over decades, shouting it from the rooftops to stir up the base as Republicans would. The old saw is apparently right: “A liberal is someone who won’t take their own side in an argument.”

Perhaps that failure is a result of progressives’ fussy squeamishness about people getting rich. They don’t really like that word. But voters do. A third of Americans’ think they’ll be rich someday. Fifty percent of 18–29-year-olds do. (About 5% of Americans actually are rich, with more than couple of million dollars in net worth.) That squeamishness explains the persistent “anti-capitalist” strain of American liberalism, which is such an electoral disaster at the voting booth.

Democrats have much to atone for in their failure to hold the line on progressive economic principles, their failure to wholeheartedly champion and defend the working and middle classes, their sellout and abdication to the bankster class. But they also have much to crow about. Instead, though, they’ve stood by for decades while Republicans have falsely claimed the “party of growth” moniker, contrary to all historical evidence.

It is the economy, stupid. Voters, Democratic and Republican alike, will tell you in surveys about all the things they care about. But when they walk into the voting booth, they’re going to choose the person who they think will make them, their families, and those around them more prosperous, comfortable, and economically secure. They vote for candidates who they think will deliver better lives — starting with people having enough money to pay the bills. The Republicans realized that forty-plus years ago, and they’ve been winning based on that ever since. “I’ll cut your taxes and deliver economic growth.” Full stop, drop the mic.

Trump showed us that fire-breathing populism wins elections. While his brimstone reeked of many things, economic populism was at the core of his rhetorical fur ball. Even as he prepared to betray the working class at unheard-of levels, he channeled that betrayal straight onto his vote tally. “Audacity”? Obama should grab a stool and go to school.

And Bernie showed us the same thing. His campaign was unprecedented in American political history, funding a full-boat national campaign and outspending Hillary by 25 million dollars, almost completely with small donations. His message of economic populism brought in more than 200 million dollars in donations from 2.5 million people. And he turned out the enthusiastic base, in droves. Presumably he would have done so on election day, as well. Are Democratic political operatives finally beginning to take note?

There is a path out of the wilderness for Democrats. It’s the path they’ve trod before, with huge success. It involves (for once) coalescing around a core message that resonates with all Americans, repeated endlessly over years and decades. “Equality” and “opportunity,” important as they are, are weak beer on the campaign trail. Most Americans change the channel.  Tell them what they want to hear:

“We make America rich.”

The double meaning is fully intended.

 

What’s All Our Stuff Worth? Tobin’s Q for America

December 7th, 2016 5 comments

In recent posts on the Integrated Macroeconomic Accounts, I’ve highlighted that we have two market estimates of what America’s “capital” is worth — the cumulative sum of net investment (roughly, “book value”), and total household wealth (“market value”). I got curious: how to they compare over the decades? What’s America’s market-to-book ratio, or Tobin’s Q?

Here are two pictures depicting that:

screen-shot-2016-12-07-at-10-01-07-am

screen-shot-2016-12-07-at-9-59-47-am

And here’s how I calculated them based on the IMA’s table S.2.a, plus BEA inflation measures (spreadsheet here):

Start with the IMA’s estimate of total household net worth in 1960 (expressed in 1960 dollars), as the asset markets’ best estimate of what all America’s stuff (“capital”) was worth at that moment.

Inflation-adjust that value to show it in 2015 dollars. (Choose your deflator; I tried a few, but settled on simple old CPI.)

Add net capital formation (net of capital consumption) for 1960, again expressed in 2015 dollars. This is the value of stuff added to our stock. That gives you book value of our stuff in 1961 (the 1960 stock of stuff, plus new stuff added).

Repeat for each ensuing year, ending in 2015 with a cumulative sum of all those years’ net capital formation. This is the 2015 “book value” of that accumulated stuff, expressed in 2015 dollars. (See: Perpetual Inventory Method.)

Now for comparison, look at the IMAs’ annual estimates of household net worth, with each year converted to 2015 dollars. These are the asset-markets’ year-by-year estimates of the value of all our stuff. (Alternatively you could use “U.S. Net Wealth” from Table B.1, which excludes the value of land and nonproduced nonfinancial assets.)

Is this interesting or significant? Do these pictures tell us anything useful?

The main takeaway, I think: since the mid 90s, the measures of capital formation have been having a lot of trouble capturing the value of…new capital formation. Hard-to-measure intellectual, human, and social capital have increasingly dominated our economy. The existing-asset markets incorporate that new “capital” into their estimate of our total worth, but measures of sales in the new-goods markets have trouble doing so. (This even after the 2013 GDP revisions, which added much “intangible” value to its measures, notably intellectual property and even “brand value.”)

For example, how valuable are the services from Facebook, Twitter, and Google? Nobody pays anything for them. And the advertising spending that supports them (in case you were wondering) is not counted as part of GDP. Advertising is considered an “intermediate good,” an “input to production,” so is excluded from the “value added” that is GDP. (For reference, U.S. advertising spending is about $150 billion a year — 0.8% of GDP.) The stock market knows (thinks) those firms have value, but how much “capital formation” do they do? It’s a pretty dicey question.

Apply the same kind of thinking to even harder-to-measure human intangibles like knowledge and skills, developed through education and training, and you probably have a pretty good explanation of the divergence between the book and market lines over recent decades.

 

David Brooks Tries to Eff the Ineffable Again

October 17th, 2016 1 comment

A friend and I were discussing Brooks’ recent column, I thought I’d share my thoughts here. Full disc: I haven’t read Kronman’s book, only Brooks’ column.

Some good stuff in there. Love the focus on books and writers. (Though Brooks’ [and Kronman’s?] barely-concealed dog-whistle adulation for dead white guys’ books is both predictable and predictably infuriating…)

But this really fucking pissed me off — Kronman, approvingly quoted by Brooks:

“A life without the yearning to reach the everlasting and divine is no longer recognizably human.”

My response to that is: Fuck. You. My life is not “recognizably human”?

Obviously: there’s shitloads of stuff that’s impossible to eff, much less express explicitly using expository language. That’s why we have art! To express that stuff explicitly.

Spouting words like “everlasting,” “divine,” “eternal,” “enchanted,” and “God” does exactly nothing to extricate us from that inescapable human reality.

Those words are just shitty poetry, evading the very explicit expression that makes art spectacular in its expression of the ineffable. Which is better: “God,” or “Ozymandias”? Words like “god” and “spirit” have some value if they’re used metaphorically, poetically, but only some. Because it’s the universal in the particular that makes art magnificent. They’re trying to bypass the particular, and so as metaphors and poetry they’re just bad art.

I’m only halfway tongue-in-cheek when I say that bad art is the greatest sin. The Barney Show, with its obviously false “I love you, you love me, we’re all one big family,” trains people to wallow in false, facile humanity, rather than wrestling with the deep density of paradoxes that is the collective human experience. Ditto facile words like “enchantment.”

And the aspiration to “conquer death” just seems silly to me. Even my two best efforts in the direction — my wonderful daughters — have virtue and value to me purely in the here and now. I adore them. But once I’m dead, I won’t anymore. Sad.

I do like this and agree with it; it’s true for me: “if you didn’t throw yourself in some arduous way at the big questions of your moment, you’d live a meager life.”

But:

1. I am again pretty put off by the superciliousness of this assertion. If somebody just lives a simple life, works, raises a family, dies, is that a “meager life”? Pretty fucking presumptuous.

2 None of those eff-ing words does anything for me in my efforts to wrestle with those big questions, arduously and rigorously. QTC.

No: Money Is Not Debt

August 27th, 2016 19 comments

A quick note in response to recent twitter thread, and to a widespread usage that I find to be deeply problematic.

You constantly hear very smart thinkers about money saying that money is debt. I strongly disagree. It’s not a useful way to think about money. Quite the contrary.

Balance-sheet assets designating the value of claims may have offsetting liabilities/debts on other balance sheets. (Not all do; that’s why, for instance, U.S. households have positive net worth — assets minus liabilities, credit minus debt — of $88 trillion.) But in any case, the asset being “held” is credit, not debt. A holder of a Target gift card is holding Target credit, not debt — the “claim” side of the tally stick.

“Holding debt” is handy and ubiquitous (Wall Street) shorthand, but it’s conceptually incoherent. You can’t own an obligation; it’s not an asset. Money is not “debt.” Exactly the opposite.

I think this “money is debt” confution cripples our our conversations, our collective thinking, and our collective understanding.

Semi-aside: a dollar-bill is best thought of as a handy, exchangeable physical token representing a balance-sheet asset. Sure, that asset has an offsetting nominal “liability” on the government balance sheet (which we devoutly hope will never be “paid off”). That’s immaterial; the dollar bill represents credit, an asset. It’s incoherent to suggest that when you have a dollar bill in your pocket, you are holding “debt.”

Even if the asset you’re holding will someday be redeemed by the original issuer, the thing you’re holding holding is an asset, which you can transfer to someone else’s balance sheet in exchange for work, or real stuff or…some other financial instrument, be it a Euro bill a bond, a title to land, or whatever (which is also a credit, or asset). They’re all financial instruments (with various rights designated). Claims. Credits.

Economists Agree: Democratic Presidents are Better at Making Us Rich. Eight Reasons Why.

August 13th, 2016 Comments off

In 2013, economists Alan Blinder and Mark Watson — no wild-eyed liberals, they — asked a very important question: Why has the U.S. economy performed better under Democratic than Republican presidents, “almost regardless of how one measures performance”?

Start with their “performed better” assertion: it’s uncontestable. While you can easily cherry-pick brief periods and economic measures that show superior economic performance under Republicans, over any lengthy comparison period (say, 25 years more), by pretty much any economic measure, Democrats have outperformed Republicans for a century. Even Tyler Cowen, director of the Koch-brothers-funded libertarian/conservative Mercatus Center, stipulates to that fact without demur.

Here’s just one bald picture of that relative performance, showing a very basic measure, GDP growth:

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The difference is big. At those rates, over thirty years your $50,000 income compounds up to $105,000 under Republicans, $182,000 under Democrats — 73% higher. (And this is all before even considering distribution — whether the growing prosperity is widely enjoyed, or narrowly concentrated.)

Hundreds of similar pictures are easily assembled — different time periods, different measures, aggregate and per-capita, inflation-adjusted or not — all telling the same general story. No amount of hand-waving, smoke-blowing, and definition-quibbling will alter that reality. (If you feel you must try to debunk Blinder, Watson, and Cowen: be aware that you almost certainly don’t have an original argument. Read the paper, and follow the footnotes. You’ll also find more hereherehereherehere, and here.)

So what explains that superior performance? Blinder and Watson’s regression model basically says, “we dunno.” Their model, for whatever it’s worth, rules out a whole slew of possibilities — only finding a significant correlation with oil price shocks (uh…okay…) and Total Factor Productivity (the black-box residual economic measure that’s left when the other growth factors economists can think of are accounted for in their models).

Standing empty-handed after all their work, Blinder and Watson punt. They attribute Democrats’ consistently superior performance to…luck. Yes, really.

On its face, the bare fact of Democrats’ consistent outperformance suggests a straightforward explanation: Democrat policies and priorities, in their myriad interacting forms, expressions, and implementations, directly cause faster growth, more progress, greater and more widespread prosperity. (Blinder and Watson pooh-pooh this idea, simply because they don’t find short-term correlation with the rather bare measure of fiscal balances.)

So the question remains: what could it be about the Democratic economic policy mix that delivers superior performance? Here are eight possibilities:

1. Wisdom of the Crowds. Democrats’ dispersed government spending — education, health care, infrastructure, social support — puts money (hence power) in the hands of individuals, instead of delivering concentrated streams to big entities like defense, finance, and business. Those individuals’ free choices on where to spend the money allocate resources where they’re most valuable — to truly productive industries that deliver goods that humans actually want.

2. Preventing Government “Capture.” Money that goes to millions of individuals is much harder for powerful players to “capture,” so it is much less likely to be used to then “capture” government via political donations, sweetheart deals, and crony capitalism.

3. Labor Market Flexibility. When people feel confident that they and their families won’t end up on the streets — they know that their children will have health care, a good education, and a decent safety net if the worst happens — they feel free to move to a different job that better fits their talents — better allocating labor resources. “Labor market flexibility” often suggests the employers’ freedom to hire and (especially) fire, but the freedom of hundreds of millions of employees is far more profound, economically.

4. Freedom to Innovate. Individuals who are standing on that social springboard that Democratic policies provide — who have that stable platform of economic security beneath them — can do more than just shift jobs. They have the freedom to strike out on their own and develop the kind of innovative, entrepreneurial ventures that drive long-term growth and prosperity (and personal freedom and satisfaction) — without worrying that their children will suffer if the risk goes wrong. Give ten, twenty, or thirty million more Americans a place to stand, and they’ll move the world.

5. Profitable Investments in Long-Term Growth. From education to infrastructure to scientific research, Democratic priorities deliver money to projects that free market don’t support on their own, and that have been thoroughly demonstrated to pay off many times over in widespread public prosperity.

6. Power to the Producers. The dispersal of income and wealth under Democratic policies provides the widespread demand (read: sales) that producers need to succeed, to expand, and to take risks on innovative new ventures. Rather than assuming that government knows best and giving money directly to businesses (or cutting their taxes), Democratic policies trust the markets to direct that money to the most productive producers.

7. Fiscal Prudence. True conservatives pay their bills. From the 35 years of declining debt after World War II (until 1982), to the years of budget surpluses and declining debt under Bill Clinton, to the radical shrinking of the budget deficit under Obama, Democratic policies demonstrate which party merits the name “fiscal conservatives.”

8. Labor and Trade Efficiencies. The social support programs that Democrats champion — if they truly provide an adequate level of support and income — give policy makers much more freedom to put in place what are otherwise draconian, but arguably efficient, trade and labor policies. If everyone can confidently rely on a decent income, we have less need for the sometimes economically constricting effects of unions and trade protectionism.

To go back to Blinder and Watson’s “luck” explanation: A non-economist might suggest that “to a great extent, you make your own luck.” And: “hire the lucky.”

Cross-posted at Evonomics.

Noahpinion: What Causes Recessions? Debt Runups or Wealth Declines?

June 7th, 2016 Comments off

Noah Smith asks what seems to be an interesting question in a recent post: “what leads to big recessions: wealth or debt”?

But I’d like to suggest that it’s actually a confused question. Like: is it the heat or the (relative) humidity that makes you feel so hot? Is it the voltage or the amperage that gives you a shock, or drives an electric motor? The answer in all these cases is obviously “Yes. Both.”

The question’s confused because wealth and debt are inextricably intertwined. “Wealth” is household net worth — household assets (including the market value of all firms’ equity shares) minus household sector debt. Debt is part (the negative part) of wealth.

Still, it’s interesting to look at time series for household-sector assets, debt, and net worth, and see how they behave in the lead-ins to recessions.

I’ve pointed out repeatedly that year-over-year declines in real (inflation-adjusted) household net worth are great predictors of recessions. Over the last 65 years, (almost) every time real household net worth declined, we were just into or about to be into a recession (click for interactive version):

Update 6/8: This was mistakenly showing the assets version (see next image); it’s now correctly showing the net worth version.

This measure is eight-for-seven in predicting recessions since the late sixties. (The exception is Q4 2011 — false positive.) It makes sense: when households have less money, they spend less, and recession ensues.

But now here’s what interesting: YOY change in real household assets is an equally good predictor:

Adding the liability side of the household-sector balance sheet (by using net worth instead of assets) doesn’t seem to improve this predictor one bit. This perhaps shouldn’t be surprising. Household-sector liabilities, at about $14 trillion, are pretty small relative to assets ($101 trillion). Even if levels of household debt make big percentage moves (see the next graph), the actual dollar volume of change isn’t all that great compared to asset-market price runups and drawdowns. Asset levels make much bigger moves than debt levels.

It’s also interesting to look at changes in real household-sector assets (or net worth) compared to changes in real household-sector liabilities:

As we get closer to recessions, the household sector takes on debt progressively more slowly, with that shift happening over multiple years. (2000 is the exception here.) That speaks to a very different dynamic than the sudden plunges in real assets and net worth at the beginning of the last seven recessions. Perhaps: household’s portfolios are growing in these halcyon days between recessions, so they have steadily less need to borrow. And as those days continue, they start to sniff the next recession coming, so they slow down their borrowing.

My impressionistic take, unsupported by the data shown here: Higher levels of debt increase the odds that market drawdowns will go south of the border, driving the economy into recession. And they increase the likely depth of the drawdown, as lots of players (households and others) frantically need to shrink and deleverage their balance sheets, driving a downward spiral.

If the humidity’s high, and it gets hotter, you’re really gonna notice the change.

My obstreperous, categorical take, cadging from the past master of same:

Recession is always and everywhere a financial phenomenon.

Cross-posted at Angry Bear.

How Perfect Markets Concentrate Wealth and Strangle Growth and Prosperity

June 5th, 2016 5 comments

Capitalism concentrates wealth. Ridicule Marx and his latter-day disciples all you like (I’ll help); he definitely got that right.

But capitalism is a big word with lots of meanings, and enough ideological baggage to fill a Lear Jet. Let’s talk about something more precise: perfect markets, with ownership, in which individuals compete with others to produce stuff, and store up savings. You can see this kind of perfect world in agent-based simulations like Sugarscape. Start with a bunch of sugar farmers trying to accumulate sugar in an artificial world, hit Go, and watch what happens.

Here’s what happens to wealth concentration (number of poorer farmers on the left, richer on the right):

Screen Shot 2016-06-04 at 8.14.52 PM

Wealth is pretty evenly distributed at the beginning (top). That doesn’t last long. You can see the same effect in another Sugarscape run, here compared to real-world wealth distributions:

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That’s the Gini coefficient for wealth. Zero equals perfect equality; everyone has equal wealth. 1.0 equals perfect inequality; one person has all the wealth.

Perfect markets concentrate wealth. It’s their nature. But at some point, market-generated wealth concentration strangles those very markets (compared to markets with broader distributions of wealth). If a handful of people have all the wealth, how many iPhones will Apple sell? If only a few have the wealth to buy cars, automakers will produce a handful of million-dollar Bugattis, instead of forty handfuls of $25,000 Toyotas. Sounding familiar?

But wealth concentration doesn’t just strangle the flows of spending, production, and income. It throttles the accumulation of wealth itself. Another simple simulation of an expanding economy (details here) explains this:

Screen Shot 2016-06-04 at 10.49.29 AM

The dynamics are straightforward here: poorer people spend a larger percentage of their income than richer people. So if less money is transferred to richer people (or more to poorer people), there’s more spending — so producers produce more (incentives matter), there’s more surplus from production, more income, more wealth…rinse and repeat.

This picture says nothing about how the wealth transfers happen (favored tax rates on ownership income, transfers to poorer and older folks, free public schools, Wall Street predation, the list is endless). It just shows the results: As wealth is transferred up to the rich, on the left, and wealth concentration increases, our total wealth increases more slowly. When that transfer is extreme, even in this growing economy the poorer people end up with less wealth. (Note how the curves get steeper on the left.) As wealth concentration declines on the right, our total wealth increases faster, and poorer people’s wealth increases much faster. Note that richer people still get richer in most scenarios — it’s a growing economy, always delivering a surplus from production, and increasing wealth — just more slowly.

And that’s just talking dollars. If we start thinking about our collective “utility,” or well-being — the total of everybody’s well-being, all summed up — the effects of wealth concentration are even more profound. Because poorer people getting more does a lot more for their well-being than richer people getting more. (Likewise, even if the richer people actually lose some of their wealth, they’re not losing as much utility.)

Because: Declining marginal utility of wealth (or consumption, or whatever). This is one of those Econ 101 psychological truisms that seems to actually be true. The fourth ice-cream cone (or Bugatti, or iPhone) just doesn’t deliver as much utility as the first one. Plus, a Bugatti in one person’s hands doesn’t deliver as much utility as forty Toyotas in forty people’s hands. (Prattle on all you want about relative and revealed preferences; you won’t alter this reality.)

So if we were to re-work the chart above showing utility instead of dollars, you’d see far greater increases in utility on the right side, especially for poorer people. Widespread prosperity both causes and is greater prosperity.

Why, then, aren’t we spending our lives on the right side of this chart? It’s a total win-win, right? The answer is not far to find. Nassim Taleb shows with some impressive math (PDF) what’s also easy to see with some arithmetic on the back of an envelope: if a few richer people (who dominate our government, financial system, and economy) have the choice between making our collective pie bigger or just grabbing a bigger slice, grabbing the bigger slice is the hands-down winner.

That’s why decades of Innovative Financial Engineering has served, mostly, not to efficiently allocate resources to efficient producers, improve productivity, or increase production. Rather, these fiendishly clever entrepreneurial inventions control who gets the income from production. You can guess who wins that game. Top wealth-holders would be nuts to play it any other way (if you go with economists’ definition of rationality…).

But for the rest of us, it’s a loser’s game — at least compared to the world we could be living in. If household incomes had increased along with GDP, productivity, and other economic-growth measures for the last two or four decades, a typical household would have tens of thousands of dollars more to spend each year — and much bigger stores of wealth to draw on. If you think that sounds like a thriving, prosperous society…you’re right.

To summarize: perfect markets, left to their own devices, concentrate wealth. Concentrated wealth results in less wealth, and far less collective well-being. (You’ll notice that I haven’t even mentioned fairness. It matters. But I’ll leave that to my gentle readers.)

This all leads one to wonder: how could we move ourselves into that happy world of rapidly increasing wealth and well-being on the right side of the graph? Hmmmm….

Cross-posted at Evonomics.

You Don’t Own That! The Evolution of Property

April 24th, 2016 4 comments

Get off my lawn.

In a recent post on the “evolution of money,” which concentrated heavily on the idea of (balance-sheet) assets, I promised to come back to the fundamental idea behind “assets”: ownership. Herewith, fulfilling that promise.

There are a large handful of things that make humans uniquely different from animals. In many other areas — language, abstract reasoning, music-making, conceptions of self and fairness, large-scale cooperation, etc. — humans and animals vary (hugely) in degree and kind. But they still share those phenotypic behavioral traits.

I’d like to explore one of those unique differences: ownership of property. Animals don’t own property. Ever. They can and do possess and control goods and territories (possession and control are importantly distinct), but they never “own” things. Ownership is a uniquely human construct.

To understand this, imagine a group of tribes living around a common water source. A spring, say. There’s ample water for all the tribes, and all draw from it freely. Nobody “owns” it. Then one day a tribe decides to take possession of the spring, take control of it. They set up camp surrounding it, and prevent other tribes from accessing it. They force the other tribes to give them goods, labor, or other concessions in return for access to water.

The other tribes might object, but if the controlling tribe can enforce their claim, there’s not much the other tribes can do about it. And after some time, maybe some generations, the other tribes may come to accept that status quo as the natural order of things. By eventual consensus (however vexed), that one tribe “owns” the spring. Other tribes even come to honor and respect that ownership, and those who claim and enforce it.

That consensus and agreement is what makes ownership ownership. Absent that, it’s just possession and control.

It’s not hard to see the crucial fact in this little fable: property rights are ultimately based, purely, on coercion and violence. If the controlling tribe can’t enforce its claim through violence, their “ownership” is meaningless. And those claimed rights are not just inclusionary (the one tribe can use the water). Property rights are primarily or even purely exclusionary. Owners can prevent others from doing anything with the owners’ property. Get off my lawn!

When push comes to shove (literally), when brass tacks meet the rubber on the road (sorry, couldn’t resist), ownership and property rights are based purely on violence and the threat of violence. Full stop, drop the mic.

In the modern world we’ve largely outsourced the execution of that violence, the monopoly on violence, to government. If a family sets up a picnic on “your” lawn, you can call the police and they’ll remove that family — by force if necessary. And we’ve multiplied the institutional and legal mechanics and machinery of ownership a zillionfold. The whole world’s financial machinery — the immensely complex web of claims, claims on claims, and claims on claims on claims, endlessly and densely iterated and interwoven — all comes down to (the threat of) physical force.

There are obviously many understandings and implications to this reality (e.g. Where did your ownership claim originate? Who got excluded, originally?), which I’ll leave to my gentle readers. But I’d like to close the loop on the the comparatively rather desiccated ideas of balance-sheet assets, and money, explored in my previous post.

When the one tribe takes control of the spring, they add that spring as an asset on lefthand side of their (implicit) balance sheet. Voila, they’ve got net worth on the righthand side! In standard modern terminology, the spring is a “real” asset — a direct claim on a real good, as opposed to a financial asset, which (by definition) has an offsetting liability on some other balance sheet — is a claim on that other balance sheet’s assets, is a “claim on claims.” The tribe’s asset — its claim to the spring and the output from the spring (capitalized using some arbitrary discount rate) — has no offsetting liability on other balance sheets. It’s a purely inclusionary claim. Right?

Wrong. It’s an exclusionary claim. Which means there is a liability, or negative net worth, on others’ balance sheet(s) — at least compared to a counterfactual fable in which all the tribes have free access to the spring. “Real” assets — balance-sheet entries representing direct claims on real goods (even your claim to the apple sitting on your kitchen counter) — have offsetting entries on the righthand side of the “everyone else” or “world” balance sheet. A truly comprehensive and coherent accounting would require first assembling such a pre-human or pan-human world balance sheet. Practically, that’s utterly quixotic. Conceptually, it’s utterly essential.

So while the distinction between real and financial assets can have conceptual and analytic value, it’s important to realize that the claims behind real and financial assets are far more similar than they are different. A deed to land — the legal instrument encoding an exclusionary claim — is quite reasonably viewed as a financial asset. There is an offsetting balance-sheet entry elsewhere, if only implicit. Donald Trump certainly views the deeds he “owns” as financial instruments, fundamentally similar to his stocks and bonds. Just: the legal terms of those financial instruments — the inclusionary and exclusionary rights they impart — vary in myriad ways. (Aside: economists really need a biology-like taxonomy of financial instruments, categorized across multiple dimensions. Where’s our Linnaeus?)

Balance sheets, accounting, and their associated concepts (assets, liabilities, net worth, equity and equity shares) are the technology humans have developed to manage, control, and allocate our (violence-enforced) ownership claims, a crucial portion of our social relationships. At first the balance sheets were only implicit — when the tribe first laid claim to the spring. But humans started writing them down and formalizing them, tallying those ownership and obligation relationships, thousands or tens of thousands of years ago. (Coins weren’t invented till about 800 BC.)

When some clever talliers started using arbitrary units of account to tally the value of diverse “assets,” and those units were adopted by consensus, we got another invention: the thing we call money. Like ownership rights, the unit of account’s value is maintained by consensus and common usage among owners and owers. But like ownership, its value is ultimately enforced by…force.

Balance sheets. All is balance sheets…

</DryAndDweebyAccountingSpeak>

I find it distressing that this kind of deep and fundamentally necessary thinking about ownership and property rights is absent from introductory (and ensuing) economics courses — both textbooks and coursework. Likewise concepts like value, utility (carefully interrogated), and yes: money (ditto). I don’t think you can think coherently about economics if you haven’t carefully considered these issues and ideas. It’s that kind of deep and broad, ultimately philosophical, thinking, in the context of a broadly-based liberal-arts education, that makes American universities — somewhat surprisingly to me — the envy of the world.

Before leaving, I have to give full props here to Matt Bruenig, who delivered this clear and coherent Aha! understanding of ownership for me after I’d struggled with it for decades. It seems so simple and obvious now; others have certainly explained it before. I feel like a dullard for taking so long.

Cross-posted at Evonomics.

Note To Economists: Saving Doesn’t Create Savings

March 31st, 2016 10 comments

Is Saving a Sin?

If you save more, if everybody collectively saves more, there are more savings, right? There’s more money that firms can borrow and invest to make us all more prosperous. Household saving “funds” business investment, so if we all save more, the world will be more productive and prosperous. You hear this all the time. And it makes sense, right?

Wrong. It’s hogwash. Incoherent codswollop. Gobbledegook faux-accounting-think. Bunkum. Think: fallacy of composition — believing something is true of the whole because it is true of the parts.

You may know the much-discussed paradox of thrift: If everybody saves more, there’s less spending, so less income, less aggregate demand. On the surface, at least, that seems rather straightforward. But the real paradox here lies in the plural: the stock of monetary “savings” that lurks, implicit, at the core of the paradox. If we save more, are there more savings?

Start by knowing this: “Savings” (the plural) is not a measure in the national accounts, even though economists and commentators use the word ubiquitously. (Think: Bernanke’s “global savings glut.”) Search the Fed’s quarterly Z.1 report, the Financial Accounts of the United States. You’ll see. There are various measures of “saving,” with various accounting definitions — “flow” measures — but there’s no named measure of our collective stock of savings. (This makes some “stock-flow consistent” models somewhat…problematic.)

Then ask yourself:

When you spend money — transferring it to someone else in return for newly-produced goods and services — does it affect our collective monetary savings? In strict accounting terms, obviously not. Your money just moves from your account to someone else’s account; it doesn’t disappear. Your bank has less deposits; the recipient’s bank has more deposits. Aggregate monetary savings is unchanged by that accounting event. (The economic effects of that transaction — what behaviors it triggers — are another matter entirely.) One person’s spending is another person’s income. And vice versa.

But what if you don’t spend? You “save” instead, leaving the money sitting untouched in your account instead of transferring it to somebody else’s account. Does that increase aggregate monetary savings? Even more obviously not. That “act” of saving (not-spending) is quite literally a non-event.

In the simplest accounting terms, household monetary saving is just a residual measure of two flows — income minus expenditures. It’s perfectly understandable on that individual, micro level of a household. Less so in the aggregate. Because in aggregate, income = expenditures. And since saving = income – expenditures, saving must equal zero. What’s with that? (Note that in the stylized world of the National Income and Product Accounts, households only consume; they don’t invest. All household spending is consumption spending. Only firms invest, and all their spending is investment spending.)

So how does saving actually work? What does it mean to “save” — as an individual or a household, as a country, or as a world? Start with individuals, and the vernacular understanding of “household saving.”

You work your whole life, spending somewhat less than you earn (“saving”), leaving the residual sitting in your checking account. Maybe you swap some of that checking-account money with others in exchange for a deed to a house, or a portfolio of stocks and bonds, which go up in value over the years. Eventually you retire and live off that stock of “savings” (plus ongoing returns from those savings). In that everyday, individual context, savings (the stock) means “net worth” — your balance sheet assets minus your balance sheet liabilities. When you hit retirement, net worth — your savings — is the financial indicator that really matters. Bottom line: “How much money do you have?”

But what about our collective monetary savings — the stock measure that’s missing from the national accounts? That’s also best represented by aggregate household assets, or net worth. (For a sector with no externally-held assets or liabilities, assets and net worth are the same. For the world, assets equals net worth. We don’t owe anything to the Martians. The righthand side of the world balance sheet is all net worth.) For reference, U.S. household assets are about $101 trillion. Net worth is about $87 trillion. The household sector owes about $14 trillion to other sectors. (Here.)

It’s important to remember: households own all firms, at zero or more removes. A company can be owned by a company, which can be owned by a company, but households are the ultimate owners. (Firms’ liabilities are netted out of their net worth, by definition.) This because: Households don’t issue equity shares — their liability-side balancing item is net worth, not shareholder equity. Firms don’t own households. (Yet.) Companies’ net worth is telescoped onto the lefthand, asset side of household balance sheets. So household net worth = private-sector net worth. When it comes to tallying up private asset ownership — claims on existing goods and future production — the accounting buck stops at households.

The monetary measure “household net worth” is national accountants’ best effort at tallying up the markets’ best estimate of what all our real stuff is worth, in dollars. (More precisely, what all the claims on those goods are worth.) It’s far from a perfect measure; its relationship to government net worth, for instance (if that’s even meaningfully measurable), is decidedly iffy. See in particular J. W. Mason’s article on Germany’s uncanilly low household net worth. But it’s pretty much the best, maybe the only, measure we have.

So if monetary saving doesn’t increase the stock of monetary savings, how do we “save,” collectively? By producing long-lived goods — goods that we don’t consume within the accounting period. Machinists create drill presses, carpenters create houses, inventors create inventions, businesspeople create companies, economists create textbooks (yeah, I know…), teachers and their students create knowledge, skills, and abilities. All that tangible and intangible stuff that we can use and consume in the future constitutes our collective “real” wealth.

The financial system creates claims on all that stuff (and on future production), in the form of financial instruments — from dollar bills to checking-account balances to deeds on houses to collateralized debt obligations. The markets assign and adjust dollar values for those claims. When you hold those instruments, you’re holding a promise that you can purchase and consume real goods in the future. They’re claims (again at zero or more removes) on existing goods and future production. The markets constantly adjust those instruments’ prices/values based on our collective expectations of future production — our optimism/pessimism, or “animal spirits.”

With that as background, here’s the crux of the “saving” problem: Economists confuse saving money with saving corn. They conflate stocks of money (claims on stuff) with stocks of stuff. Think: “financial capital.” It’s an oxymoron. Capital is real stuff — despite Piketty and others’ inconsistent and self-contradictory use of wealth and capital as synonyms. See for instance, “capital is imported (net) to fund the trade deficit,” here. (And again, see J.W. Mason on this conundrum.)

This confution of monetary and real saving — financial instruments versus real capital — is a problem because money/financial instruments are nothing like real goods. These promises, or claims, are created with zero resource inputs to production. (Promises are cheap — actually, free.) And they are not ever, cannot be, consumed or used as actual inputs to production. (You can’t eat promises, or feed them into an assembly line.) That stock of dollar-designated claims, monetary wealth, is simply created and destroyed — expanded and contracted — by the creation/destruction of financial instruments, and their repricing in the markets.

Consumption reduces our stock of stuff. If we eat less corn, we have a larger stock of corn remaining. Consumption spending doesn’t reduce the stock of anything. If we spend less money, we still have the same stock of money.

Corn is produced and consumed. Financial/monetary wealth — the netted-out, dollar-denominated value of our web of promises and claims — simply appears and vanishes. That’s the magic of this social-accounting construct we call money.

A semi-aside on the accumulation of real, long-lived goods, real wealth: There’s another widespread though often-implicit logical accounting error that merits enthusiastic eradication. Starting with accounting definitions: (C)onsumption spending is paying people to produce goods that will be consumed within the accounting period. (I)nvestment spending is paying people to produce goods which will exist beyond the accounting period. C + I = Y (GDP, or total spending).

The error: More consumption spending means less investment spending — less accumulation of real goods, real wealth. Right? Wrong. That thinking assumes Y is fixed, which is only a given in accounting retrospect. If we spend less on consumption goods, we might just spend less, total — less Y, with no effect on investment spending. Obvious behavioral/incentive thinking actually suggests even worse: if consumers spend less, firms will do less investment spending. Both categories of spending, and total Y, will be lower (relative to a counterfactual of more consumption spending).

So what are the modern mechanisms of this relationship, between monetary savings and real goods? How do we collectively “monetize” our ever-increasing stock of real goods, our “real” savings, to create monetary savings? Three ways (none of which is “personal saving”):

1. Government deficit-spends money into existence. Treasury simply deposits dollars, created out of thin air, into private-sector checking accounts, either as transfers or in return for goods and services. This increases both private-sector balance-sheet assets, and private sector net worth — because no private-sector liabilities are created in the process. (Treasury then selling bonds, and the Fed buying them back, doesn’t directly affect private-sector assets or net worth. It simply swaps asset for asset, and alters the private sector’s portfolio mix, bonds versus checking-account deposits — though again with potential carry-on economic effects.)

2. Banks issue new loans, dollars that are also created ab nihilo. This loan issuance increases private-sector assets, but the act of lending/borrowing itself does not increase net worth, because borrowers simultaneously takes on liabilities equal to the new assets. New loans from banks only increase net worth if the leveraging later pays off (an economic effect), via mechanism #3.

3. As we create more stuff and decide that existing stuff is worth more, the financial system creates new financial instruments, and the existing-asset markets bid up prices of existing instruments (stock shares, deeds, etc.) — expanding the stock of claims to approximate the expanded stock of stuff. Market runups increase household balance-sheet assets, with no increase in household liabilities. So like government deficit spending but unlike bank lending, market runups increase household net worth. Voila, households have more money. This is arguably the dominant financial mechanism for “money printing.” (This reality highlights the pervasive “conservation of money” fallacy that still plagues even much “stock-flow consistent” thinking, a fallacy that’s beautifully explicated in this paper by Charlotte Bruun and Carsten Heyn-Johnsen. It also points out the deep conceptual problems of “income” measures that don’t include capital gains income — where “saving” doesn’t equal change in net worth.)

That Econ 101 circular-flow diagram might need some rethinking.

Over the long run, our stock of real goods and our stock of dollar-valued claims on those goods (tallied as balance-sheet assets or net worth) go up roughly together. But it’s a very long-run thing, subject to variations spanning decades, even centuries, and contingent on shifts in societal attitudes, cultural norms, institutional structures, political power, monetary policy regimes, beliefs, geopolitical forces, environmental exigencies, and technological disruptions, among other things. If Piketty’s Capital depicts nothing else, it depicts that reality.

Many things affect our collective saving and savings, real and monetary. But one thing is sure: the non-act of personal monetary saving does not increase our collective monetary savings. Personal saving does not create funds (much less “loanable funds”). That notion is incoherent, in simple, straightforward accounting terms.

Rather, the economic effects work like this: more spending causes more production (incentives matter, right?), which creates more surplus and stuff — both long-lived and short-lived — more value. The value of the long-lived stuff is then monetized by the government/financial system through the creation of new dollar-denominated financial instruments/legal claims, and price runups on existing instruments/claims.

In three simple words: spending causes saving. Real, collective accumulation of real, long-lived stuff. Monetary saving — not-spending part of your income this year — doesn’t, collectively, create either real or monetary savings.

Maybe the Demon Debt is not the Great Evil after all. Maybe Selfish Saving — hoarding of claims against others — is actually the greater economic sin.

Cross-posted at Evonomics.