Archive for February, 2013

Does Saving “Fund” Investment?

February 27th, 2013 6 comments

If this blog has any tiny claim to any important influence, it might be that anonymous and magisterial commenter JKH used the comments section here to first bruit his insight (both tautological and profound) that S = I + (S – I).

He revisited that construct and concept again recently, and I’ll leave it to you to explore his very interesting thinking.

But I do want to address a central issue in that discussion: the notion of “funding.”

JKH quite properly uses standard flow-of-funds accounting terminology to explain that private-sector “saving” “funds” both its “investment” (buying/creating drill-presses and such), and its acquisition of newly created financial assets.

Quite properly, but: it’s important to understand what that key accounting verb (“funds”) actually means. It describes an after-the-fact and arguably largely arbitrary accounting allocation of income streams to outflow streams.

Imagine 2011, a year in the life of BFC Corp.:

Profits (revenues – expenses): $100,000
Net Borrowing (borrowing – loan payoffs): $100,000

Investment (spending on drill presses and such): $100,000
Dividends paid to shareholders: $100,000

Looking back: Of the $200K in inflows, which part “funded” the investment spending on drill presses? What funded the dividend payout? The accountant’s allocation decision, absent any other information, is after-the-fact and completely arbitrary. Funds are fungible — especially when viewed in retrospect.

Before-the-fact conditions and restrictions might well give justification for a given after-the-fact accounting allocation decision. If BFC decided in 2010 to spend X% of profits on drill presses in 2011, and that X% came to $100,000, an accountant after the fact might quite reasonably say that the drill-press purchases were “funded” by that year’sprofits.

Alternately: Imagine BFC “set aside” $100,000 from 2010 profits for future drill-press purchases by “funding” a drill-press holding account on their books, debiting their 2010 profits to “fund” that holding account. (Maybe it even created an actual external bank account to hold and segregate those funds, though that’s not actually material to this discussion.) It then spent down that holding account in 2011 to buy drill presses. Were those purchases “funded” by 2011 profits or borrowing? The proper accounting answer here is “neither.” Looking backwards you might/could/would say that they were funded, ultimately if somewhat arbitrarilly, from 2010 profits, or from the holding account. Either is accurate, depending on how you telescope your “funding” pipeline, in both time and account-space. (This is all rather like discussions of the Social Security Trust Fund.)

When we say, in a backward-looking flow-of-funds statement, that “X funded Y,” that is an ex-post description that is informed, and arguably justified — but not fully or authoritatively determined — by knowledge of before-the-fact intentions.

So when we say that “…the marginal dollar borrowed by a nonfinancial business [post-’85] was simply handed on to shareholders, without funding any productive expenditure at all,” we are making a statement about what “funds” what. We’re saying that all the borrowing went to payouts, and all the profits went to investment. The reverse could be equally accurate, given that shareholders from ’04 to ’08 were paid about $200 billion more than their companies earned in profits.

Let’s try this on the level of national/international accounts, and sectoral flows. Here’s mythical 2011 accounting for Bandalaria:

Assume (purely for simplicity in explaining the “funding” concept) that:

1. There is no net trade surplus or deficit, and the country’s capital account balance sheet remains unchanged.

2. The central bank does not increase or decrease its holdings on net.

3. The financial system does not increase or decrease its loan book to the private sector.

That leaves two sectors, with (looking back) no accounting impact from the above:

• Federal government (Treasury)

• The nonfinancial private sector (nonfinancial firms and households)

What do Bandalaria’s net money flows look like?

From Treasury -> Private
Deficit (purchases minus taxes): $100 million

From Private -> Treasury
Treasury bond purchases : $100 million

Looking back, how would you describe these flows? Are are the bond purchases “funding” the deficit, or is the deficit spending “funding” the bond purchases?

The correct answer is “Yes.”

Likewise: when JKH says (my words actually) that saving (income – expenditure) by the private domestic nonfinancial sector “funds” both its investment spending and its net acquisition of new financial assets (including government bonds), his description is perfectly correct.

But he would equally correct if he said that government deficits (less trade deficits) “fund” some of the investment, or (all of) the acquisition of new financial assets (notably government bonds), by the private domestic nonfinancial sector (or some of each).

Obviously, the two accounting-based descriptions, both accurate, have very different rhetorical implications.

This just reiterates the point I made in the post to which JKH responded with his revelatory identity: accounting tells us nothing about economics, except that it often tells us when economic thinking doesn’t make any logical/arithmetic sense.

I guess my main point here, perhaps obvious to many, is that accounting descriptions — choices about how to describe the past in accounting-speak, especially regarding “saving” and “funding” — are, inevitably, rhetorical hence normative. Or at least, those choices of descriptions have inevitable rhetorical hence normative implications.

Or to put it simply: accounting is normative.

My impression is that many economic discussions and disagreements, especially in the “MM” worlds, are at their root disagreements about what “funds” what (frequently compounded by imprecise sector definitions with different parties using different implicit definitions), and the rhetorical hence normative implications of those competing descriptions.

Cross-posted at Angry Bear.

Leading Economists Vote on Raising the Minimum Wage

February 26th, 2013 Comments off

I’m delighted to see the U Chicago IGM Forum ask a really useful, non-softball question.

The panelists are evenly split on whether an increase to $9 would make it “noticeably harder for low-skilled workers to find employment.”

A 4:1 majority thinks that weighing the costs and benefits, “this would be a desirable policy.”

I note how many who commented bring up the EITC, suggesting that an increase in that support might be better than a minimum-wage increase.

I note further that they apparently haven’t read the very good reasoning and research suggesting that the two together very effectively address the problems of each.

But Paul Krugman has. And his surprise helps explain why the others haven’t thought about this:

Second — and this is news to me — the usual notion that minimum wages and the Earned Income Tax Credit are competing ways to help low-wage workers is wrong. On the contrary, raising the minimum wage is a way to make the EITC work better, ensuring that its benefits go to workers rather than getting shared with employers. This actually is Econ 101, but done right

Cross-posted at Angry Bear.

Risk is Mispriced Because Money Managers Face no Risk

February 26th, 2013 2 comments

Here’s what risk looks like:

Having to tell your six-year-old son that you don’t have a birthday present for him because you didn’t have any money left after buying food for the week.

Telling your daughter she has to attend the semi-shitty local community college instead of the awesome out-of-state school where she was accepted and is dying to go.

Shutting down your small business and taking a shitty wage job because your customers evaporated, due to financial forces utterly beyond your ken and control.

Ending up $900,000 in debt for your dead husband’s terminal cancer treatment, because you didn’t have a spare $12,000 a year to spend on health insurance.

Being forced from your family home, even from your whole community of decades- or generations-long friends and family, because you made the foolish and irresponsible decision to get married and buy a house in 2006 instead of 2003.

Looking your kids in the face as you’re taken to jail for non-appearance, because you failed to send notification to your creditor’s attorney and the court where he’s pursing you of the current correct notice address, the latest place where you’ve managed to put a roof over your kids’ heads.

The money managers and financial prestidigitators who “price” “risk” don’t face any risk. If they blow it they’ll be fine, (maybe) just somewhat less prosperous. They and their kids will go to nice schools, live in nice houses, and have good health care.

If they blow it, even to the point of blowing up their companies or the whole financial system, they’ll be fine, (maybe) just somewhat less prosperous. Even if their (firms’) behavior was deceptive and fraudulent by any reasonable measure, they face (statistically) approximately zero risk of going to jail.

They (we) have offloaded all the risk onto the people whose money those managers are managing, on the low-level employees of their own firms, and on the employees of the firms whose finances they’re arbitraging with sophisticated, high-risk, leveraged machinations.

Is it any surprise that the cost of insuring against so-called “risk” in the world of money management turned out to be so wildly underpriced? It’s because the people buying and selling that insurance weren’t facing, and don’t currently face, any actual risk.

They’ve found a way to get real insurance against real risk, from real people, and they don’t even have to pay those people any premiums.

Cross-posted at Angry Bear.


Reveal Your Preferences! Show Your Support for Accounting-Based Economic Modeling

February 10th, 2013 1 comment

If there’s one thing that distinguishes modeling by mainstream and neoclassical economists — and that is arguably their Achilles Heel — it’s their failure to come at the problem from a fundamental accounting, and monetary, standpoint. (That failure is understandable given the curricula in economics departments.)

I know that many of my readers share with me a belief in the kind of modeling embodied in Wynn Godley’s work, with its rigorous double-entry accounting approach. VizIf you’d like to support the development of a powerful and robust tool for analyzing and understanding economies using those methods, here’s your chance:

Kickstarter campaign to build out Steve Keen’s “Minsky” program for dynamic, accounting-based economic modeling.

You can download a copy of the program for Mac or Windows here. They’ll be building it out into a web app in the course of development.

Cross-posted at Angry Bear.


Why do Republicans Hate Market-Incentive Based Solutions?

February 8th, 2013 1 comment

Contrary to what you might think, this new survey says that 69% of Republicans think that climate change is a “somewhat” or “very” serious threat.

Table 3. Perception that climate change is a threat among Democrats (N=377), Republicans (N=306), Independents (N=389), and overall U.S. population (N=1089) in January 2013. Columns may not add to 100 due to rounding.

How serious a threat is climate change?  Democrat  Republican  Independent  Overall U.S. population 
Very serious threat 52% 17% 35% 38%
Somewhat serious threat 40% 52% 50% 46%
Not that much of a threat 7% 29% 13% 15%
Not a threat at all 1% 1% 1% 1%

Also contrary to what you might expect (if you haven’t been paying attention), Republicans prefer regulation over an incentive-based carbon tax system by a five-to-one margin. 

Screen shot 2013-02-08 at 10.42.22 AM

Compared to a two-to-one margin among Democrats.

This is a prime example of knee-jerk anti-taxism preventing Republicans from implementing, or even considering, the very sort of economically efficient policies that they supposedly believe in.

For another example see Conservatives’ enthusiastic approval of FDR’s WWII inflation-fighting wage controls, which he adopted as a fourth-best option after those Conservatives refused to raise taxes as he wished to drain demand. The result? The crazy employer-based health insurance system we have today.

Cross-posted at Angry Bear.



Wow: Cooperation. Should Obama Get Credit?

February 3rd, 2013 3 comments

We saw it on the “fiscal cliff”: enough House Republicans voted for the deal, along with most Democrats, to get something passed.

Republicans backed down on the debt ceiling.

On immigration, we’re also seeing the two parties working together to craft a solution.

This feels like a possible sea change.

Should Obama get credit? He’s stuck to a vision, a “hope,” for bipartisan cooperation over the last four years, an approach that many or most liberals considered pie-in-the-sky, weak-principled, downright lacking in cojones.

So here’s my question about an imagined counterfactual: if Obama had played hard(er)ball over the last four years, steamrolled Republicans and taken hard negotiation lines in ways that liberals have been clamoring for and that might even have worked (hard to say), where would we be at today?

Here’s a clue, showing the state of the game: the NYT just revealed that Republican and Democrats in the House and Senate have been meeting secretly to work on the immigration issue for four years.

Why secretly? Not far to guess: because any Republican who appeared to be working with Democrats on that conservative third rail would open his right flank to a primary challenge from Tea Partiers. (Democrats would most likely get an electoral boost, in both the primaries and the generals, from such cooperation on immigration.)

So some Republicans wanted to participate (props to ’em), but needed to keep it secret for purely political reasons. Democrats also wanted to participate, but they were willing to sacrifice forego political advantage to do so — that was the only way they could do what they thought was a Good Thing, perhaps with some uncertain long-term political benefits, but because of the Republican-required secrecy, absolutely nothing short-term.

Meanwhile the rump of Republicans that retains any faint pretense of being “moderate” is fighting back against their (our) Tea-Party oppressors, hoping to regain some strength in general elections.

One more example of the asymmetry in political incentives: We all saw the political price Boehner paid for simply negotiating (again: necessarily semi-secretly) with Obama. I would venture to suggest that those negotiations didn’t cost Obama a single vote, or really any political capital  — certainly nothing like what they cost Boehner.

So back to the question: would this dynamic have played out differently if Obama had played hardball instead of kissy-face? Two questions there:

1. Would we have gotten more progressive legislation over the last four years?

Almost certainly some. But given that Republicans have lots of power, especially veto power (far exceeding their popular support*), quite possibly not all that much.

2. Would we have achieved more or less of the political ascendancy that is now forcing Republicans to demonstrate some semblance of reasonableness?

With its emphasis on force, I have to admit that I’ve set that question up to half-answer itself. The only reason Republicans are cooperating is because politics and popular opinion are forcing them to. It’s not because they’ve seen some light, or because Obama was nice to them or caved in negotiations. To put it another way, general-election losses are forcing (allowing?) them to get sane(r) in the primaries, hence in the legislative chamber. Obama’s giveaways had nothing to do with it.

The other half comes down to this: if Obama had played tougher, would he and other Democrats have won bigger in November, putting even more pressure on Republicans to cooperate? I tend to think so, but it’s a counterfactual that I don’t think we can ever answer with even a little bit of confidence.

So the answer to this post’s question is, Maybe.

* That inordinate power is the result of three things:

1. House electoral advantage based on incumbency and state-level Republican gerrymandering over the last decade+. Democrats needed about 54% of the popular house vote to take a House majority in 2012.

2. Their willingness (incentives?) to use the filibuster unremittingly for effective veto power, with overwhelmingly more “cloture votes” than by any Senate minority in history.

3. The “Hastert Rule” that they all adhered to in the House, preventing any vote on a bill absent support from half the Republicans. (They finally broke with this rule on the fiscal cliff, and it looks like that break may continue.)

Cross-posted at Angry Bear.