Sectoral Balances: (Mis?)understanding NAFA and Net Lending/Borrowing

October 20th, 2021 Comments off

I’ll start with the short version here: if you’re having trouble understanding sectoral “Net Lending/Borrowing” (the stuff of sectoral balances), try renaming it: Net net accumulation of financial assets.

Net accumulation of financial assets (accumulation net of disaccumulation, broken out by types of assets)
– Net incurrence of liabilities (new borrowing net of loan payoffs [and writeoffs])
= Net net accumulation of financial assets.

Note that this is for each sector’s Financial Account. The Capital Account is a completely different measure and derivation, and has different import. The two accounts’ bottom-line NL/B measures differ by the Statistical Discrepancy. You can see and compare both accounts conveniently for any sector in the Integrated Macroeconomic Accounts, household Table S.3 for example.

Here’s the longer form:

NAFA, or Net acquisition of financial assets, is an important measure, often rather a crux, in Post-Keynesian, MMT, and other economic thinking and writings. It’s central to understanding sectoral balances graphs, for instance. So it’s surprising to find widespread and long-standing confusion about what that label means.

In footnote 26 to a recent paper, I highlighted how Wynne Godley and Marc Lavoie (G&L) in Monetary Economics use a different (and IMO better, clearer) label for the measure. But of far greater issue: “NAFA” there refers to a different measure from the one most economists think of. This post is an attempt to sort that out clearly.

The national accounts measure being graphed in sectoral balances is “Net lending (+) or borrowing (-)” for each sector’s Financial account. Here’s that measure and its subcomponents in the Integrated Macroeconomics Accounts household table S.3.a. (See also the Financial Accounts’ household Transactions table F.101.)

40    Net acquisition of financial assets
67    Net incurrence of liabilities
77  Net lending (+) or borrowing (-), financial account (lines 40-67)

Most people naturally think that NAFA refers to the top line here. But in G&L, it’s actually referring to the bottom line. And the longhand version of NAFA in G&L is net accumulation, not acquisition. Both differences matter.

To begin with, Net lending/borrowing is a problematic and confusing label. Look at the table for any year, and imagine three possible counterfactuals.

  1. Government transfers an extra $1T to households. Nothing else changes. Households’ assets and so net lending/borrowing increase — with no household lending in sight.
  2. The household sector spends an extra $1T buying goods from firms (which households consume). Again, nothing else changes. Households have less assets, so less net lending/borrowing, while no actual borrowing happened.
  3. The household sector borrows more from the financial/government sector(s). No other changes. Households have more assets and more liabilities — an “expanded balance sheet” — with no change to Net lending/borrowing.

A change in net lending/borrowing, with no lending/borrowing? New borrowing, with no change to net lending/borrowing? It’s no surprise if people are confused.

It’s probably best to understand Net lending/borrowing as a stylized label, term, usage, rooted in a particular understanding: “You can only increase your financial asset holdings if some other unit increases their obligations to you, their liabilities. So one unit’s asset increase is effectively ‘lending’ to other units.” (Though of course that’s not the only way you can increase your financial assets. The other unit’s assets can decrease — be transferred to you).

In any case, “effectively” is invisibly carrying a lot of water there. (“We don’t mean ‘lending’ literally!”)

“Acquisition” is another potentially confusing label. To many, it may seem to imply purchases and sales of financial assets. Couple that with another widespread misconception, and confusion is likely. Many think that individuals buying (acquiring) bonds or equities increases the household sector’s stock of “savings” or some such. But really that’s just portfolio rebalancing, dollar-for-dollar asset swaps: fixed-price M2 assets exchanged for different, variable-priced assets (and vice-versa; it’s a swap).

So if households “acquire,” purchase, more equities for example, they’re just rebalancing the sector’s portfolio mix. Units have different proportions of M2 vs equities. There’s no change to total assets. Hence, likewise, Net lending/borrowing is unchanged. 

Godley and Lavoie nicely avoid that confusion; their NAFA means Net accumulation of financial assets. See for instance their Appendix 12.1 (pp. 490-492), which lays out the sectoral balances identity, though not by that name.

But the far larger confusion remains: the NAFA in G&L isn’t our usual NAFA. It’s actually our familiar Net lending/borrowing — the bottom-line measure, not the assets measure. 

Lavoie has acknowledged as much in a recent private email (which he’s given me permission to quote):

Yes, you are right, in the Godley and Lavoie book we used the terminology that Wynne had used, which was not always consistent with that of the national accounts, in particular in the case of NAFA. I used the proper terminology in my 2014 book on post-Keynesian economics. [Post-Keynesian Economics: New Foundations.]

He does indeed address this issue (see eg pages 260 and 515), but not with the succinct clarification I’m hoping to provide here. To that end, here’s a proposed revision to the national-accounts labeling (slightly verbose, for clarity).

40    Net accumulation of financial assets. Gross inflows minus gross outflows. NAFA.
67    Net incurrence of liabilities, Gross new borrowing – loan payoffs and writeoffs. NIL.
77  Net net accumulation(/disaccumulation) of financial assets (line 40- line 67). NNAFA.

The double “net” serves to nicely clarify the whole construction, in my opinion. This is at least worth keeping in one’s head, to metabolize and simplify the web of accounting identities/definitions at play.

Two further items to note here:

These Financial-account measures are all changes in “volume,” versus “valuation” (asset-price-driven capital gains/losses). The latter, which are far larger than the volume changes, and consistently positive with a few drawdowns over more than six decades, are tallied separately, in the IMAs’ Revaluation account.

This whole Financial-account exercise also works with the Capital account, which provides an alternate, parallel approach for deriving the accounting pathway to change in Net Worth. The two accounts’ bottom-line Net Lending/Borrowing measures differ only by the Statistical Discrepancy (they use different measurements and methodologies). That measure has to be included in the sectoral-balances exercise when using the Capital account; the Financial account balances to Net Worth without it. The Capital account also invokes the whole issue of (net) Investment a.k.a. capital formation (which raises the seemingly eternal conceptual mare’s nest exemplified in the self-contradictory term “financial capital”). So sectoral balances taken from the Financial account yield a simpler and more straightforward, purely “money view” understanding.

Your Personal Covid Risk

September 14th, 2021 Comments off

I’ve spent like eighteen months trying to figure out how to think about and understand this question, in a way that lets me make what seem like sensible, everyday decisions. I think I’ve gotten there, or close. I’m sharing here in case it’s helpful to my gentle readers.

I’m fully vaxxed. Here’s a typical, day-to-day question: If I go out to dinner in Seattle with some random friends, indoors, unmasked, how much of a risk is that? This Dave Leonhardt article finally gave me the numbers I needed to figure that.

His (literal) headline takeway: In the U.S., if you’re vaxxed your daily odds of getting infected are about 1 in 5,000. In low-infection, hi-vax areas like Seattle, more like 1 in 10,000. (Per Leonhardt, only three places in the U.S. even collect that data for vaxed vs unvaxed: Utah, Virginia, and King County, WA. Yay us.)

But what in the hell do I do with that number? What does it mean? He tries to help: “It would take more than three months for the combined risk to reach just 1 percent.” That three-month multiplication is well-intentioned, but it’s an odd, arbitrary choice of period.

I realized long ago: when you ask “what are my odds/chances of getting infected?” (and then etc. from that), you have to ask, your odds over what period? Otherwise it’s meaningless.

So now jumping to the best thing I’ve seen, a personal Covid risk calculator that some SF folks built.

It starts with an arbitrarily-chosen personal annual risk “budget”: “I’m willing to accept a 1% annual risk of getting infected.” (This choice is baked into the site, right down to its name: “Microcovid.”) Divide that risk budget by 12 for monthly budget (0.08% risk), 52 for weekly, whatever. They use weekly, which I also find useful.

Now compare: a 1 in 10,000 daily risk, 0.01% (which sounds super low, right?) is 3.65% annual risk. (Just multiply by 365.) So I’m like, “1% annual is kind of a ridiculously low risk budget, given the low ensuing risk of hospitalization much less death.” Especially if you’re vaccinated. Those worst outcomes are very unlikely.

So I’m like, what’s a benchmark annual risk I could compare it to? Try this: An average person’s daily risk of a home accident/injury with a doctor/ER visit is 1 in 5,000. That includes kids and elderly, who are more accident-prone.

That’s 7% annual risk. Once every 14 years. Six times in an 85-year life. Seems a decent ballpark estimate to my anecdotal experience/observations, if you include childhood/old-age injuries. Maybe a bit high. Whatever.

So, say I change my annual covid-infection risk budget to 7%. Then the calculator sez: if I eat out with four friends, indoors, nobody’s masked, restaurant has a HEPA filter running, that only consumes 5% of my weekly risk budget. You can tweak those numbers as you wish; I might do so as well. But it’s not a bad starting ballpark for me.

This doesn’t touch on risk you pose to others, community risk, risk of exponential spread in the population. Or, say, the risk to your restaurant servers (notably including my daughter). Those are things I also definitely consider. But this is a baseline of what you’d need to start with, to consider those subjects.

Microfoundations: The Long Con

September 10th, 2021 Comments off

I wrote this as a comment response to Ryan Avent’s great post on his Substack blog. (You should subscribe. I did.) I thought I’d share it with my gentle readers here. Lightly edited, including one additional paragraph at the end.


Hi Ryan. Great piece, thanks. A few responses:

1. “authors of published papers are not always required to make available the data underlying their work”

Not just the data! They need to provide the actual analytic mechanism, software, that they use for the calculations. A replicator cannot be expected to re-create it perfectly based on verbal explanations or even the algebraic formulas in their papers. Detailed implementation issues always arise, and replicators can look directly at how the originators dealt with them — the precise, coded derivations of different measures. Plus errors, of course, Reinhart/Rogoff being the obvious example. Gimme the spreadsheet. Or stata code *and* the spreadsheets, as in Piketty & Co.’s DINAs, whatever.

2. This all cuts to the demand for “microfoundations.” In most cynical terms, the synonym for that is “post-facto armchair psychological/behavioral justifications for model assumptions about human reaction functions.” Which generally derive their rhetorical weight from the degree to which they seem “obvious.” Making a bit of a leap here, in practice where confused notions of individual vs collective “saving” rule, this means that assumptions which seem obvious to minds steeped in puritanical Calvinism tend to dominate economic theories and models. (Even Marx had a very heavy dose; Minsky even more so. And etc.) Vs models focusing on the observed, emergent behavior of different groups, classes, etc., whatever their microcauses might be.

So (entering the Office of Self-Aggrandizement here), I’d like to bruit the following model as one that completely eschews and refuses to do that post-facto rationalization and justification veiled as microfoundations.

Even though what seems to be an ironclad “obvious” explanation is lying on the ground waiting to be picked up: “The bottom 20% turns over its wealth in annual spending six or seven times faster than the top 20% because duh, declining marginal utility.”

Just: that’s what the top/bottom 20% groups *do.*

It’s like modeling the fluid dynamics of water in a whirlpool, or passing through a venturi. Sure, understanding the H20 molecule interactions provides a deep and rich understanding of water’s viscosity. But for the fluid model you just measure the viscosity and Bob’s your uncle.

Fully cynical view: The whole microfoundations business was/is basically a very clever dodge to require puritanical calvinism in all macroeconomic analysis. Blowing smoke and emitting chaff to to distract from and discredit any models in which group norms, cooperation, emergent properties, etc. trump simplistic additive (and “obvious”) steely-eyed self interest.

All of which has resulted in a massive and dominant intellectual infrastructure justifying insanely concentrated wealth, based on the false, moralized labeling and rhetoric of “patient savers.” (I’m looking at you, Paul Krugman.) Not just on the right, either; significant aspects of this leak into left/heterodox economics as well.

Thanks for listening… /rant

Economic Origin Stories and the State of the World

June 28th, 2021 Comments off

Origin stories and creation myths pack a pretty hefty weight of import in human understandings of the world. Examples are too numerous to mention. What I’ve noticed in the field of economics is that such origin stories are often taken (mistakenly) to fully explain the current state of affairs. I’m going to discuss two examples here.

1. Why Money Has Value. The “double coincidence of wants” money-origin story, retailed by Adam Smith among many others, has been quite thoroughly debunked over the past century. But the better stories that have emerged continue to be seen by many economists — problematically in my opinion — as significant explanations of how things work right now.

One of those better stories is the tax-based origin of “fiat”-money value. A sovereign is collecting taxes in kind. They issue coins (necessarily if only implicitly pegged to an associated unit of account, which generally has same name as the coins — “The Shekel”), and declare that taxes must be paid using those coins. People need to accumulate those coins to pay taxes, so a consensus arises: everybody ascribes value to those coins, and they start using them in private exchange.

At that point there is consensus currency, which only achieved consensus value through the fiat imposition of taxes in that currency. That’s a plausible tale.

But once that consensus is achieved, taxes are no longer the only explanation for people’s ascription of value to the currency/coins. They’re valuable to people because of the consensus; it’s self-perpetuating. People in the private sector can exchange those coins with others for real goods/services, and to satisfy obligations from past provision of goods/services. And beyond “can”: sellers start demanding Shekels instead of bushels of corn, so buyers must use the consensus currency.

Now to be sure: That consensus is likewise maintained by another fiat mechanism: government enforcement of private contracts numerated in that currency. There’s a huge pyramid of legislative (or sovereign/autocratic), judicial, and enforcement machinery supporting the private-value consensus. But that’s separate from (and much larger than) the tax obligations, collections, and enforcement that originally bootstrapped and kick-started the consensus.

In the current state of the world, people can, really must, transfer USD-denominated assets to get what they want from, and fulfill their obligations to, other private actors — and also, yes, to pay their taxes. But the magnitude of US private-sector spending and obligations dwarfs tax obligations by a factor of roughly three to one. Given that magnitude, it seems misplaced to suggest that in the current state of the world, tax obligations are the only thing that impart value to the US consensus/fiat currency.

The tax story is a plausible and quite comprehensible (if somewhat stylized) understanding of how consensus currencies emerged and were ascribed value. But those currencies are seen as valuable today because…everyone agrees they have value, and demands them in exchanges and transfers, both private and public.

2. Financial Assets ≠ Liabilities. This supposed “accounting identity” belief is dismayingly widespread, even though a mere glance at the numbers shows it’s completely untrue, vastly incorrect. Just start with corporate equity shares, universally categorized as financial assets: The market asset value of those shares (ultimately in aggregate held on household balance sheets) is tens of trillions of dollars greater than the the related liabilities/shareholders’ equity on corporate balance sheets. The same pertains to bonds, even Treasuries, though the percentage disparity is far smaller.

Where did this notion come from? Another origin story: at the moment of issuance and sale, the issuers’ liability equals the holder’s asset. When a corporation issues $1,000 of new bonds or equity shares and sells them to households, the corporation has a new $1K liability, and households have a new $1K asset; the two are equal. (Yes, there’s also a $1K cash-asset transfer, households -> firms. Assets and liabilities increase, but ∆NW is zero for both parties, either individually or combined.)

But as soon as those bonds/shares start trading in the market, their market asset values change. Every brokerage in the world sees trades at different prices, and marks every holder’s account statement/balance sheet to market. The household assets no longer equal the firms’ liabilities. The origin story no longer explains the current state of the world — not even close.

Savings Glut? “Households are Just Saving all that New Money!”

March 3rd, 2021 4 comments

The big coronavirus stimulus programs are helicopter-dropping trillions of dollars in assets into households’ (and firms’) accounts, onto their balance sheets â€” all those assets created ab nihilo by government deficit spending.

But as many are pointing out, households aren’t turning over many of those assets in spending, buying things â€” transferring the assets to firms in exchange for newly produced goods and services. The Personal Saving Rate â€” saving, or holding relative to income, divided by (disposable) income â€” has skyrocketed.

In simpler terms, spending as a percent of income has plummeted.

A Twitter post by our new Deputy Assistant Secretary for Macroeconomics at Treasury Neil Mehrotra raises exactly the question that comes to my mind:

It would be nice to articulate what exactly is the downside is of making transfers that are saved . . .

The short answer, of course, is that households’ failure to immediately turn over their new assets in spending will fail to stimulate economic activity â€” producers creating goods and services: giving massages, preparing meals, producing cars and cell phones â€” and presumably hiring more people to do that production.

But will households start spending those assets when things open up?

That immediately got me thinking about WWII and ensuing, when the same thing happened though in somewhat different form: households were hoarding their income, holding onto their assets, like they are now (saving rates were in the mid-20% range 1942-44). Meanwhile both households and firms were getting a lot of their income/revenue from wartime government deficit spending — paying soldiers and arms producers. The household sector was piling up those magically created new assets, and not turning them over, transferring them to firms in spending.

Which all reminded me of this old post by GMU economist David Henderson: “Does Drawdown of Savings Explain the Postwar Miracle?” He pooh-poohs the idea that postwar households were “spending down their savings,” because while saving rates declined (9.5% in ’46, 4.3% in ’47), they didn’t go negative.

Which highlights the fundamental problem with (especially Right) economists’ quasi-Calvinistic “saving rate” obsession: that measure has both a numerator and a denominator, which both involve income (saving is just a residual: income minus spending). Note that the spending graph above doesn’t have that problem.

And the two are causally connected. When postwar households started spending out of their accumulated stock of assets, causing firms to produce more consumer goods, firms inevitably hired more to produce those goods â€” increasing households’ aggregate income. (While firms’ revenue sources shifted from government deficit spending to household spending turnover.) So the “saving rate” didn’t go negative because the resulting income increase kept it positive.

In other words, Henderson’s “saving rate” framing is an error of composition (or a partial-equilibrium error); it considers saving as a percent of income, without considering that higher spending causes higher income. Households were spending out of their assets at a higher rate, postwar â€” the lower saving rates clearly suggest that â€” even as higher wage bills paid by firms were funneling (a lot of) those assets right back to the household sector as income.

We can perceive that today by looking at the sudden decline in household spending as a percent of assets, spending velocity; the numerator (spending) declined a lot, while the denominator (assets) increased a bit:

Fiscal policy is kinda pushing on a string. But we should probably expect a postwar-style dynamic to play out over the rest of this year, and beyond. Households have more assets; if (when?) velocity returns to pre-crisis levels, they’ll start turning those over in spending.

And we should remember that the big postwar jump in household spending/asset turnover didn’t translate into significant, sustained inflation for another three decades â€” excluding the war years, the only significant and sustained inflation episode we’ve seen in the last ninety years. (Extra credit: count the recessions over that period.)

Household Wealth by Wealth Percentile (be prepared to scroll)

September 17th, 2020 Comments off

Buybacks Are Bad. But not for the Reasons You Think.

April 21st, 2020 1 comment

The megabillion-dollar corporate bailouts raining down in the coronavirus response are giving new urgency to voices on the left excoriating corporate stock buybacks. How can we pour money into these firms, even as they pump gushers of money out the other end that could be spent on hiring and investment?

Much of the pushback against that view is unabashed hippie-punching, claiming that lefties don’t understand basic finance and business. “Dividend payments drain money just like buybacks do. Why aren’t you complaining about those? And, the money distributed by either method gets reinvested in other companies. Are you saying we should eradicate shareholder corporations? Sheesh.”

Dividends do “drain” funds from firms â€” that’s their very purpose â€” so it seems like a telling question. But the finance guys claiming that buybacks are benign or even salutary (really, they’re almost always guys) merit a serious dose of punchback themselves. Because they’re foolishly (or intentionally) blind to the three big ways that buybacks are bad compared to dividend payments.

The first two are about tax avoidance. Buybacks let the top 10% of households (which own 88% of equity shares) extract cash from the firms they own, and pay vastly less in taxes than they would with dividend distributions.

When a firm distributes dividends, the whole disbursement is taxable for households. But with buybacks, households only pay taxes on their “profits,” or capital gains â€” the cash received for their shares, minus the shares’ original purchase price, or “cost basis.” If the firm buys shares for $25 and the selling shareholders’ average basis is $20, only $5 is taxed, versus $25 for a dividend distribution. (Dividends and capital gains are currently taxed at the same rates, much lower than taxes on earned income from working.)

But that’s just the tip of the iceberg. Even economists and tax experts, even on the left, seem unaware that most capital gains are never, ever reported as “income.” There are myriad ways that households effectively hide capital gains (mostly, legally) and protect them from taxation â€” too many and too complex to detail here, but the big-picture result is eye-popping:

Combine the “basis” deduction with all those shelter methods, and those buyback disbursements are barely taxed at all â€” again, compared to dividends, which all count as taxable income for households.

If you think progressive taxes are beneficial, that they’re necessary for widespread prosperity and well-being, society-wide economic security, and (pas possible) even greater economic growth, this is reason enough to think that buybacks are bad. But there’s another big reason that even economic-efficientists have gotta love.

Corporate insiders know about impending buyback programs before they’re publicly announced. So they know not to sell their shares. Call it insider not-trading, something that it’s essentially impossible for regulators to regulate. Then the announcement drives up share prices, and they sell. Insiders make a nice extra buck on the deal at the expense those who sold before the announcement, and of slower or uninformed shareholders â€” notably buy-and-hold retirement investors and pension funds.

Here’s the the smoking gun, courtesy of Robert J. Jackson, Jr., a commissioner of the Securities and Exchange Commission.

There’s a fivefold increase in insider selling (average) from the day before the announcement, to the day of.

If the finance guys don’t know the basic economic concept of “information asymmetry,” so well explained a half-century ago by George Akerlof in his seminal “The Market for Lemons,” their fingers-twirling-in-cheeks triumphalism might be the thing that merits punching. If they do know it (uh…they do), even more so.

Remember the LIBOR scandal? Traders manipulated global markets on a massive scale with far less information advantage than this.

You’d think that this would be obvious to the finance guys — I mean, it’s what they’d do given the opportunity, right? And in fact it used to be obvious to everyone. Buybacks were illegal until 1982, treated as a violation of anti-fraud provisions of the Securities Exchange Act of 1934 — because it was assumed they’d be used for market manipulation.

But in 1982 the finance guys convinced their (ideologically?) captured regulators to gut that prohibition, with the enactment of Rule 10b-18, providing legal “safe harbor” for buybacks as long as certain conditions are met. As it turns out, the SEC doesn’t even collect the necessary data to enforce those conditions. But even if they did, the rule doesn’t touch on the crux issue: insiders knowing when to sell â€” and especially, exclusively, when not to sell.

Whether it’s about rules or enforcement or both, Robert Jackson’s (and others’) research makes clear that the current system is completely inadequate to prevent buybacks being used for insider trading, market manipulation, front-running, skimming, and â€” let’s just call it what it is â€” institutionalized fraud.

So sure: dividends are just as bad as buybacks when it comes to “draining” cash from firms, money that in theory could be used for hiring and investment. (Though: maybe those disbursements will be invested in other firms, which will hire and invest?) Economic progressives should stop trying to grind that “drainage” ax, first because it’s so hippie-punchable. But more so, because it misses the two giant things that are so pernicious about buybacks: they’re a decades-long, many-trillion-dollar tax dodge, and they’re a vehicle for corporate insiders to enrich themselves while fleecing everyday equity holders.

Both of those mechanisms overwhelmingly benefit the ten-percenters, one-percenters, and those far beyond. And they leave ordinary working people who are trying to build a nest egg and “safe harbor” of their own in this predatory, precarious world, as usual, with the scraps.

Is U.S. Productivity Actually Skyrocketing?

March 11th, 2020 Comments off


Our standard measure of production, GDP, doesn’t even come close to explaining the accumulated wealth of nations.


How productive are we? How much stuff do we produce for every hour we work? It’s one of the central questions of economics, and per many economists, productivity growth is the ultimate determinant of our world’s centuries-long increase in material well-being. If we increase that ratio we can work less, or have more stuff, or some of each. Here’s what that measure looks like post-war.

By this measure (here in 2012 inflation-adjusted dollars), today we produce $73 worth of stuff for every hour we work, compared to $21 in 1948 — a 3.5x improvement.

Economists have been concerned of late because productivity growth has been moribund in the past decade or so (and sluggish since the 70s compared to previous decades). Here’s annual percent growth in productivity.

But the measure of production here poses a conundrum: production minus consumption — our “saving” — doesn’t explain all the increase in our collective wealth. It’s off by about 30 trillion dollars. See below.

So suppose we instead assume that increasing wealth is itself a (superior?) measure of how much stuff we’ve produced and not consumed. We can easily create a different measure of production: stuff we’ve produced and not consumed, plus stuff we’ve produced and consumed. Equals, stuff we’ve produced. (Not coincidentally, this is also the definition of Haig-Simons income — ∆NW + consumption.*)

Net worth in this figure is annual change. Here’s the cumulative sum of those series.

The difference may not look like much (it’s dominated by production of consumption goods, which have been…consumed), but it represents $30 trillion in additional accumulated wealth, net worth. For reference, households’ total net worth end of Q3 2019 was $114 trillion. (No: adjusting these two series for inflation-adjusted dollars barely changes this comparison — just the numbers and scale on the left axis.)

What we have here are two very different measures of production and accumulation, both based on market prices/purchases — one on prices paid for new goods and services over the years, the other on existing-asset markets’ price-estimates of what all our “saved” stuff is worth. 

Here’s what “real,” inflation-adjusted productivity growth looks like using those two different measures of production. (The consumption + ∆NW measure is subject to big swings and volatility based on wealthholders’ “animal spirits,” so it’s smoothed here to give the long view, with a ten-year rolling average.) Source data here.

Which of these market-price-based measures of production is “correct”?

If you think production minus consumption should equal “saving,” which should equal change in wealth/assets/net worth, you have to reject the GDP-based measure, based on purchase-prices in the markets for new goods. It doesn’t explain wealth changes. But that suggests markets have been underpricing new long-lived goods for years — at least according to later years’ asset markets.

But the net-worth based measure is pretty eye-popping and hard to swallow based on previous understandings. (Perhaps: it could be revealing the unpriced value of free internet services, this article for instance?) It’s tempting to reject it.

To be clear: doing so is to say that the new-goods markets/prices were right about what the purchased stuff was worth (and ditto, national accountants’ tallies of all those market purchases, tallies which include large and necessary but sometimes convoluted estimations like imputed rent and profits for owner-occupied housing). And, it’s saying that the asset markets are wrong, have been since the 90s. It’s saying we’re in the mother of all multi-decadal asset bubbles.

The net-worth approach to measuring production is attractive because production minus consumption equals change in wealth — an intuition that fails with the standard measure. And that net worth approach suggests that current productivity growth is very healthy indeed.

I’ll leave it to my gentle readers to consider the implications.

* For those who are fans of Godley and Lavoie’s work, check out their discussions of Haig-Simons income vis-a-vis net worth in the index for Monetary Economics, notably page 140, and importantly the top of page 490, in their appendix on sectoral balances (though they don’t call them by that name).

The Eighth Way to Think Like a 21st-Century Economist

February 22nd, 2019 Comments off

The teams at Rethinking Economics and Doughnut Economics have launched a contest for entries, asking “What’s the 8th Way to Think Like a 21st Century Economist?” It builds on Kate Raworth’s seven ways, here.

Here’s my entry:

8. Widespread prosperity both causes and is greater prosperity: From false tradeoffs to collective well-being.

“Okun’s Tradeoff” — the idea that inequality is necessary for economic prosperity and growth — is baked into 20th-century economic thinking. It probably carries some significant truth in a generally egalitarian economy. But in the 21st century, with wealth and income concentrations beyond even what we saw in the 1920s, with that era’s disastrous denouement, it just doesn’t hold water.

Today’s extreme concentrations cause us all, collectively — especially our children — to have less. (Excepting those few who are lucky enough to extract, hoard, and benefit from multigenerational dynastic wealth along the way.)

Broadly dispersed wealth and income offer up opportunity, prosperity, economic security, well-being, and a springboard for success to hundreds of millions, billions of people and families. And it uses less of our earth’s limited resources in distorted production markets delivering low-value, absurdly priced luxury goods and services demanded by those with astronomical wealth and income. With the same amount of wealth, broadly dispersed — and the increased spending that broader prosperity delivers (spending on higher-value goods) — we can enjoy a vastly better life for ourselves. And we can deliver likewise to those who come after us.

At least today, the equality-vs-growth tradeoff is wrong by 180 degrees. The choice is not a difficult one. In fact it’s not even a choice we have to make. Widespread prosperity both causes and is greater prosperity.

Safe Assets, Collateral, and Portfolio Preferences

January 29th, 2019 1 comment

Matthew Klein and Mayank Seksaria had an interesting Twitter conversation yesterday in response to a Stephanie Kelton tweet. Read it here.

Here’s my understanding of the financial mechanisms they’re talking about.

Government deficit spending deposits fixed-price securities (“money,” checking and money-market holdings) ab nihilo onto private sector balance sheets. These are perfectly “safe assets” in the sense that you always know what they’re worth relative to the unit of account (The Dollar). A $1 checking-account balance is always worth one dollar — if the holding account contains less than the FDIC-insured maximum. But for big finance players with big cash balances, they’re not as safe as…

Treasury bills/bonds. And since Treasury is required to “sop up,” re-absorb, burn those newly-created cash balances by swapping them for bonds (“borrowing”): deficit spending + bond issuance, consolidated, effectively deposits new Treasuries, ab nihilo, onto private-sector balance sheets.

Now to the portfolio effects, which are driven by the market’s portfolio preferences (a broader and IMO more aptly descriptive term than “liquidity preferences”).

If deficit spending delivers cash onto private-sector balance sheets, the market is overweight cash. (Assuming portfolio preferences are unchanged.) It can’t get rid of cash because cash is (by its very definition) fixed-price. There’s a fixed stock, unaffected by capital gains and losses. (Yes, net bank lending changes this stock, but very slowly.)

So to adjust their portfolios, market players bid up variable-priced assets: mainly bonds, equities, and titles to real estate. Voila, cap gains: there are more total assets, and portfolio preferences are achieved.

But wait: deficit spending + bond issuance, consolidated, doesn’t make the market overweight cash. It’s overweight bonds. Portfolio balancing is more complicated here, because bonds have variable prices (though they’re less variable than equities).

The market could just sell bonds, driving down their prices and reducing total assets, to achieve its portfolio preference — less bonds, same amount of cash and equities. Or it could sell less bonds but also bid up equities to hit its portfolio prefs; the first reduces total assets, while the second increases that measure. (As they say, further research is needed.)

But none of this, in my opinion, has a whole lot to do with the value of “safe assets” as “collateral” (except when asset prices are diving and all correlations go to one). That seems peripheral and secondary to me, a hamster-wheel of financial shenanigans, sound and fury signifying…

Another takeaway from this: Government deficit spending & bond issuance delivers new assets (Treasuries) onto private-sector balance sheets. But no new liabilities. So it creates more net worth.

But the portfolio balancing that ensues generally also drives up equity (and real-estate) prices, yielding a deficit-spending multiplier effect on wealth by driving cap gains that wouldn’t happen otherwise. One dollar of deficit spending/bond issuance results in more than one dollar in new private-sector wealth, assets, net worth.

That’s how I see it…