The estate tax, or "death tax" as its critics call it, is an essential aspect of the American republic. Indeed, it's an essential aspect of any republic. Recall that essential means something can't exist without whatever is that essential thing, which is exactly what I mean; a republic cannot exist for long without a meaningful estate tax.
Several premises of the American republic were: that the aristocracies of Europe were not serving the interests of the vast majority of the people, and that the people have inherent rights that are not being recognized by the ruling class of aristocrats. That the people were capable of governing themselves and only through this self government were the people able to ensure that their rights were defended.
Now what exactly is an aristocracy? To the casual observer it appears that it is a system of interrelated families that have members who have titles which grant them a certain status. And that the members inherit these titles at birth, so you have to be born into the system. That's a pretty closed system. These are all true, but are really not the foundation or the causes of the aristocracy, rather these are the symptoms.
An aristocracy is primarily a system of inherited wealth. Wealth brings power and influence, so that those with great wealth have much of both, and when they band together their share of both grows markedly. This group, by necessity, is a very small fraction of the population, perhaps less than 0.01%. This very small group wields enormous control over the lives of the rest of the population. This group may not act in the best interests of the majority of the population, so some rational for the legitimacy of their actions needs to be enacted. That mechanism is the idea of hereditary aristocracy. A system which cannot be breached from the outside due to its inherent closed nature. Thus, the population is led to believe that the right of the aristocracy to rule is natural and permanent. But of course it's not. Each title and ceremony and right were crafted by those in power to solidify their power, so much so that they appear to be an essential part of the the state.
What do the rest of the population think of this? Inevitably, the aristocracy will take actions that will disadvantage the rest of the population. Some of the people will recognize this and be unhappy with the situation. They will band together and take action when the opportunity arises to change the situation. The American revolution was just such an opportunity. The result was a republic "of the people, by the people, for the people". The challenge then is to prevent the formation of a new aristocracy that can overturn the republic.
The key to preventing the formation of a new aristocracy is to prevent the passing down of inherited wealth from generation to generation. That is, to prevent the creation of what people rightly call dynasties. The very word dynasty refers to an aristocratic structure. So what is the best way to prevent the passing of great wealth and the formation of dynasties? The inheritance or estate tax.
This single essential need, of preserving the republic, is rationale enough to defend the estate tax from the endless challenges of those who think it unfair, or big government, or punishing success, or whatever other argument du jur.
So, I repeat, a meaningful estate tax that prevents the passing of great fortunes from generation to generation is an essential aspect of a republic.
Thursday, April 3, 2014
Saturday, March 1, 2014
"Fordism" used to be the norm
"Fordism" is the economic philosophy that widespread prosperity and high
corporate profits can be achieved by high wages that allow the workers
to purchase the consumer goods they produce, such as automobiles, furniture, clothes, etc. Named for its creator and biggest proponent the industrialist Henry Ford, who understood the paradox of workers producing goods that they could not afford themselves, which was the prevalent state of the economic system in the US when Ford started his automobile production. Ford understood that such a system is self-limiting in that the few who had all the wealth could not possibly spend it all, thus the distribution of work product, i.e. the goods and services produced, would progressively shift to an overall inefficient application of labor and resources, and a state of perpetually high unemployment would exist. Fordism also includes the shift to specialized mass production which made for large quantities of inexpensive goods that appeal the the worker rather than the luxury buyer. But mass production also brought undesirable working conditions of intense concentration to the work and at the same time boredom. Conditions which made these jobs hard to keep properly filled.
Without Fordism, there would not be the production of large quantities of middle class goods and services such as small homes, economical cars, reasonable furniture, home goods, clothes, and food. Instead, the production would shift to small amounts of esoteric luxury items and services for a tiny fraction of the population, where each item or service took significant labor to produce. These are things like elaborately ornate embroideries, and home finishes which require hand applied elaborate details, watches meticulously crafted by hand, extreme luxury and performance cars, exquisitely prepared meals at exclusive restaurants, and services like personal chefs, legions of gardeners, house keepers, butlers, etc. to maintain immaculately manicured homes. In other words, fewer customers for Ford's cars and for the myriad of other mass produced goods from the factories of America. However, Ford was no opponent of luxury and fine goods, rather he thought that there was a limit to the need for these and beyond this limit they became harmful to the greater economy.
Employers benefit from Fordism in two ways, first, with high wages the employer has the pick of the most stable and most efficient employees, resulting in high productivity, high quality work, and low turnover. Secondly, the workers earn more income than previously, so they can purchase more goods and services at higher prices, the very goods and services which they produced, resulting in increased sales for the employer. This results in a virtuous cycle of rising incomes, motivated workers, low unemployment, and rising consumption driving rising sales and profits.
Fordism is a formula for maximal employment and having the economy functioning at its expected potential. Indeed, Fordism raises the expected potential of the economy faster than it would have risen otherwise because the incessant demand it creates induces producers to increase productivity through efficiency and innovation faster than they otherwise would have attempted. Producers are forced down this path of growth because no other path is available to meet the demand. In other systems, there is no increase in demand as efforts of employers are aimed at reducing wages which allows for a greater profits at the same price, and the belief that more workers could then be hired to meet demand at the same price. But this reduction in wages does not increase demand as the total amount of wages is the same. It simply means that the workers share the same amount of goods as today, but have fewer per worker.
Fordism is a nationalist system, therefore it has one problem. It needs to be all encompassing at the national level. All entities which interact in the system must be susceptible to the principles of Fordism for this system to work. Fordism could be a global system, but all nations must adopt its principles for this to happen. At the national level this can be ensured by two necessary mechanisms; first, all regions of production must come under the same rules and opportunities as existed in the Midwest manufacturing belt where Fordism started. This is what happened all over American as production expanded through the mid-twentieth century. Manufacturers in the West, East, and South were forced to adopt Fordism or lose their workers to those who did. The second is to enforce a balance of trade with other nations and to provide for the protection of high wage, high tech, high value added industries. This is what happened in America until the mid-1960s, which is coincidentally when problems in the US economy and financial situation started to occur. And this is what Germany does today, which helps explain its thriving production economy.
Starting in the early 1970s, the US abandoned Fordism by shifting to globalization. Globalization is by definition anti-nationalism. This shift promoted unbalanced trade which left massive trade deficits of unsettled trade accounts, and free-floating currencies which were no longer backed by real goods and services (the abandonment of Bretton-Woods in 1971). The result was that goods were imported from foreign nations where wages were kept artificially low compared to the US through currency manipulation and a lack of trade settlement. US manufacturing jobs which relied on Fordism's high wages were shipped overseas. Wages fell in the US and the standard of living of Americans with it.
Therefore, it is highly likely that resurrecting traditional American trade policies will lead to a similar resurrection of Fordism and the American standard of living.
PS Apparently Fordism is making a bit of a comeback. Here's a quote from a recent article by Robert Reich [1]
"For one thing, a higher minimum wage doesn’t necessarily increase business costs. It draws more job applicants into the labor market, giving employers more choice of whom to hire. As a result, employers often get more reliable workers who remain longer – thereby saving employers at least as much money as they spend on higher wages.
Without Fordism, there would not be the production of large quantities of middle class goods and services such as small homes, economical cars, reasonable furniture, home goods, clothes, and food. Instead, the production would shift to small amounts of esoteric luxury items and services for a tiny fraction of the population, where each item or service took significant labor to produce. These are things like elaborately ornate embroideries, and home finishes which require hand applied elaborate details, watches meticulously crafted by hand, extreme luxury and performance cars, exquisitely prepared meals at exclusive restaurants, and services like personal chefs, legions of gardeners, house keepers, butlers, etc. to maintain immaculately manicured homes. In other words, fewer customers for Ford's cars and for the myriad of other mass produced goods from the factories of America. However, Ford was no opponent of luxury and fine goods, rather he thought that there was a limit to the need for these and beyond this limit they became harmful to the greater economy.
Employers benefit from Fordism in two ways, first, with high wages the employer has the pick of the most stable and most efficient employees, resulting in high productivity, high quality work, and low turnover. Secondly, the workers earn more income than previously, so they can purchase more goods and services at higher prices, the very goods and services which they produced, resulting in increased sales for the employer. This results in a virtuous cycle of rising incomes, motivated workers, low unemployment, and rising consumption driving rising sales and profits.
Fordism is a formula for maximal employment and having the economy functioning at its expected potential. Indeed, Fordism raises the expected potential of the economy faster than it would have risen otherwise because the incessant demand it creates induces producers to increase productivity through efficiency and innovation faster than they otherwise would have attempted. Producers are forced down this path of growth because no other path is available to meet the demand. In other systems, there is no increase in demand as efforts of employers are aimed at reducing wages which allows for a greater profits at the same price, and the belief that more workers could then be hired to meet demand at the same price. But this reduction in wages does not increase demand as the total amount of wages is the same. It simply means that the workers share the same amount of goods as today, but have fewer per worker.
Fordism is a nationalist system, therefore it has one problem. It needs to be all encompassing at the national level. All entities which interact in the system must be susceptible to the principles of Fordism for this system to work. Fordism could be a global system, but all nations must adopt its principles for this to happen. At the national level this can be ensured by two necessary mechanisms; first, all regions of production must come under the same rules and opportunities as existed in the Midwest manufacturing belt where Fordism started. This is what happened all over American as production expanded through the mid-twentieth century. Manufacturers in the West, East, and South were forced to adopt Fordism or lose their workers to those who did. The second is to enforce a balance of trade with other nations and to provide for the protection of high wage, high tech, high value added industries. This is what happened in America until the mid-1960s, which is coincidentally when problems in the US economy and financial situation started to occur. And this is what Germany does today, which helps explain its thriving production economy.
Starting in the early 1970s, the US abandoned Fordism by shifting to globalization. Globalization is by definition anti-nationalism. This shift promoted unbalanced trade which left massive trade deficits of unsettled trade accounts, and free-floating currencies which were no longer backed by real goods and services (the abandonment of Bretton-Woods in 1971). The result was that goods were imported from foreign nations where wages were kept artificially low compared to the US through currency manipulation and a lack of trade settlement. US manufacturing jobs which relied on Fordism's high wages were shipped overseas. Wages fell in the US and the standard of living of Americans with it.
Therefore, it is highly likely that resurrecting traditional American trade policies will lead to a similar resurrection of Fordism and the American standard of living.
PS Apparently Fordism is making a bit of a comeback. Here's a quote from a recent article by Robert Reich [1]
"For one thing, a higher minimum wage doesn’t necessarily increase business costs. It draws more job applicants into the labor market, giving employers more choice of whom to hire. As a result, employers often get more reliable workers who remain longer – thereby saving employers at least as much money as they spend on higher wages.
A higher wage can also help build employee morale, resulting in better performance. Gap, America’s largest clothing retailer, recently announced it would boost its hourly wage to $10. Wall Street approved. “You treat people well, they’ll treat your customers well,” said Dorothy Lakner [2], a Wall Street analyst. “Gap had a strong year last year compared to a lot of their peers. That sends a pretty strong message to employees that, ‘we had a good year, but you’re going to be rewarded too.’
[1] http://robertreich.org/post/78130228939
[2] http://www.bloomberg.com/apps/news?pid=webport_news&tkr=MCD:US,PFE:US,WMT:US&tkr2=WMT:US&sid=a2ZJ55vwtY3Q
Friday, February 28, 2014
Adam Smith - Sovereignty more important than wealth
This next post on Adam Smiths writings is in regards to the needs of defense of national sovereignty when it is in conflict with free trade. In Wealth of Nations, Smith says "As defence (sic), however, is of much more importance than opulence, the act of navigation is, perhaps, the wisest of all the commercial regulations of England."[1] Here "defence" is the defense of England against military action by foreign nations. The "act of navigation" is a trade law which restricts the importation of goods to England which are not carried on English crewed, English owned ships. The immediate goal of the act was to promote the British Navy by having a large standing source of English ships and crew, and to disfavor the Dutch who previously had a large commercial fleet which enabled a large naval threat to England by the Dutch.
The opulence is what Smith believes to be the natural result of free trade. He says "The act of navigation is not favourable to foreign commerce, or to the growth of that opulence which can arise from it." This is, under certain conditions, true, but under others not so true, at least not for the general population of the nation. It is certainly true for the traders engaging in the commerce of who's welfare Smith was highly concerned.
What is most important in the first quote is that Smith implies that national sovereignty is more important than free trade, and that nations have a right to protect their sovereignty. Actually he says "much more important" as if that need to protect the nation overrides all trade concerns. That is, even Smith agrees that there are limits to free trade. And that due to the effects of free trade which endanger the existence of a nation, for nations were continually engaged in existential battles back in those days in which a country could be conquered and come under the domain of another nation, nations are rightfully and reasonably allowed to place restrictions on free trade.
Smith here means defense against military threat, but that leads one to ask if other threats to the nation are also covered by this sentiment? Western nations are rarely the target of military invasion these days, but threats to their existence continue to take place in other forms, most often economic, political, and cultural. If there are forces due to free trade that are harming a nation, shouldn't it have the right to act to prevent these corrosive effects just as Smith insists that a nation has the obligation to inhibit free trade in order to protect itself militarily? Isn't this protection of the nation much more important than supposed opulence? Opulence which in other posts has been shown to be rather unevenly distributed in a nation and may overall make that nation poorer while enriching only a few.
How would free trade be regulated today? Much like back in the day when Smith wrote, regulation would happen today through the use of import tariffs and quotas. If a nations unemployment is high, its manufacturing base, which is the basis of trade, is declining due to production moving off shore, if high wage, high tech, high value added jobs are moving off shore due to free trade, shouldn't a nation defend itself? Just as it would defend itself against the same economic damage if it was caused by a military conflict?
It seems that the pertinent feature of Smith's sentiment is that the damage done to a nation should determine the action taken, rather than the specific mechanism by which that damage is inflicted. Damage is damage regardless of the source of the damage to a nation. And the proper response is to take actions to protect against the source of that damage. If that damage is due to free trade, then that trade needs to be restricted in the interest of the continued existence and welfare of the nation.
[1] http://www.gutenberg.org/files/3300/3300-h/3300-h.htm
The opulence is what Smith believes to be the natural result of free trade. He says "The act of navigation is not favourable to foreign commerce, or to the growth of that opulence which can arise from it." This is, under certain conditions, true, but under others not so true, at least not for the general population of the nation. It is certainly true for the traders engaging in the commerce of who's welfare Smith was highly concerned.
What is most important in the first quote is that Smith implies that national sovereignty is more important than free trade, and that nations have a right to protect their sovereignty. Actually he says "much more important" as if that need to protect the nation overrides all trade concerns. That is, even Smith agrees that there are limits to free trade. And that due to the effects of free trade which endanger the existence of a nation, for nations were continually engaged in existential battles back in those days in which a country could be conquered and come under the domain of another nation, nations are rightfully and reasonably allowed to place restrictions on free trade.
Smith here means defense against military threat, but that leads one to ask if other threats to the nation are also covered by this sentiment? Western nations are rarely the target of military invasion these days, but threats to their existence continue to take place in other forms, most often economic, political, and cultural. If there are forces due to free trade that are harming a nation, shouldn't it have the right to act to prevent these corrosive effects just as Smith insists that a nation has the obligation to inhibit free trade in order to protect itself militarily? Isn't this protection of the nation much more important than supposed opulence? Opulence which in other posts has been shown to be rather unevenly distributed in a nation and may overall make that nation poorer while enriching only a few.
How would free trade be regulated today? Much like back in the day when Smith wrote, regulation would happen today through the use of import tariffs and quotas. If a nations unemployment is high, its manufacturing base, which is the basis of trade, is declining due to production moving off shore, if high wage, high tech, high value added jobs are moving off shore due to free trade, shouldn't a nation defend itself? Just as it would defend itself against the same economic damage if it was caused by a military conflict?
It seems that the pertinent feature of Smith's sentiment is that the damage done to a nation should determine the action taken, rather than the specific mechanism by which that damage is inflicted. Damage is damage regardless of the source of the damage to a nation. And the proper response is to take actions to protect against the source of that damage. If that damage is due to free trade, then that trade needs to be restricted in the interest of the continued existence and welfare of the nation.
[1] http://www.gutenberg.org/files/3300/3300-h/3300-h.htm
Saturday, January 4, 2014
Labor is wealth - Adam Smith
"Labour, it must always be remembered, and not any particular commodity, or set of commodities, is the real measure of the value both of silver and of all other commodities." and "The real price of every thing, what every thing really costs to the man who wants to acquire it, is the toil and trouble of acquiring it. What every thing is really worth to the man who has acquired it and who wants to dispose of it, or exchange it for something else, is the toil and trouble which it can save to himself, and which it can impose upon other people." Adam Smith, Wealth of Nations [1]
I've been reading Adam Smith lately because so much of the school of economics which is popular these days is based in large part on his work. I also suspect that many who preach the gospel of Adam Smith have actually never read his work. So, I'm going to produce a series of posts based on this work, with this being the first.
Smith says a great many things. Some of which are a bit disturbing to modern sensibilities, such as his appraisal of the laboring class (of which he is clearly not a member) as a flexible commodity which expands and contracts as circumstances allow. His comments may be on the mark, but the deafness to the state of the human condition is quite marked in his writings.
The topic today is wealth and labor, and in Smith's quotes above is where I think that he really get's it right, that all wealth is ultimately expressed as its cost in labor. So, let's look at these in detail.
"The real price of every thing,..., is the toil and trouble of acquiring it". That is getting something takes some effort or labor. Labor takes time and effort, if even a small amount that may not seem worth tracking. Any thing put into your hands for your use took some amount of labor to get it there. Take for example a wood chair produced by a carpenter. The carpenter needs to sit, so he needs a chair. This chair will not just appear out of thin air and into his house by simply wishing for it. The carpenter must do some labor on some wood with his tools to produce the chair. That is, the carpenter gives up some amount of his time and associated effort to get that chair. The time spent working on the chair is lost forever to be used for some other purpose. The chance to do something else, or nothing at all, is gone by making the chair. But, without this labor, there simply is no chair, no matter how much he wants one. Thus "the real price" of the chair was the labor that the carpenter put in to produce it. Even if you lived in the Garden of Eden with Apple trees everywhere, acquiring that apple to eat took some labor. You had to get up, walk to the tree, reach up, and pick the Apple. That was "the real price" of the Apple.
Once the carpenter has a chair, perhaps he makes another, because he knows others want to sit as well, with the intention of trading it for some other good. Perhaps he wants a wood table to go with his chair. Perhaps he could make the table but prefers to make chairs as he is talented at it. Maybe he can get one table in exchange for one chair, but if he made the table himself it would take the time he would use to make two chairs. Thus what the table "is really worth" to the carpenter is "the toil and trouble which it can save to himself" by making a chair in half the time of making a table, and "which it can impose upon other people" by having another make the table and exchange it for the chair. In this case making the chair is worth it to the carpenter to trade for the table because he saved his labor that way. The table "is really worth" one chair to the carpenter. But if no trade for a table could be made, then the carpenter would have to decide if making the table is worth the labor, or if he would rather go without, as the table "is really worth" two chairs in this case. In the other extreme where making a table only takes half the time as making a chair, then clearly the carpenter should make the table himself, as the table "is really worth" only half a chair.
Contrast this insight of Adam Smith with those on Wall St. who claim that they can create wealth without labor, simply by financial machinations. For instance, David Einhorn of Greenlight Capital proposed some financial modifications to Apple computer corp's financial operations to "unlock hundreds of billions of dollars of latent shareholder value".[2] As if this value didn't already exist and he, by this action, would create it. Not everyone has fallen for this trickery. For instance, Aswath Damodaran of Columbia University said "There will be NO value created..none". [3] No new goods would be created, either now or in the future, by the proposed change. No more iPads or iPhones would be produced. No more iMacs or apps would be created. The only change would be shifting of financial resources from one place to another.
Adam Smith similarly notes that money, that which holds value for transactions, does not in and of itself contribute any value to an economy, rather it forms the means of transaction of goods in an economy. "...so money, by means of which the whole revenue of the society is regularly distributed among all its different members, makes itself no part of that revenue. The great wheel of circulation is altogether different from the goods which are circulated by means of it. The revenue of the society consists altogether in those goods, and not in the wheel which circulates them. In computing either the gross or the neat revenue of any society, we must always, from the whole annual circulation of money and goods, deduct the whole value of the money, of which not a single farthing can ever make any part of either." In other words, financial mechanisms only are useful in transferring real value, but no amount of financial machinations can ever create value. No one values money, or any financial asset or security, for itself. Rather we value these things for the goods (and services) which they can purchase. Behind every money or financial asset must be some good (or service) of real value that backs it up. In Adam Smith's writings, money is the physical precious metals or coins made from these. The idea of fiat money is not in Wealth of Nations (at least not as far as I've read so far ;). But the idea that all real value is composed of goods (and services) and that the cost of labor of creating these is "the real price" of all is firmly established therein.
I am continually amazed that the financial wizards who conger up exotic financial instruments like derivative securities, and the idea of valuing them through complex models, nonetheless revere Adam Smith as one of the founder's of the popular school of economics which they so vociferously uphold. Would Smith approve of these modern day financial machinations? Although it is impossible to know for sure, his writings seem to suggest that he would be most mortified by their existence, and amused by the gullibility of the public and it servants in accepting these as legitimate financial mechanisms.
[1] http://www.gutenberg.org/files/3300/3300-h/3300-h.htm
[2] http://www.businessinsider.com/david-einhorn-explains-how-apple-could-create-hundreds-of-billions-of-dollars-of-new-value-for-shareholders-2013-2
[3] http://aswathdamodaran.blogspot.com/2013/02/financial-alchemy-david-einhorns-value.html
I've been reading Adam Smith lately because so much of the school of economics which is popular these days is based in large part on his work. I also suspect that many who preach the gospel of Adam Smith have actually never read his work. So, I'm going to produce a series of posts based on this work, with this being the first.
Smith says a great many things. Some of which are a bit disturbing to modern sensibilities, such as his appraisal of the laboring class (of which he is clearly not a member) as a flexible commodity which expands and contracts as circumstances allow. His comments may be on the mark, but the deafness to the state of the human condition is quite marked in his writings.
The topic today is wealth and labor, and in Smith's quotes above is where I think that he really get's it right, that all wealth is ultimately expressed as its cost in labor. So, let's look at these in detail.
"The real price of every thing,..., is the toil and trouble of acquiring it". That is getting something takes some effort or labor. Labor takes time and effort, if even a small amount that may not seem worth tracking. Any thing put into your hands for your use took some amount of labor to get it there. Take for example a wood chair produced by a carpenter. The carpenter needs to sit, so he needs a chair. This chair will not just appear out of thin air and into his house by simply wishing for it. The carpenter must do some labor on some wood with his tools to produce the chair. That is, the carpenter gives up some amount of his time and associated effort to get that chair. The time spent working on the chair is lost forever to be used for some other purpose. The chance to do something else, or nothing at all, is gone by making the chair. But, without this labor, there simply is no chair, no matter how much he wants one. Thus "the real price" of the chair was the labor that the carpenter put in to produce it. Even if you lived in the Garden of Eden with Apple trees everywhere, acquiring that apple to eat took some labor. You had to get up, walk to the tree, reach up, and pick the Apple. That was "the real price" of the Apple.
Once the carpenter has a chair, perhaps he makes another, because he knows others want to sit as well, with the intention of trading it for some other good. Perhaps he wants a wood table to go with his chair. Perhaps he could make the table but prefers to make chairs as he is talented at it. Maybe he can get one table in exchange for one chair, but if he made the table himself it would take the time he would use to make two chairs. Thus what the table "is really worth" to the carpenter is "the toil and trouble which it can save to himself" by making a chair in half the time of making a table, and "which it can impose upon other people" by having another make the table and exchange it for the chair. In this case making the chair is worth it to the carpenter to trade for the table because he saved his labor that way. The table "is really worth" one chair to the carpenter. But if no trade for a table could be made, then the carpenter would have to decide if making the table is worth the labor, or if he would rather go without, as the table "is really worth" two chairs in this case. In the other extreme where making a table only takes half the time as making a chair, then clearly the carpenter should make the table himself, as the table "is really worth" only half a chair.
Contrast this insight of Adam Smith with those on Wall St. who claim that they can create wealth without labor, simply by financial machinations. For instance, David Einhorn of Greenlight Capital proposed some financial modifications to Apple computer corp's financial operations to "unlock hundreds of billions of dollars of latent shareholder value".[2] As if this value didn't already exist and he, by this action, would create it. Not everyone has fallen for this trickery. For instance, Aswath Damodaran of Columbia University said "There will be NO value created..none". [3] No new goods would be created, either now or in the future, by the proposed change. No more iPads or iPhones would be produced. No more iMacs or apps would be created. The only change would be shifting of financial resources from one place to another.
Adam Smith similarly notes that money, that which holds value for transactions, does not in and of itself contribute any value to an economy, rather it forms the means of transaction of goods in an economy. "...so money, by means of which the whole revenue of the society is regularly distributed among all its different members, makes itself no part of that revenue. The great wheel of circulation is altogether different from the goods which are circulated by means of it. The revenue of the society consists altogether in those goods, and not in the wheel which circulates them. In computing either the gross or the neat revenue of any society, we must always, from the whole annual circulation of money and goods, deduct the whole value of the money, of which not a single farthing can ever make any part of either." In other words, financial mechanisms only are useful in transferring real value, but no amount of financial machinations can ever create value. No one values money, or any financial asset or security, for itself. Rather we value these things for the goods (and services) which they can purchase. Behind every money or financial asset must be some good (or service) of real value that backs it up. In Adam Smith's writings, money is the physical precious metals or coins made from these. The idea of fiat money is not in Wealth of Nations (at least not as far as I've read so far ;). But the idea that all real value is composed of goods (and services) and that the cost of labor of creating these is "the real price" of all is firmly established therein.
I am continually amazed that the financial wizards who conger up exotic financial instruments like derivative securities, and the idea of valuing them through complex models, nonetheless revere Adam Smith as one of the founder's of the popular school of economics which they so vociferously uphold. Would Smith approve of these modern day financial machinations? Although it is impossible to know for sure, his writings seem to suggest that he would be most mortified by their existence, and amused by the gullibility of the public and it servants in accepting these as legitimate financial mechanisms.
[1] http://www.gutenberg.org/files/3300/3300-h/3300-h.htm
[2] http://www.businessinsider.com/david-einhorn-explains-how-apple-could-create-hundreds-of-billions-of-dollars-of-new-value-for-shareholders-2013-2
[3] http://aswathdamodaran.blogspot.com/2013/02/financial-alchemy-david-einhorns-value.html
Wednesday, December 4, 2013
The President's Speach on the Economy: a Review
Let's critique the President's speech and see what it tells
us.
"Nevertheless, during the post-World War II years, the
economic ground felt stable and secure for most Americans, and the future
looked brighter than the past. " -
Yes, he's got the right idea. We had
good policies and programs that supported the middle class and a prosperous future
for all.
"But starting in the late ‘70s, this social compact
began to unravel." - Actually, it started in the early '70s, but no one
noticed.
“Technology made it easier for companies to do more with
less, eliminating certain job occupations. “ – NO. This is always true, but not a cause of long
term unemployment or dwindling prospects.
A common mistake made today.
“A more competitive world lets companies ship jobs
anywhere. “ - NO. Again, a common misconception. The world has always been competitive, and
globalized. It was changing trade
policies that allowed US corporations to ship jobs overseas, at least for now.
“And as good manufacturing jobs automated or headed
offshore, workers lost their leverage, jobs paid less and offered fewer
benefits.” - Yep.
“As values of community broke down,…” - He hits it on the head here. We are no longer “One Nation”. We have become “us” and “them”.
“As a trickle-down ideology became more prominent, taxes
were slashed for the wealthiest, while investments in things that make us all
richer, like schools and infrastructure, were allowed to wither. And for
a certain period of time, we could ignore this weakening economic foundation,
in part because more families were relying on two earners as women entered the workforce.
We took on more debt financed by a juiced-up housing market. But when the
music stopped, and the crisis hit, millions of families were stripped of
whatever cushion they had left.” - So
true. Investment in future productivity
makes us richer.
“Since 1979, when I graduated from high school, our
productivity is up by more than 90 percent, but the income of the typical
family has increased by less than eight percent.” – So true, so sad.
“The combined trends of increased inequality and decreasing
mobility pose a fundamental threat to the American Dream, our way of life, and
what we stand for around the globe. “
- Yes. This is what being
American is all about. The current challenges
being brought onto America are an existential threat.
“…and together with lax regulation, may contribute to risky
speculative bubbles.” – The lax regulations, rather than the concentration of
wealth itself, are the chief culprit.
Bring back Glass-Steagall.
“The opportunity gap in America is now as much about class
as it is about race, and that gap is growing.”
- Yes, this is class issue and always has been.
“Second, we need to dispel the myth that the goals of
growing the economy and reducing inequality are necessarily in conflict, when
they should actually work in concert. We know from our history that our
economy grows best from the middle out, when growth is more widely
shared. And we know that beyond a certain level of inequality, growth
actually slows altogether.” -
Absolutely. Spot on.
“Third, we need to set aside the belief that government
cannot do anything about reducing inequality.” – Again, right on.
“To begin with, we have to continue to relentlessly push a
growth agenda.” – Good, but the devil is in the details as they say.
” And that means simplifying our corporate tax code in a way
that closes wasteful loopholes and ends incentives to ship jobs overseas.” –
Yes to ending the incentives to move jobs overseas, but too much emphasis on
corporate taxes which have little impact on hiring. This is just a cave in to special interests,
and ignores the problems of trade imbalances and more appropriate mechanisms to
remedy this such as tariffs.
“It means a trade agenda that grows exports and works for
the middle class. It means streamlining regulations that are outdated or
unnecessary or too costly.” - yes, but
the problem is not regulations!! It’s
the trade imbalance caused by a lack of protective measures like tariffs which
are traditionally used by all advanced countries.
Overall, the President ignores the trade deficit and does
not tackle financial regulation that is needed for any meaningful recovery.
“Step two is making sure we empower more Americans with the
skills and education they need to compete in a highly competitive global
economy.” - Good, we all need education
to get good jobs.
“so we’ve helped more students go to college with grants and
loans that go farther than before. We’ve made it more practical to repay
those loans. And today, more students are graduating from college than
ever before.” – Umm, I’m not sure what he’s talking about as grants are almost
non-existent for the middle class and the costs of college are more burdensome
than ever. Also, more college graduates aren’t
necessarily a good thing. We need the
proper education for kids as not everyone should go to college; sometimes
vocational training is what is more useful.
“So we should offer our people the best technical education
in the world. That’s why we’ve worked to connect local businesses with
community colleges, so that workers young and old can earn the new skills that
earn them more money.” – As long as he’s not referring to ‘STEM’ because we
have plenty of computer people. We need
more broad based skills for a wide variety of jobs.
“the third part of this middle-class economics is empowering
our workers. It’s time to ensure our collective bargaining laws function
as they’re supposed to so unions have a level playing field to organize for a
better deal for workers and better wages for the middle class.” – Good, this is
how it’s supposed to work. Unions have
lost most of the clout that they had acquired by the 1950’s. They need to organize and act more vigorously
than ever.
“And that’s why it’s well past the time to raise a minimum
wage that in real terms right now is below where it was when Harry Truman was
in office. “ - Yes, the free market
needs a bottom so people don’t drop right through.
“But there’s no solid evidence that a higher minimum wage
costs jobs, and research shows it raises incomes for low-wage workers and
boosts short-term economic growth. “ – Correct.
“Number four, as I alluded to earlier, we still need
targeted programs for the communities and workers that have been hit hardest by
economic change and the Great Recession… Promise Zones, urban and rural
communities where we’re going to support local efforts focused on a national
goal -- and that is a child’s course in life should not be determined by the
zip code he’s born in, but by the strength of his work ethic and the scope of
his dreams. “ - This is misguided
and does not help the middle class which he so touted through the speech. This will not help the structural problems of
the economy or financial system.
“So we’re going to have to do more to encourage private
savings and shore up the promise of Social Security for future
generations. And remember, these are promises we make to one
another. We don’t do it to replace the free market, but we do it to
reduce risk in our society by giving people the ability to take a chance and
catch them if they fall.” – Yes. The
name says it all: Social Security. Only
the Federal government has the ability to guarantee income in spite of the
vagaries of life that befall all of us.
“…SNAP…unemployment insurance… These programs are almost
always temporary means for hardworking people to stay afloat while they try to
find a new job or go into school to retrain themselves for the jobs that are
out there, or sometimes just to cope with a bout of bad luck. “ - Yes, the idea is that the normal state is
for people to have good, well-paying jobs, that the government supplies support
when those good jobs become unavailable for a time.
“That’s why we fought for the Affordable Care Act --
(applause) -- because 14,000 Americans lost their health insurance every single
day, and even more died each year because they didn’t have health insurance at
all. We did it because millions of families who thought they had coverage
were driven into bankruptcy by out-of-pocket costs that they didn't realize
would be there. Tens of millions of our fellow citizens couldn’t get any
coverage at all. And Dr. King once said, "Of all the forms of
inequality, injustice in health care is the most shocking and inhumane.” – Yes,
the American people, acting through their government, has a responsibility to
see that all Americans get needed health care.
Is the ACA it, probably not, but it might be better than what existed
before.
The President has some idea of the forces acting against the
middle class, but does not seem to comprehend the fundamental causes of
these. Those are: the lack of balanced
trade, the lack of trade protections for industries which provide high value
added, high wage jobs and the economic foundation of our country, the
regulation of finance which separated depository institutions from investment
and speculation, the control over the money creation process, and the
restoration of a trade settlement system like Bretton Woods. All the good intentions and laudable goals
will do nothing if these fundamental issues are not addressed.
What can we learn about trade from Germany???
The Germans are taking a lot of heat lately for their large trade surplus of nearly $250B this year. This kind of criticism is par for the course from the talking heads, but what really stunned me is that nobody asked "how did Germany manage to have such a large trade surplus when they have such high labor and structural costs?" This to me is the key issue here, so I did a little searching around and found this great article from 2010 about just this issue. Ian Fletcher has written an interesting piece about what the Germans are doing right and how they do it. You can find it here:
http://www.huffingtonpost.com/ian-fletcher/how-do-other-nations-bala_b_628157.html
The principle reason for the German trade surplus is the underlying philosophy of the Germans which Ian describes as: "Germany, like the U.S., is nominally a free-trading country. The difference is that while the U.S. genuinely believes in free trade, Germany quietly follows a contrary tradition that goes back to the 19th-century German economist Friedrich List (who was, ironically, a student of our own Alexander Hamilton, the man on the $10 bill). So despite Germany's nominal policy of free trade, in reality, a huge key to its trading success is a vast and half-hidden thicket of de facto non-tariff trade barriers." They, being disciples of List, understand the importance of protecting their high value added, high wage, high tech industries and never running trade deficits as the path to prosperity. List wrote the brilliant critique of Adam Smith in "The National System of Political Economy", which I highly recommend to all.
What is unfortunate about the German trade policy is that they must maintain the pretense of "free trade" while they nonetheless go about instituting obscure policies which provide protections. Wouldn't it be easier, clearer, fairer, and more straightforward to simply replace many of these rules and regulations with tariffs? Let's just state again that all nations have the right to balanced trade, and that tariffs are a legitimate mechanism for achieving this balanced condition. Indeed tariffs should be the preferred mechanism due to the reasons above. Certainly, the need for balanced trade is self evident as in the long run trade deficits are unsustainable and trade will come back into balance as the "free trade" crowd insists, but this will likely be accomplished through a variety of shocks that will inflict more suffering on the public.
Now List goes beyond balanced trade to requiring protection of key industries that provide for high value, high wage jobs be protected and promoted above that necessary for domestic consumption, with the surplus being exported in exchange for low value commodities produced at low wages. This policy, will as List adequately shows, create prosperity at home, but at the cost of prosperity for other nations. A balance of trade with all providing roughly for their own needs, or trading for similarly value added goods will likely be more palatable to all.
As to the current criticism that the Germans are suffering? Well, there is some merit in that, as we'll say again, all nations have the right to balanced trade, including the Germans. They will eventually have to spend what they are saving from running a trade surplus so they might as well do it now and give a demand boost to production in other EU countries, such as Spain and Greece, which are running far below their production potential. This may induce some inflation in the Eurozone, but maybe that will provide the impetus that the Germans need to exit the EU.
http://www.huffingtonpost.com/ian-fletcher/how-do-other-nations-bala_b_628157.html
The principle reason for the German trade surplus is the underlying philosophy of the Germans which Ian describes as: "Germany, like the U.S., is nominally a free-trading country. The difference is that while the U.S. genuinely believes in free trade, Germany quietly follows a contrary tradition that goes back to the 19th-century German economist Friedrich List (who was, ironically, a student of our own Alexander Hamilton, the man on the $10 bill). So despite Germany's nominal policy of free trade, in reality, a huge key to its trading success is a vast and half-hidden thicket of de facto non-tariff trade barriers." They, being disciples of List, understand the importance of protecting their high value added, high wage, high tech industries and never running trade deficits as the path to prosperity. List wrote the brilliant critique of Adam Smith in "The National System of Political Economy", which I highly recommend to all.
What is unfortunate about the German trade policy is that they must maintain the pretense of "free trade" while they nonetheless go about instituting obscure policies which provide protections. Wouldn't it be easier, clearer, fairer, and more straightforward to simply replace many of these rules and regulations with tariffs? Let's just state again that all nations have the right to balanced trade, and that tariffs are a legitimate mechanism for achieving this balanced condition. Indeed tariffs should be the preferred mechanism due to the reasons above. Certainly, the need for balanced trade is self evident as in the long run trade deficits are unsustainable and trade will come back into balance as the "free trade" crowd insists, but this will likely be accomplished through a variety of shocks that will inflict more suffering on the public.
Now List goes beyond balanced trade to requiring protection of key industries that provide for high value, high wage jobs be protected and promoted above that necessary for domestic consumption, with the surplus being exported in exchange for low value commodities produced at low wages. This policy, will as List adequately shows, create prosperity at home, but at the cost of prosperity for other nations. A balance of trade with all providing roughly for their own needs, or trading for similarly value added goods will likely be more palatable to all.
As to the current criticism that the Germans are suffering? Well, there is some merit in that, as we'll say again, all nations have the right to balanced trade, including the Germans. They will eventually have to spend what they are saving from running a trade surplus so they might as well do it now and give a demand boost to production in other EU countries, such as Spain and Greece, which are running far below their production potential. This may induce some inflation in the Eurozone, but maybe that will provide the impetus that the Germans need to exit the EU.
Saturday, November 16, 2013
In praise of wage inflation!!!!
"Wage inflation". The very words strike terror into the hearts of economists and financiers everywhere. We are taught that wage inflation is categorically evil, as if some comprehensive set of data proved this beyond any doubt. But, maybe there is a time and place for wage inflation, and maybe that time is now and that place is here.
A primary goal of the government today should be to stimulate the economy to, in principle, cause hiring to create additional GDP. US companies are sitting on record balances of cash, so they have no problem funding capital expansion and hiring. The low interest rates may help them on current interest payments by some refinancing, but otherwise makes not difference to them. They see no demand for more goods and services beyond what they currently plan to produce, so they sit and wait. They are waiting to be signaled by consumers to increase production by consumers buying more goods and services than these companies are currently planning for. This is the demand signal that moves companies to hire workers and invest in capital expansion.
Consumers, seeing their pay stagnate or shrink, and being up to their ears in debt, are in no position to increase their spending to create the demand needed to signal companies. So, they muddle through hoping not to loose the jobs they have and become one of the tens of millions of unemployed.
The long-term unemployed try to find work, but are unable. Neither are they in much of a position to start businesses of their own. I suppose some try to do odd jobs or deal things at flea market and on line. But they just hope to find some decent job before their unemployment runs out. BTW, unemployment insurance payment is the one fiscal stimulus that is actually in effect to boost demand.
I believe this whole line of argument is the one Keynes made to justify government intervention in the first place. And that fiscal policy is needed during recessions.
Consumers are spending all they can afford to, but that level is below the amount that the businesses in the economy are structured to produce. The lack of growth in the economy is because the consumer isn't buying more. And the consumer isn't buying more because they lack the income to do so. In other words, incomes have not kept up with expectations of producers. So, production is cut back to a level that consumers can currently afford. This means the supply and demand curve is moved to lower demand and thus lower supply at a lower price. This is source of the lack of inflation that we've been seeing.
What is needed is for consumers incomes to grow, which would spur purchasing, which would spur increased production, which would spur hiring and capital expansion. Which would...increase incomes. This is, in fact, wage inflation. Prices would necessarily rise as demand is bid up by rising incomes, and rising supply would only happen if prices were bid up to motivate the increase in production.
The happy side effects of this wage inflation are: lowered unemployment, raised taxes, and likely increases in long term profits for companies as those sales increases accrue over the years. This is a much better situation for all then if those unemployed stay idle, government deficits continue at the current pace, and production at companies remain below the potential output.
Going back to Keynes, this is where the government needs to step in. How to achieve wage inflation? By cutting taxes on wage earners. I.e. those folks who make their incomes through work producing real goods and services. Also known as the middle class and the working class. The groups who have been taking the brunt of the economic crisis. One which they largely didn't create. How to pay for this? By increasing taxes on those who benefit by increased incomes from unproductive activities. I.e. Wall St types and those who's incomes come from rents and capital gains. This isn't a punitive suggestion, merely a recognition that the wealth is flowing to those groups and they are not spending it to produce increased demand for the goods and services that the nation's companies are set up to produce. Such a trade off of taxes would be essentially revenue neutral, but would increase demand in the economy and send it back to full production and employment.
A primary goal of the government today should be to stimulate the economy to, in principle, cause hiring to create additional GDP. US companies are sitting on record balances of cash, so they have no problem funding capital expansion and hiring. The low interest rates may help them on current interest payments by some refinancing, but otherwise makes not difference to them. They see no demand for more goods and services beyond what they currently plan to produce, so they sit and wait. They are waiting to be signaled by consumers to increase production by consumers buying more goods and services than these companies are currently planning for. This is the demand signal that moves companies to hire workers and invest in capital expansion.
Consumers, seeing their pay stagnate or shrink, and being up to their ears in debt, are in no position to increase their spending to create the demand needed to signal companies. So, they muddle through hoping not to loose the jobs they have and become one of the tens of millions of unemployed.
The long-term unemployed try to find work, but are unable. Neither are they in much of a position to start businesses of their own. I suppose some try to do odd jobs or deal things at flea market and on line. But they just hope to find some decent job before their unemployment runs out. BTW, unemployment insurance payment is the one fiscal stimulus that is actually in effect to boost demand.
I believe this whole line of argument is the one Keynes made to justify government intervention in the first place. And that fiscal policy is needed during recessions.
Consumers are spending all they can afford to, but that level is below the amount that the businesses in the economy are structured to produce. The lack of growth in the economy is because the consumer isn't buying more. And the consumer isn't buying more because they lack the income to do so. In other words, incomes have not kept up with expectations of producers. So, production is cut back to a level that consumers can currently afford. This means the supply and demand curve is moved to lower demand and thus lower supply at a lower price. This is source of the lack of inflation that we've been seeing.
What is needed is for consumers incomes to grow, which would spur purchasing, which would spur increased production, which would spur hiring and capital expansion. Which would...increase incomes. This is, in fact, wage inflation. Prices would necessarily rise as demand is bid up by rising incomes, and rising supply would only happen if prices were bid up to motivate the increase in production.
The happy side effects of this wage inflation are: lowered unemployment, raised taxes, and likely increases in long term profits for companies as those sales increases accrue over the years. This is a much better situation for all then if those unemployed stay idle, government deficits continue at the current pace, and production at companies remain below the potential output.
Going back to Keynes, this is where the government needs to step in. How to achieve wage inflation? By cutting taxes on wage earners. I.e. those folks who make their incomes through work producing real goods and services. Also known as the middle class and the working class. The groups who have been taking the brunt of the economic crisis. One which they largely didn't create. How to pay for this? By increasing taxes on those who benefit by increased incomes from unproductive activities. I.e. Wall St types and those who's incomes come from rents and capital gains. This isn't a punitive suggestion, merely a recognition that the wealth is flowing to those groups and they are not spending it to produce increased demand for the goods and services that the nation's companies are set up to produce. Such a trade off of taxes would be essentially revenue neutral, but would increase demand in the economy and send it back to full production and employment.
Such a suggestion goes against the entire "cut taxes on job creators and the wealthy" arguments. But, I think that those arguments were weak to begin with, and have now been largely discredited by the current economic and financial crisis. Will government have the will to make these changes? Will the economics profession have the will to acknowledge these new policies are the correct ones to make? Only time will tell.
Subscribe to:
Posts (Atom)