Sunday, February 1, 2015

He's not sure which, but it doesn't matter

In Technology and the unbundling of commercial banks, Winterspeak describes the evolution of finance and lists several new, high-tech lending companies. He offers this summary:
The primary purpose of commercial banks, the function that makes them banks, is making credit evaluations. Any company which takes on that function without the accompanying risk if the loan is not paid off, is in a moral hazard situation which will ultimately create a credit bubble. I'm not sure which of these does that, but worth keeping an eye on.

"I'm not sure which," Winterspeak says.

No matter which. They all create debt, so they all contribute to rising financial cost. They all increase costs for the producing and consuming sectors. At any given interest rate, the cost of finance varies with the level of debt accumulation: the more debt, the higher the cost.

It should be obvious that as the cost of finance increases, the break-even point for new borrowing also increases. It takes little borrowing to equal the financial cost of a small debt. But it takes a lot of borrowing to equal the cost of a massive debt. The break-even point is how much we have to pay to service existing debt. When new borrowing is less than the break-even point, the boost from borrowing is less than the drag from existing debt. Only above the break-even point does new borrowing boost economic growth.

When debt is large, high levels of new borrowing are required just to reach the break-even point. But high levels of new borrowing make a big debt bigger, faster, and push the break-even point even higher. This is a scenario that cannot end well.

The problem is not borrowing, really. The problem is that we let borrowing accumulate as debt. The only policy we have that ever slows the growth of debt is raising interest rates to fight inflation. But raising interest rates increases the cost of finance and pushes the break-even point up more. This cannot end well.

An alternative would be to implement a tax that varies with taxpayer indebtedness. The tax rate could vary with the taxpayer's debt-to-income ratio, for example. In a booming economy the tax could be punitive, if Congress really wanted to do that; for a troubled economy it can be designed to help people reduce their debt, providing tax credits for accelerated debt repayment. Either way, it would be using fiscal policy to do something that until now has only ever been monetary policy.

The Accelerated Repayment Tax would work like raising interest rates, but only for people excessively in debt. For everyone else, it would be like leaving interest rates low. This is a two-pronged policy that can encourage growth and fight inflation at the same time. It brings far more finesse to policy than you get from jacking up rates.

The particular meaning of "excessively in debt" would be determined by the wisdom of Congress. The chosen "max debt" level would soon become a standard among taxpayers, and a standard for society. Congress will surely want to choose a level that provides maximum economic vigor.

Saturday, January 31, 2015

"potential output varies with demand"


I think that there is significant evidence
for the notion that
potential output varies with demand

Friday, January 30, 2015

What Vernengo said

If I was talking I'd be tripping over my tongue. But I'm writing -- writing things out of sequence, because I can't stop to organize my thoughts. I have discovered Matias Vernengo, discovered what fascinates him: Productivity and Demand.

Fascinates me, too. Matias Vernengo says
Technological determinism is widespread. The Solow model basically suggests that it is technological progress, measured incorrectly as Total Factor Productivity (TFP), that drives growth. The same is true of Schumpeterian models...

What is NOT discussed in most analyses of the technological determinism by conventional and more than a few heterodox authors is the role of demand in creating the conditions for technological change. In that case, technological change is not the cause of growth, but the result. As in Adam Smith's story, it is the extent of the market (demand) that limits the division of labor (productivity). In modern parlance the idea is known as the Kaldor-Verdoorn Law.

"Sure enough" Vernengo says, "a demand driven story has space for the sort of external supply-side effects that allow technology and innovations to thrive... [A] demand driven story does not imply that supply side factors are irrelevant, they are simply not the prime movers."

I think he's onto something. That paragraph about technological change got me going. Reminded me of Arnold J. Toynbee. Regarding the abandonment of the irrigation system in the Tigris-Euphrates Basin, Toynbee wrote: "This lapse in a matter of technique was in fact not the cause but the consequence of a decline in population and prosperity..." In other words, the lapse was due to a lack of demand.

Regarding the abandonment of Roman roads, Toynbee wrote:
When a civilization is in decline it sometimes happens that a particular technique, that has been both feasible and profitable during the growth-stage, now begins to encounter social obstacles and to yield diminishing economic returns; if it becomes patently unremunerative it may be deliberately abandoned...

An obvious case in point is the abandonment of the Roman roads in Western Europe....

Matias Vernengo says demand drives technology. Arnold J. Toynbee says the lack of demand drives the decline of technology. These are two expressions of one thought.

Thursday, January 29, 2015 Interview with Mason Gaffney

From 2007, Interview With Mason Gaffney on Corruption of Economics. Excerpts:
The Progress Report – In your latest book, The Corruption of Economics, you seem to be exposing an amazingly deep and long-standing scandal around the study of economics within the American education system. Sum it up for us. How, why and by whom do you think the teaching of economics in America has been corrupted?

Mason Gaffney – Generically, it goes back thousands of years: every system that divides mankind into rentiers and proles requires a rationale. Those with leisure have time and resources to provide it: sometimes directly, but usually through hired guns.

The need became more acute in the USA during and after the Progressive Era, with its development of the secret ballot and direct democracy. Voters could no longer be bought or intimidated directly; they had to be brainwashed. The device used was to replace the older Classical Political Economy (Quesnay, Adam Smith, Ricardo, Mill, and Henry George) with “Neo-classical Economics,” which blurred all distinctions between producers and rentiers.
TPR – They were paid to keep quiet about the land question?

MG – No more than anyone else. They lived in a society dominated by landowners. Adam Smith spent his life on the payroll of the Duke of Buccleuch, as tutor for His Grace’s son. Landowners were so very secure, some of them could let their house intellectuals tweak their noses with radical ideas – probably found it entertaining. It was later, after universal manhood suffrage, that the landowners got nasty and conspiratorial and defensive...
TPR – Do you believe this purchasing of economic theory still going on today, and if so, what well-known economists do you suspect of being involved with it?

MG – It pervades the culture of the profession. Most members are looking for grants and promotions to put frosting on their cake. They call it, “Responding to the incentive structure,” giggle nervously, and shuffle the blame onto “the system.”
It’s partly a matter of coopting people by dangling money before them, and partly a matter of selecting and supporting those whose ideas are already more simpatico to the major grantors. It’s hard to tell the difference, so it’s hard to say who’s been corrupted, and who corrupted himself at an early age.
TPR – How can my readers find out if what you’re saying is really true? Name the most widely used economics textbooks in American universities right now and what they teach that is an obvious lie for the benefit of landed interests.

MG – I no longer use textbooks much...

Paul Samuelson, Robert Solow, Peter Mieszkowski, Theodore Schultz, and Edwin Mills, for example, casually pronounce that land rent is only 5% or so of total income, so a single land tax could not support government as we know it. They offer no support for this except to echo each other... They simply ignore the few careful studies of the matter, as by Michael Hudson, Allen Manvel, myself, and Steven Cord, that show much higher figures.
TPR – How do you like our chances, Professor? Do you think Earth is going to be a loser planet or will the good guys somehow snatch victory from the jaws of defeat?

MG – A bit of each. Keep hassling, and things will be a bit better than if you gave up.

Again, I left a lot out.

Wednesday, January 28, 2015

Mason Gaffney: The Canal Boom

Google led me to The U.S. Canal Boom and Bust, 1820-1842, notes by Mason Gaffney from May, 1993 (updated 2009).
The Canal Boom, which crested in 1836-37, was one of several in U.S. history, forming roughly an 18-year cycle...

The slump, when it came, was synchronized nationwide; the ensuing slump and crash even more so. Indeed, the cycle was worldwide, although the data included herein is only for the U.S. After the manic peak of 1836, depression was communicated everywhere through some universal medium. The synchronization was remarkable, considering this was before even the telegraph.

This synchronizing medium was the capital market, which turns booms on and off by advancing or denying funds. After 1836, momentum carried some works forward, regardless of crashing demand and tight funds; by 1842 most building had ground to a halt.

Following the trough of 1842, production and employment slowly picked up new steam. Railroads were the new magic, aided along by Federal land grants after 1850. Before long it all built up to a new peak and crash, in 1857.

I left a lot out.

Tuesday, January 27, 2015

The spice of life

Maynard writes
... Nevertheless, circumstances can develop in which even a large increase in the quantity of money may exert a comparatively small influence on the rate of interest. For a large increase in the quantity of money may cause so much uncertainty about the future that liquidity-preferences due to the precautionary motive may be strengthened; whilst opinion about the future of the rate of interest may be so unanimous that a small change in present rates may cause a mass movement into cash.

It is interesting that the stability of the system and its sensitiveness to changes in the quantity of money should be so dependent on the existence of a variety of opinion about what is uncertain. Best of all that we should know the future. But if not, then, if we are to control the activity of the economic system by changing the quantity of money, it is important that opinions should differ.

Monday, January 26, 2015

Phases of the Business Cycle

Something I found while looking through my old notes on the Schumpeter essay in Readings in Business Cycle Theory, from a file I wrote (or last edited) back in 1996:

Schumpeter (writing in 1935) described a cycle in four phases. We speak today of four phases as well, but they are not the same. Today we speak of a period of growth, a peak, a period of recession, and a trough (pronounced to rhyme with "cow") or low point. Schumpeter, by way of contrast, emphasized the importance of the smoothed trend line about which the cycle varied. He described a period of prosperity followed by a period of recession (both above the trend line), then depression as the decline continued below the trend line, and finally a period of revival as the economy climbed back toward its trend line.

For Schumpeter all four phases are time periods with duration. For us today, two of the phases have duration, and two are turning points.

For Schumpeter the cycle is like a sine wave, beginning and ending at its average value. For us the cycle is measured peak-to-peak (like a cosine wave) or trough-to-trough, bottom to bottom.

Sunday, January 25, 2015

Getting the story straight

The Marxists Internet Archive -- long my source when quoting Keynes -- also offers Geoffrey Pilling's The Crisis of Keynesian Economics. I just looked at it for the first time. I didn't read much, but this stood out right away:
Writing of the decade following the end of the war, J.K. Galbraith said, ‘Within a decade [after 1945] the belief that the modern economy was subject to a deficiency in demand – and that offsetting government action would be required – was close to becoming the new orthodoxy’.

That's Geoffrey Pilling's date in brackets there, not mine.

By 1950 then, give or take, the idea that aggregate demand was insufficient was pretty well accepted among economists... and, Galbraith adds, economists thought offsetting government action was required.

That's important, because it explains why Federal spending remained high. It explains why government spending did not drop back to a low level, as it was before the Great Depression and two world wars.

Graph #1: From Brad Delong's Fiscal Policy in the Shadow of the Great Depression (PDF, 21 pages)
The increase in Federal spending, from less than five percent of GDP to near 20 percent, was not an accident. Nor was it a conspiracy (liberal or otherwise). It was economic policy, designed to boost economic performance and to create both jobs and profits through free-market processes.


Saturday, January 24, 2015

Comparative Economic Policy Outcomes

Tom Hickey links to Russia 'Capital Outflow' Is Actually Companies Reducing Debt at Russia Insider:

Due to sanctions instead of rolling over their debt like everyone else does Russian companies are forced to repay it. Also means that unlike everyone else they're going to have very little debt.

And from the article:
Central Bank of Russia released full-year 2014 capital outflows figures, prompting cheerful chatter from the US officials and academics gleefully loading the demise of the Russian economy...

In simple terms ... USD 118 billion or 78 percent of the catastrophic capital flight out of Russia in 2014 was down [due] to debt redemptions in banking and corporate sectors. Not 'investors fleeing' or depositors 'taking a run', but partially forced debt repayments.

[M]ost of the capital flight that Western analysts decry goes to improve Russian balance sheets and reduce Russian external debt. That can't be too bad, right?

Not too bad.

I don't know why... Hey, external debt can be a problem, sure. Any debt can be a problem, if there's too much of it. But I don't know why the emphasis is always on external debt, or government debt, and never on private debt. Never on the big one.

Tom's link caught my eye. Just the other day I made a prediction:

The first of the great powers to reduce private debt will be the world's next hegemon.

Could it be Russia?

Don't laugh. I know you want to laugh. It's a natural response, given the cheerful chatter and the gleeful gloating we've been exposed to from the idiots in our idiot boxes. Just remember it. Remember: you want to laugh at the thought that Russia could be the world's next hegemon.

See where China is today? Remember where China was when Nixon decided to be friends? It would be like taking candy from a baby, doing business with China.

Not any more.

Russia? I don't know. I don't make predictions. I never make predictions. That was a fluke, that one. (Anyway, it wasn't so much a prediction as a way to present a concept.)

Maybe the Russian economy will get bogged down in its own internal debt, as we have, as Japan did, as China yet may. It's a very common fate. Maybe Russia will be crushed by debt.

Maybe they won't.

You want to know who will be the hegemon. I want you to know that it depends on comparative policy outcomes and debt minimization. The first to reduce private debt becomes the first that is ready for vigorous growth.