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Is there a “policy”?

from Peter Radford

I read this morning that the Federal Reserve had bought, at the peak of the recent crisis, about 40% of all US government bonds being issued.

This may, to some of you, be something of no concern.

Think again

The illusion that there are separate spaces for monetary and fiscal policy is belied by this fact.  Which one was it?  Was it the Fed flooding the economy with money?  Or was it the government issuing debt to finance economic support? I suppose it was both.  But it wasn’t fiscal policy.  The effect of all that money was simply to support asset prices.  Whether that was the intention is irrelevant.  The flood found its way into the financial system and relatively little found its way into the economy in the form of an expansion of productive activity.  We could go further: a great deal of what expansion of capacity actually occurred went abroad to build fragile supply chains and take advantage of low wages in distant parts.

What also happened was that households sat on the portion of the flood that they received as a hedge against further economic mayhem.  And when, as now, they began to feel more confident they started to spend the money on goods rather than services.  Remember that the economy is heavily skewed towards consumption, and within that, towards services.  The problem with services is that they tend to be in-person.  And being in-person is something a lot of people are avoiding right now.  So they decided to switch and buy goods instead.

This, being the twenty-first century, those goods usually contain some sort of a computer chip.  Quite why we need our refrigerators to talk to each other is beyond me, but someone decided it has great value to us.  So everything nowadays is packed with the ability to communicate.  Which puts pressure on the chip manufacturers.

It also, coincidentally, puts enormous pressure on the people who move the chips around the globe because, this also being the twenty-first century, chip production is concentrated in far corners of the globe rather than near to where they might be incorporated into the final product.  This is the way of efficient supply chains.  Which, as we now know, is something of an oxymoron.

With the supply side of the economy so battered by both unexpected money-induced demand and the corporate delusion of efficient supply chains, we are now being bombarded by price increases.  This has given rise to the specter of inflation.

I hope you have noticed that inflation is always a specter.  It is a ghost that haunts the minds of serious people who, once they see workers demanding more wages, seek to damp such demands as being insidious.

But insidious to whom?

Asset holders of course!

The long term value of assets is eroded by inflation.  Those pesky workers demanding higher wages works to undermine that value by inducing a cycle of “inflationary expectations”.  That wages have been suppressed for eons in order to boost the profits earned by asset holders is left out of the discussion.  We must, at all costs, preserve those asset values.

So, in the face of a collapsed economy in, say, 2008, we pump in trillions of dollars of money.  This has the primary effect of ensuring asset holders don’t get taken completely to the cleaners.  Job well done.  The problem then becomes how to wean ourselves off the flood of money.  That’s easy: we wait for the economy to return to its long term trajectory and then ease off.  The presumed recovery in earnings prospects will offset any downside implied by removing the monetary life support.  Rising interest rates will prevent the specter of inflation undermining asset prices.  Wages will be contained within sensible bounds.  Profits will recover.  Asset values will flourish.

Phew.

Except.

What happens if the economy doesn’t return to its long term trajectory?  What happens if it wallows along sub-optimally, starved of investment, with low productivity and perpetually on the brink of a renewed downturn?

Well, in that case you keep flooding it with money.  Just like we did between the Great Crash and the Pandemic Crisis which provide bookends for a period of pretty awful economic policy.  Too little reliance of fiscal policy at one end and relentless floods of money throughout.  It was called quantitative easing.  In fact it was an addiction.

In the absence of an economic policy that put government expenditure of real activity at its heart, think of the bridges that could have been built with all that money, we monetized the debt instead.  We flooded the financial system with cheap money.  Indeed we ended up making money so cheap it has become incredibly difficult to increase its price.  It has made credit so widely available that even the most perverse investment opportunity is grasped as a possibility worth thinking about.  The search for returns has overwhelmed any sense of risk aversion.  Everything goes.  And like all addictions this will end badly.

We have produced an economy awash with debt and with asset prices higher than the underlying cash flows justify.  This is what happens when you ignore history and imagine that you don’t need proper fiscal policy.  Or, at the very least, that you distinguish between monetary and fiscal policies.

So now the central banks are stuck.  Having created an addiction they need to offset the inevitable withdrawal symptoms.  If they raise interest rates they might deflate asset values from their addiction riddled levels.  If they don’t raise interest rates they might abet the onset of an inflationary cycle that might deflate asset values from their addiction riddled values.

Whoops.

Meanwhile the bond market, in its current addicted state, prefers to believe that the central banks will continue to drip feed it sufficiently to prevent a decline in values.  How else can we interpret the contradiction between the constant refrain of the inflation specter being raised by bankers and their concurrent willingness not to bid up long term interest rates?

Interesting times.

So the Fed’s avowed intention to taper its asset purchases down to zero by mid 2022 looks like an exercise in hope and belief that something will turn up.  Which doesn’t sound much like “policy” to me.

But it will have to do.

______________________

Modern monetary theorists will chortle at the above.  The constraint they prefer to rely on with respect to the flood of money is inflation.  Great.  Question: is the exchange of Fed-created money for Treasury-issued debt not a form of MMT?  After all it ends up as money.  And the debt becomes an issue only for those who talk about debt ceilings and “affordability”.  We talk flippantly about low interest environments being comfortable for the issuance of debt to finance government spending.  So we ought not concern ourselves about etc debt per se, only the cost of carrying it?  But who made interest rates so low?  Did we not manufacture the exact conditions within which debt is so cheap?  It sounds so circular.  Meanwhile why don’t we simply dispense with the illusion of debt to begin with?  Why don’t we recognize it as money at the source?  Why don’t we simply fund government with money?  If Fed-created money and Treasury-issued debt are so fungible why bother with the distinction?  In whose interest is it to maintain the difference?  Asset holders.  Now we know who policy is maintained for.  Surprise.

  1. Ken Zimmerman
    December 6, 2021 at 10:27 am

    From Stephen F. Gudeman (2017) – an economist-like anthropologist

    Economy has two sides. One is the high-relationship economy that is rooted in the house. Neglected by economic theory, it is prominent in small-scale economies, and hidden and mystified yet salient in capitalism. The other side consists of competitive trading. Anthropologists know one side of economy and economists know the other, but the two are intertwined. Neither side is complete without the other that influences it. Their balance varies across cultures and time. The tension lies within economies and within us. We calculate our relations to others, and we empathize with them. We measure some things and consider others to be incomparable. The tension is social and personal.

    This argument rests within a larger one, that economies are made up of increasingly abstract spheres, which start with material life in the house and expand through the commercial, financial, and metafinancial spheres of markets. As these spheres and abstractions develop, markets colonize the house economy.

    The contrasting purposes of the house that aims for sufficiency and nurtures social relationships, and of markets, which are made up of separate actors focused on gain, run through economies from the small scale to the advanced capitalist. In high market economies, their imbalance and separation undermine the viability of the house economy on which markets paradoxically depend. The disparity between the house economy and competitive markets helps lead to our contemporary crises of inequality, environmental devastation, and cycles of growth and recession. To moderate the instabilities, a broader economics and economy must attend to both sides. At the end of my account, the reader will find suggestions for countering inequality and our use of the environment, but my larger aim is to present a different way of understanding economy that justifies changes.

    Suggestions for Change

    Development seen as market growth leading to a higher GNP reflects one side of economic life. The goals of efficiency and growth must be brought into relation with other values of economy, such as sufficiency, sustainability, and care for the environment. This vision of development applies as much to high market economies as to others. In reverse of “shock therapy,” which would transform economies through immediate application of market principles and was first tried in Chile and later in post socialist economies without great success, we should apply “house therapy” to achieve a more viable life in high market economies and address some of their pressing contemporary problems that include: Growing economic inequality, Increasing degradation of the environment, and Persisting bubbles and blowouts.

    Environmental disasters are symptomatic of the larger problems of environmental destruction and global warming due to our reliance on fossil fuels with their release of carbon dioxide into the atmosphere. Securing damage claims against the culpable parties or requiring increased insurance coverage for oil drilling and transport are market remedies for the larger problem. Similarly, employing devices such as Cap and Trade to control carbon emissions or calculating the cost of the negative externalities of emissions in order to assign damages against the offending parties relies on market reason and does not bring into question the limits of that reason.

    Alternatively, drawing on the house practice of thrift in the use of vital energy, we could enact an energy added tax (EAT). This tax would impose a charge on the energy used at each stage of producing a good, including the production of energy itself, such as drilling for and pumping petroleum, mining coal, extracting oil from shale, and harnessing waterpower. Every product would be evaluated in terms of its energy use, by decomposing backward with a flat charge imposed for the energy used at each phase of its production, including the production of energy itself. The energy used to clean up environmental waste that comes from the production of energy would also be taxed to the source of the waste. These taxes make clear that energy is the scarce value in material life.

    The revenues from an energy added tax would subsidize more efficient energy uses that require high initial investments, such as wind power. Luxury goods, such as yachts, McMansions, and other symbols of high wealth would be taxed according to the energy used in making them in addition to the energy expended in their use. Luxury automobiles that require ample energy in their manufacture would be taxed more at purchase than modest ones, not to mention taxing the cost of their higher fuel use.

    The energy added tax induces house-like thrift in the use of energy starting with the supply systems and ending in final consumption. It helps to preserve the world’s most precious resource and reduce environmental degradation and pollution. The progressive form of the tax differentiates the cost of different forms of energy by the energy expended in their production and not simply by pricing based on supply and demand of the final product. Is it energy efficient, as opposed to cost efficient, to produce energy from shale not to consider its externality costs in the use of water, acid damage, pollution, and release of greenhouse gases? Likewise, in the United States, corn is used extensively for feeding humans and animals, and for biofuel. Like “strength” in Latin America it flows through people in the form of sugar and food additives, powers some transport, and constitutes a central food source directly and through animals. Corn has become a major source of energy for the United States population. Is growing corn, with the energy of the machines and additives used in raising it and the depleted energy of the land where it is produced, a thrifty use for all these purposes?

    A vital energy tax also provides one solution to the “Jevons Paradox.” One hundred fifty years ago, William Jevons observed that technologies, which increase efficiency in the use of a resource, often do not reduce the use of that resource but lead to its increased consumption because its drop in price leads to greater demand. If the energy supply faces increased costs through an energy added tax, the Jevons Paradox can be avoided.

    An energy added tax has further advantages. Its imposition reminds everyone through the pocketbook of the need for thrift in the use of life’s thread that connects us, while it reduces overall consumption. Unlike a flat tax on carbon use that affects houses differently depending on their assets, this progressive tax helps control wealth inequalities. At the same time, it allows every house to determine its level of expenditure and thrift. The tax combines house and market values.

    Inequality

    Wealth inequality in the United States, as in other countries, has dramatically increased in the past decades. The disparities arguably dampen market growth, lower the GNP, and create instability. The effects of inequality, however, are broader than its impact on the way markets function. Wealth inequality affects people’s health through the food they are able to purchase, the air they breathe, the social supports that reach them, and their sense of well-being. Inequality influences how we make and sustain connections and identify ourselves.

    The United States may have the “freest” markets in the world, but with the increasing dominance of the financial spheres, national inequality has grown. Compared to the developed nations of Europe, including many of the post socialist countries as well as Australia, Canada, Japan, Korea, Taiwan, Vietnam, and India, the United States boasts the highest Gini index of income/consumption inequality. (The higher the Gini coefficient, the larger the distributional inequality.)

    A recent study presents the disparities in a different way. Between 1948 and 1979 average incomes in the United States increased by $20,822. The bottom 90% of people took in 67% of the growth, whereas the richest 10% took in 33% of the growth. The disparity exploded at the turn of this century. Between 2000 and 2007 average income grew by only $1,460. The entire growth went to the richest 10%, while income for the remaining 90% declined.

    Other studies point to the changing distribution of wealth. A report by the U.S. Congressional Budget Office shows that between 1929 and 2007, household income grew by 275% for the top 1% of the population, whereas it grew by 18% for the lowest 20% of the population. A study by the International Monetary Fund adds a sharp coda to this story about inequality. It finds that longer or more sustained economic growth is associated with greater equality in income distribution.

    Overall, in the United States income is being concentrated in the hands of a few. Two economists (Thomas Piketty and Emmanuel Saez) have been analyzing the history of income inequality in the United States covering the past century and the early part of this one. According to their work, income inequality has increased in the past twenty-five years. For example, between 2009 and 2012 the top 1% income bracket grew by 31.4%, whereas the bottom 99% bracket grew by 0.4%. Today the top 1% of income earners takes in 50.4% of all income, which surpasses the previous peak during the market bubble of 1928, and is higher than any year since 1917.

    In his larger, comparative, historical, and statistical study, Piketty offers a pointed conclusion. He shows that for the larger capitalist economies over the past two hundred years the rate of return on capital has exceeded the growth rate. On average the rate of return on capital has been 4% to 5% a year, and at least 2% to 3% per year. In contrast, average annual growth has hovered between 1% to 2.6%. Capital takes the lion’s share of the increase in productive output. Piketty also concludes that when growth slows, the gap between capital’s return and economic growth widens, and that inheritance helps to sustain the gap because legatees have a head start on accumulation.

    Assuming that Piketty’s finding is valid, the central questions become how do we explain it and what to do? Why does capital receive the lion’s share of economy’s growth? Popular explanations suggest that income inequality emerged with the Reagan and Thatcher era tax cuts or that globalization depresses wages at the bottom end of the scale. Some point to the growth of education and technological change that enhance the earnings of their beneficiaries. These explanations, however, do not cover the two-hundred-year span that Piketty considers.
    Piketty argues that capital’s higher return is “natural” and “has nothing to do with the problem of imperfect information or monopoly.” In contrast, I think the shifting distribution of wealth becomes understandable when seen through the spheres or institutional model.

    The U.S. Congressional Budget Office Report, for example, suggests that between 1979 and 2005, commercial executives saw a decline in their share of the top income, whereas financial professionals doubled their take. A different study shows that since the 1990s wages in the financial sector have grown very rapidly relative to other parts of the private sector. As economic power shifts to the financial spheres, wealth moves from the realms of material life and labor to commerce, and then to finance and meta-finance. Wealth is transferred through rent taking across the spheres.

    Distribution and rent seeking: Rent refers to gathering an unearned return on an asset independent of labor. Rents include interest, dividends, land rent, capital gains, royalties, profits, tribute, tithes, and similar returns. They are secured through monopolies, cronyism (or social connections), and government supports, as well as ideological and political power. Rents resemble subsidies of which some are communally sanctioned and some are not. Rent taking leads to inequality.

    What the economist terms “rent,” however, the anthropologist might term “free gift,” which is doubly interesting because neither economists nor anthropologists believe in free gifts. A free gift either falls outside the model of calculated exchange or represents a denial of mutuality.

    Let us consider rents not in terms of what individuals, corporations, and others receive in excess of their marginal returns in markets, not in terms of classes, such as landowners, capitalists, and laborers as in classical political economy, and not in terms of labor versus capitalists as in Marxism. The way returns to capital exceed an economy’s growth can be viewed in terms of economy’s spheres. Each sphere receives rents or uncosted returns in addition to the productive efforts of people. The house economy, outside markets, receives no market rents but it may have uncosted use of resources, such as game, the soil, forests, water, fish, the sun, and other natural elements.

    Local explanations of this form of rent vary widely from the power of the divinity, to spirits, to other forces. When the house economy is framed within a communal institution, it may be obliged to pay rent for access to a resource, although the collective, such as a kin group, and its leaders may be providing a spiritual or organizational service, and the resource may be held jointly. These distributions of the product are justified and explained by beliefs in the power of the ancestors. Among the Cree, hunters render tribute to the spirits of the animals. When the house economy is set within larger political, religious, and market institutions, it may pay rents to sovereigns and owners for land use, to political and religious functionaries as tribute or tithes, or to merchants for goods and services sold above perfectly competitive prices. In Colombia, for example, I once saw every tenth row of a potato field left aside for harvesting by the church. On European manors tribute and labor were owed to landowners. Such rents are obtained through religious, ideological, or commercial domination, and by political force.

    A community, such as a kin group, religious organization, or collective, may hold a resource by original occupation or other means. When a community holds a resource by grant from a sovereign its members may owe fealty, tribute, labor, or military duty for use of the resource. The village commons in one Spanish village was granted in return for prior military help. Similarly, a cooperative may pay rent for use of a private resource.

    Rent taking proliferates in the three market spheres. In the commercial sphere, a business may receive rents above purely competitive returns by raising prices through a monopoly or patents, or by lowering its costs through a monopsony.

    In the commercial sphere high-ranking executives, especially in recent years, often take out-size salaries, buyouts, pensions, and stock options that have little relation to their contribution. They issue these rents to themselves via a compensation committee, which raises prices to consumers or lowers returns to shareholders. Rent taking also takes place by backdating stock options. In recent years downsizing a corporation has become a popular way of securing an economic rent. Downsizing is an apt expression for the effects on labor. Downsizing can result from the use of more efficient machines or reorganizing a work process, which could lead to preserving wages and “downsizing” the labor day so sharing the efficiency. Downsizing, enforced by the threat of offshoring and outsourcing, usually leads to a redistribution of income in which management and owners receive a larger proportion of revenues, while the overall return to labor is downsized. Conversely, productivity gains are not being shared with workers, a process that Ricardo foresaw long ago.

    Governments pay rents to their commercial suppliers through inflated cost plus contracts and as subsidies as in the case of agricultural supports. Governments also create rent-seeking situations through sanctioned monopolies, as in the case of the Hudson’s Bay Company and the old Bell Telephone System. Large corporations have rent seeking powers because they can lower prices to prevent competitors from entering a market, and they may refine patents again and again to preserve a market niche, as in the case of pharmaceuticals.

    Corporations also receive rents by imposing negative (uncosted) externalities on others, such as oil spills that are cleaned up by governments and are endured by local inhabitants. Corporations may emit pollutants in the air or receive low cost use of natural resources from governments, such as forests, airwaves, and pasture land. They also may receive subsidies or tax credits to relocate in a community, which becomes a rent the community pays through taxes.

    Rent-seeking expands with growing control of the abstract spheres of economy and is pervasive in the financial and meta-financial realms. Banks receive rent on the difference between what the Federal Reserve now pays them for holding their money and what they receive through lending at rates above this cost and their own. Banks impose a myriad of charges, from high transaction costs to late fees on checking accounts, credit cards, loans, and mortgages. They also designate levels of risk for lending that may result in higher than competitive charges to certain borrowers, such as payday borrowers and subprime mortgagees. Insurance companies, from automobile to house to life, can impose nontransparent charges. As in the commercial sector, the returns to top managers, whose contributions may not be directly related to their productive efforts, receive rents through high salaries and stock options that raise prices to consumers or dilute stockholder returns. The meta-financial sphere may have a long history in grain contracts, life insurance, and other futures contracts, but it exploded in the late twentieth century with statistical discoveries about option pricing and asset allocation. Risk has become a commodity to be bought and sold for insurance or for speculation about price movements. This sphere is the most removed from goods and labor (except for the effort of devising instruments about pricing). The opportunities for rent taking in this realm are large. For example, by hiding information about risk from others, such as subprime borrowers and purchasers of structured investment vehicles, rents are secured. This control is aided through social relationships that “should not” exist in perfectly competitive markets. For example, the financier John Paulson put together a Collateralized Debt Obligation (CDO) that was offered by Goldman Sachs and against which he bet. Paulson made billions of dollars when his specially designed CDO failed.

    Top hedge fund managers receive money rents. According to one estimate, the twenty-five top hedge fund managers in 2013 received twenty billion dollars. They earned this amount by their efforts but many people exerted comparable or greater efforts during the year with far less pay. Part of these rents are secured from what other investors do not obtain, or what one gets another loses, but the rents also come from the other market spheres, not to speak of the house. The high-end rents in 2013 were sufficient to found a new university with an endowment, help subsidize universal health care, or help pay for school children’s lunches.

    By relying on the government for bailouts when taking on too much risk, and by executing rapid-fire transactions which secure monies that others might have received in perfectly competitive conditions, operators in this sphere also secure rents that might have gone to others in finance, commerce, and house economies.

    Rents flow upwards through the spheres. They are secured through political and ideological power in the house and communal spheres, through monopoly control of capital in the commercial and financial spheres, and through capital and closely held knowledge in the meta-financial sphere. In the market realm, rents feed owners of capital. Accretions of capital as organizational profit and short-term entrepreneurial profit occur, but the increasing and outsized returns to capital can be traced to rents that are taken by the growing and more abstract spheres of economy.

    For several hundred years, we have heard ideological justifications for the reward that capital receives, such as it is the return for waiting and sacrificing current consumption or it is the reward for undertaking risk. Economists explain that rent-seeking lowers economic efficiency. Wall Street financiers claim that their actions increase efficiency in the use of money. I observe that economic rents are secured from others.

    The effects of financial rent-seeking trickle down through the economy, because one person’s gain in the meta-financial sphere is not simply balanced against another’s loss in that sphere. The players are competing for rents abstracted from other spheres, as made evident in the subprime mortgage crisis. The house and community are drawn in.

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