Corruption and Growth: A Link and a Comment

Here’s a link to one of today’s posts at Naked Capitalism.

http://www.nakedcapitalism.com/2017/02/bill-black-2016-nobel-prizes-economics-go-defenders-criminogenic-policies.html

The article is worth the read.

We first pause here to note Nobel prize winner Milton ‘Friedman’s assertion that: "there is one and only one social responsibility of business–to use it(s) resources and engage in activities designed to increase its profits,..”  could be the motto of a sociopath.  He does continue with the qualification: “..so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.”  Since, progressively, even since he wrote this in 1970, corporations have been writing the rules which define what is open and free competition, and what constitutes deception and fraud, that qualification has become quite empty.

The issue here, though, is the question:  “How much of the growth in the nation’s GDP is fraudulent?  How close to reality are the figures which track our nation’s economy?”

This gives one cause to wonder:  Is the economy even growing at all?  Or is it actually contracting?  The reality of the data on China’s economy has been called into question.  Why not the data on ours?

 The question is especially relevant since no bankers were ever prosecuted after the 2008 financial crisis. The fraud involved, and there was a lot, was apparently all legal. With overturning the Dodd-Frank law under Trump, clearly the incentive for fraud will increase.  And if we consider the consequences of the Volkswagon emissions scandal and the Takata air bag scandal, producing more of something imaginary would seem to be preferred to the risks of producing something real.

Now, as the economy pushes the constraints of reality, accurate response to stressors is increasingly required.  And this requires accurate information as to the size and nature of those stressors. 

Objective reality is independent of one’s opinion of it.  The “Post-Truth Trumpian Worldview” is unlikely to provide the proper responses to any future crises.

The Growth Trap

The  Growth Trap

Every economy, every self-organizing system which is not also self-limiting within the bounds set by its environment, grows until it exceeds the ability of that environment to support and sustain it.  It then collapses.  

The collapse of a modern economy can be expected to be catastrophic.

When an economy first develops, acquiring resources is difficult and expensive. There is little surplus to be 
invested, and growth is slow.  This is despite the fact that resources are often accessible and plentiful.  The methods of extracting the resources are primitive and inefficient, and there is little surplus.  The demand for and uses for new resources are limited, and efforts at developing new resources are often desultory. 

However, as infrastructure is invested in and developed, the relative cost of acquiring and developing resources decreases.  More uses are found for extracted resources, providing motive for ever greater extraction. Since it is easier and cheaper to develop uses for resources, rather than new sources, demand, in general, outstrips supply, keeping the profit margins of producers high. For the producers, this means more resources are available to invest in expanding extraction and distribution, thus increasing the supply of these extracted resources available to be put to other uses in the economy.    

With growth, the economy is able to exploit resources at an accelerating rate.  The limiting factor is now no longer the costs of extraction, but the limitations in demand, the final uses for the resources, and the necessary distribution systems, which also must be developed.

In order to extract, distribute and employ the resources, it is necessary to develop an infrastructure, There is a cost, in resources consumed, to developing this infrastructure, There is also a cost to maintaining this infrastructure, and there is also a cost to operating this infrastructure. 

When resources are still plentiful and cheap to extract, these costs are relatively low.  The infrastructure grows robustly, both because the costs of extraction are low and because it is still new, So maintenance costs are also low.

Clearly, however, with finite resources, or even a finite average density of resources, or with a finite rate of renewal of resources, there are limits to any economy’s ability to grow. 

Indeed, as the plentiful and inexpensive resources are consumed, ever more marginal resources, resources more costly to extract and process, more distant and difficult to transport, become necessary to expand and sustain the economy.  The infrastructure must be expanded to develop these resources, and at an increasing cost.  What is more, the increasing cost of extraction must be passed on, and this increases the maintenance cost of the entire infrastructure. Less and fewer resources are available for expansion of that infrastructure, which is necessary both to supply other uses and to extract the ever more marginal and distant resources.  These costs are compounded  by the fact that the increasing cost of extraction also increases the cost of operating the infrastructure.

Eventually, as the availability of resources decreases, and their cost of extraction increases, the cost in resources necessary to develop new infrastructure, and more importantly, the cost in resources necessary to maintain and operate  the infrastructure already built, exceeds the ability of the economy to extract benefits from those resources. 

Increasingly, maintenance will be sacrificed to cover the increasing costs of operation. The result will eventually be a stage where the infrastructure can no longer be maintained, when the maintenance budget passes below a critical threshold, but will be subject to increasing catastrophic failure. This threshold is roughly when the budget is no longer able to cover both preventative maintenance and essential repairs. With inadequate preventative maintenance, essential repairs will increase, eating into the budget for preventative maintenance. As the budget for preventative maintenance decreases, the need for essential repairs will increase, in a vicious spiral. This process is sped by increasing costs of operation, which the declining quality of the infrastructure also aggravates, and by the increasing rate of extraction of money and real resources from the real economy by the financial economy. 
     
In the case of the modern economy, then, there are two relevant systems:  The real economy itself, and the financial economy which feeds off the real economy.  The financial economy produces nothing of substance itself. When useful is serves as a multiplier of production, by increasing the efficiency of allocation of resources. When overgrown it diverts more resources to itself than it saves the real economy by that allocation of resources.  The result is a decline in the efficiency of the real economy, and its ability to grow. 
 
In any case, this happens at a late stage in the development of the real economy, when the resources available to the real economy to mount opposition to the growth of the financial economy are diverted away. Part of this is the result of increasing real costs in the rest of the economy outlined above.  Part is by the increasing diversion of resources by and to the financial sector itself.  (Inter-sectoral competition for resources is seldom considered by business leaders.)  Effective regulation of the financial sector then fails. (One part of this process is that one of the consequences of the increasing concentration of wealth is that the value of non-financial rewards offered by the society declines, and become devalued, reducing the cost of corrupting other institutions.)  Once the financial economy evades the controls set on it by the real economy, it mimics the real economy:  It grows without bounds. Feeding off the real economy, it is also a non-self-limiting, self-organizing system.. It too is subject to overgrowth and collapse when it exceeds the ability of the real economy to support it . When this occurs, if  and only if it occurs before a critical point in the growth of the real economy, the real economy may yet be saved.  This is not because the real economy is self-limiting.  It is only because it has been increasingly organized to service the financial economy, and with the collapse of the financial economy, the real economy may be reorganized into a self-limiting form.  This is not guaranteed.  This may not even be likely.  And this still depends on whether or not the real economy is already too big to be reorganized into a sustainable form.  

So the financial sector then grows until it exceeds the ability of the real economy to sustain it. This growth happens much more rapidly than happened in the real economy, since the financial infrastructure is much less expensive to develop than the real infrastructure. The financial economy diverts resources from the real economy to itself by making finance nominally more profitable than real investment, thus diverting money, that is demand, on resources away from the real economy. Money is taken out of the real economy faster than government spending can pump it in. This causes deflation in the real economy. Producers in the real economy are hurt two ways.  Because of lags in production, prices of final goods are reduced vis a vis the prices of the factors which went into them.  And demand for those final goods is also diminished. Even as this happens, the quantity of various forms of money in the financial economy increases without bounds.  This is accompanied by ever greater concentration of wealth, and ever more extravagant expenditure. This growth is in the demand side of the economy, which conceals decline in the extracting and manufacturing sectors.  GDP, for instance, does not distinguish between growth in these producing sectors, and growth in consuming sectors such as retail and, increasingly, finance. 

The real increasing costs of maintaining the real economy, (and in particular its infrastructure,) and the increasing real costs of its extraction of real resources from the natural environment, are hidden by the mechanisms of externalization of costs, both directly onto the environment (pollution) and onto labor, and by government subsidies, by defaulted debts, and by the deferred maintenance of the real infrastructure.  These manipulations make the cost of extraction, transport and fabrication of real resources appear cheaper than they really are.  However, while in nominal terms the costs are reduced, in real terms the costs cannot be reduced, only hidden, and must increase over time.  The real costs of these manipulations, however, transfer these costs onto other parts of the producing sector. This increases the costs of production in these other sectors, an increase greater than the reduction in apparent nominal costs.  These manipulations of the real economy, as well as the financial manipulations which enable them, enrich the financial and consuming sectors, and impoverish the actual producers of real goods and services.  The productive sectors are deprived the real resources necessary to grow, and ultimately to maintain themselves.

This financial extraction becomes ever more difficult and costly, as the real economy becomes progressively impoverished.  The concentration and availability of extractable community assets declines.  This decline in efficiency means more labor is required for the financial sector to extract wealth from the real economy. Thus, even though most labor is no longer involved in real extraction and production, there results the paradox of an increasing burden on labor in non-productive jobs. This is obscured by the fact that these financial costs are increasingly externalized onto the real economy, ie absorbed by non-financial industries and labor . However, because of the decreasing efficiency, the profit to be made off these jobs is very low, and decreasing, and the pay must be commensurate.  

Meanwhile, since the cost of all maintenance increases, the cost of maintaining the burden of the financial and consuming sectors is also increasing.   the costs required for extraction increase, the actual financial profits decline to zero and even go negative. 

The degree of financial exploitation is not reduced, but merely more resources are devoted to the process.  Even as this happens, fewer resources are available to the real economy. This is both because the financial sector externalizes its costs onto it onto the real economy, (and thus appearing artificially profitable,) and because greater real resources must be expended in acquiring resources from an increasingly impoverished natural environment.  Combined, these processes render the usual indicators of economic health and prosperity at least useless and even more likely misleading. Much growth occurs in the wrong sectors, and is indicative of impending failure, rather than success. Further, with increasing deregulation, more fraud may be expected, both in production, and in reporting on that production.

Mankind has yet to develop a modern, self-limiting economy. Hunter-gatherer societies existed in ecological equilibrium with their environment, fitting into the limits set by the rate of replenishment of renewable resources.  For pre-industrial economies, the growth trap must be considered as a possible factor in their ultimate decline. Since economies ultimately serve a population, clearly, with unrestricted population growth, no self-limiting economy is possible.  And any non-self-limiting economy will be subject to the growth trap. 

More to the present, however, there is no evidence that capitalism is self-limiting.  Only a self-limiting economy can survive the growth trap.  Only an economy which can limit its consumption of renewable resources to some rate less than the rate those resources are renewed, and its consumption of non-renewable resources to some rate less than those resources can be recycled, can be indefinitely sustained.  All other economies will fail. And a failing economy will be incapable of providing sufficient resources for the survival of most of its members.  Indeed, because of the enormous efficiencies brought about by a modern economy, if that economy fails, such a failure will be catastrophic, and only small percentage of the people who depend on that economy can be expected to survive.

There still seems a choice, however, although, judging from their antics, our political class seems incapable of confronting the issue.


Revised and expanded Sep 7,2016, Nov7, 2016, Feb 17, 2017

Income Growth During the Latest Expansion

Check this out:

Got this graph from mashable.com: http://mashable.com/2014/09/25/this-really-depressing-graph-about-the-u-s-economy-is-turning-heads/

The article is titled “This Really Depressing Graph about the Economy is Turning Heads.”  Which it should.  I share it here with you.  The source is Pavlina Tcherneva, who is an economist at Bard College, in Annandale-on-Hudson, New York, and the Levy Economics Institute, a think tank associated with the college, using data from Piketty and Saez.  Basically it shows the wealthy’s control of the economy increasing until now the growth of their wealth and income is obtained by plundering the rest of the economy, which is to say us, the rest of the people.  The graph charts increase in income, but you better believe the rich are getting richer, at our expense, we are getting poorer.  Not much of a recovery, this latest, when it is gotten for a few by preying on the many.

Thanks, Yahoo, for the pointer, on Sept. 25, 2014. 

Are Unions Necessary?

Unions are necessary, or rather, what is necessary is an institution, or institutions, powerful enough to balance the concentrated powers of capital, in order to create a robust economy, and a robust democracy.

In the absence of this power, capital unchecked accumulates and concentrates, to the detriment of the economy and society.  As capital concentrates, the growth of the buying power of labor, (and we see with the austerian policies promoted by the Right, government, also) first slows, then stops, then starts to decline.  And we are starting to enter the period of decline, after years of stagnant income by labor.  Capital is destroying its market, and with it, opportunity for continued profit, and the incentive to invest. This leads to a gradual decapitalization of the economy, although this will first be concealed by investment bubbles in enterprises which do not produce real goods and services. That is, the economy will continue to appear to grow, even while in real terms, in terms of industry and infrastructure, it actually declines.

Government itself, and certainly after Citizens United, is not strong enough to provide this countervailing power.   Indeed, its policies show it has clearly become the captive of capital, and so aggravates the already mal-distribution of power.

So this countervailing power once, inadequately perhaps, partly provided by unions, but now largely absent, is necessary even for the survival of capital. 

Cross-posted to http://esoltas.blogspot.com/2014/02/if-not-unions-what.html

Growth, CEO Compensation, and Savings

We wish to show, that excessive CEO compensation is deleterious to an economy.  We show that excess savings is also deleterious, the so-called "Paradox of Thrift."

Prove in the case of the Universal Corporation: UC produces everything. Therefore, all it buys is labor. Thus, all revenue goes either to labor compensation or to capital. We include capital’s share in CEO compensation.  Thus, UC’s employee compensation, minus the CEO’s compensation share c, in the n^th cycle, is R_n(1- c), where R_n is UC’s revenue.  Suppose now everything UC’s employees buy is produced by UC, and UC sells nothing to the CEO. Then UC gets all its revenue by selling to its employees, 

( R_n (1- c) ) plus a portion, R_n e, selling to persons outside the corporation.. Therefore,  

R_n+1 = R_n((1- c) + e);  The growth in revenue, for a given period: DR  =  e – c.  So, where c > e, DR is negative, that is, revenue declines. The CEO of the Universal Corporation, regardless of competence, if paid to much,  is adversely effective. Done.

Now we can include the CEO as an employee, ie someone who buys from UC, if we instead interpret c just as what the CEO does not spend, but saves.  Indeed, this gives us the Paradox of Thrift, when c is interpreted instead as the sum of what all employees, CEO included, save. So, if the portion the employees of UC save is more than the portion sold to people outside of UC, ie if c > e, revenues will decline.

If instead we separate savings into components, labor savings and capital savings, (where investment is a capital expenditure,) s_l and s_c, then if s_l + s_c > e, revenues will decline. If s_c > e, then s_l must be negative, and of magnitude greater than s_c –  e, in order for the corporation to grow in revenue.  That is, labor must dissave if capital saves at a rate greater than the rate of selling outside of UC, for UC to grow.  (This can of course be forced by paying labor less than subsistence.)   

Note, if e is negative, eg if the employees also buy from outside UC, at a rate greater than persons outside of UC buy from UC, the employees of UC must dissave, (both  c and e are negative),  |c| > |e|, in order for the revenues of UC to increase.  In components:  we must have |s_l + s_c | > |e|, where if s_c is positive, s_l must be negative of magnitude greater than  s_c + |e| for there to be positive growth of revenue. 

If we include a third component, call it government, and call UC a nation’s economy, then for positive growth we must have:  s_g + s_l + s_c  > e, or  s_g > e – ( s_l + s_c  ).  If we separate e, net exports, into its components x exports and m imports, we require for growth of revenue

s_g   <  x -- m – ( s_l + s_c ). Clearly, where imports are greater than exports, the problem is exacerbated, and there must be extensive dissavings by government if there is savings by labor and capital. 

We observe, for a system with no net trade, ( x = m ),  s_{g  <} – (s_l + s_c ).  That is, for an economy with no net trade to grow, (net closed,) government expenditures must be greater than private sector savings.  In general, that is, the economy as a whole must dissave.  That is:   0 > s_l + ­ s_c + s_g .This may be made explicit:  The share of growth of revenue,

DR =  – (s_l + ­ s_c + s_g ).

What do we mean by dissave? Savings, of course, may mean putting money into mattresses.  Dissaving implies there must be an input of money, such that more money is spent, by the components of an economy, than is earned. This may be money taken out of mattresses.  This may be money lent by an entity outside of the economy. It may be money added to the supply, as with inflation. Where it is lent by an entity inside the economy, (finance, say, thus s_f) we have the same problem:  We have a change in the relative revenue collected by the components, but the revenue for the whole economy necessarily declines.

With monetary input I, as with inflation, say, we have: I > s_l + ­ s_c + s_g + s_f  as the condition for growth of revenue in a net closed economy.  And in general, allowing for imports and exports: 
I + x – m > s_l + ­ s_c + s_g + s_f  Explicitly, the share of growth of revenue is:  
 DR = – ( s_l + ­ s_c + s_g + s_f ) + I +  x –  m.

This is rather tautological.  With a fixed money supply,  total revenue cannot increase, and any quantity of money taken out of the system leads to a decrease in revenue.  Since nominal profit requires an increase in revenue, a fixed money supply will, in the best of circumstances, result in an average nominal corporate profit of zero, unless there is dissavings. Some might argue that the policy of the wealthy for the past 35 years has been a forcing of dissavings on labor, (and government,) from which they have taken their profit. This is manifest by the fact that the share of wealth of the 1% has increased from around 20% of the total economy to around 40%. The share of wealth of the rest of society has correspondingly decreased from around 80% to less than 60%, and all but 10% is concentrated in ownership by the next 19%.  80% of the population of the United States combine to own only 10% of its assets.

PS:  The diagram is actually kind of a joke.  It's really a copy of the backward bending labor supply curve for an individual worker, a janitor say, who, when 'paid to excess,' is expected to produce less, in particular, work fewer hours. (This effect somehow is not thought to apply to CEO's.) While true for the CEO of  the Universal Corporation, in an economy it is only true for the sum of all CEO's.  Any individual corporate CEO, of course, gets nowhere near the compensation necessary to have a deleterious effect on the economy, (though he still might be expected to produce less if overcompensated.)   But that the sum of all CEO compensation, the sum of all compensation to the wealthy, may be harmful lies the problem, which we discuss in my next post.

Link to Michael Hudson on How Banks Plan

Another gem from Michael Hudson:

 http://michael-hudson.com/2012/02/wall-streets-capital-gain-planning/

“…Everything over subsistence, they’ll want as a loan…”

“…Once the entire surplus is paid to the banks, there’s nothing  (left) over for rising living standards, there’s nothing over for new capital investment, there’s nothing over for long term research and development…”

Further, once growth is arrested, so is growth of the bank's investments.  It becomes a fixed income stream on a fixed asset.  Optimum is for the banks to aim for optimum real growth rate.  But banks can’t do this.

Who we are governed by

We are governed by incompetents. They are so incompetent they do not even know what competency looks like.

Suppose the economy grows at 3%. Then just by controlling where that 3% is spent, the government can control the direction of the growth of the economy.

Of course, that is just the first approximation. The economy also undergoes change, which does not show up as growth, but investment compensating for depreciation and other asset consumption. This percentage must also be controlled. Further, what is destroyed must also be controlled. It can tax what it wants to destroy, and it can then spend the money to direct investment. This will cause the money to be spent in the direction the government deems desirable. The economy will then grow in the direction the government desires.

And it does this already. A government which is 20% GDP can’t help but direct the economy. That it does so inefficiently, and without much direction, merely means both it doesn’t understand what it is doing, and that some, or a lot, of the ‘growth’ is directed to waste.

What we are talking about is Gross private domestic investment, nonresidential. (Although the government could control the residential as well. It can tax larger mortgages, a graduated mortgage tax. It can tax the building of some houses, and subsidize the building of others.) Nonresidential gross private investment works out to be just under 10 percent of GDP. So by directing that 10 percent of the economy, the government can make it grow any way it desired, and provide any services desired. Well, any way desired that was sustainable. It could do this simply by subsidizing desired services, and taxing the crap out of any other investment.

Of course, it wouldn’t have to be so crude. It could be more measured, taxing according to degree of undesirability, subsidizing according to degree of desirability. If they wanted more health care, they would subsidize its production. Pay for more doctors, more nurses, more hospitals. If they wanted less concentration of wealth, they could tax it. More windmills, subsidize; fewer automobiles, tax. Less financial, tax. More manufacturing, subsudize.

Think this is heavy handed? Look at the ham handed government we have now. Look at the effects of its policy. It is 20% of the GDP, controls more, and what direction do we get from it? Instead of planning, we have special interests, pulling government investment this way and that. Financial has increased to 6%, with more profits than manufacturing. Manufacturing gets little support, and has been in decline for decades. Just 1% of our GDP goes to industrial equipment. That’s the stuff that goes into factories. In agriculture, unsustainable factory farms are subsidized, while family farmers are not. Health care has increased to 17% GDP. (This is not in contradiction to what was said above. This is demand (subsidized) driven inflation as a result of inadequate supply (taxed). The government should do the opposite. Subsidize production, and tax demand.) Infrastructure deteriorates, at the same time demand for it is subsidized. Unemployment is subsidized, employment is taxed.

All this and more is the result of government policy, of its spending, taxation and subsidy, Either that, or the government, spending 20% of GDP, and controlling more, has no effect on the economy. That is, it is essentially impotent. Of course, the government can still be essentially impotent, spending 20% of GDP, if it is locked into its commitments, the captive of special interests, and cannot change the way it spends its money. Like the government we have now.

The Effects of Unbalanced Trade

The United States trade imbalance has long been an unresolved issue. Some claim that barriers to free trade are necessary, others that they are not only unnecessary, but harmful, and even immoral, since they would force higher prices on otherwise uninvolved consumers.

Those who claim that current trade policies are harming the US have, to our knowledge, proposed no clear mechanism. We propose one here.

We show that, while balanced free trade may be beneficial to all, or at least not harmful, when trade is not balanced, the net exporting country grows at the expense of the importing country. That is, the net importing country’s economy undergoes deflation, and erodes. The demand of the importing country’s economy is driven down, and its industry is increasingly idled. Since this affects labor, even many of those consumers enjoying the immediate benefits of lower prices, may pay a greater price, in lower wages and higher unemployment. Consumers are involved, whether they want to be or not.

We should also expect erosion of the tax base. There is, in the economy as a whole, more pain than gain. We model the mechanism.

The basic idea is that the price level in the importing country goes down, decreasing the revenue available to its industries. However, that country’s demand is ultimately equal to the revenue of its industries. That is the key relationship. The country's demand declines with the decline of the revenue of its industries. With continued imports, the price level continues to go down, as does revenue and demand, along the Aggregate Supply curve. With the continued erosion of revenue, industries are increasingly idled, and unemployment increases. The importing country is forced into a deflationary spiral.

In the exporting country, on the other hand, the price level goes up, and including the revenue from its exports, so does the revenue of its industries, and ultimately the country’s demand. Its industries, with increased revenue, grow, as does the country’s demand, along the Aggregate Supply curve. With continued exports and continuing increases of revenue, industries continue to grow. So does demand, and employment.

____________________________






The unbalance of trade has been an issue for some time. When one is not doing well, one looks around for someone to blame. One also looks for causes. When one finds both, one must act- wisely.

Note that when trade is balanced, there is, here, no effect. Only when there is an imbalance in trade, where one country is a net exporter, and the other country a net importer, does the importer’s economy erode, and the exporter’s economy grow. There is a certain symmetry: The exporter benefits at the importer’s expense, despite the apparent benefits to the importing country, and the apparent costs to the exporting country.