When markets don’t work

Everyone has heard of the law of supply and demand. It’s supposed to be why markets work (whatever ‘work’ is supposed to mean). The price for a product or service is high enough to stimulate enough supply for the market, yet low enough that all of that product or service is consumed. In other words, the market finds its own equilibrium.

Free-market advocates also claim that the law of supply and demand, operating across markets for all goods and services, leads to the most efficient allocation of resources. This is less persuasive. When China was plagued with opium dens, it’s hard to see how this was efficient in any useful sense of the word. It is equally hard to see how a modern economy would benefit from an open market in heroin, tainted food, or half-trained doctors.

While the efficacy of supply and demand in finding an equilibrium price seems indisputable (with exceptions like asset bubbles), there are areas of the modern capitalist economy where it just doesn’t work that way.

Take savings and investment. Some people labor under the impression that savings must always equal investment, but they forget the role of financial intermediaries (or else they are confused as to what ‘investment’ is). Decisions to save and decisions to invest are made by different people, or at least people acting in different roles, and they are often made for contradictory reasons. When the economic horizon looks cloudy, the preference to save increases, but the desire to invest decreases. You might think that interest rates would fall until things are brought back into balance again, but if you’re worried about your job, you don’t save based on the rate of return. You save to have cash available. It won’t matter much if your savings earn 5% or 0.5%. In the same situation, financial intermediaries (e.g. banks) accumulate reserves (or they should), which means they’re happy to accept your deposit, even if they have no plans to lend it out.

This is a source of economic instability. Barring intervention by the authorities (monetary policy or fiscal stimulus), production drifts down until enough people have lost jobs or hours so that they are forced to spend more of what they do make, and their diminished savings falls back into balanced with the diminished need for business investment.

So there’s an equilibrium, but one could hardly call it ‘optimum’.

There is another area. Less explored, but perhaps all the more significant.

Virtually everything produced in a modern economy is the result of a collective effort, meaning it takes an organization to deliver goods and services. The main reason for this is that it takes specialization to produce something of sufficient value in sufficient quantity to be competitive in the market.

So if it takes 100 different jobs and skills sets to produce XYZ widgets, and the sale of those widgets brings in a certain amount of money, how is that money divided among the different jobs, and the return to capital?

In other words, what is the value of any particular kind of labor, versus the owners and managers of capital?

Well, you say, it’s determined by supply and demand. And yet, I respond, the US  economy is awash in capital (starting long before quantitative easing) in the forms of monetary wealth and glutted capacity, while at the same time the returns to capital and its managers absorb a steadily greater portion of national income.

So what is the mechanism supposed to be that brings the distribution of income into equilibrium? Is it stagnation, where low or no inflation combines with low rates of interest, declining growth, and a declining labor force participation? It’s hard to see how this leads to rising wages for those who continue working, without fairly disruptive changes to society. Alternatively, it’s hard to see how the continued stagnation of income for most of the population represents a useful optimum.

The history of the past 20 or 30 years suggests that, if there is an equilibrium process at work, unlike the markets we are familiar with this one may operate over time frames that exceed the normal allotment of working years, if not the human life span. And this is not at all optimal.

Income what?

The phrase “income inequality” has been all the rage. Economists study it. Talking heads rant about it. Politicians debate it. And it has become another litmus test in the Great Liberal-Conservative Theater of the Absurd.

But “income inequality” can not possibly mean what it suggests, that those who think it is a problem believe that all incomes should be equal. I’ve known some Marxist firebrands in my time, and even they would have paused before suggesting such a thing.

So why employ a term that poisons the discussion at it’s start? The usual left-wing laziness, I suppose, abetted by the usual right-wing ambush mentality.

But there is something real here.

For years, economists have thought of such inequality in part as a side effect of policies that fostered the country’s economic dynamism…But economists’ thinking has changed sharply…The concentration of income in the hands of the rich might not just mean a more unequal society…It might mean less stable economic expansions and sluggish growth.

Income Inequality May Take Toll on Growth - NYT 10/16/2012

While the steady or slightly accelerating global growth rates predicted by the IMF is the most likely outcome, it may not be achievable because of three imbalances: social, geographical and demographic. These seem deeply embedded in the structure of global capitalism today. They are weakening demand, creating excess savings and driving the buildup of borrowing and lending that has been both a cause and consequence of the global financial crisis…

If too much of the income created by capitalism’s capacity to increase production flows to people who are already rich and likely to save rather than spend, then crises of under-consumption become almost inevitable…

Karl Marx was right – at least about one thing – Reuters 6/11/2014

Granted that any or all of these opinions may turn out to be wrong (although I am doubtful of that), it is important to distinguish between the technical questions concerning national and global economies, and the political questions surrounding who should get what.

So I propose we stop talking about “income inequality”, because the converse is something no one wants or expects to achieve, and think instead in terms of “income imbalance” — the converse of which at least stands a chance of having meaning.

 

Can democracy survive? – 2

Beginning in the early 1920s, Vladimir Lenin and Joseph Stalin propelled the Soviet Union into a centrally-planned industrial economy, ordering the construction of dozens of power plants and the electrification of industry. After the Wehrmacht invaded in 1941, the planned economy was ready to be re-purposed for war production, without essentially changing its character. After the German surrender, the Soviet Union rose to become the world’s second superpower, but the planners were losing their grip. By the time Ronald Reagan entered office, the planned economy, choking with its own unmanageable complexity, stifling all individual initiative, and falling behind, was crumbling badly.

In a world of increasingly complex technology and increasingly complex interrelationships, where effective private action was becoming increasingly important, the Soviets were committed to a trajectory of failure.

The genius of the capitalist system, such as it is, is to permit thousand of economic actors to ferret out and exploit areas of need, want, and desire, through profit-making business ventures organized to supply products and services as the opportunities arise.

Of course, even capitalists are can be reined in or called to account. Avenues of profitable exploitation, from drugs and prostitution to the convenient disposal of industrial waste in rivers and streams, are cut off by central authorities. And only a few think we would be better off were this not so.

Democracy might be thought of as a system where thousands of political actors are permitted to ferret out and exploit areas of grievance, greed, and zealotry, through office-seeking careers that promise to deliver a voice and recognition, as opportunities arise.

Unlike capitalists, activists and politicians are hardly restrained at all. From the founders of the Ku Klux Klan, to the Students for Democratic Action and the Weathermen, to Richard Mellon Scaife and Karl Rove, political actors very often bring more heat than light, as the saying goes.

But the genius of democracy is in no small part its ability to give every faction, no matter how wrong it is, a voice of some kind, so long as it is a large enough faction to be an electoral factor. And any faction that does not meet that threshold is in any case too small to endanger national stability if ignored.

Absent an existential crisis, democracy as we understand it is a battle of private agendas flying flags of public ideals, the institutions of government the battleground. But multifarious private agendas do not necessarily lead to effective public action.

In a world of competing nation-states, volatile finance, and environmental danger, where effective public action is increasingly important and increasingly difficult, it is right and prudent to think hard about what trajectory the world’s established democracies are on, and whether democracy as we now understand it can, and should, survive.

Partners and Nations

maximillianwyse:

I want to repost this thought from a year ago, long before Iraq and its hapless Prime Minister Maliki hit the news again.

Originally posted on maximillianwyse:

“How happy is the one who says ‘I am a Turk’.” - Mustafa Kemal Ataturk

“Every morning I make my students tell lies. None of the children are Turks. Everyone here, including us teachers, is Kurdish.”School teacher in Turkey

“Listen, she’s not one of us.” – Christian radio host

In early 1919, what was to become the country of Turkey was prostrate, the middle of a defeated Ottoman Empire, partitioned and occupied by the victorious Allies.

Just four years later, in October 1923, Mustafa Kemal, who had organized and led an armed insurgency and nationalist movement against the Allies and their puppet Sultanate, repelling French, Greek, and British troops, was able to declare the independence of a new nation whose sovereignty was shortly recognized by the rest of the world.

View original 794 more words

Can democracy survive? – 1

Don’t be ridiculous, you say. The world’s only superpower has been a democracy for 200 years.

Which is only partly true. Seventy-two years after the Constitution was ratified, the country ceased to exist. It was restored after four years of full-scale war and a suspension of Constitutional liberties by the government in Washington, most famously the writ of habeous corpus.

Few people outside revanchist dreamers of the Old South believe Lincoln was wrong, or that the government did not have the power to do what it did (the scholarly controversy is around which branch of government had the power to suspend the writ).

But this is the point: The country was not able to resolve its internal social and economic conflicts through its own democratic institutions. War, martial law, and military defeat were necessary.

That one side was in fact capable of defeating the other is a critical part of our democratic history – and an under-appreciated one. Without this reality, which had to be demonstrated on the ground at hideous cost, the US constitution would not have been worth the parchment it was written on.

Keep this in mind as you read the news from the Middle East.

The idea that any Iraqi faction, Shiites, Sunnis, or Kurds, might defeat the other two is laughable. Even if the Kurds were not a factor, Shiites and Sunnis must deal with each other. Barring an apocalyptic regional war (which would be too calamitous to allow), both sides of Islam will continue. Like Protestants and Catholics, they will be with us into the distant future.

Then what of democracy in Iraq?

In a news story this morning, Iraq’s Prime Minister Maliki is shown trying to maneuver the US into his corner, attempting to defeat ISIS while he still holds the reins:

The Iraqi prime minister, in an apparent rebuff to his international critics, said Wednesday that finding a political settlement to the differences among the country’s factions was not as important or urgent as fighting extremist Sunni insurgents.

The PM was quoted:

“The battle today is the security battle for the unity of Iraq… I don’t believe there is anything more important than mobilizing people to support the security situation. Other things are important, but this is the priority.”

If Maliki is successful in his tactics, he will have the upper hand for a while. He is maneuvering for US help, but even the US can not defeat all of Maliki’s enemies in the region. Nor will it try.

If the West comes to his rescue, Iraq’s democratic institutions will have failed once again. Its internal conflicts will remain as deep and intense as ever. And its position in the Middle East just as precarious.

Iraq is not the US. Its machinery of government works differently. Yet, at the bottom of it, it is a democracy. This is a source of weakness as well as strength. And it raises a mirror before the country that installed that machinery, asking the question, can democracy survive?

Would you fight?

As I mentioned in a recent post, the collapse of the Iraqi army in the face of ISIS should not be laid at the feet of the troops. The rot was centered in weak and inept senior officials, the result of a weak and inept government.

A piece today gives a view from the ground. One excerpt:

The brigade left Basra on June 14 with the important mission of reinforcing Qaim, its officers said. The troops had only the food and water they carried. Daytime temperatures hovered near 120.

Several officers said the system the Interior Ministry had devised to supply its forces was suited for peacetime, and predictably failed in war. They said it relied on contracts with businesses that would deliver supplies to the troops’ main garrisons. But as the border-police convoys headed for territory under militant influence or control, the vendors would not follow…

By June 17, the brigade was in position around Qaim, with hopes of blocking ISIS fighters’ free passage to and from Syria. But supplies were so depleted the troops could barely fight. Its members said they were given only a small piece of cake and about 10 ounces of water a day…

With supplies almost gone, the brigade commander, Brig. Gen. Sadiq Rasheed Abdilal, left Qaim to complain to senior officers, his troops said. They have not heard from him since.

There’s more in the original. Read it. There may be some cowardice in the ranks of the Iraqi army. But the real story is a government incapable of governing. And the US political leadership that put that government in place.

The political court

The Hobby Lobby decision, in case you’ve  been on retreat the last few days, is a recent decision by the US Supreme Court that allows closely-held (non-public) corporations to claim exemption under the Religious Freedom Restoration Act of 1993.

According to Justice Alito, the requirement to provide coverage for contraception imposes a “substantial burden” on the religious liberty of closely-held corporations whose owners object on religious grounds.

Naturally, the decision is a rallying cry for liberals as well as conservatives, but it continues the apparent trend in Court decisions regarding corporations. Not just the trend regarding the “personhood” of legal entities, which is often cited  by talking heads, but the trend of dissolving the wall between the corporation and its shareholders, closely-held or not.

Ironically, this is a wall erected by state business laws, although it goes to the long-established nature of the corporate entity. You have probably heard the term “creature of the state”. A corporation (or any other limited-liability entity) is not just the free association of individuals often depicted by libertarians; it exists by virtue of state laws that shield owners and operators from liability for the obligations of their enterprise. There would be no value otherwise, and no purely private arrangement could achieve the same thing.

But the price for that shield is a wall of separation, and if you fail to maintain that wall, for example by using the corporation as a personal checkbook, a creditor can “pierce the veil”, legalese for asking a judge to set aside the corporation and allow a creditor to proceed against its owners personally.

In other words, the corporation is an entity on its own, established by law. Those who form the entity give up their interest in its assets, even as they escape its liabilities. They may receive a share of corporate proceeds, but creditors have priority. Assets must be held separate. Records must  be kept, the form maintained.

Which brings me to my point. If the corporation has “personhood”, then the wall must be in place. Even a closely-held corporation must not be an alter-ego for its owners, or it is a sham without legal standing.

The personhood is a creation of the state. Unlike a natural person, it exists for the convenience of others. There is no right to life. No right to vote. And since the corporate person is incapable of faith, as it is incapable of emotion, there is no conceivable right to religious liberty.

The owners of Hobby Lobby may decry what they see as sinful or objectionable in society, including the sexual activities of their employees. But the business corporation they asked the state to charter is not an extension of their own persons, and the Hobby Lobby decision is a political one that allows certain owners the privilege of reaching into their corporations in a way rightfully denied to others.