Wealth and Recession

I’m more a bit of the bit of both kinda guy. The house price collapse, that reduced apparent consumer net worth so much, and forced a change in consumer debt behavior, from running up more debt, to rebuilding balance sheets, also severely impacted any financial instruments that depeneded ultimately upon mortgages. So we had a combination of a banking crises and a consumer wealth destruction crisis at the same time. Either one would have been bad by itself, the combination is worse (additive at least).

Had banks not been playing games with risk, the bubble wouldn’t have floated as high as it did. The question then becomes, is a higher bubble popping, worse than if the bubble had never gotten so high in the first place? I.e. are there nonlinear effects that create additional damage? I think the answer is yes. You see abandoned projects on which real physical economy goods were spent, that are just sitting around decaying (such as roads, with house foundations and utility hookups that sit rotting in the fields), i.e. some of the excess investment, resulted in wasted physical resources, not just paper ones.

Billikin. True, but false illusions can lead people into making economically damaging decisions. Such as taking out a HELOC inorder to install garnite-countertops, only to later mail the keys to the bank, because the mortages are too far underwater. Those are a form on nonlinear destructive effect (of a bubble), I refer to. Plus things often overshoot, on the way down as well as up, and that creates destructive effects as well.

Where you seem to be going with this is the idea that all the problems were structural. But it’s plain as day that there is no good reason to think this. Plenty of people and capital were gainfully employed in 2007 doing things other than housing and finance related work that are now idle, and have remained so for years now. You are right that policy is responsible for this, but it is central bank and fiscal policy beginning in 2008 that is responsible. You could argue that policy of 2001-2007 is responsible for the bubble which needed to burst, but the terrible macroeconomic stabilization policy of 2007-2011 is the reason we have continuing 9% unemployment, instead of a short spurt of high unemployment mostly in finance and construction working it’s way out of the system and back to near full employment over the last 3-4 years. That would have required accepting some inflation as the penalty for recognizing the weak economy, but that too would have worked it’s way out and given way to real growth again as the economy healed itself. Instead we’ve been starving the patient with fiscal contraction and tight money.

Great, thought-provoking post! I’ve been wrestling with this also (as you’ll see).

I think it’s a mistake to try to blame it all on “Bush-era polices.” My guess is that his tax cuts were bubbly but otherwise what’s the mechanism? He just continued the deregulatory-privatizing trend of things since the Reagan revolution through the Clinton years.

Greenspan could have popped the housing bubble early on, but didn’t. There was obviously a failure to regulate lending standards and the rating agencies failed, etc. The banks went wild. (go see the film “Margin Call.”)

I agree with #1 and #5 that it was a bit of both. The wealth effect did add demand which replaced the demand missing from the fact that workers wages weren’t rising with productivity gains.

As Davies pointed out, you also had a bubble in Spain which had plain old vanilla mortgages. I think this had to do with the Global Savings Glut which lowered interest rates in general. China and oil producing countries’ savings were causing interest rates to drop which helped cause the housing boom which morphed into a bubble and took on a life of its own. So the wealth effect wasn’t merely lower lending standards or the Fed being too loose with its monetary policy.

I think DeLong is correct about the financial system’s implosion causing the recession. This has happened before in history. The financial system imploded because of the popping of the bubble and the loss of the wealth effect helped it snowball. Compared with the Internet bubble, maybe this time the financial system was more leveraged up and you had the shadow banking system freezing. No one trusted anyone’s books, panic ensued and credit markets froze. I think the panic did real damage to the economy. Credit markets unfroze but lending standards are tighter now. The demand we had before the bubble popped hasn’t been replaced even though the economy is growing again.

I agree with #5 that if in 2008-2010 we had better fiscal and monetary policy we would be back up to full employment even without the wealth effect. There’s also the trade deficit, but that can be financed with foreign capital coming in to the U.S.’s safe haven, no? At least for the moment.

My immediate reaction to this is simply to refer to Dean Baker. It’s about employment and wealth creation. Employment and wealth creation in the US were fundamentally misdirected into housing as a store of wealth [and here in Ireland the same happened exponentially] leveraging a workforce’s future earnings. There is no recovery until employment recovers and starts sustaining the type of wealth creation that can buy a house, a pension, a child’s college education or insurance against a vampire health system. The legacy of “irrational exuberance” is a curse undreamt of by gypsy curses, a structural dry rot of debt: housing, sovereign, personal, corporate.

Hmmmm…

It’s just your standard label pernicious debt crisis with stagflation in things people must have. The crisis is a function of lots of money flowing into the economy but not a lot of people getting access to it (other than in ways that impair other people’s need), such that housing, education, and medicine are stumbling blocks to greater economic activity. Not just because these are expensive, but also because the value inherent in houses, education, and medicine has become so illiquid. It’s hard to move to opportunities. It’s hard to profitably study in an expanding field. It’s hard to strike out on your own when you see something others haven’t, quite yet.

I would go with Brad Delong in this case. The problems are fundamentally political in origin, in the sense that we have too big an upper middle class and we have too many rentiers with too much control over the state. If the economy was being properly managed, the housing price crisis would be a blip. The decline in the value of houses are symptoms of other financial distress in real America. That implies to me that Delong’s story about shadow bank runs is a truer one. There just isn’t a deep supply of invest-worthy projects in the aggregate in the US (or elsewheres), mostly because of politics. There isn’t a supply because huge parts of the populace can’t fully participate in the marketplace for various reasons, mostly to do with politics. No customers. No reasons for business expansion, and thus no source of growth to eat up toxic assets over time. Damn straight you wouldn’t want most big banks as counterparties.

Saying “it’s the Bush economy and not the banking sector” is just a false dichotomy. You can’t separate the Bush economy (or even the later Clinton economy) from finance-led growth. The housing bubble and the intermediation of all the cheap lending through the banking (and shadow) banking system involved a fundamental misallocation of capital and talent. The later stages of the internet bubble probably involved the same thing (which is why we needed such a big effective stimulus from 2000 on after it popped). Losing the manufacturing sector to China was happpening throughout this period and also contributed to big misallocations (the so-called ‘global imbalance’).

Brian @12: perhaps I’ve been reading too much right wing rhetoric. And talking to too many economically clueless liberals who think that we are just going to have to live with declining standards of living full stop.

I think you are right that the decline in housing wealth among the middle class was the primary driver of the crisis, but I also believe the proximate cause was a combination of bank mistakes and central bank mistakes.

I’m inclined toward the market monetarist view that the recession could have been made *much* milder by an alert expected NGDP targeting central bank in the summer of 2008. This is the point where the data starts to show that pressures on household wealth and bank liquidity from housing continuing to drop have caused a plummet in monetary velocity. From the market monetarist viewpoint this should be viewed as an exogenous shock to the money supply, which needs to be countered by central bank action — and the data was there to see what was going on before the worst of the crisis hit in September and October.

If the Fed comes out with a statement in August 2008 to the rough effect of “The combination of subprime concerns and falls in real estate prices over the last year have led to a nearly unprecedented drop in monetary velocity. We are prepared to use our authority to do everything necessary to keep nominal demand on a sustainable growth path and will tolerate moderate inflation if necessary. We believe this will greatly speed the recovery from our current recession. To that end, we are lowering our overnight loan rate peg by a full 1% (or some step larger than anyone was pricing in), and will continue to adjust our stance as necessary to maintain an expected NGDP growth path of 5%/year.”

I’m not sure at that point that there is any major financial crisis, or that the recession is any worse than that of 2001. Also, even with the suicidal tendencies of the ECB, without a massive global recession in 2008-2009, it’s not clear we ever see the kind of problems with the euro that we’ve had for the last year.

Why do philosophy majors get to comment on economic affairs?

The important thing, here, is to recognize that the 2000s were a disguised recession. The housing bubble, far from being an accident, was a necessity – that is, if we were to pursue the remedies to the solution to the recession of 2000-2001 suggested by Bush, and that are being recycled, in a more pernicious form, by both Obama and the Republicans in this round. The tax cuts – the most important of which may well have been the cut to capital gains taxes – and the deficit financial policy that was enacted via war spending, an enormous increase in Medicare due to the new drug supplement package, have to be combined with the Fed policy (which became obsessed with trying to maintain stock market values, as we saw in 2007, when the Fed’s bizarre behavior seemed to be dictated solely by an attempt to keep the stock market from sliding) were all responses to the long range crisis, which was one of wealth inequality. That is at the very basis of these crises, and that will continue to be at the basis of the crises as the Reps and the Dems do everything they can to ignore it. Unfortunately, this inequality crisis can only be solved politically – and no political player on the horizon even sees it.
To understand the recession of 2008, you have to understand the effects of the solution to the recession of 2001. I don’t think the name for the sum of those solutions is “Bush” – the Democrats made no attempt to make inequality an issue, because they had neutered themselves on that front in the 90s. Let’s call it, instead, neo-liberalism. The neo-liberal model is always going to lead, is structurally dedicated to, increasing wealth inequality – for which it uses the government as a backstop, as we saw in the Treasury-Fed program of feeding trillions of dollars to Wall Street in the form of 1 percent or below loans, and as a dispensor of band-aids, as we saw with the marginal increases in EITC.
French political scientists around Foucault liked to talk about l’etat providence – the welfare state, if you like. Neoliberalism does not, as its proponents like to say, break with l’etat providence – they simply change its focus. The state now operates as a Wallfare state – redistributing upwards.

Referring to the Nate Silver tweet & your comment “I’m not sure of the source of this”, I’m pretty sure this is Silver’s source:

http://www.levyinstitute.org/pubs/wp_589.pdf

Having rendered this community service, I’ll take a stab at another: that this Levy Institute study is worthy of it’s own thread here.

Now I close this by climbing above my raising with two brief impressions:

1. If anyone seriously doubted G.W. Bush’s qualifications for ‘worst POTUS evuh’, this study should resolve that: apparently 2002-4 is the only expansionary period is U.S. history that showed a recessionary effect on median household wealth. (It’s like a special talent revealed or something.).

2. If I’m reading this correctly (My economics cred is limited to 3 university undergrad intro courses & otherwise regular dollops of Krugman, Higgins here & Delong when he doesn’t lose me.), the stage was set for that singular accomplishment by policy & regulatory changes going back to 1998, implying Bill Clinton’s sins went beyond the carnal, even beyond signing off on the repeal of Glass-Steagall, as well as bringing more nuance to enduring influence of the Rubin set. Also, to the extent this gets around widely enough, it’ll damage Bill’s claim as the ‘first black POTUS’.

Bertram:

“Suppose that, within the context of NAFTA, Obama had to persuade US taxpayers that they needed to bail out Mexico to the tune of trillions of dollars, how much success would he have? Less than Merkel has had with the Germans I’m guessing.”

DeLong’s buddies Summers and Rubin did in fact bail out Mexico with success.

http://en.wikipedia.org/wiki/1994_economic_crisis_in_Mexico

And in the last go around the US bailed out French and German financial institutions. Bernanke and the Fed bailed out all sorts of weird foreign companies. As I understand it many if not most of these were backdoor bailouts of US firms, just like the bailout of Mexico was also a bailout of US banks.

How does the disappearance of household wealth make any difference? It’s essentially non-productive and doesn’t have any cashflow implications. If you’re paying X/month on a mortagage and the value of the house drops from Y to Z it doesn’t effect your payments. If the suggestion is that there was a widespread funding of consumption by withdrawing capital gains on housing wealth, how does this fit in with a housing bubble? I can’t see how houses can have a bubble (i.e. loads of money deployed on housing forcing up prices) and there be the widespread use of equity to fund consumption too (i.e loads of money extracted from housing and spent on other things). Surely it must net out one way or the other.

Brian, #10:

“My very uninformed guess is that there really wasn’t a bubble in Spain. The introduction of the Euro, and the continued economic advances, made Spain a much better place to live, work and invest. So naturally, house prices rose.”

This doesn’t sound right to me. What about the role of deliberate policy choices in Spain, speculative investment and influx of (or the massive attempt to attract) foreign home owners from places like the UK?

Now I may be quite wrong on this, as my understanding of economy is woefully incomplete. This is why I usually prefer to be a reader rather than a commenter here. But it would be good to get those of you who are knowledgeable to analyse, say, the narrative laid out in the (beautifully made and wildly) popular Españistán video (http://www.youtube.com/watch?v=xWrbAmtZuGc).

Michael E Sullivan @ 19

Scott Sumner is a highly articulate nutcase, the key term being, “nutcase”.

Also, whenever anyone attributes causality to the “velocity of money”, run from the room. Economics as pseudo-physics is taking over dead minds and turning them into zombies. (The velocity of money is neither a strategic variable or an independent causal agent; the economy is what people are doing, in response to information and in accord with their own plans and constraints.)

Bernanke knew what was coming in 2007, although like most libertarian true-believers he had an exaggerated sense of the foresight and prudence of our Galtian Overlords and the Magic Market. Bernanke’s Fed in late 2007 and early 2008 was flooding the world with dollar liquidity, and what happened? There were price spikes in commodities. Do you remember the price spikes? Record prices for rice and wheat. Spot market oil soaring over $100/barrel. Copper and silver, whoosh! “Targeting nGDP” looks easy on graph paper; in the real world, it can entail rice riots in Mumbai.

The commodity price spike drove the inflation rate up in U.S. dollars, and accelerated the recession, as economic activity declined: people drove less and spent less, in response to the spike in gas prices. What goes up, must come down. And, the sharp spike up, entailed a sharp decline, which meant a deflation.

Scott Sumner’s mumbling about “targeting nGDP” is equivalent to the claim that the deflation of late 2008 could have been avoided by adroit Central Bank interventions. But, Central Bank interventions had already triggered the commodity price spike. Was the CB supposed to keep commodities at a price plateau? How would that work? Once the provision of excessive liquidity had triggered the commodity price spike, a deflation, however brief, was inevitable. Deflation is a monetary catastrophe for a highly leveraged economy; it is equivalent to lighting a match in a barn full of dry hay, after soaking the hay with gasoline. Deflation will trigger a collapse of all the carry trades, initiate general de-leveraging and accelerate an inventory cycle, which, in turn, can shut down virtually all trade on a wholesale level, all of which it did.

It is fashionable among macroeconomists, who deal in abstractions so arcane that they would embarass a scholastic specializing in angels on pins, to speak arrogantly about the need for “microfoundations”. They are excusing their own abject ignorance, but regardless of the abuse of language and abstraction, the economy remains a concrete system, the artifacts of what we do in our material world.

Widespread control fraud drove the housing bubble. Not a strange psychological mania. Cheating. Con-games.

I know this will come as a shock, but cheating is not economically productive. I will leave it to the scholastics to figure out if cheating is pareto-efficient. I cannot pretend that I understand the reluctance of so many economists to studiously avoid the pervasive reality of fraud and what Minsky called ponzi-finance. Galbraith reported a while back that he attended a conference looking back at 2008 where the subject was never mentioned, and he raised it in a public question, and was greeted with silence.

Central banks are generally given considerable control over banking regulation, for what I would think are obvious reasons, although those reasons are clearly not obvious to academic macroeconomists, who rarely consider the role of banking regulation in monetary policy. Banks create money and credit, and the central bank cannot manage the money, unless it controls the banks. At the most basic level, a national Central Bank is managing the marketable national debt, which becomes a bedrock “zero-risk” reference point and source of hedging for all the deals, financial intermediaries do. In this sense, the national debt is a financial equivalent of a public utility. Economists speak of interest rate policy, but, in practice, the central bank uses the yield curve to induce recessions.

The U.S. Federal Reserve lost control of the U.S. marketable national debt in the late 1990s and early 2000s. Private players realized that China’s insatiable demand for U.S. sovereign debt at a time when the U.S. debt was actually shrinking, was creating a kind of arbitrage opportunity, to supply pseudo-sovereign-debt in the form of mortgage-backed securities. That became the foundation of all else.

Economics, especially macroeconomics, seems to me to be largely an exercise in obfuscation through abstraction. Even the “good guys” — people like Krugman, or DeLong or Mark Thoma, with whom I share general political sentiments — often seem determined to obscure more than they really explain, or understand.

Keynes was a very smart guy, but his Frankenstein is macroeconomics, a discipline which supplies poorly defined disembodied policy abstractions (fiscal stimulus — is it spending? taxes? purchases? transfers? is it a deficit?) where the national polity should be considering more basic economic questions, like how does the country develop and become wealthier and happier and manage a world of limited resources, etc.?

The U.S. has been on a macroeconomic course, which entails disinvestment, for a decade, maybe 30 years. That’s a seriously self-destructive path. But, macroeconomics doesn’t help us talk sensibly about it. At best, we can resurrect some slogans about rentiers from a century ago, to draw some attention to what matters. I would think it obvious in our era of peak oil and global warming and middle east wars, that oil matters a lot, and global resource contraints should figure in macroeconomic policy considerations, but you won’t often find Krugman admitting anything of the sort, when he confidently asserts that all we lack is aggregate demand (and the universal understanding of Keynesian ideas, as interpreted by Krugman). Autistic economics has a serious disassociation problem, and it conjoins with a poor sense of mechanism and an amoral unconcern with institutional probity, to create some major behavioral issues.

http://www.ianwelsh.net/burning-down-your-house-to-generate-heat/

might be worth reading on the general subject of “cashing out”. The Home ATM was only one instance of a general pattern.

It might be worth chiming in here that the “wealth effect” would actually be better termed the “domestic household dis-savings effect”, since high (inflated) asset prices encourage an increase in consumption expenditure without an increase in realized income, which is thus a lower savings rate. (In some quarters the household savings rate during the last cycle was 0 or even slightly negative and in the end it was annually averaging about 1%). But, of course, the U.S. has been running on the theory of an “asset-based economy” for quite some time now, with elaborated macro-economic theories forming its supporting techno-structure. It was clear to me from the get-go that the first-order effect of cutting taxes on the highest incomes and on unearned income from financial assets would be simply to bid up the prices of the extant stock of financial assets and would not necessarily incentivize increased real productive investment and productive efficiency, since there is a difference between money-capital and real capital and they don’t automatically and continuously convert into each other, while, after all, high financial asset prices are inversely proportional to their yield, which would have ambiguous effects on the level and composition of investment, given the price-signaling function financial assets are supposed to perform with respect to returns from real productive investment, as well as various contradictory effects on the level and composition of consumption demand. At any rate, a quasi-monetarist policy regime of regulating and stabilizing the macro-economy through central bank interest rate policy aimed at low inflation brought about steady dis-inflation, which at least implicitly amounted to a policy of regulating READ by propping up financial asset prices, while ignoring both rising over-all debt loads and rising and persistent CA deficits. (Those connections are just one “causal” pathway or channel by which I think that the Krugman/Quiggin thesis that a full employment economy could be achieved with a high degree of wealth and income equality based on producing luxury goods for the upper crust, “provided the upper crust would continue to consume sufficiently”, denying the thesis that the distribution of income between capital and labor, wages and profits, effects both the level and composition of READ, is misguided, since that amounts basically to consumption out of capital income rather than such income going for real re-investment, which implies lower real investment levels and higher domestic and external debt-loads. The factoid that U.S. GDP is 70% PCE is simply an artifact of of a decline of the investment component as a % of GDP during the last cycle in the noughties, when corps. net saved 1.5% of GDP, as opposed to net dis-savings averaging 1.7% of GDP during the previous 40 years, as per Yves Smith). So we’ve reached the end of a long cycle, in which dis-inflation threatens to turn into debt-deflation, and we get in the main the contradictory policy response of attempting to restore the status quo ante, through reflating asset prices with extraordinary monetary policy, while imposing fiscal austerity.

I think I’ve mentioned this before on CT, but a commenter at Mark Thoma’s site, kharris, who is apparently an econ pro, once compared what has happened to the U.S. to the “Dutch disease”, to which I responded, yes, but natural resources are a real and valuable productive factor, whereas the implied land-rents of housing lots are not.

You know, I think you are more right than Brad on this issue, but I’m not going to give any credit to Dsquared. Because the problem with the banks was not that they encouraged the issuance of a bunch of fraudulent mortgages and then rebundled them in a bunch of fraudulently risk-assessed securities (although the fact that they did this was wrong). It’s because the banks have eaten up all the growth in the economy over the last decade. As a whole, the US economy grew more productive/capita from 2000-2008. But excluding the bankers, we all got poorer. Our vulnerability to this recession was driven by the reduction in median earner wages that was caused by the banker (and also CEO) class successfully increasing their level of rent-seeking. So I do fault the banks for this recession, just not for Brad’s reason. Dsquared seems to be currently in denial of this fact. Probably because he is a banker and is friends with them and the idea that his industry needs to be downsized is unpalatable to him. It’s a normal human reaction.

That being said, I completely disagree with Wilder’s take on the macroeconomics. His timing on the commodities price spike and monetary easing is misleading at best. My personal view is that with the US at full employment and Europe doing only slightly better, oil will have to be priced at ~$150/barrel because there is simply not enough supply. The US economy can easily survive that price as long as the fed does not interpret that price spike as ‘inflation’. The reduction in quality of living it would imply would be small compared to reduction we’ve seen from 2007 to today (for the median american). The whole intellectual project relating inflation to monetary policy does not properly deal with extremely important commodities that experience a hard supply limit which we have with oil.

@Omega Centauri, 38. See, this is all very confusing to me. You read good economists, and there it’s all about stimulus – we need more stimulus, not enough stimulus – as opposed to bad economists, where it’s all about tax cuts and deregulation. Yes, we had tax cuts and deregulation – and it all crashed and burned. But we also had a tremendous stimulus, in the form of housing bubble, and it all crashed and burned.

I’m getting the impression that, under the circumstances, stimulus is just as much bullshit as tax cuts and deregulation. That there are severe structural problems, to such an extent that agitating for stimulus is silly. Chicken soup helps against the cold, but when what you have is gangrene, treating you with chicken soup is going to kill you; what you need is to have your damn leg amputated. Of course I’m not an economist, so this is just my intuition.

I disagree about the agenda. I don’t need any specific agenda to see that the place is FUBAR, and to suspect that stimulus is not going to fix it, any more than deregulation.

So, assuming for the sake of argument that my intuition here is correct, you want to put this thing on life support, to postpone the final collapse. Fair enough. It’s just a bit surprising to see so much passion and enthusiasm for a big stimulus. It’s as if they feel it’s a panacea.

mpowell @ 39: “I completely disagree with Wilder’s take on the macroeconomics.”

That’s unfortunate, for your thesis as well as mine. Your thesis: . . . the problem with the banks[:] . . . the banks have eaten up all the growth in the economy over the last decade. deserves some kind of underlying analysis of mechanisms. Otherwise, what’s to be done? My macroeconomics (not original with me, of course) says that the foundation of financialization lies in the recycling of petrodollars: using exports of U.S. debt (instead of U.S. manufactured goods) to pay for oil, with an important metastasis in response to the coincidence of Clinton’s balancing of the budget, “strong dollar” policy, and financial reforms . . . and, oh yeah, the 1997 Asian financial crisis. Some U.S. banks and financial institutions took over the job of supplying debt to the Chinese currency peg, extending the export of debt to pay for oil to the export of debt to pay for manufactured consumer goods. That financial tilt made investment in Chinese manufacturing virtually risk-free and, hence, wildly profitbable, while making U.S. manufacturing into a victim of disinvestment; Manhatten boomed, while Michigan and Ohio became rustbowls — manufacturing wages fell beneath the average U.S. wage. Making and exporting mortagage-backed financial securities became a growth industry, that drove the housing bubble.

Your objection to my connecting the commodity price explosion with Bernanke’s policy of providing prophylactic liquidity seems like it could be only a minor quibble, due in part, perhaps, to my failing to sufficiently emphasize that the world had to be pretty close to its global resource ceiling, for the hazard of easy money to take this particular dramatic form.

I think the U.S., as a matter of policy ought to price oil at around $150/barrel, adding carbon taxes as needed to maintain a high price, because I think the U.S. policy of exporting financial securities to oil sultans, who accumulate sovereign wealth funds, which bid up asset prices, is a self-destructive course, made even more obviously self-destructive in light of the prospects for climate change due to fossil fuel consumption. If the price of carbon fuels was sustained at high level, the U.S. would move away from fossil fuel dependence.

TW@44

Bernanke can “print money”*; he cannot print oil, he cannot print any actual good. This can become a problem, when debt creation is not matched by investment in a corresponding capacity to derive income from the increased production of goods. In this respect, “quantitative easing” can become just as untethered and uncontrolled as a housing bubble.

The “really big problem” with the stimulus is that it was not aimed at changing any of the structural problems in the economy: the most obvious and natural target, (even in the absence of some definitive, consensus diagnosis of our macroeconomic problems) would seem to be the increasingly decrepit state of public infrastructure. But, all sorts of excuses immediately surfaced for not doing much infrastructure investment.

I would say that one of the most remarkable aspects of U.S. macroeconomic policy is how obscurantist it is.

The thing about “quantitative easing” is no one can explain, easily and exactly, what it is.

Macroeconomics, as an intellectual project, is designed to be obscurantist, in that it is designed to abstract away from the particular and the structural. There might be situations in which that would be politically useful, in that, maybe, people could agree on, say, “a stimulus”, which was all things to all people. To some extent, I think Obama tries to take political advantage of such ambiguities, and did so, with the content of his 2009 stimuls plan. But, in our politics, it just adds to the pathology, as an elite can direct an economic policy, without effective or meaningful criticism. A Larry Summers might be following his own lights, or those of his paymasters on Wall Street; we’d never know, because the language to explain his actual purposes and constraints is not part of the vocabulary of Econ 101, let alone the popular political discouse.

Did Summers limit the size of the stimulus and devalue infrastructure spending out of sheer incompetence or was he trying to avoid bumping up against the global resource ceiling? It is possible that the elite consensus is that growth and employment in the U.S. should be sacrificed to keep the more profitable party going in the BRIC (Brazil, Russia, India, China), but conveniently, that truth — if it is the truth — can only be communicated to the 99% through de-legitimized channels. It cannot be communicated in the authoritative voice of mainstream macro, because mainstream macro doesn’t take such concrete, structural factors into explicit consideration. “Structural” in orthodox, mainstream macroeconomics is code for “not our responsibility, not our department, nothing we can do, nothing we should do”. When the structural does manifest, macroeconomists treat it as mysterious or a shocking surprise, like the residents of Flatland encountering the third dimension. Bernanke, when he could no longer completely ignore the enormous imbalances in financial and trade balances driven by the Chinese currency peg, gave speeches waxing philosophic over the mysteries of the “global savings glut”; when the collapse of Lehman finally seemed to trigger financial panic, Bernanke was Chicken Little, but Chicken Little, demanding unlimited authority and resisting all accountability.

The collective ignorance and stupidity, which is mainstream macroeconomics, is not politically healthy. It doesn’t help us to hold politicians accountable. It doesn’t help us define alternatives or differences of interest, or arrive at collective choices. It doesn’t help us solve problems. It doesn’t help us understand what we’re doing or what is happening. It has gone from being a dirty window, to a blanket thrown over every window.

Henri Vieuxtemps: it’s misleading to refer to the housing bubble as a Keynesian ‘stimulus’. A stimulus actually improves the balance sheet of the non-govt sector (thus ‘worsening’ the balance sheet of the govt sector), and so contrasts with a credit bubble which initially appears to improve private sector balance sheets but ultimately leaves household balance sheets worse than they started.

Quantitative Easing does not effect balance sheet repair, but merely exchanges one quite liquid asset for a slightly more liquid one (which yields lower interest).

By MMT, dsquared’s thesis looks a slam dunk. I know most people here are pretty hostile to MMT, but isn’t it now uncontroversial that Sector Financial Balances provides a healthy sense-check when analysing any macroeconomic scenario?

“that one of the reasons European sovereigns are in trouble is because they stepped in to save European banks after the US-triggered crisis in 2008.”

You’re working that “one of the reasons” thing really hard. And of course it was in fact the US bank and AIG bailout which saved the European banks if you want to bother being accurate. And saying that if the EU doesn’t get its act together on Greece or else they will push the whole world’s economy right back down isn’t letting US stupidity off the hook, nor is it blame transfer, it is a simple statement of fact. You don’t need to get all whiney about it.

It is a fact that the Greek problem was not caused by the US. It is a fact that the European banks which were most exposed in the US housing crisis were exposed because they were complicit in it and the other shady crap going on around it. It is a fact that their asses were saved by the US bailouts, especially of AIG. It is a fact that they are deeply involved in the garbage surrounding Greece, and Ireland, and Italy, and that none of that is the fault of the US either. (Except insofar as Goldman’s is involved, which I will grant you a full measure of).

This isn’t a US vs. Europe thing anyway. This is the bankers have been fucking us and continue to fuck us issue. That is the very thing that Daniel and apparently Brian wish to deny. And it is ridiculous. There are way too many bank-related disasters here for us not to realize that lots of it is deeply bank-related.

@52 Henri – well yes, except the govt doesn’t need to pay off debt.

Paying off govt debt in nominal terms is probably ill-advised. The US govt has only actually reduced the federal debt on 7 or so occasions since c. 1820, all promptly followed by sharp GDP downturns (which may or may not be correctly interpreted as the govt forcing the private sector to rely more heavily on its own credit creation for growth than the low-level fiscal stimulus which is provided during most years).

Govt debt can keep on increasing, as long as debt/GDP isn’t taking an asymptotic trend – but this proviso is more about managing the interest rate down below the NGDP growth rate than anything else.

Anders: “A stimulus actually improves the balance sheet of the non-govt sector ”
HV @52: “whether . . . borrowing against your fictional house value, or by the government borrowing and sending you checks – what’s the difference? In the end, you still have to pay the debt.”
Anders @ 53: “. . . the govt doesn’t need to pay off debt”
Dirk @ 54: “Everybody repays debt (saves), nobody invests.”

I don’t carry a brief for MMT, but there are a couple of things I have grown to appreciate about its operationalization of macroeconomic policy. Mainstream macro, with its representative agent models and DSGE, isn’t just abstract, it is deeply unrealistic and apparently unconcerned about the role of money and finance in the macro-economy. MMT, in contrast, seems to zero in on the role of bank-created credit, or inside money, in driving the business cycle.

Although we often talk as if spending money uses it up, in ordinary transactions, money, like physical energy or matter, is neither created nor destroyed. Many economists reason as if this were true in debt creation as well; ultimate investors borrow from ultimate savers, with the latter foregoing spending to enable the spending of the former; when debt is repaid, it is thought to have no “real” effects on anything except, perhaps, the distribution of wealth or income — whatever consumption debtors forego to repay their debts ought to be offset as creditor income increases.

The activities of financial intermediaries in borrowing short and lending long create credit. This sort of inside money leveraging creates not wealth, per se (imaginary or otherwise), but, in common sense meaning of the term, creates money. If I decide to quit my job, and launch myself as an independent consultant, I might go to a bank, mortgage my house for a loan, to finance the working capital of my new consultancy. There’s no ultimate borrower or ultimate investor involved — I am, in effect, both; but, there is more money, as the money the bank has loaned me is now a part of its deposit base, and its deposit base is a part of the money supply. Even if spend down my deposit balance a bit, the spending just becomes the income of some other business, which is keeping the circulating money deposited in the banking system.

I don’t know if this a genuine marker for MMT theorizing about the macroeconomy, but it seems as if their general presumption is that increasing inside-money debt expands the money supply and adds to aggregate demand. In that sense, there would seem to be exactly the kind of analogy HV posits, to fiscal stimulus accomodated by monetary policy, in that expanding inside money, financializing assets or real service streams, adds to aggregate demand. And, conversely, deleveraging inside money debt, subtracts from aggregate demand.

Dirk, the housing bubble injected what – $8 trillion into the system? People, the metaphor goes, were using their houses as an ATM. To buy stuff. If that’s not ‘stimulus’, then I don’t know what is. Plus two wars, to the extent of a couple of more trillion dollars.

Anders, forget debt for a second. It was going on for years, many years, before the crash. My problem is that this huge stimulus hadn’t produced a boom, self-sustained economy, full employment, anything like that. What gives?

Henri, I think it is just a question of vocabulary. As an economist, stimulus for me means that the government expands spending. In a looser way, I might also include tax cuts (if you insist). These would generate injections of the money that you wrote about. I agree.

However, economic processes are self-sustaining and there is a lot of cumulative causation. You might call a Chinese real estate ‘bubble’ in 2012, built on high growth rates today and expectations of continuation of such rates. You then would explain the expansion of a stimulated system by stimulus. As I see it, it doesn’t add much in way of explaining the problem. You are mixing changes in regulation, fiscal and monetary policies together, but does this aggregate make sense? Maybe you could explain what is not a stimulus?

You wrote: “My problem is that this huge stimulus hadn’t produced a boom, self-sustained economy, full employment, anything like that. What gives?”

I am not aware of any economic theory that says a huge stimulus leads to all these things. Certainly, the dot-com crash did not do it, and there is the savings&loans crisis from not so long ago, which was the result of stimulus by deregulation. Economists, even neo-classical ones, accept the existance of business cycles. Abolishing them is the holy grail of a part of the discipline, but so far the only way mainstream economists have succeeded is through using models that assume they don’t exist (RBC, DSGE, …). The other part of the discipline is trying to abolish the slumps.

You seem suspicious of stimulus in general

I’m sure stimulus is fine under some circumstances. But if, for example (hypothetically), 100% of the demand generated is satisfied by imports, stuff produced abroad, and the surplus abroad isn’t buying any domestic goods or services – how does it help?

@Anders: I get it now.

@Henri: It doesn’t do any good in the real economy in the US, under the (hypothetical and extreme) scenario you provided. It provides a 100% spillover for foreign demand. On the financial side, things will get even worse as more money flows into the capital market which has been plagued by low yields already. The ROW improves its balance sheet and might grow as well, given today’s global slump.

@Henri “if, for example (hypothetically), 100% of the demand generated is satisfied by imports, stuff produced abroad, and the surplus abroad isn’t buying any domestic goods or services – how does it help?”

First – if we have a continued current account deficit, this means that by definition the surplus abroad is not buying any of our goods or services.

To your main point, adding to Dirk’s comment, does an element of foreign leakage undermine the case for stimulus? Absolutely. But it’s a question of degree.

Imagine the starting flows balances are: govt deficit 8%, RoW surplus (ie current account deficit) 2%, and domestic private sector 6%. A 2% fiscal stimulus, taking the budget deficit to 10%, should rightly be evaluated on what it will do to the other two balances. If the new private sector surplus will still be 6% and the current account will worsen to 4%, there is much less case for stimulus.

Conversely, if someone is making the case (as I would) for a bigger rather than a smaller budget deficit, they need to maintain that the other difference between a bigger and a smaller deficit is not getting entirely (or mainly) offset by a movement in the current account (ie the foreign sector balance).

Looking at data for the UK, the 7% point swing between 2007 and now in the budget deficit has been offset by 6% points of private sector retrenchment and 1% point of current account worsening (the latter being mainly commodities driven).

Again, the only argument against fiscal stimulus per se should be that it is inflationary – because the govt is competing with private sector demand for goods and services.

@Bruce

If we regard stimulus as something which accommodates an increased domestic private sector propensity to run a surplus, then yes – policy ought to explore how far the current account can help accommodate this, complementing the govt sector (as opposed to partially offsetting the benefit of a fiscal stimulus).

The trouble with expecting too much from the current account is that it’s very difficult to manage. Broadly, over-valued currencies should expect to see current account deficits; given that most countries are trying competitive devaluation in order to improve their current accounts, it is difficult for any country to hope for a target of, say, a 2% improvement in the current account balance from a simple devaluation alone. So this leaves the only area for policy focus as the price elasticities of imports and exports. I’m not an economist but I would imagine that these would typically take decades to address.

The US of course has an additional current account constraint. Unless there is a considerable change to the international currency system, the USD will remain the reserve ccy for the forseeable future which means the US is likely to continue to be forced to run current account deficits.

I’m most amazed by how little focus you hear about the long-standing domestic disinvestment in most western countries. I’ve no idea why this doesn’t get more attention.

@john c. halasz – I had assumed that the dominant interests you cite would actually be interested in nominal GDP growth. Sure, GDP growth lowers unemployment, which seems likely to reduce income inequality, which would be a bad thing for such interests; but the growth alone ought to be a good thing, and this class can always maintain myriad barriers to protect its privileged position.

But perhaps you are right: the evidence certainly suggests that economies are being run in such a way as to foster a persistent output gap rather than grow nominal GDP. In other words, the powers that be don’t seem to care about the interests of equity investors.

Naked Capitalism points to quite a sharply critical article in the New York Times today, which exposes this pattern in microcosm:
http://www.nytimes.com/2011/10/24/business/media/why-not-occupy-newsrooms.html
(That is the perma-link)
Disinvestment can be highly remunerative for those in charge, even while it deeply damages even the soft capital of professions and related institutions.

@ john c. halasz – your account is intriguing but your exposition (here and elsewhere) is compressed. I gather you don’t write a blog yourself; can you direct me to a step-by-step analysis somewhere that sets out your thesis? I work in the FIRE sector and struggle to follow this.

In particular:
– surely an economic policy which fostered NGDP growth would boost the values of equity assets, and would lower default rates for debt assets – so why wouldn’t this sort of approach have evolved, instead of one which purely benefits fixed income investors
– “diminishing the taxing powers and fiscal “space” of governments” – I take your point about MNCs playing of govts internationally, but based on the classic Kaldorian equation, profit is boosted by budget deficits. Given a balanced budget, to make the same level of profit, capitalists need households to go into greater debt, which quickly becomes destabilising (ie 2000s). So I would have expected all govts to be pushed into running budget deficits
– “arbitraging differential FX values” doesn’t seem an intuitive explanation of rent capture

In general, an important disagreement of the age (and one which may well be the nub of the clash between MMT and sophisticated non-MMTers) is whether inflation can be managed by fiscal policy. If you can get comfortable with taxes keeping a lid on inflation, then you can get comfortable with any level of sovereign debt or deficits you like. (Interestingly, the US and UK may be heading towards the model of Japan, which means that like it or not there will be no monetary ‘space’ to manage inflation with interest rates any more, which will force people to start using fiscal policy again!) But I struggle to see how the mainstream preference for monetary policy over fiscal stems from political economy considerations, aka the FIRE sector or MNCs.

What’s READ?

What are the modifiers, “real” and “effective” meant to distinguish, separately and in combination?

Is “real” contra-distinct to nominal amounts — an attempt to filter out the effect of price changes? Do you think that’s appropriate in the context? And, how does that work with “effective”?

Spian: I’m not an expert but I do live there.
Thre was an undoubted housing and housing construction bubble. In the peak year (2007 I think) there were 700,000 housing unit starts in Spain, a country with no natural growth in population, more (I’ve read) than in Britain, France and Germany combined. This overbuild was all over the place, not just in the Costas where the expats like me go to moulder in the sun. The most reckless banks were the regional Caixas, treated as fiefs by regional politicians, who also failed to stop local mayors from making a corrupt bonfire of planning controls. (One of the Caixas most recently nationalised was in Galicia, a rainy place where no expats go.)
The weakness of governance wasn’t really one of national economic policy, which was fiscally conservative and prudent, but a tragedy of over-decentralisation. It will therefore be very hard to fix structurally, and I doubt if the PP when it takes power will want to change things.

Anders @80:

Well, this is too large and complex a topic to be fully addressed in subaltern blog comments.

But I’m well aware that the “N.” stands for “net” and that gross flows are mind-bogglingly greater. Global GDP might be, say, $60 trillion with maybe a quarter of that involved in international trade, but FX markets notionally swap $1 quadrillion annually. I don’t know the exact U.K. profile, except that its economy is even more dominated by Hi-Fi as its “comparative advantage” than the U.S. and like the U.S. it has long been experiencing industrial dis-investment. That 20-25% depreciation of GBP is no doubt the cause of the swing in its N.I.I.P, but the depreciation was due to the financial crisis, whereas ordinarily FX effects are not the largest determinant of changes in external debt. And, sorry, counting on Mr. Market to “automatically” correct these matters is a bit of a stretch, (complicated in the U.S. case by reserve currency status), since the main theories of long-run FX equilibrium have no real predictive value, with short-run flows swamping any proposed equilibrium mechanism. I recall a discussion of an econ paper several years ago to the effect that the FX “carry trade” should not be possible because it would equally distribute profits and losses and unpredictably so, yet the carry trade seemed to be quasi-permanently profitable. The implication is that the carry trade “works” by driving FX values further off their “equilibrium” levels. Japan adopted ZIRP for domestic policy reasons, but the fact that it also instigated a Yen carry trade, which drove the Yen down, could not have been unwelcome to Japanese policy-makers, which is why they were often criticized as “selfish”. (Japan BTW has a net external surplus of $3 trillion, maybe 70% of GDP, which might help to explain the curious profile of that economy, with very high public debt and very low interest rates). At any rate, current accounts accumulate as external accounts and its a factor that receives little apparent comment or attention…until it’s too late. The 2008 U.S. N.I.I.P stood at $3.4 trillion and I can’t help but wonder when and if all those vapor-bucks might re-materialize, “when tears come down/ like falling rain”…

Defining economic rents, let alone operatively identifying them, is a tricky issue. For now, I would define them as profits that have been detached and displaced from underlying costs-of-production, such that those costs are borne elsewhere and by others. There are, of course, land and natural resource rents, a well known case. RE bubbles are due to an excess of credit provision inflating implied land rents, which is an endemic problem, since lending is secured by collateral and RE in generally the largest class of such collateral. It’s called the FIRE sector for good reason. But there are also productive rather than unproductive rents. Modern economies are dominated by large-scale, capital-intensive oligopolies, which tend to be price-makers, not price-takers, and enjoy large rents from market-dominant positions. But that’s an ambivalent phenomenon, since those rents are partly “justified” by a) the fact that the technical efficiency of large-scale capital-intensive production reduces unit output costs far more than any market competition between smaller firms ever could, and b) those rents serve to incentivize and compensate for the difficulties of managing high-cost, fixed, long-run capital investment under endemic uncertainty. (It takes at least 4 years to build an oil refinery, for example, and 20 years to amortize the cost). So such corporations follow investment strategies aimed at locking-in such long-term rents rather than just short-run optimization or maximalization of profits and production. (This is Bruce Wilder’s constant theme with variations in criticizing mainstream economics, and he’s no Marxist, but a left-liberal MBA with Keynesian leanings, speaking from practical experience in industry). To give an entirely domestic example, 30% of the U.S. cattle herd is owned by the meat-packing corps. themselves-, (there are now 4 dominant firms). That way, when cattle prices rise, they can cull from their own herds to drive them back down, and when cattle prices are low, they can re-stock their herds. Are the margins of ranchers and feed-lot operators being sorely squeezed? Judging by their complaints, you betcha. Are the lower prices being passed on to consumers, as the so-called consumers’ surplus.? I highly doubt it.

MNC production platforming of globalized supply chains, (Jack Welch’s “factory on a barge”), is a highly lucrative strategy for stove-piping such rents to the top. And, of course, the high financing costs for build-outs and acquisitions, as well as, the need for hedges to manage such complex, far-flung operations, means that MNCs are joined at the hip with Wall St. Hi-Fi. In the old “Fordist” era of domestic mass production oligopolies, semi-skilled mass production workers eventually managed to organize a gain a share in those oligopoly rents, which effected wages across the board in the domestic economy, with concomitant effects on sustaining READ. But a combination of technological developments and globalized “free trade” and most of all their synergy in the hands of corporate investment strategies has eliminated such concentrated mass employment and thus the capacity of labor to share in those rents and sustain a relatively high wage-structure as % of GDP. And the flattening of earned labor income, wages and salaries, and its decreasing share in GDP has effected domestic READ, since earned labor income is not just a production cost, but a prime source of READ. Nowadays the emblematic corporation would be Walmart, which paradoxically has built up a hugely dominant position in the highly competitive, low-margin retail sector. The solution to that puzzle is that it has converted its monopsony position to squeeze cost reductions out of it suppliers, and thus, though organizing its global supply chains in depth, amounts to an entriely virtual industrial oligopoly.

And then there are the rents accruing to Hi-Fi itself, through its crucial role in the (mis-)allocation of capital and credit. In the last cycle, FIRE accounted for 30% and at its peak 40% of all U.S. corporate profits. Let’s just say it’s highly doubtful that these are “productive” rents, and they draw into question the classic economic thesis that the equalization of the rate-of-profit across firms and sectors will optimally allocate capital and thereby optimize efficiency and output. A main goal or target of neo-liberalism is the privatization of public assets and infrastructure, (indeed, of the very public sphere itself). To give just one example, Obama’s proposed infrastructure bank, which ostensibly gets around tightly constrained public fiscal “space” by “partnering” with private financial investors, (who have clearly communicated to him, as his donor base, the availability and readiness of such funding), would only have the effect of raising the financing costs of infrastructure spending by 200-300 bps. as compared to financing through gov. bond issues. (I won’t even get into the hilarious Chicago parking-meter deal). Public investment in public goods is supposed to have a “loss-leader” effect in improving the overall productive efficiency of the economy, which investment can then be recouped through higher future tax revenues. By privatizing such infrastructure, a “toll booth” economy of financialized rent extractions is constructed, which impairs overall productive efficiency, not to mention leading to a dereliction of public functions, such as, e.g., optimizing the flow of traffic and transport.

I don’t focus here on Ginis, since, aside from the fact that its a very crude and variable measure, it’s part of the explanandum, not the explicans. The topic being addressed is why severely sub-optimal economic policy regimes are adopted or imposed, despite the apparently availability of much better policy knowledge, and what are the causal and behavioral factors and structural interests that lead to such outcomes. And I don’t understand still your point in dividing investors into just two slots, fixed income vs. equity, which strikes me as far too simple. Rather there is a broad diversity of investors, with different “portfolio preferences” in various “asset classes”, though its mostly only the wealthiest and largest such investors that proportionally count. And there are myriad interconnections between credit and equity markets. (“We” have discussed elsewhere the role of debt-financed stock buy-outs in boosting share prices, while increasing the “operating leverage” of companies, thereby diminishing the long-term investment horizons and capacities, another example of a financialized rent extraction by insiders, extracting existing “value” at the expense of the creation of increased future value). Besides which there are all sorts of devices, from managing portfolio duration to IR swaps, by which bond investors can deal with inflation and IR risks. The more interesting question is which investors get to be the stuffees, when Hi-Fi credit is created solely for the purpose of complicated schemes of short-term financial rent-extractions.

@82:

Elsewhere and some years back, “we” discussed whether what I here termed “productive rents” shouldn’t rather be called “quasi-rents”. “Economic rents” are so called because the concept goes back to Ricardo’s analysis of land rents, which was a easy case, since it was obvious that incumbent landlords made no contribution to the costs-of-production. (Incidentally, if you put together Ricardo’s theory of rents with his theory of the inversely proportional distribution of the surplus product between profits and wages, you easily get his theory of comparative advantage. That theory has a sound conceptual logic, but it was also an advocacy of a specific class interest, that of industrial capitalists, in a specific historical conjuncture). Standard neo-classical theory recognizes the notion of “monopoly rents” and that of “imperfect competition”, though I don’t think they get many of the implications, nor the prevalences right, since they focus on a theory of nominal price formation through competitive markets rather than on the structure of production, which has constraints and dynamics of its own, not reducible to market exchanges. For example, for a number of reasons, oligopolies maintain excess capacity, and by far the largest component of their cost structure is fixed long-run capital investment, with labor and materials a much smaller share; hence the more that they produce and can sell, the lower their average unit cost, such that they would always like to sell more, if they could. Such firms tend to price-gouge,- (though not Walmart!),- but they will also price-discriminate, and higher profits and lower prices are not necessarily at odds. Which also works in reverse. If there is a sudden sharp drop-off in demand, average unit costs will sharply rise, so the response can’t be to cut prices, as neo-classical price/quantity equilibrium adjustment would suppose. That is why one of the first “spontaneous” responses to the Great Depression in Germany and America, under Bruening and Hoover, were attempts at cartelization.

But I think the example I offered of the U.S. beef industry was a clear enough illustration of detached and displaced costs-of-production. The point is there are myriad such strategies aimed at locking-in “productive” quasi-rents. But identifying them requires close attention to the details of business practices and technologies and to specific market and organizational structures and their interactions. However economic theory operates generally at such a level of abstraction the prevalence of these issues mostly flies under the radar. MNC global production platforming and its arbitrage of FX differentials, etc. is just a large and predominant set of such cases. (One third of international trade is actually infra-corporate transfers of MNCs; probably another large chunk is indirectly associated with their activities. But, of course, standard models of international trade don’t include MNCs in their modelling, just a DSGE models aimed at calibrating monetary policy don’t include banks).

@84:

Obviously, “productive” quasi-rents can’t be commanded into existence in advance! Oligopolies evolve emergently through competitive shake-out, as firms that achieve sufficient scale drive out or buy up competitors. Historically, most all industrial markets developed oligopolistic structures, with 3-7 dominant firms enjoying 90% combined market share and 100 firms occupying niche positions in the “tail”. Once such market-dominant firms attain such positions, they will invest strategically to try and maintain their incumbency and their rents will permit them to attempt to do so.
So, yes, there is a bit of an after-the-fact aspect to the analysis and identification of such quasi-rents, But remember the conditions: high up-front fixed capital costs, fairly lengthy lead-times to build capacity and a long duration to fully recoup the investment, through many business cycles with varying READ conditions, and lots of contingencies with respect to changing technical conditions, markets, and socio-political events. Hence there is no simple probability calculation ex ante in the face of such endemic uncertainty, but rather a speculative dimension without perfect foresight in the face of such a high “hurdle rate”. Hence such investments will largely be made in strategic anticipation of possible quasi-rent lock-ins. Of course, investments can fail just as well as succeed, but what counts is that profits exceed losses in aggregate, and the enjoyment of “productive” quasi-rents renders such risks more tolerable. And, of course, such quasi-rents can erode over time: e.g. GM,- (but note that the various GM “brands” were once independent competitors). But declining oligopolies generally don’t give way to newly competitive markets, but rather to new oligopolies. And new oligopolies can spring up with technical change and the development of entirely new markets. (Consider the extreme rapidity, by historical standards, with which they have formed in the IT/telecom sector, due not to increasing returns to scale, but rather increasing returns due to the need for technical standards and interoperability, network effects, and IP protections).

But my argument here has not been about the existence of such quasi-rents, which I take to be realistically a pervasive fact structuring much of modern economic life, but rather about how such corporate quasi-rents have gradually come to be restructured in the post-Bretton Woods era, with its floating FX rates, free flows of global finance capital, increased competition and consolidation between formerly national or regional incumbents, and weakening of governmental policy and regulatory “autonomy”. And that to begin to address the political-economy conundrum of why, in this penultimate crisis of “neo-liberalism”, the worst, most- self-undermining policy regimes are being followed or imposed, despite much better possible policy alternatives, to the detriment of standard claims about optimal social welfare. Cui bono?

TW @ 82 & 84

The significance of economic rent doesn’t emerge in platonic neoclassical world, because the neoclassical model is one of complete information and perfect rationality, tending toward stasis. There’s almost nothing that could be recognized as strategic behavior; there’s no genuine uncertainty, little point to insurance, and control of production processes is just assumed to be perfect.

In a world of genuine uncertainty, a factor earning a large economic rent can become a basis for organizing and structuring economic activity, and particularly the economic activity of controlling production processes. A large economic rent is a large margin or cushion against variation in results large enough to force re-allocation of the factor. As such, it becomes the focus for organizing the structure of the economy, and particularly for organizing loci of control, where the residual returns from control are income to the factor.

In the unconstrained world of the neoclassical model, the concept of “economic rent” does seem ambiguous and ill-defined. In a world of genuine uncertainty and unexpected results, though, the profit-maximization of the neoclassical model is also undefined. In a world of genuine uncertainty, there can never be unconstrained maximization of anything; all decision-making requires attenuation of information and strategic choice of constraints against which to “optimize”. In the presence of particular contraints, and genuine uncertainty, then, rent-seeking becomes a very good explanatory strategy for how people will organize their economic behavior. It says people will try to use the limited knowledge they have to control economic (production) processes, to economize on error and waste, and they will orient that control so that the residual returns to control flow to factors earning a large economic rent, as a source of risk-attenuation enhancing the stability of their arrangements.

In the neoclassical model, the firm is just proportioning input to output, because it is assumed that the production process is perfectly controlled: output is function of input. Output is not a function of input in an uncertain world, where mistakes are made, and the same set of inputs could result in any of a vast range of outputs, depending on how much waste occurred, due to poor technical control or management of process.

In an uncertain world, transactions are not simple exchanges, but imply contingent and/or incomplete contracts, in which credibility and the ability to absorb risk are critical. Control of large economic rents becomes a source of power to make committments, to absorb risk and maintain a structure and organization to production and distribution.

The use of bureaucracies by business corporations is dependent on the ability of the corporation to earn large rents. The contingent contract for employment, which at its core reads, “do as instructed or you’re fired”, only works if being fired is a genuine loss. The same is true, of economic regulatory models premised on licensing; the license has to be worth something — has to confer rent — if losing it is to be a penalty.

BW @86 – Yes, see #82: there are problems involved in properly formulating and evaluating the counterfactuals involved – these problems being centred around the q. what is to be held constant (suppose there are two bidders, Mervin and Pervez, each valuing my toenail clippings at $2000. Then if I sell them to Mervin, the two grand I take off the poor demented loon is not a rent, since I have foregone $2000 from Pervez, and this heavy opp’ty cost eats up all my surplus).

the general intuition that rents could and should be heavily taxed – the ‘could’ bit, at least, can of course be supported by the idea that in some sense, confiscating rents cannot cause any market distortion since rents are by definition motivationally inert. This corresponds to the ‘consequentialist’ side of justifications of Teh Market: optimising, invisible hand, incentives, all that. David Gauthier suggests rents may be taxed on this kind of ground, in his otherwise pretty anti-egalitarian Morals by Agreement.

Meanwhile, corresponding to the deontological, entitlement, side of market apologetics – is the idea that rents are not earned – where earning is a matter of sacrifice; of giving something up, whether effort or some other good in exchange. This is one area in which those counterfactuals come in, because it starts to look on this kind of view as though one never actually earns any improvement in one’s condition (an improvement is always a surplus) – and given that there is no obvious a priori baseline defining one’s ‘initial’, unimproved condition, it looks rather as though all entitlement is unearned and thus prima facie liable to be taxed.

Given that it doesn’t ‘belong’ to them as ‘earnings’ in such a way that redistributing it must be deemed to involve the dreaded Pareto-inferiority (actually, incommensurability; but anyway not P-superiority nor P-equivalence), taxing and redistributing it – possibly back to the person from whom it was taxed – dominates the strategy of not taxing it (not reserving the right of the rex publica to tax it).

This is in effect to take the neoclassical idea of perfect rent-eliminating competition, supposedly a noble wise and good standard, and to use it against those who normally tend to rely on it by first taking it to its logical conclusion – that realistically speaking, anything that is worth doing is worth doing because it provides a surplus, i.e. a rent, and then pressing hard on the two pronged point that there is no good reason not to hold all such rents to be liable to ‘redistribution’ – indeed, that since they’re unearned, their allocation to others is not, normatively speaking, a redistribution at all.

jch @85 – there is no simple probability calculation ex ante in the face of such endemic uncertainty – yup, understood – I was doing a bit of the old metaphorical modelling, neoclassical style.

I think the general point stands, though. Positive quasi-rents ought to tend to be balanced by negative ones – if the (purely notional) cost-benefit calcs are to turn out to have been done in the right way. I don’t consider the distinction between uncertainty and risk to be an obstacle – uncertainty not in the end being different in kind from risk – unless by risk we really do mean only calculations within situations, like games of chance, contrived so as to causally underwrite a particular application of the principle of indifference).

The general point, in this stylised sense, stands – I’m just not sure what conclusion to draw from it.

Perhaps the following update in response to Bruce will help…

BW @87 – All this sounds quite correct – the issue is I suppose that it doesn’t seem to provide a reason why these large rewards/surpluses/whatever should be called ‘rent’ at all. In essence I can envisage (not much of a one for syntactical math. symbolism – I want to ‘get it’ in a quasi-visual way) two ways of looking at the mechanism whereby the negative side of the canvassed symmetry is eliminated.

One is irrecoverability due to limited liability (and of course even fleshly persons can take on obligations which become impossible for them to satisfy), so that the payoffs resemble the crenellated profile of a sine wave with the lower half truncated. A kind of weak anthropic principle – if the payoff goes negative, there is no entity left to be bothered about it. This is presumably not very realistic in terms of actual peoples’ motivations – however the closely related ‘in the medium term we’ve all retired’ concept is. I digress.

The second way this lack of symmetry can be pictured is as the whole waveform (representing the future stream of payoffs subject to all the vicissitudes of time and chance, which as any fule no, happeneth to them all) being shifted upwards a bit so as to fall within an acceptable range. now the thing is the issue of what defines the axis about which such symettricality can be measured, or what fixes the frame of reference relative to which the wave is shifting.

If it is to do with rents, then – I boldly assert – it is to do with expectations and minimal motivation. But this leaves the initial problem, paradox, antinomy, what have you – of #82: that if the stream of fluctuating and somewhat, but of course not utterly, unpredictable outcomes that in fact eventuates does so only in bare satisfaction of the expectations which were barely sufficient to motivate the action that originated them (deep breath) then it is not right to call them rents at all – the peaks are merely fluctuations in an underlying trend of zero-surplus returns.

Conversely, since we don’t suppose that there is just a constant coincidence of things working out nicely, if the actual stream of outcomes does reflect something we can properly call a rent – i.e. an outcome that could have been partially occluded without altering behaviour – then it cannot be correct to claim that the rent is productive, or necessary, useful, functional, from a social welfare point of view (obviously it is good for various interests aligned more or less closely with those of ‘the firm’).

TW @ 89

Perhaps I should tell a few stories, which might make the role of rents in motivation clearer, because, as I said, though in stasis with complete information and no strategic behavior, they are, as you note, not “motivating”, by contrast, in dynamics with incomplete information, rents are central to motivating strategic behavior: rents are a margin of (varying) income, they serve as a buffer against uncertainty; people orient their behavior around rents to reduce risk-aversion.

There isn’t a static balance of winners and losers, but there is an on-going dynamic balance of such — an on-going contest of established rentiers with a vested interest in preserving the past against innovative entrepreneurs seeking to undermine and divert those rents into new channels. That’s Schumpeter’s story.

What we see about us in the world is the outcome of a process of experimental selection. The lucky survivors are the ones, which managed to win a lottery for contested markets. In dynamic terms, they managed to mount the unicycle and get the wheel turning fast enough to create some semblance of stability for themselves. That’s the significance of most competitive “first mover” stories, and why so many major industries are dominated by firms with very long histories. The “first mover” is only rarely actually a founding or pioneer firm, but the winners write the history, so to speak, and the “first move” that counts is using your rents to mount that unicycle and get the stability of forward motion, in motion.

This is the story of the corporation in the second industrial revolution: seeking rents leads to investment in better controlling processes and thus to on-going dynamic exploitation of increasing returns. This is based in part on the virtuous cycle that develops between organizational power, and the associated ability to reduce required returns (cost of capital) associated with investment.

Rockefeller’s Standard Oil sought monopoly power for its immediate business advantages, but ended up controlling (in a cybernetic sense) oil distribution; the wild booms and busts of the oil patch were greatly dampened, and pretty soon, a vast, worldwide bureaucracy was marshalling geologists by the platoon to discover new fields, building pipelines and ships and vast refineries, marketing kerosene and oil and gasoline, with brands.

The original speadsheet, Visicalc, failed to give rise to a company that could keep up the pace of re-design. Lotus took over, but didn’t survive the transition to the GUI, and so we have Microsoft Excel dominant.

Ford Motor got an amazing start on perfecting the assembly line, but General Motors was adept earlier, at the task of the model changeover. Ford stumbled, trying to replace the Model T with the Model A, a herculean task, and nearly failed in the 1940s — probably would have, if the War hadn’t filled its coffers.

What you see in the economic landscape about you — the remarkable dominance of that landscape by large, bureaucratic corporations — is the outcome of a process of selection, in which some methods and technologies have come to dominate logically possible alternatives. This represents an advance of knowledge and its application to controlling production and distribution processes. This is where the distinction between uncertainty (what you don’t know that you don’t know) and risk (what you know that you don’t know) applies: to get an economically practical production process going, you have to bring that process “under control”. That requires, typically, sunk-cost investments in R&D and tools and plant and intangibles, like brand reputation, as well as maintaining a large fixed-overhead. It involves applying scientific knowledge and re-organizing the production process.

The cycle can be very, very long. Ford’s auto assembly methods have been advancing for over 100 years since their first application in 1903. The container shipping model has been making large efficiency gains, year after year, since 1960. Wal-Mart has been expanding on the basis of its superior logistics for decades.

The thing is that what we see in the world is not automatically optimal. It has nothing whatsoever to do with a competitive stasis in market price, and claims for its virtue, based on a theory of market price are misplaced, at best. But, there is something to Adam Smith’s insight that market competition can be partially self-defeating for the businessman, and, therefore, beneficial to the consumer. The thing about rent-seeking is that it has to be partially self-defeating to be beneficial; conflict has to be preserved, vested interests have to lose out in the end, for society to benefit.

I don’t know about the “counterfactuals”, but history is certainly the record of a series of fully resolved, but originally contingent decisions.

A point that I tried, perhaps unsuccessfully, to make earlier in this thread, about the apparent vagueness in using counterfactuals to identify and define “rents”, is that that vagueness is a product of the neoclassical frame: first, the attempt to “objectify” rent is misguided (even if it is consistent with the pseudo-physics tradition of the marginal revolution), and second rent’s significance to incentives and choice derives from uncertainty and risk. In practice, “rent-seeking” is a good explanatory strategy for the strategic behavior of economic actors precisely because “rents”, from the particular point-of-view of a particularly situated actor, are not vague at all. Truly unconstrained choice involves not just threshold anxiety, but entails an impossible degree of computational complexity. (If JCH’s comments can be subaltern, mine can have existential import;) Economic actors focus on rents as part of hedging their bets and reducing the decision-choice set to something they can calculate on productively. It might be as simple as deciding to invest in a professional training and license, because you believe that a man with a trade can always find employment; that’s rent-seeking.

Economic rents, considered from the traditional, detached god’s eye perspective of an economist, and in the abstract, may seem vague or ill-defined. “The difference between this use and the “next-best use” — why is this “next-best”, again?” But, the particular decision-maker can figure out the particulars of his own situation; if he knows something about farming, and stands to inherit productive bottom land, he knows this. And, these concrete particulars stand in contrast to a myriad uncertainties. Strategic behavior is marrying uncertainty to knowledge, using knowledge to control processes, but using the margin afforded by implicit economic rents to hedge and insure.

Knowledge is power, we are told, but knowledge has its limits, and in its limits, insurance is power. Economic rents are the “real economy” foundation for insurance.

The neoclassical analysis of incentives tends to focus on aligning the marginal reward with the desired behavior, but looking at the central tendency misses the main action, which is the distribution of risk. The distribution of income is the distribution of risk, and the distribution of risk shapes the “incentives” and thus, the economic behavior of economic actors.

Leaping ahead along this path of thought, to address JCH’s question, “Why are ‘we’ stuck in that double-bind between what is ‘politically’ possible and what is really possible?”, I think the problem, at its core, is that enlightened views require the destruction of rents.

Rent-seeking, keep in mind, is a strategy for economizing on imaginative thought. It is very Whiggish, if you like, calculating the returns on the small increments of change, always hedging, always pragmatically preserving, admiring but suspicious of radical designs and architectures, wanting experiments and trial, but reluctant to commit to anything, which cannot be undone.

We are in a revolutionary moment, ill-suited to old Whigs. Anything sensible thing we do, will entail the massive destruction of old rents, old structures, of wealth.

There’s a lot of talk from the center-left about “inequality”, but for all the hand-wringing, I don’t sense much enthusiasm, or even willingness to acknowledge that doing anything effective will require destroying the wealth of a lot of wealthy people. The appeal of neoliberal opinion for a lot of people, apparently, is that remarkable combination of a modicum of “concern” about manifest problems, with a policy quiver filled with rubber-tipped arrows.

Globalization and deregulation have been pretty good for the top 20%, who run everything, and who command the rents the present institutional regime affords them. And, any sensible reforms will attack those rents. It is asking a lot of enlightened reason, to overcome those felt interests.

I think macroeconomic policy, in particular, is trapped at the top of a tall dune. Any change in policy will entail a trip downhill, and it might be a preciptous trip. And, even though Bernanke, Geithner et alia may sense that the dune on which they stand is only sand, subject to rapid erosion, they fear the descent too much to plan a trip to more solid ground. Pretty much everyone they know at Princeton or in the backalleys of Wall Street would be hurt tremendously by the descent, entailing as it would, the destruction of paper wealth and corrupt institutions. I’m tempted to call it near-sightedness, which it is, with regard to the general interest, but the destruction of wealth would be real enough, and that is seen, 20-20.

Good policy circa 2011 entails the destruction of existing institutions, and those institutions have been very good to the elites, who control them. The establishment is not enthusiastic about leading its self-destruction. And, it isn’t just corrupt self-interest acting. The available, legitimate modes of thought about policy are fitted and adapted to these structures. Better, more enlightened policy would require elevating thinking about institutions and economics and politics to an unusually high meta-level of critical thinking. As you know, I commented almost daily on Mark Thoma’s site for years and years. I don’t doubt Thoma’s personal integrity, and don’t think he thinks or acts out of any form of corrupt self-interest. And, he’s a tenured academic at a decent state university; his blogging fame has carried him to the first rank of international conferences and such, and no one seems embarrassed by his intellect. Yet, he doesn’t seem able to wrap his mind around the simple logical entailment that reform and preservation are antithetical.

I suppose that “we” got to this pass by some combination of private rent-seeking and a colletive embrace of a neoliberal constitutional design for economic and political institutions, which did anticipate the collective consequences of private rent-seeking within the constraints of the neoliberal architecture. It should not be shocking, I suppose, that the neoliberals and libertarians are no better at analysis post-crisis than they were ante-crisis, and interests of established elites remain embedded in the architecture of the neoliberal structure.

Jay Ackroyd had an interesting comment the other day, which he cross-posted to Atrios’ blog.

http://www.eschatonblog.com/2011/10/centrists.html

#91: What you see in the economic landscape about you—the remarkable dominance of that landscape by large, bureaucratic corporations—is the outcome of a process of selection, and What we see about us in the world is the outcome of a process of experimental selection. The lucky survivors are the ones, which managed to win a lottery for contested markets.

This does seem to resonate with the ‘weak anthropic principle’ explanation of productive rent (the w.a.p. being a selection based principle). So maybe that isn’t so far from the mark as I had suspected.

In general these stories explain or at least document the emergence of bureaucratic firms in receipt of ‘rent’, or something intuitively categorisable as substantial or ‘supernormal’ profit (though the latter concept is as laden with convoluted hypotheticals as that of rent).

My concern is really with what we are (or can coherently be) talking about when we talk of economic rents, and whether that is what we are actually describing here and if so how they work.

On a more general note I’m reminded of the almost complete disconnect between economics and business strategy literature, for example the literature on the ‘rule of three‘, or of three and four.

Henderson in the 2nd link says The underlying logic is straightforward. Cost is a function of market share as a result of the experience curve effect. If two competitors have nearly equal shares, the one who increases relative share gains both volume and cost differential. The potential gain is high compared to the cost. For the leader, the opportunity diminishes as the share difference widens. A price reduction costs more and the potential gain is less. The 2 to 1 limit is approximate, but it seems to fit.

BH’s own rather self-helpily ideosycratic-looking concept (in keeping with the superstitious guru-seeking nature of much management ‘theory’, with its high turnover of jargon), the ‘experience curve effect’ appears to mean increasing returns to scale. The explanation looks a bit like a rough attempt at an econ-style mathematical derivation of equilibrium but it notably doesn’t have much to say about efficiency or the tightly constrained options that economics tends to posit. Instead the talk is of discretion – who is willing to keep investing at higher rates for longer to win market share, etc.

Meanwhile Sheth & Sisodia say Ultimately, the Rule of Three is about the search for the highest level of operating efficiency in a competitive market. Industries with four or more major players, as well as those with two or fewer, tend to be less efficient than those with three major players. The role of the government is to ensure that free market conditions do indeed prevail, to allow industry rationalization and consolidation to occur naturally, and to step in when an industry seeks to consolidate too far, i.e., to a level where fewer than three players control the lion’s share.

Which means we’ve shifted from description to recommendation, on what basis I dunno.

But my point anyway was aimed primarily at trying to fathom the idea that oligopolists’ ‘rents’ are both rents and a good or useful thing in some sense, relative to some background assumptions (or faits accompli) concerning the system of economic organisation, anyway.

Henderson by contrast says, FWIW, The lowest possible price will occur if there is only one competitor, provided that monopoly achieves full cost potential even without competition and passes it on to the customer. – quite a proviso – and certainly the passing on to the customer seems unlikely absent democratic control of some kind.

Presumably the ‘full cost potential’ bit would be where Tim Worstall starts going on about ‘creative destruction’ – relevant to the idea of ‘rents’ as sustained by a selection process.

BUT – the thing about selection processes is that they = trial and error which is painfully slow and wasteful. So non-random ‘mutation’ mechanisms come to the fore, at which point we are talking about human creativity, ideas, intentional planning. Not ‘markets’ and ‘price signals’.

T.W. @96:

Which paradigm battle, Analytic vs. “continental” or classical vs. neo-classical? And I applied the epithet “literary” to my own comments, not yours, it being a standard put-down deployed by formal mathematical economists against interlopers or predecessors, (though I tend to think their formalizations often enough lose and let slip the concepts and their conditions or contexts of application that they are ostensibly supposed to encode).

But note that I didn’t disagree that the notion of “rents” entailed counter-factual hypothetical conditions by which they are to be defined and identified, and I said that is indeed a tricky question. B.W. might be a bit more dismissive of counter-factuals than I. (When he says,”history is certainly the record of a series of fully resolved, but originally contingent decisions”, he obviously has a different conception of “history” than I do). And I explicitly said the cases of “productive” quasi-rents were a highly ambivalent phenomenon, which were only partly “justified”, and in no wise suggested that they were conducive to a social welfare optimum, since I was explicitly offering something of a structural explanation of how the re-structuring of corporate and financial rents under a generation of neo-liberal globalization, coming to a head now with the GFC, was moving them ever further away from any social welfare optimum. (Though I also don’t think a social welfare optimum can be uniquely and formally defined, and its approximation is far more a political matter concerning the balance of power in social conflicts rather than something susceptible to a formal proof of the beneficent efficiency of Mr. Market).

AFAICT you have two objections: 1) explicitly, how can such an ill-defined and hard to operatively identify concept be accorded such a large explanatory “weight” and role; and 2) more implicitly or penumbrally, if such rents are as pervasive a factor as claimed, then how could “we” at all move to a different socio-economic structure and institutional order, much more in line with a putative equitable social welfare optimum. As to 1) I think both B.W. and I would answer, “eppur si muove”, that such rents are a large and pervasive factor in structuring economic activity and investment strategies, as a matter of fact, and that they stem from the structure of production far more than from market transactions. (Recall Marx’ discussion of reproduction schemas: in order for an economy to re-produce, let alone expand, inputs and intermediate goods need to be reproduced in a balanced, proportional way, which is a requirement imposed by production systems, whether or not they are market-mediated or vertically integrated, on market transactions, not vice versa. There is always a more-or-less long-lived installed capital stock/productive capacity, which can’t be switched on or off or rearranged at will, which is a heavy fact determining the course of an economy. Import-export penetration, for example, takes place over a number of years and can only be reversed over a number of years, which is why, e.g., rapid rather than gradual RMB appreciation would be disruptive and counterproductive.) As to 2). well, that’s what I’ve been addressing in an inverted, back-handed, “negative” and pessimistic way. Concentrated corporate and financial power can only be put in check by countervailing power, residing in the regulatory state, the public sphere to which it is accountable, and labor- and community-based organizations. But, of course, the regulatory state has been at once weakened and captured by corporate and financial power operating on a globalized basis, the public sphere manipulated and obfuscated by propaganda, infotainment and think tank “research”, and the solidarities of labor and communities have succumb to atomization and fragmented isolation. And that has much to do with how rents and quasi-rents have been increasingly stove-piped to the top, rather than being more broadly distributed. If you disagree with such an observation/explanation, pray tell, propose another.

So let’s go back to Ricardan rents, since that’s a clear-cut kind and often easily identifiable, (e.g., Saudi oil rents). Ricardo’s point was the the cost-price of food would be determined by how much marginal lower-quality land needed to be put into production to meet the total demand for food and that the difference in land quality would be “compensated’ for by rents, such that eliminating rents would not lower food prices, but merely transfer those rents to someone else, say, the farmer rather than the landlord. His worry was that, since the wage was largely determined by the cost of food, high prices would transfer the social surplus to landlords at the expense of capital formation for further industrial investment. So he proposed “free trade” to exchange industrial exports, with a broader market, for cheaper food imports, thereby reducing rents at the expense of landlords and in favor of industrialists. The vague moralistic imputation is that such rents are “unearned”, but that doesn’t interest me, since they are “inevitably” produced by an extensive system of production and prices, however they might be distributed. (And after all, one can just as well question whether profits are “earned”, since for Marx profits and rents were both just different forms of surplus-value. There are a number of functional “virtues” to a system of productive investment driven by profit, which go together with its endemic dysfunctions, and any alternative or successive system of production would have to devise at least functionally equivalent solutions to those “virtues”, if it is to be sufficiently efficient to be “competitive” in “evolutionary” terms, while eliminating or attenuating those dysfunctions to attain a markedly better outcome in terms of social equity and well-being. But what is a rent, what is a profit and what is a wage, “earned income”, is always in flux, since there can be and are rents attached to “labor”, but it’s less a matter of distortions in production than distortions in distribution). And I’m also not much interested in the moralistic imputation that rents are “excessive” profits, since they needn’t be large at all and profits are already a surplus over costs and will gravitate to where that surplus is largest willy-nilly over time, as ostensibly the measure which optimizes productive surpluses. Once production costs are fully accounted for there remains the overall surplus and its distribution, (though production costs can’t be accounted for within a system of prices, without first determining distributions, “the transformation problem”, and distributions will determine READ, with iterative follow-on effects through feed-back loops and cycles on further production and investments). So I defined a “rent” provisionally as profits or payments from the surplus displaced and detached from those required costs-of-production. Consider a “negative basis trade”, an example of a financial rent derived from regulatory arbitrage. It might yield only 15-20 bps. from just 10% of a structured security with a par value of $1 billion and an aggregate yield of, say, 800 bps. , which is just $150-200,000, small change in on the whole, but ostensibly “free money” and such chisellings with appropriate accounting trickery can add-up in aggregate to a whole lot of loot. I earlier offered an example from the U.S. beef industry which was fairly clear-cut, though my main aim here has been MNC production platforming and financialized FX arbitrage, as a large number of cases by which profits and wealth has been stove-piped to the top. (Stereotypically, those sneakers that cost $5 to produce and retail for $100). Anders said my usage was merely Marxian; no, not nearly and not exclusively. Rather what I said was that cases need to be distinguished “casuistically”, by examination of the details of cases, but those cases add and mount up to a large secular trend.

I don’t think that the baseline neo-classical model of perfectly competitive markets with constant returns-to-scale, whereby MP=MC, profit is reduced to the cost of capital = the rate of interest, and the ” law” of diminishing returns rules the roost, is of much use as a counter-factual in defining and identifying rents. Since it’s a logically idealized and inverted account that doesn’t have realistic application in identifying operative conditions. In fact, since firms that are persistently profitable do exist, the implication of such a model would be that they only exist by stabilizing or controlling one of more markets in the conjuncture at which they operate, to effectively exclude potential competition. Likewise, opportunity-costs are entirely hypothetical counter-factuals, unless there is factually a competing bid. But the idea that there is always and everywhere a competing bid available, just like the idea that there is always and everywhere a set of price/quantity adjustments that can ensure market-clearing equilibrium is just part of the neo-classical fantasy of logical idealization, rather than realistically examining the configuration of all those “second-best” conditions. How useful neo-classical analytic devices are and where, I wouldn’t have a global judgment upon, except that they seem to miss much that is relevant. But I do think a set of useful counter-factuals could be constructed on a case-by-case basis, starting from path-dependent economic history and examining data on differential returns,- (since, as one of those business gurus noted, market-share “leaders” tend to “enjoy” stock price premiums),- to analyze rents and quasi-rents and how they contribute to the stove-piping of wealth and income, granted that there will be both clear-cut and border-line cases.

BTW Wikipedia also has a page on “quasi-rents”:

http://en.wikipedia.org/wiki/Quasi-rent

I didn’t know that it was Alfred Marshall who first conceived/observed them, but it’s not too shabby of a pedigree.

jch – I was referring to the hyped-up anal-autistic v. incontinental divide. Distinctions between classical and neoclassical econ are, to avoid conceding too much modesty, not part of my mental furniture.

So, thanx for pointing me at the Wikipedia flat-pack intro to ‘quasi-rent’ – should have checked that before; v useful. Basically the temporally perspectival aspect I’d been musing about is borne out, but much simpler than I’d thought. The ‘quasi’ here really means business – this is really, really quasi, about as quasi as you can get without actually slipping into full-blown ‘non’:

a quasi-rent is only a Paretian Rent excluding the sunk cost investment. Viewed in an economic short term frame – after the sunk cost investment has been made – The income realized by a sunk cost investment constitutes a rent to the extent that it exceeds the amount that would be realized in the next best use of the sunk cost investment. Viewed in an economic long-term frame, which includes the decision to make the investment, the same income is not a rent, but instead might legitimately be called interest.

So pretty much a technicality, based on drastically reduced alternative opportunities, thus low opportunity costs of continuing on the current course, rather than high rewards coparing favourably with background opportunities. But as far as the decision to bring resources into one use rather than another, so far as mopre-than-minimal-motivation and its implications for non-distorting taxation, so far as producer surplus and any normative consequences in terms of ‘unearnedness’, quasi rent need have none of the core features of rent proper (I bracket problems with that for now).

I think this really suggests that we would be better off talking about profit – or ‘supernormal profit’, adjusted relatively simply by accounting for an interest and/or inflation rate (?), because the concept of quasi rent is entirely distinct from that (neither nec nor suff in anal-autistic-Aristotelian terms), and really just means irreversibly sunk costs. Quasi rent, it seems, has no necessary connection with the key concept of incentives (and windfalls; surplus), which is where the action is in argument over neoliberalism, markets, stock exchanges etc.

Getting rid of talk of ‘rent’ would be quite a good thing, in particular in view of the fact that the term ‘rent-seeking’ (⊂ profit maximising) has tended to be appropriated by the supposedly ‘free market’ types to indicate various horrific market distortions perpetrated by dastardly commies etc.

Talking instead of profits, and explicitly about incentives where they are relevant and tractable, would probably improve clarity, if that’s not too Anglophone an ambition.

And it’s probably a bit late to be opening a whole new can of fresh worms, but I would certainly be interested in trying to pin down those functional “virtues” to a system of productive investment driven by profit you mention. Because I’m sure we agree that quite a few of the commonly touted candidate ‘virtues’ (advantages over known alternatives?) are illusory. In particular (to refer back to another thread) what is it about stock markets that helps so much with long term planning/sizeable cost-sinking?

BW – yes I absolutely agree that econ. rent and especially (if that makes sense) so-called Paretian, or neoclassical, factor rent is an ineliminably counterfactual concept (actually I think I’m right in saying that is one thing the three of us have been agreed on from the start).

My specific puzzlement over quasi-rent has been assuaged as described above. I’ll have to mull over the significance of the exercises you supply, and also ponder this:

There’s a basic paradox in the neoclassical analysis of a sunk-cost investment. A rational decision-maker should disregard sunk-costs. This is not a merely theoretical proposition; Wal-Mart may pressure a supplier into making an investment to reduce the supplier’s costs, but, as many suppliers have discovered to their grief, Wal-Mart will not want to pay a premium to ensure that the investment earns a return for the supplier. And, it is not just a matter of a powerful monopsonist at work. Coase made a brilliant argument showing how the classic monopolist supplying a durable good, would have a hard time maintaining a monopoly price in competition with himself.

On Coase, I think marketing is very successful in encouraging early adopters, and of course inbuilt obsolescence and irreparable breakdown help. Also Pac man, apparently: http://en.wikipedia.org/wiki/Pacman_conjecture#Durable_Goods_Monopolists_and_the_Coase_Conjecture

There’s certainly a treadmill of computing power/software bloat. Old software ceases to be supported and conpatiblem – or like flash based internet stuff, is just replaced, while newer software requires increasingly powerful machines to run it (And new machines tend to have preinstalled OSs or are incompatible with older ones, and those tedn to be incompatible with older software… Take MS office – this continues to bloat while the ‘improvments’ – at least the ones that might conceivably require bloat – are largely cosmetic (and actually quite irritating) – all sorts of shading and fading and previews and re-rendering, none of which is actually very productive or useful.

I’m now complaining about MS Office. Time to stop.