[A-List] The Latest in Junk Economics

[Bill Totten]

Marginalist Panaceas to Today's Structural Problems

by Michael Hudson

Personal correspondence (May 21 2009)
	

It looks like bookstores are about to be swamped this summer and fall by
a forest of advice for which publishers gave respectable advances a year
ago as the economy was going off the rails. Seeking to minimize the risk
of cognitive dissonance, the marketing strategy seems to be to offer
advice by well-placed or celebrity insiders on how to recover the kind
of free lunch that American pension plans - and popular hopes for easy
wealth - have long assumed to be part of the natural law of economic
growth, if only it can be better managed. The fantasy people want to buy
is that the happy 1981-2007 era of debt-leveraged price gains for real
estate, stocks and bonds can be brought back. But the Bubble Economy was
so debt-leveraged that it cannot reasonably be restored. This means that
publishers have achieved the marketer's dream of planned obsolescence:
Readers a year or so from now will have to buy a new slew of books as
they feel hungry again from the lack of intellectual protein.
	
For the time being we are supposed to be satisfied Wall Street defenses
of the Bush-Obama (Paulson-Geithner) attempt to re-inflate the Bubble by
a bailout giveaway that has tripled America's national debt in the hope
of getting bank credit (that is, more debt) growing again. The problem
is that debt leveraging is what caused the economic collapse. A third of
US real estate is now estimated to be in negative equity, with
foreclosure rates still rising. So publishers have only a short window
of opportunity to sell the current spate of books before people wake up
to the fact that attempts to renew the Bubble Economy will make our
financial overhead heavier.
	
In the face of this stultifying financial trend, the book-buying public
is being fed appetizers pretending that economic recovery simply
requires more "incentives" (a euphemism for special tax breaks for the
rich) to encourage more "saving", as if savings automatically finance
new capital investment and hiring rather than what really happens: Money
is being lent out to create yet more debt owed by the bottom ninety
percent to the economy's top ten percent. Publishers evidently believe
that the way to attract readers - and certainly to get reviews in the
major media - is to propose easy solutions. The theme of most of this
year's Bubble books therefore is how we could have avoided the Bubble
"if only …" If only there had been better regulation, for instance.
	
But to what aim? After blaming Alan Greenspan for playing the role of
"useful idiot" by promoting deregulation and blocking prosecution of
financial fraud, most writers trot out the approved panaceas: federal
regulation of derivatives (or even banning them altogether), a Tobin tax
on securities transactions, closure of offshore banking centers and
ending their tax-avoidance stratagems. But no one is going so far as to
suggest attacking the root of the financial problem by removing the
general tax deductibility of interest that has subsidized debt
leveraging, taxing "capital" gains at the same rate as wages and
profits, or closing the notorious tax loopholes for the finance,
insurance and real estate (FIRE) sectors.
	
Right-wing publishers are re-warming their articles of faith such as
giving more tax incentives to "savers" (another euphemism for more
giveaways to the rich) and a re-balanced federal budget to avoid
"crowding out" private investment. One of Wall Street's dreams is to
privatize Social Security to create yet another Bubble to feed off of.
(Fortunately, such proposals failed during the Republican-controlled
Bush administration as a result of taxpayer outrage after the dot.com
bubble burst in 2000.)
	
What is not heard is a call to finance Social Security and Medicare out
of the general budget instead of keeping their funding as a special
regressive tax on labor and its employers, available for plunder by
Congress to finance tax cuts for the upper wealth brackets. Yet how can
America achieve competitiveness in global markets with its pre-saving
retirement tax (Social Security) and privatized health insurance,
debt-leveraged housing costs and related personal and corporate debt
overhead? The rest of the world provides much lower-cost housing, health
care and related employee costs - or simply keeps labor near subsistence
levels. Our lack of affordability is a major problem for continued
dreams of a renewed Bubble Economy, yet the international dimension is
ignored.
	
The latest panacea being offered to jump-start the economy is to rebuild
America's depleted infrastructure. Alas, Wall Street plans to do this
Tony Blair-style, by public-private partnerships that incorporate
enormous flows of interest payments into the price structure while
providing underwriting and management fees to Wall Street. Falling
employment and property prices have squeezed public finances so that new
infrastructure investment will take the form of installing privatized
tollbooths over the economy's most critical access points such as roads
and other hitherto public transportation, communications and clean water.
	
Surprisingly, one does not hear even an echo of calls to restore state
and local property taxes to their Progressive Era levels so as to
collect the "free lunch" of rising land prices and harness its gains
over time as the main fiscal base. This would hold down land prices (and
hence, mortgage debt) by preventing rising location values from being
capitalized into new mortgage loans against "capital" gains and paid out
as interest to the banks. Restoring Progressive Era tax philosophy (and
pre-1930 property tax levels) would have the additional advantage of
shifting the fiscal burden off income and sales - a policy that would
make labor, goods and services more affordable. Instead, most reforms
today call for further cutting property taxes to promote more "wealth
creation" in the form of higher debt-leveraged property price inflation.
Instead of housing prices falling and income and sales taxes being
reduced, rising site values merely will be recycled to the banks for
ever larger mortgages, not taxed to benefit local government. In this
scenario, local governments are forced to shift the fiscal burden onto
consumers and business, impoverishing the community.
	
The new books advocate merely marginal changes to deep structural
problems. They include the usual pro forma calls to re-industrialize
America, but not to address the financial debt dynamic that has undercut
industrial capitalism in this country and abroad. How will these timid
"reforms" look in retrospect a decade from now? The Bush-Obama bailout
pretends that banks "too-big-to-fail" only face a liquidity problem, not
the growing bad-debt problem we now face along with the economy's
widening inability to pay. The reason why past Bubbles cannot be
re-inflated is that they have reached their debt limit, not only
domestically, but also the international political limit of global
Dollar Hegemony.
	
What needs to be written about is what the marginalists leave out of
account and what academic jargon calls "exogenous" considerations, which
turn out to be what economics really is all about: the debt overhead;
financial fraud and crime in general (one of the economy's
highest-paying sectors); military spending (a key to the US
balance-of-payments deficit and hence to the buildup of central bank
dollar reserves throughout the world); the proliferation of unearned
income and insider political dealing. These are the core phenomena that
"free market" idea strippers have relegated to the "institutionalist"
basement of the academic economics curriculum.
	
For example, the press keeps on parroting the Washington mantra that
Asians "save" too much, causing them to lend their money to America. But
the "Asians" saving these dollars are the central banks. Individuals and
companies save in yuan and yen, not dollars. It is not these domestic
savings that China and Japan have placed in US Treasury securities to
the tune of $3 trillion. It is America's own spending - the trillions of
dollars its payments deficit is pumping abroad, in excess of foreign
demand for US exports and purchases of US companies, stocks and real
estate. This payments deficit is not the result of US consumers maxing
out on their credit cards. What is being downplayed is that military
spending in most years since the Korean War (1951) that has underlain
the US balance-of-payments deficit. Now that foreign countries are
starting to push back, this trend cannot continue much longer.
	
Inasmuch as China's central bank is now the largest holder of US
Government and other dollar securities, it has become the main
subsidizer of the US balance-of-payments deficit - and also the domestic
US federal budget deficit. Half of the federal budget's discretionary
spending is military in character. This places China in the
uncomfortable position of being the largest financier of US military
adventurism, including US attempts to encircle China and Russia
militarily to block their development as economic rivals during the past
fifty years. That is not what China intended, but it is the effect of
global dollar hegemony.
	
Another trend that cannot continue is "the miracle of compound
interest". It is called a "miracle" because it seems too good to be
true, and it is - it cannot really go on for long. Heavily leveraged
debts go bad in the end, because they accrue interest charges faster
than an economy's ability to pay. Basing national policy on dreams of
paying the interest by borrowing money against steadily inflating asset
prices has been a nightmare for homebuyers and consumers, as well as for
companies targeted by financial raiders who use debt leverage to strip
assets for themselves. This policy is now being applied to public
infrastructure into the hands of absentee owners, who will themselves
buy these assets on credit and build the resulting interest charges into
the new service prices they collect, in addition to being allowed to
treat these charges as a tax-deductible expense. This is how banking
lobbyists have shaped the tax system in a way that steers new absentee
investment into debt rather than equity financing.
	
The irresponsible cheerleaders applauding a Bubble Economy as "wealth
creation" (to use one of Alan Greenspan's favorite phrases) would like
us, their audience, to believe that they knew that there was a problem
all along, but simply could not restrain the economy's "irrational
exuberance" and "animal spirits". The idea is to blame the victims -
homeowners forced into debt to afford access to housing, pension-fund
savers forced to consign their wage set-asides to money managers at the
large Wall Street firms, and companies seeking to stave off corporate
raiders by taking "poison pills" in the form of debts large enough to
block their being taken over. One looks in vain for an honest
acknowledgement of how the financial sector has turned into a
Mafia-style gang more akin to post-Soviet kleptocrat insiders than to
Schumpeterian innovators.
	
The cursorily reformist gaggle of post-Bubble tomes assumes that we have
reached "the end of history" as far as financial problems are concerned.
What is missing is a critique of the big picture - how Wall Street's
collaboration in financializing the public domain has inaugurated a
neo-feudal tollbooth economy while privatizing the government itself,
headed by the Treasury and Federal Reserve. Left untouched is the story
how industrial capitalism has succumbed to an insatiable and
unsustainable finance capitalism, whose newest "final stage" seems to be
a zero-sum game of casino capitalism based on derivative swaps and
kindred hedge fund gambling innovations.
	
What has been lost are the Progressive Era's two great reforms. First,
minimization of the economy's free lunch of unearned income (for
example, monopolistic privilege and privatization of the public domain
in contrast to one's own labor and enterprise) by taxing absentee
property rent and asset-price ("capital") gains, keeping natural
monopolies in the public domain, and anti-trust regulation. The aim of
progressive economic justice was to prevent exploitation - for example,
charging more than the technologically necessary costs of production and
reasonable profits warranted. Progressive Era reforms had a fortuitous
byproduct: Minimization of the free lunch enabled economies such as the
United States to out-compete others that didn't embrace progressive
fiscal and financial policy, creating a Leviathan that has now fallen to
its knees.
	
The second Progressive Era reform was to steer the financial sector so
as to fund capital formation. Industrial credit was best achieved in
Germany and Central Europe in the decades prior to World War One. But
the Allied victory led to the dominance of Anglo-American banking
practice based on loans against property or income streams already in
place. Because of this, today's bank credit has become decoupled from
capital formation, taking the form mainly of mortgage credit (eighty
percent), and loans secured by corporate stock (for mergers,
acquisitions and corporate raids) as well as for speculation. The effect
is to spur asset-price inflation on credit, in ways that benefit the few
at the expense of the economy at large.
	
The consequences of debt-leveraged asset-price inflation are clearest in
the post-Soviet "Baltic syndrome", to which Britain's economy is now
succumbing. Debts are run up in foreign currency (real estate mortgages,
tax-avoidance funds and flight capital), without exports having any
prospect of covering their carrying charges as far as the eye can see.
The result is a debt trap - chronic austerity for the domestic market,
causing lower capital investment and living standards without hope of
recovery.
	
These problems illustrate the extent to which the world economy as a
whole has pursued the wrong course since World War One. This long detour
has been facilitated by the failure of socialism to provide a viable
alternative. Although Russia's bureaucratic Stalinism got rid of the
post-feudal free lunch of land rent, monopoly rent, interest and
financial or property-price gains, its bureaucratic overhead overpowered
the economy in the end and Russia fell. Ideology aside, the question is
whether the Anglo-American brand of finance capitalism will follow suit
from its own internal contradictions.
	
The flaws in the US economy are tragic because they are so intractable,
embedded as they are in the very core of post-feudal Western economies.
This is what Greek tragedy is all about: A tragic flaw that dooms the
hero from the outset. The main flaw embedded in our own economy is
rising debt in excess of the ability to pay, which is part of a larger
flaw - the financial free lunch that property and financial claims
extract in excess of corresponding costs as measured in labor effort and
an equitably shared tax burden (the classical theory of economic rent).
Like land seizure and insider privatization deals, such wealth
increasingly is inherited, stolen or obtained through political
corruption. Adding insult to injury, wealth and revenue extracted via
today's finance capitalism avoids taxation, thereby receiving an actual
fiscal subsidy as compared to tangible industrial investment and
operating profit. Yet academics and the popular media treat these core
flaws as "exogenous", that is, outside the realm of economic analysis.
	
Unfortunately for us - and for reformers trying to rescue our
post-Bubble economy - the history of economic thought has been
suppressed to give the impression that today's stripped-down, largely
trivialized junk economics is the apex of Western social history. One
would not realize from the present discussion that for the past few
centuries a different canon of logic existed. Classical economists
distinguished between earned income (wages and profits) and unearned
income (land rent, monopoly rent and interest). The effect was to
distinguish between wealth earned through capital and enterprise that
reflects labor effort, and unearned wealth from appropriation of land
and other natural resources, monopoly privileges (including banking and
money management) and inflationary asset-price "capital" gains. But even
the Progressive Era did not go much beyond seeking to purify industrial
capitalism from the carry-overs of feudalism: land rent and monopoly
rent stemming from military conquest, and financial exploitation by
banks and (in America) Wall Street as the "mother of trusts".
	
What makes today's Bubble different from previous ones is that instead
of being organized by governments as a stratagem to dispose of their
public debt by creating or privatizing monopolies to sell off for
payment in government bonds, the United States and other nations today
are going deeply into debt simply to pay bankers for bad loans. The
economy is being sacrificed to reward finance instead of remaining
viable by subordinating and channeling finance to promote economic
growth via an affordable economy-wide cost structure. Interest-bearing
debt weighs down the economy, causing debt deflation by diverting saving
into debt payments instead of capital investment. Under this condition
"saving" is not the solution to today's economic shrinkage; it is part
of the problem. In contrast to the personal hoarding of Keynes's day,
the problem is that the financial sector is now using its extractive
power as creditor instead of wiping out the economy's bad-debt overhang
in the historically normal way, by a wave of bankruptcies.
	
Today, the financial sector is translating its affluence (at taxpayer
expense), into the political power that threatens to pry yet more public
infrastructure away from state and local communities and from the public
domain at the national level, Thatcher- and Blair-style. It will be sold
off to absentee rentier buyers-on-credit to pay off public debt (while
cutting taxes on wealth yet further). No one remembers the cry for what
Keynes called "euthanasia of the rentier". We have entered the most
oppressive rentier epoch since feudal European times. Instead of
providing basic infrastructure services at cost or subsidized rates to
lower the national cost structure and thus make it more affordable - and
internationally competitive - the economy is being turned into a
collection of tollbooths.

How disheartening that this year's transitory wave of post-Bubble books
fails to place the financialization of the US and global economies in
this long-term context.

http://www.billtotten.blogspot.com
http://www.ashisuto.co.jp