Criticism Economics Financial Crisis Libertarianism Political Philosophy The Opinionsphere

Wall Street’s enormous profits are evidence of a poorly functioning market.

[digg-reddit-me]Matt Yglesias and Ezra Klein had 2 complementary points in posts yesterday. (Damn you, JournoList!) Yglesias:

…[L]ooking at this chart I think it’s hard to avoid the conclusion that Wal-Mart is the last thing we should be worried about. The worrying trend is the domination of the corporate landscape by super-profitable firms in the heavily regulated energy, banking, and telecom sectors.

Yglesias is making a point most commonly associated with libertarians that large firms often use the government — through favorable regulation, tax breaks and incentives, etc. — to increase their profits. For example, increasing the barriers for new firms in the industry and restraining their indirect competitors from direct competition. This follows the well-known principle that any government policy whose costs are diffused and whose benefits are concentrated will be adopted more often than not. Thus highly regulated industries tend to be dominated by a small number of large firms that make very large profits — because thanks to government regulation, there isn’t much competition. However, Ezra Klein observed:

In a competitive market, there’s really no place to make 27 cents on the dollar. Some other firm will come in and offer the same services for 24 cents, and then someone will undercut them at 19 cents, and so it will go until the profit margin narrows. Wal-Mart, for instance, has a profit margin of around 3.5 percent. Ah, capitalism.

Not so in the financial sector, though, which ever since deregulation has been posting higher and higher profit margins.

So, the exception to this trend is Wall Street — where deregulation has lead to higher profits. All of this seems quite intuitively true — both from a libertarian and from a liberal perspective — and even from a liberaltarian one.

The enormous profits taken out of every dollar (as seen in much of the the financial industry) is a demonstration of a lack of competition and thus a poorly functioning market. Of course, Goldman Sachs didn’t manage to make it on the list above — but it had more than double the amount of profit out of every dollar it took in as compared to each of the companies here. Goldman managed to take $0.26 of every dollar they made as profit to their shareholders. (And that includes the massive bonuses given to employees as expenses.) I think I need to see more data though to draw the conclusion that Klein is hinting at — that the deregulation of Wall Street increased it’s profits as a percentage of revenues — while deregulation generally has the opposite effect (as in the case of Wal-Mart).

Annie Lowery drives the point home in analyzing the 1Q results from Wall Street:

This is not quite a picture of a healthy industry. In a competitive marketplace, prices and fees at Wall Street firms should fall and margins should become thinner. On the one hand, Wall Street firms like J.P. Morgan and Goldman Sachs have seen a number of their competitors die in the past two years, and have absorbed business from the failed Lehmans and Bear Sterns of the world. But on the other hand, Wall Street profit margins have remained sky high except for a short blip during the worst of the credit crunch. And, an economist would tell you, such sustained levels of high profitability point to anti-competitive behavior…

[T]he profits point to a lack of competition. That is one thing the Dodd bill — via derivatives regulation — attempts to fix. Right now, Wall Street firms do not bid for big derivatives contracts — they simply quote a price and work over-the-counter. For that reason, derivatives are wildly profitable for the companies. The Dodd bill will force derivatives pricing to become public to the market, driving down margins as companies compete.

There’s a whole lot to unpack within these points about the nature of American capitalism and the government’s role in it.

But one key takeaway seems to be a repudiation of the most ideological take of either the left or right — and an acknowledgment that free markets are not merely what happens when the government is out of the way — but are created and maintained by a complex balancing act in which government regulates and participates. What you end up with is something less than socialism or libertarianism and more like liberalism:

Contemporary liberals reject the doctrinaire distinction between the “market” and the government that animated so much of the conflict in the 20th century. The free market should not be treated as some theoretical utopian ideal or as a perpetually lost state of innocence. And the government is not some evil force which must be reduced until it is of a size that it “could be drowned in a bathtub.” Rather the government and the free market exist together – and in a capitalist republic such as ours, each is dependent on the other. The free market does not exist in a state of nature but must be created by and maintained by the society and the state which provide the values and the rules and other conditions without which a market cannot be free. In other words, a free market is a product of a just government.

Follow-up post here.

[Image by f-l-e-x licensed under Creative Commons.]

Politics Scandal-mongering The Opinionsphere

The Edwards Morality Tale

One of the most interesting stories of the past two years has been the tale of John Edwards. In 2004, several essays by William Saletan (here, here, and here) as well as his forceful speeches, positive tone, and life story convinced me to support Edwards. He was passionate. His message was upbeat, tapping into the hope of the American dream, but he acknowledged how far it had fallen. He campaigned on the theme of the economic restoration of the American dream – the same theme that imbued Michael Moore’s Capitalism: A Love Story. But it is also a theme that has haunted liberalism since the 1970s – as it has sought to recreate the economic conditions that lead to the stable middle class of the 1950s and 1960s, a kind of reactionary nostalgia. Whether this is the correct view of history or not, it is excellent politics. By 2008, Edwards had doubled down on this – and was running a policy-intensive, netroots focused campaign on economic issues. It was only upon hearing him answer Tim Russert’s questions on Iraq and national security in 2007 that I finally abandoned him as a candidate for 2008.

But in the meantime, he himself was apparently changing – was being corrupted by his success, was becoming greedy for attention and privilege:

[E]veryone who met Edwards was struck by how down-to-earth he seemed. He had fewer airs about him than most other wealthy trial lawyers, let alone most senators.

Many of his friends started noticing a change – the arrival of what one of his aides referred to as “the ego monster” – after he was nearly chosen by Al Gore to be his running mate in 2000: the sudden interest in superficial stuff to which Edwards had been oblivious before, from the labels on his clothes to the size of his entourage. But the real transformation occurred in the 2004 race, and especially during the general election. Edwards reveled in being inside the bubble: the Secret Service, the chartered jet, the press pack, the swarms of factotums catering to his every whim. And the crowds! The ovations! The adoration! He ate it up. In the old days, when his aides asked how a rally had gone, he would roll his eyes and self-mockingly say, “Oh, they love me.” Now we would bound down from the stage beaming and exclaim, without the slightest shred of irony, “They looooove me!”

As this “ego monster” took over his personality, Edwards met Rielle Hunter – who, aside from offering herself sexually, stroked his ego. And so, Edwards apparently fell in love with the idea of himself that Rielle Hunter presented to him. This allowed her past all the numerous safeguards that Edwards had built to keep himself from being embroiled in any Clintonian affairs and added to his apparent descent into hubris.

The Edwards story has advanced a bit – with tawdry detail after tawdry detail leaking out over the last months. From the book proposal by close aide Andrew Young (who initially took responsibility for the affair with Rielle Hunter) claiming that Edwards comforted her by promising that “after his wife died, he would marry her in a rooftop ceremony in New York with an appearance by the Dave Matthews Band” to the revelations in Game Change by John Heilemann and Mark Halperin (excerpted for New York magazine) to the most recent acknowledgement that despite his earlier “confession” he was in fact the father of the “love child” with Hunter.

Even with these scandals under the surface, he still was determined to get some prominent post in the government. He was so cocooned, he believed he could get past all these stories and that Obama could appoint him to a top position:

“John will settle for attorney general,” Hindery e-mailed Daschle.

Daschle shook his head. How desperate is this guy?

“Leo, this isn’t good for John,” Daschle replied. “This is ridiculous. It’s going to be ambassador to Zimbabwe next.”

When Obama heard about the suggested quid pro quo, he was incredulous. That’s crazy, he told Axelrod. If I were willing to make a deal like that, I shouldn’t be president.

South Carolina brought an end to the Edwards campaign; after finishing a derisory third in the primary, he dropped out of the race a few days later. Yet for months that spring, as Obama and Clinton engaged in their epic tussle, Edwards continued in his Monty Hall mode, attempting to try to claim some reward from either candidate for his backing.

The trouble with Obama, from Edwards’s point of view, was his refusal to get transactional. When Edwards told Obama that he wanted him to make poverty a centerpiece of his agenda, Obama airily replied, Yeah, yeah, year, I care about all that stuff. Clinton, by contrast, proposed that she and Edwards do a poverty tour together, even suggested that Edwards would have “a role” in her administration. Edwards still had his eye on becoming attorney general, and thought the odds of getting that plum were better with Hillary than with Obama. But after South Carolina, the chances of Clinton claiming the nomination just kept falling – and Edwards didn’t want to back a loser.

So Edwards sat there, perched on the fence, squandering his leverage. Making the situation all the more absurd was the birth in late February of Hunter’s baby, a girl she named Frances Quinn – a development that Edwards somehow convinced himself would not preclude his being nominated and confirmed to run the Department of Justice.

Finally, in May, after suffering a blowout loss to Clinton in the West Virginia primary, Obama phoned Edwards and briefly managed to pierce his bubble of delusion. Tomorrow is the last day when your endorsement is going to make a difference, he told Edwards. And what would Edwards get in return? Not much more than a prime-time speaking slot at the Democratic convetion.

At 1:15 a.m., Obama sent an e-mail to his staff: Edwards is a go.

I normally like a good scandal which brings a fast-inflating figure down to size (though I really hate the media’s moralizing tone in covering these scandals.) But this story has the feel of a pathetic side figure in a Shakespearean comedy – a decent but not great man undone by his own egotism.

[This tremendous photograph by alexdecarvalho licensed under Creative Commons.]

Prose Quotations The Opinionsphere The Web and Technology

Rothkopfian Aphorisms

[digg-reddit-me]Although the conventional wisdom holds that blogging and the internet is leading us to become cretins who cannot compose full sentences (lest they run longer than 140 characters), there is reason for hope. And not just because Twitter and WordPress have made more prolific writers out of all of us. I have never read the news as intensely as I have this past years, so I cannot judge from even the limited perspective of my life, but there is some great prose written on blogs. I’ve found though, that when reading on a computer screen, I “read/skim” and don’t notice the finer sentences as I jump about the piece searching for the most interesting bits. However, I have taken to printing out substantial entries from blogs, and found much of the writing is in fact quite good.

One of the writers who has consistently drawn my attention with his witty aphorisms is David Rothkopf. His blog is well worth reading, for the insight, yes – but also for the wit.

On diplomacy:

In marriage, a lack of intimacy usually means you are not getting fucked… but in diplomacy, it means you almost certainly will be.

On the advantages America has over most other potential great powers:

We’re also protected by two great oceans and our neighbors are fairly easy to get along with. (Mexico is a bit of a concern at the moment but Canada lost its last remaining offensive capability when Wayne Gretzky moved to the United States.)

On Venezuela’s announcement of a nuclear program:

I’ve been predicting this problem for so long that it gives me a little lift even if it is a potential calamity for millions of others. Take note: that’s what narcissism makes possible.

On Eliot Spitzer’s desire for publicity:

The A.I.G. scandal and the collapse of Wall Street could have been [Spitzer’s] apotheosis, the moment the howling dogs of ambition in his breast might have finally gotten enough red meat of press exposure.

On the mania of the government for ensuring constant economic growth, specifically of GDP growth:

Didn’t our founders specify that the purpose of our country was to guarantee the right of all of us (well, white men anyway) to life, liberty, and the pursuit of constant growth in “the total market values of goods and services produced by workers and capital within a nation’s borders during a given period (usually 1 year).”

Commenting on GQ’s “50 Most Powerful People in Washington” edition:

If you follow Washington without losing your appetite, you’re not paying attention.

On the relationship between capitalism and Wall Street:

Because 21st Century Wall Street is to capitalism as Pope Alexander VI was to the teachings of Jesus Christ. There was a connection but it was remote and observed more in the breach than in the honoring of the essentially good underlying ideas.

On why Wall Street will finally be reformed:

Personally, I think they miscalculate. They finally may be undone by their greed. Except it won’t be because they stole too much or blew up the international economy. It’ll be because they stopped paying off the people who set the rules. And nothing puts a politician back in touch with his principles like a failure to keep up payments by the banker to whom he has mortgaged them.

Describing the dust-up between Kim Jong Il and Hillary Clintons:

No doubt drawing on his extensive training in rhetoric and stand-up comedy at the University of Malta (training ground for all of Malta’s best comics), Kim fired back with the tell-tale wit that once had him referred to as “the anti-factionalist Oscar Wilde of Baekdu Mountain” until someone discovered who Oscar Wilde was and the guy who invented the nickname was dropped out of a Russian helicopter into the Amnok River. (Wilde, meanwhile, might have called North Korean official efforts at humor “the unspeakable in pursuit of the unattainable.”)

Comparing America’s hegemony with Microsoft’s monopoly:

In the mid-90s, America and Microsoft were clearly the future of the world. Then both started to abuse their power. America, in the wake of 9/11, undercut the international system it built, rhetorically flaunted its hallowed values and then crudely and repeatedly undercut them in its behaviors. Microsoft went from a symbol of the garage-launched entrepreneurial energy of the tech revolution to being a ruthless crusher of competitors. In fact, it became so dominant, that it felt it could foist on the American public products that didn’t work, were full of bugs, were vulnerable to security breaches and, as in the case of Vista, should never have been released in the first place.

Defining the foreign policy precept, the law of the prior incident:

A reason for the swift action on Honduras is that old faithful of U.S. foreign policy: the law of the prior incident. This law states that whatever we did wrong (or took heat for) during a preceding event we will try to correct in the next one … regardless of whether or not the correction is appropriate. A particularly infamous instance of this was trying to avoid the on-the-ground disasters of the Somalia campaign by deciding not to intervene in Rwanda. Often this can mean tough with China on pirated t-shirts today, easy with them on WMD proliferation tomorrow, which is not a good thing. In any event, in this instance it produced: too slow on Iran yesterday, hair-trigger on Honduras today.

I had also accidentally included this Paul Krugman quote in the mix of Rothkopfian aphorisms – because it seemed so like something he’d say. Only on searching for the quote did I find its true author, but I’ll include it here anyway:

Serious Person Syndrome, aka it’s better to have been conventionally wrong than unconventionally right.

[Image adapted from a photograph by the New America Foundation licensed under Creative Commons.]

Criticism Economics Political Philosophy

Dreaming can be dangerous

Gavin Kennedy responded to my post of several weeks ago, written in response to the spectacular success of Goldman Sachs, which I saw as a repudiation of the free market in which I offered the “modest proposal” of tearing down our capitalist system and replacing it with a free market. Kennedy responded:

Much of Joe’s thinking is well motivated but he is confused because he advocates root and branch transformation in a long-established socio-economic system, and that isn’t going to happen.

The sheer impracticality of it is breathtaking.

I can understand why Kennedy responded as he did to this post. The tone was radical – deliberately so. I tried to suggest in the opening that I was writing “looser” than normally and called my radical suggestion a “modest proposal” – realizing it was not. I intended to suggest Jonathan Swift’s “Modest Proposal,” though I did not intend the piece to be satire – but rather a rant unmoored from my usual pragmatic hedgings.

Barack Obama said a few times with regards to health care that “if he were starting from scratch” he would suggest a single-payer system – but then acknowledge that we were not starting from scratch. This post was my attempt to “start from scratch” without attempting to triangulate what position was and was not practical – to explain what was fundamentally wrong, and to suggest what we should be moving towards. Rather than sudden, centralized changes though, I advocate tinkering, reforming processes at the outsides, carefully modulating incentives, experimenting with changes at more local levels before trying them nationally or internationally. I subscribe to Friedrich Hayek’s idea that we shouldn’t willy-nilly “disturb complicated systems that have been around for a very long time [as w]e don’t understand their logic.”

But there are time to be bold – there are times when the faults of the current order are revealed. Sometimes these call for revolution – but I am no revolutionary. Which is why I believe now is the time to try to try to change the philosophical underpinning of our economic system from focusing on capital to one focusing on opportunity. This doesn’t require a revolution as much as a (and I hate this phrase) paradigm shift.

On one point though, I have to disagree almost wholly with Kennedy. He says that “Dreaming can be dangerous,” seemingly because it is impractical. But what’s dangerous is when you confuse dreams with reality. T. E. Lawrence wrote:

All men dream: but not equally. Those who dream by night in the dusty recesses of their minds wake in the day to find that it was vanity: but the dreamers of the day are dangerous men, for they may act their dreams with open eyes, to make it possible. This I did.

Dreaming with open eyes can be dangerous – just as any risk can. But this doesn’t mean it is bad. The danger lies in the fact that one cannot know in advance whether the decision you are about to make will end well or badly. Living is what happens when you take that risk.

[Image by me.]

Economics Financial Crisis Politics

Tear down our capitalist system and replace it with a free market.

[digg-reddit-me]It’s Friday morning, finally finished with a week while living for the weekend, so I’m feeling loose.

My modest proposal for the day: Tear down our capitalist system and replace it with a free market.

The two terms are usually used synonymously – and I’m sure I am guilty of this myself. But after a long night of fevered dreams about politics and policy (yes, I really do dream about such things) I woke up realizing there is an important difference between the two ideas. (Perhaps as my unconscious mind dredged up some forgotten piece of writing from years ago.)

The free market is a commonsensical idea – as it is based on the values of competition, individual opportunity, and liberty. Adam Smith (from what I know of him) was only a proponent of this system – which he called “the system of natural liberty” – rather than a proponent of “capitalism” – a term he never actually used. Smith – arguing for this system – argued against government being used to prop up industries or to direct them. What he did not argue for though was “capitalism” as it has been understood for the past century. In many ways, the idea of capitalism evolved to defend our system from Marxist ideas – so it evolved to preserve the status quo rather than to describe an ideal system.

In this way, America’s economic system is different from its political system. The political system was created by men who held certain agreed-upon ideals and who attempted to write a governing document incorporating and protecting these ideals. This allowed later generations to try to better follow these ideas – to constantly seek “a more perfect union.” Rather than merely defending the status quo, it created an ideal to strive for. Our economic system though was created in an ad-hoc manner – and the ideology which grew up to defend it lacked any clear ideals. So, this ideology was defined then by what it opposed rather than a positive protection of certain principles. Capitalism then means less government interference, less centralized control of the means of production, less regulation. What this capitalism has created though is a rather unfree market – in which a small number of individuals own most of the capital – in which competition is thwarted by monopolistic practices, by bigger and bigger mega-corporations, by regulations proposed by the mega-corporations to keep out competitors, by bailouts.

Our capitalist system is based on valuing capital over labor, of seperating mangament and labor from ownership, of limiting the liability of individuals for their actions in corporate environments, of externalizing as much cost as possible to the public commons, of profit over all things. It is hard to see what most of these principles contribute to the creation of a free market. Indeed, many of them undermine it – creating a closed market, profitable only for a princely few who have the capital. This new feudalism is called freedom – but it is only free to an elite class of “ultracitizens” while the overwhelming majority of people get by in a “Sharecropper’s society” (to use terms introduced by David Rothkopf and Warren Buffett respectively.)

What we need is a founding economic document – that will describe the free market as it should be. A free market based on competition instead of capital; in which the government’s role is clear, predetermined, and predictable – rather than arbitrary and constantly contested; where regulation is seen as a protector of the free market rather than an encroachment upon it – as it forces externalized costs which are imposed on the society at large to be taken into account by the market; where the government’s role is in protecting and enhancing the opportunity of its citizens – rather than protecting the status quo and mega-corporations.

The fact is – capitalism as it is currently practiced has undermined the free market at every turn. While our current capitalist system has proved more productive than many other systems in the past, it has clearly fallen short of those implicit promises of what a free market should be. This economic crisis we are still going through – even as the financial crisis has passed – will offer up an opportunity to redefine the social bargain underlying our economic system if we are bold. So, we must be bold then – as soon as we figure out how to approach this.

[Image by me.]

Economics Political Philosophy The Opinionsphere

The Success of Goldman Sachs as a Repudiation of the Free Market

[digg-reddit-me]David Rothkopf – commenting on Goldman Sachs – sees their success as a repudiation of the free market – and I tend to agree with him:

I’m a dyed-in-the-wool capitalist. I love free markets. I hope a free market marries one of my daughters some day. But if some people have too many advantages and others simply can never catch up, the markets aren’t free, regardless of law or intent. Even if the advantages are in part derived from talent and hard work, fairness can remain an issue if other components of the success are linked to access, influence, history and other intangibles. [my emphasis]

From this insight comes the inevitable conclusion that – contrary to the doctrine of the right-wing – the government is not the antithesis of the free market, but rather plays an essential role in creating and maintaining it.

Goldman Sachs – with their obscene profits so soon after needing public assistance – demonstrate that our system has become less free and more feudal. As I wrote several weeks ago:

[T]he free market is effective because it prevents any small set of individuals from monopolizing decision-making. Especially in the world today with so much information available and events moving so quickly, the “right” business choices to make aren’t always clear. A free market – by allowing each business to make its own choice – prevents decision-making from falling victim to individual follies. But our current economic system – with it’s enormous corporations – ends up recreating the feudal system in which power is not centered in a single place, but in a handful of powerful “princes.” While these “princes” push for free market reforms, it is not in their interest to actually achieve this ideal free market – as Yglesias points out:

As a market approaches textbook conditions—perfect competition, perfect information, etc.—real profits trend toward zero. You make your money by ensuring that textbook conditions don’t apply; that there are huge barriers to entry, massive problems with inattention, monopolistic corners to exploit, etc.

George Will himself has pointed out that those “reforms” that are passed tend to be of a specific sort, following what Will calls, “the supreme law of the land…the principle of concentrated benefits and dispersed costs.” What free market supporters rarely seem to admit is that the free market exists not in spite of the government, but because of it. And today, our market is far from free because the government has failed to protect it – and has instead allowed the worst characteristics of capitalism (exploitation of labor; externalizing as much cost to society as possible, for eg. pollution) with the worst characteristics of socialism (concentration of power and limitation of competition) to create a kind of modern feudal society. In  this feudal society, freedom is enjoyed by the “princes” of finance and industry while the creative ferment of a real free market is formally protected but effectively quashed.

David Rothkopf expresses the same thing with different terminology:

These guys [at Goldman Sachs] operate as ultra-citizens in our society, virtually able to tell the government to heel and fetch in ways the rest of us can only fantasize about.

Warren Buffett seems to agree – as he claimed that America is moving from an aspiring “Ownership Society” to a “Sharecropper’s Society” – with its suggestions of a feudal structure. Of course, Buffet now owns a significant portion of the very Goldman Sachs that epitomizes this trend.

Goldman Sachs – along with other major corporate powers – rise by exploiting inefficiencies in the market – and eventually must try to create inefficiencies in the market in order to maintain their profitability (which is the hyperbolized point of Matt Taibbi’s recent piece). This contradicts those who see the market as supremely efficient – as Warren Buffet admitted, he would “be a bum on the street with a tin cup if the markets were always efficient.”

Goldman Sachs proves – with its successes – that our system is not a truly free market – but a more feudal one – in which those with sufficient money can secure power and tilt the system to their advantage.

[Image by saebryo licensed under Creative Commons.]

Barack Obama Economics The Opinionsphere

Rewriting the Rules of Capitalism

Marc Ambinder discusses what he terms “Obama’s New Capitalism” in a recent piece. He asserts that the administration is “rewriting the rules of capitalism” but goes on to not discuss what these rules are. Which is fine – Ambinder’s piece makes some good points. One which I’ve made before is that Obama has not been violating the Rule of Law with regard to his GM and Chrysler interventions as his conservative critics allege:

Note that, aside from threats and suasion, the administration hasn’t done anything. The bondholders (with notable exceptions) agreed to these two deals. No laws have been broken. Everyone has sacrificed. And the unions have already given up a great deal – and, in doing so, put their trust in the administration.

I had written earlier:

These authors make a big point of the fact that Obama is abrogating contracts – but this objection is a bit silly. Obama is not a party to these contracts – and thus has no obligation to honor them personally. The Contracts clause of the Constitution – the Law which it is being alleged Obama has broken – was meant to constrain the individual states rather than the President or even the Congress. Congress was in fact given the power to abrogate contracts through bankruptcy proceedings in the Constitution. Obama – in intervening in the case of Chrysler – helped to negotiate an out-of-court settlement of the matter. Out-of-court settlements happen all the time – and are welcomed by overburdened judges who see it as better to allow all sides to come to an agreement rather than having to order them to agree.

To call this a violation of the Rule of Law is disingenuous at best.

What these authors are right to be concerned about is the concentration of power that undermines the system of the Rule of Law – as the government’s role in backstopping the finance and auto industries leaves it with enormous leverage.

Ambinder’s point that the UAW is putting a lot of trust in the Obama administration by accepting these deals is well-taken.

But I look forward to reading (or perhaps writing) the piece that Ambinder’s title seems to promise – explaining what amendments to the capitalist system have been wrought in the final days of the Bush administration and in these opening days of the Obama administration. We obviously don’t know everything yet – as that big piece of legislation which attempts to regulate the purported roots of this financial crisis has not been drafted to my knowledge.

But I can make a few educated guesses about the shape of this capitalism. So far anyway, institutions that are too big to fail have now combined into even larger institutions. It seems unlikely this will reverse. These enormous institutions now seem to have a implicit government backstop. This will need to be dealt with either with more regulation of such institutions – or by breaking them up into smaller pieces. It seems that in the future new financial instruments will be regulated more closely – and hopefully traded over some public exchange. Obama seems to want labor forces to have a greater role in running corporations – which is a relatively unique prospect in American history – and one that if it catches on could be revolutionary. At the moment, this depends on how well the UAW is able to handle its ownership stakes in Chrysler and GM – but one can see this creating either an advantage or a disadvantage competitively. There is also the issue of systematic risk – and finding a regulator responsible for monitoring this. Perhaps most significantly – the federal government has explicitly accepted what has long been its implicit promise to keep economic growth going.

Criticism Economics Political Philosophy The Opinionsphere

The Government Role in a Capitalist Economy

[digg-reddit-me]Robert J. Samuelson does a pretty good job in his column from last week of illustrating the incoherence of “the Establishment’s view” of government’s role in capitalism.

He begins his article discussing the prescient observations of Joseph Schumpeter, a 20th century economist who predicted that capitalism “sowed the seeds of its own destruction.” He described Schumpeter’s understanding of capitalism:

[Capitalism’s] chief virtue was long-term – the capacity to increase wealth and living standards. But short-term politics would fixate on its flaws – instability, unemployment, inequality. Capitalist prosperity also created an oppositional class of “intellectuals” who would nurture popular discontents and disparage values (self-enrichment, risk-taking) necessary for economic success.

Samuelson observes that Schumpeter’s observations seem to get to the heart of capitalism – yet he says, their conclusion is wrong – because capitalism survived. It survived Samuelson observes because:

We have subordinated unrestrained profit-seeking to other values. “We’ve gradually taken into account the external effects (of business) and brought them under control,” says economist Robert Frank of Cornell University. External costs include: worker injuries from industrial accidents; monopoly power; financial manipulation; pollution.

Samuelson goes on:

Successful capitalism presupposes three conditions: first, the legitimacy of the profit motive – the ability to do well, even fabulously; second, widespread markets that mediate success and failure; and finally, a legal and political system that, aside from establishing property and contractual rights, also creates public acceptance. Note that the last condition modifies the first two, because government can – through taxes, laws and regulations – weaken the profit motive and interfere with markets…

Now we’re really getting somewhere. Capitalism, it seems, must not be a matter of pure natural forces. It is not “unrestrained profit-seeking” in Samuelson’s view – nor does it exclude government intervention, as legal and political structures must modify markets and profit-making in order to “create public acceptance.” That’s a bit of an odd formulation, as anything could be justified as being done in order to “create public acceptance.” Circuses, beheadings, propaganda, war, large-scale confiscation of property – whatever. What Samuelson must mean – although it has to be inferred – is that measures designed to “create public acceptance” can only go so far before the essence of capitalism is destroyed – as he warns is imminently possible in his concluding paragraph. There is only a “thin line” he explains between capitalism and socialism – because:

If companies need to be rescued from “the market,” why shouldn’t Washington permanently run the market? That’s a dangerous mindset.

To illustrate this dangerous mindset which is empowered by an equally dangerous populism, he points to interjections of the government into the economy in the past half-century that have not been for the good – that is, those interjections in which the benefits are concentrated and the costs are dispersed, for example, ethanol subsidies and the promotion of the advantages for politically-connected companies; and those interjections that have scapegoated various groups – such as the anti-bonus tax bill. This implies – if nothing else – a confusion on Samuelson’s part.

Political actions in which the benefits are concentrated and the costs are dispersed are – as George Will put it “the supreme law of the land.” They have been the main business of American government since shortly after it’s founding – from subsidies for railroads to the laws enabling the various cartels of the Gilded Age to the military-industrial complex to agriculture subsidies in general to the bailouts of various industries. Only a few presidents have ever taken on this “supreme law of the land” and decided to extract costs from the politically influential few for the good of the many – Teddy Roosevelt as he sought to bust the trusts; FDR as he re-wrote the social contract. Most other presidents have tried to have it both ways – to give the politically influential few what they want while also attempting to achieve some common good. This has often been the source of their failure. The populist scapegoating is an entirely different matter – and is generally fleeting and while distasteful does little real damage. 

Both of these have been part of American capitalism since the beginning. Yet for some reason, Samuelson believes that capitalism is more under siege today than in the past. He never makes the case why – except to point to distasteful and inefficient aspects of American capitalism that have been around since it’s inception. This is little reason to believe that either populist scapegoating or actions with concentrated benefits and dispersed costs have increased significantly. And Samuelson does not try to make that case. Rather, he reveals the same unease that the rest of “the Establishment” has with any significant change. 

The incoherence and of this worldview is clear. What is less obvious is why. The answer is a theme I have been coming to again and again in this blog: that the free market is not a natural phenomonen, but a creation of a society and government. Thus – we did not really “[subordinate] unrestrained profit-seeking to other values” as Samuelson suggests – rather the government created costs to balance the marketplace. If a company was polluting, it was damaging those around it just as much as if it had been stealing from them. By imposing costs, the government was not so much “subordinating unrestrained profit-seeking” to some other values – but preventing one party from stealing from another. So, the government enacted regulations to reduce that pollution – and exacted costs if companies did not follow those limits. The cap-and-trade legislation promises to be an even clearer interjection of the government in this manner. The government and the society of which the government is a part together create the circumstances in which a market can truly be free.

Capitalism – alone, without a society to provide a marketplace – is a meaningless concept. Pairing a capitalist economic model with a democratic state has become a long-term successful model for progress because the “seeds of destruction” that capitalism produces are mitigated and sometimes used by the democratic state to the confer legitimacy on the model. The problem with capitalism has proved to be not as much the “instability, unemployment, inequality” that Samuelson describes – but the concentration of power among a monied and politically-influential elite that has attempted to protect the status quo and their own interests at the expense of the legitimacy of capitalism itself. Once the concentration of power reaches a certain tipping point, the market becomes less free. Which is why the government must, from time to time, step in to allow some sort of balancing to take place and to create rules for the market which allow it to operate freely.

Samuelson is concerned that this means that Washington may take it upon itself to “permantly run the market.” In this he demonstrates his lack of understanding. The government – and the society at large – have always created the rules by which the market is run – have always sought to mitigate the damage wrought by robust competition and worse. What is different now is that once again the government failed to adequately police the market. Or alternately, you could argue that the government failed to ensure the market stayed free, allowing firms to become so big and powerful they posed a systematic risk. Either way, while it would be dangerous to have a government declaring it would “run the economy” – that is not the situation we are now facing. Samuelson’s unease seems more the result of a desire to protect the status quo than any real regard for or understanding of capitalism and free markets.

Economics Financial Crisis

The Public Purpose of Bailouts

[digg-reddit-me]As in the financial crisis generally, the executive branch, the media, and the Congress have all focused on the corporations whose brands are at stake rather than the people affected. This is understandable. Stalin’s famous aphorism that a million deaths are merely a statistic, while a single death is a tragedy, can be adapted to economic hardship as well. A million bankruptcies by individuals are a mere statistics, while the bankruptcy of a famous brand such as Chrysler or Citibank is a tragedy, affecting each of our lives – as signs come down, commercials stop airing, and the products and services we receive now have a different branding.

But saving a brand name should never be the business of our government. In a government intervention into the market, a brand name might be saved – but this should never be a policy goal. Yet, this is precisely the manner in which this question is presented to the public: Should the government bail out Citibank? Or Chrysler? Or Starbucks? Framed in this manner, the answer should always be, “No.”

The real issue concerns the proper role of government in a market economy.

In this crisis, the issue of how involved the government should be in the economy has largely been resolved. “Do nothing,” doesn’t seem to be a realistic option in the midst of a crisis. In times of panic, we are all Keynesians. The unwinding after the crisis promises to re-ignite a fight about the proper role of government in the economy.

The real issue at the moment then, is the follow-up question: how to balance market forces and stability in a market economy – and specifically, in the midst of this crisis. Mitt Romney, in a New York Times editorial that proved especially influential, made the case for why our current system can effectively deal with the bankruptcies of the Big Three Automakers. Paul Krugman took what has become the consensus liberal view: if only we weren’t already in a credit crisis, bankruptcy would be a good option.

For the past year, this has been the argument – with the same people sometimes switching sides depending on the particular company. Capitalism inevitably involves creative destruction – but in the midst of a crisis of confidence, any destruction becomes seen as potentially catastrophic, as the collapse of Lehman Brothers demonstrated.

But government intervention should avoid saving corporations. The government should, when it intervenes in the market, strive to change the forces at work rather than to inject money into corporations themselves.

Corporations, whose primary purpose is to amass wealth by any means available for their owners, and who always manage to simultaneously amass wealth for the managers, cannot be trusted with public money. There is no public purpose to such profit-making. The public value of a corporation comes from it’s incidental activities – the means by which it is able to amass it’s profits. By bailing out General Motors, the government would be giving it’s money away for no public purpose. But the government does serve a public purpose by keeping General Motors’ factories churning out cars.

Within that distinction lies the difference between outrageous abuse of taxpayer funds and a valid public purpose. The more difficult question is how to avoid the abuse while serving the purpose.

The Bush administration has failed to do this – which is why there is fresh outrage at every million dollar junket by AIG executives or private jet ride by auto executives.