Tuesday, 20 May 2014

“Credit Expansion, Economic Inequality, and Stagnant Wages”

My favourite living economist George Reisman responded briefly last week to Thomas Piketty’s much-discussed  tract on inequality, and substantively (back in 2008) to the primary cause of unearned inequality that Monsieur Piketty overlooks.

Capital, he points out, is not the source of poverty but instead is both the source of all production, and the very means by which labour is paid.

The wealth of the rich is not the cause of the poverty of the poor, but rather of making the poor less poor, indeed, rich. The wealth of the rich is invested in means of production, which are the foundation of the supply of products available to everyone through purchase. Their wealth—their capital—is also the source of the demand for labour and thus of wages. The greater is the capital of the rich, the larger is the supply of products and the demand for labour, i.e., the higher are real wages and the general standard of living. Where would you rather live and work? In a society whose means of production were a few goat farms, accompanied by a correspondingly small demand for labour, or in a society filled with multi-billion dollar corporations producing a corresponding supply of products and competing for your labour?
    Over the last generation or more, economic progress has greatly slowed, and many people are economically worse off than they used to be. Why should that be a surprise? Producers are labouring under the ever-growing oppression of government regulation: now 700,000 accumulated pages just at the federal level…
    Economic progress tends to increase insofar as the savings result in a larger supply of capital goods, which serves to increase production, including the further production of capital goods. The rate of return on capital tends to fall because the larger expenditure for capital goods (and labour) shows up both as larger accumulations of capital and as an increase in the aggregate amount of costs of production in the economic system, which serves to reduce the aggregate amount of profit.
    Our problems today result largely from government policies that serve to hold down saving and the demand for capital goods. Among these policies are the corporate and progressive personal income taxes, the estate tax, chronic budget deficits, the social security system, and inflation of the money supply. To the extent that these policies can be reduced, the demand for and production and supply of capital goods will increase, thereby restoring economic progress, and the aggregate amount and average rate of profit will fall.

Further, it is impossible to discuss inequality in today’s context without discussing the massive credit expansion undertaken by the world’s central banks in recent decades.

The truth is that credit expansion is responsible not only for the boom-bust cycle but also for another major negative phenomenon for which public opinion mistakenly blames capitalism: namely, sharply increased economic inequality, in which the wealthier strata of the population appear to increase their wealth dramatically relative to the rest of the population and for no good reason.
    It is not accidental that the two leading periods of credit expansion in history — the 1920s and the period since the mid-1990s — have been characterized by a major increase in economic inequality. Both in the 1920s and in the more recent period, a major cause of the increased economic inequality is that the new and additional funds created in credit expansion show up very soon in the financial markets, where they drive up the prices of securities, above all, common stocks. The owners of common stock are preponderantly wealthy individuals, who now find themselves the beneficiaries of substantial capital gains. These gains are the greater the larger and more prolonged the credit expansion is and the higher it drives the prices of shares. In the process of new and additional money pouring into the financial markets, investment bankers and stock speculators are in a position to reap especially great gains.
    Since it's so important, the main point just made needs to be repeated: credit expansion creates an artificial economic inequality by showing up in the stock market and driving up stock prices. Since the stocks are owned mainly by wealthy people, they are the main beneficiaries of the process. The more substantial and the more prolonged the credit expansion is, the larger are the gains enjoyed by wealthy people more than anyone else.

Since it's so important, let’s repeat that main point again:

Credit expansion is responsible not only for the boom-bust business cycle … but also … is a major source of artificial economic inequality and sharply increases profits relative to wages. These are processes that come to an end and are actually thrown into reverse as soon as credit expansion stops and the recession/depression that is its ultimate consequence begins...
     In the last two episodes of major credit expansion … and over the last several decades as a whole, real wages have largely stagnated. This stagnation is the result of massive government intervention into the economic system that undermines capital accumulation and both the demand for labour and the productivity of labour. It is not the result of economic inequality, the profit motive, or any other aspect of the capitalist system.


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