23 Things They Don’t Tell You About Capitalism?

“23 Things They Don’t Tell You About Capitalism” is a book by Ha-Joon Chang, an economist at Cambridge.   I haven’t read the book, but I just saw a talk by the author on booktv (cspan2).  I think it is important to understand the view of economics that he is advocating.  Unfortunately, I don’t currently have time to read his book and comment in detail, but you might want to catch his talk when it is repeated or becomes available online at the booktv.org web site.

He makes some persuasive and valid points, but I also got the impression that his book is a bit of an intellectually disingenuous hatchet or spin job.

His first chapter is about how “free” markets aren’t really free because of things like child labor laws and prohibitions on slavery.   But this argument attacks a strawman, because free market advocates in today’s societies are not arguing for zero intervention or regulation, but pointing to the wisdom of working with and appreciating the value of emergent market phenomena, and how many of the faults blamed on market capitalism are really due to ill-advised interventions or perverse incentives.

In another chapter he argues that making the rich richer doesn’t help the poor, but, at least in the talk, his example was the increased share of the economic pie held by the top 1% in the United States since the 1980s.   My question for him, especially in light of his comment about barriers to immigration in rich countries, is why on this particular example, he only analyzed wealth creation and investment on a national basis, as if the huge middle classes lifted out of poverty in China and India didn’t matter.   Perhaps an unkind way for me to frame this, is, if he is going to argue against the “disproportionate” share allocated to those that produce wealth in a free market society, wealth that he claims is undeserved because it is really built upon a community generationally created social infrastructure, why is he taking a national socialist macro-economic perspective rather than an international socialist one?  If he truly cared for the worlds poor,  shouldn’t he want to appreciate the contrubtions of the productive rich to their well being, instead of mocking and criticizing them in an intellectually dishonest attempt to influence domestic US politics?   Shouldn’t he appreciate the how the US helps more poor people by having porous borders with Mexico than by having a European style welfare state?  Shouldn’t he appreciate how the US helps more poor by participating in and advocating globalization than by protectionist policies protecting low skilled local jobs?

In Ha-Joon Chang’s criticism of the idea that corporations should serve the shareholders, he notes that the shareholders have been getting a larger share of the profits in the form of dividends and stock buybacks  in recent decades, and that shareholders have become increasingly short term and less committed to a particular company.   One result of this is that companies are investing less in research, development and employee training, in order to increase short term shareholder value, at the expense of future growth.  However, he didn’t mention in his talk, how much his analysis is dependent upon tax policy.    While a higher percentage of  “profits” are being returned to shareholders, margins are lower due to competition and efficient markets so the total share of revenue going to profit may be less, and he isn’t considering the share of “profits” that go to bondholders and the share of  “profits” that are paid as taxes to government entities, because these are deductible costs, that under tax and accounting rules are not part of “profits”.  While blaming reduced investment in future growth on the focus on shareholder value, he neglects the fact that even these supposedly short sighted shareholders,  are willing to value companies that are growing and investing at prices that are much higher multiples of their earnings, and they are willing to do so despite tax policies that will double tax the earnings before they see any of the profits.  I would argue that because of tax policy, many corporations are investing too much rather than too little and the economy would grow faster if the double taxes were eliminated so that capital could more easily flow to where it would earn the highest returns.

Perhaps the most egregious argument Chang makes is that voters should not let their ignorance of economics, keep them from voting for economic regulation, because they vote out of ignorance for regulation, on other issues, such as drugs and the environment.  Besides, as he explains, economics is 95% common sense, just read his book, and I guess, start voting just as ignorantly in the area of economics.

I Will Honor the (fiat) Dollar!

Ron Paul and many of his supporters in the tea party want a return to the gold standard and the elimination of the Federal Reserve.  The argument is that the supply of gold is limited and thus governments are constrained in their ability to inflate a gold backed currency.   Gold has traditionally been highly valued by humans and thus able to serve as a store of value.   But golds limited supply is also its weakness, and the human desire to hold gold in times of uncertainty causes its value to be volatile.  Gold’s value can move independently of other values in the economy, especially during times of uncertainty.  If your currency is on the gold standard, then your debts are denominated in gold, when a speculative rise occurs in the value of gold, then your level of debt has increased.  The value your employer or the economy places on your work may not have  increased with your level of debt, in fact, employers are unlikely to hire and may have to layoff employees in times of uncertainty, and may prefer holding gold to employing your labor during times when the value of gold is high.  The gold standard is one of the factors that contributed to the great depression.  The uncertain international financial situation caused a rush to the safety of gold and currencies like the dollar that were denominated in gold.   Prices of goods had to fall in gold terms and this price deflation is much harder to economies to adjust to, especially when debt is denominated in gold.

Is gold really a reliable store of value?  How valuable is gold, and what would be the effect of forcing currencies to be backed by gold?   Gold has been a remarkably consistent store of value over the ages, but that ignores its volatility.   The price of gold was over $700 in the late 1970s,  but was back down to around $300 for a couple decades after that, and is now priced at over $1400.    Gold’s high prices limit its economic usefulness.  As a good conductor of heat, it would be useful in pots and pans and computer heat sinks, but it is too expensive for those uses.  Very small amounts of gold coatings can protect materials such as electronic connectors from corrosion, but most gold is used in dentistry and jewelry and as a store of value.   At high prices, even its usage in dentistry and jewelry is reduced or deferred in the hope of lower prices.

An economy or culture that values gold highly will expend effort and resources to produce or obtain more.  Is an economy that devotes more resources to mining, refining or trading gold a better economy?  Which economy is more likely to grow more rapidly, one that invests in gold, or  one that invests in capital equipment that increases the productivity of labor, or invests in research and development?  Isn’t an investment in gold, really an admission that you can’t find a more productive use for your money?

The high value of gold is subjective and speculative.    A cultural recognition in India for instance, that it would be better off investing in capital equipment, could flood the market with gold.

But what is the value of a fiat currency?  Doesn’t just printing more steal value from those that already hold it, and cause prices to rise?  What backs a fiat currency?  It’s value seems less intrinsic and even more subjective than that of gold?   Yes, the value of a fiat currency is mainly symbolic, its value is the fact that so many are willing to honor it.  Ultimately, it is legal tender for paying the taxes of the  issuing state.  The dominate roll of the US dollar in the world economy gives it a privileged position as the worlds reserve currency.   Many countries keep reserves of dollars to back their currencies, and set or manipulate the value of their currencies relative to the dollar.

So what backs the value of the dollar?  All the people that will honor it.   In the current economic situation in the United States, there are 20 million un- and under- employed workers willing to honor the dollar.  China and Europe are keeping the value of their currencies low or stable relative to the dollar, so they are willing to honor it.