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By George P. Brockway, originally published January 29, 1996

1996-1-29 The Assumed Employment Virus Title

I SEE BY THE PAPERS that big corporations are downsizing their economics departments. IBM and GE have eliminated theirs altogether. Others are keeping a few people on for special projects, but still are outsourcing from one think tank or another when they want to know about the economy.

There is poetic justice in this, for economists have not been bashful about claiming credit (if that is the right word) for developing the theory of productivity. That allows the sensitive readers of the Wall Street Journal to call their brokers and take a position in the stock of any company announcing its intention to fire 10,000 or more employees, particularly those with 20 years of service or better.

I do not mean to gloat. Some of my best friends are economists; moreover, intellectual life in America is thin enough without sending more PhDs down to swell the ranks of telemarketers anxious to interact with me during my happy hour about a new exercise machine or a new insurance policy. No, I don’t mean to gloat, but I do intend to seize the day to fret a bit about the state of the profession.

I became concerned about the profession when I sent my brother a copy of my first book. He thanked me in due course, and congratulated me, but he didn’t pretend he had read it, nor did he promise to read it. “After all,” he wrote, “I doubt that I’ve ever in my life read an economics book straight through. You can hardly expect me to break that record now, even for my kid brother.” So far as I know, he never did.

My brother was not a dope. He was far from adopting what James Truslow Adams a half century ago called “the mucker pose.” He held both the baccalaureate and a doctorate from Harvard. He traveled widely and read widely. All his life he was involved in community affairs. But he couldn’t be bothered with economics. When I pressed him for an explanation, he said, “You people claim to be scientists, but you disagree with each other about everything. No two of you speak the same language. Some of you seem not speak any language.”

Although my brother was not a dope, I’m inclined to think that in this case he was almost precisely wrong. Economics is not a science, and the discipline’s practitioners tend to agree too much. Especially about the wrong questions.

One of the puzzles of contemporary economics is the number and variety of theories – including those most prominent in the universities today – that trace their origin to sensationally different journal articles, yet all end up advocating laissez-faire or something remarkably close to it. The puzzle is of course the greater because, not so long ago, the Great Depression and World War II seemed to have laid laissez-faire permanently to rest.

General Equilibrium Analysis, Monetarism, the Neoclassical Synthesis, and Rational Expectations are among the schools affected. In computer jargon, one might say that a virus has attacked them all, disrupting programs, infiltrating compositions, corrupting data bases.

We didn’t use to think of mathematics or logic in such highly charged terms. We were well aware that an error at any point in an exercise would render all that followed suspect; but our exercises used to be more insulated from each other, so that our assumptions were more frequently considered.

Be that as it may, I believe it can be demonstrated that something like a virus has indeed infected most contemporary models of the economy. We may give the virus a name: the Assumed Employment Virus.  For it is an assumption or presumption that the economy is operating either actually or effectively under conditions of full employment.

The Assumed Employment Virus appeared almost contemporaneously with The Wealth of Nations in 1776, but no one noticed for a century and a half. It was not until the Great Depression that providing employment was recognized as an economic problem. Adam Smith, for example, devotes a few pages to the comparative wages of different “employments” and to the “price of labor” generally. Yet the only unemployment he takes notice of is the seasonal one of bricklayers and masons. He pays some attention to the “Poor Laws” (which for 400 years were a staple of British fretfulness, the way “welfare as we know it” continues to occupy us), but seems not to have considered the possibility of, and need for, regular employment for the poor.

The “classics,” or most economists from Smith to the middle of the 20th century (except Karl Marx), presumed that all laborers could get jobs, no matter how bad the times, if they merely lowered their wage demands to what entrepreneurs offered. It was not suggested that in bad times (or at any time) entrepreneurs should pay a living wage at the expense of the going rate of profits. Bob Cratchit was a fortunate man, even though he couldn’t afford adequate medical attention for Tiny Tim. In modern jargon, entrepreneurs were forced by market discipline to cut wages. Laborers were free to accept jobs that would allow them to starve to death. As Phil Gramm and Dick Armey taught undergraduates only the other day in Texas, those who lacked jobs were unemployed because they didn’t want to work. There was no such thing as involuntary unemployment.

It remained for John Maynard Keynes to demonstrate why involuntary unemployment is a fact of laissez-faire life. He observed “that men are disposed … to increase their consumption as their income increases, but not by as much as the increase in their income.” If the resulting weakness in demand is not countered by investment (sooner or later by government investment), production will be decreased, and workers will become unemployed – involuntarily.

Laissez-faire theorists have tried to refute Keynes’ demonstration by presenting arguments that unemployment cannot be reduced to zero. The Monetarist Milton Friedman came up with the first of these -the Natural Rate of Unemployment (whatever is natural is ipso facto involuntary), now usually referred to as the Non-Accelerating-Inflation Rate of Unemployment, or NAIRU. It has also been called the Normal Rate, the Warranted Rate, and (in a triumphal oxymoron) the Full Employment Rate.

There is a sort of reason behind even that last name. All of the involuntary unemployment arguments maintain either that unemployment cannot be reduced below the mentioned rate, or that if it is temporarily reduced (and it can only be reduced temporarily), it will be followed by some unacceptable consequence, usually inflation without limit. If at some point policy forbids, for whatever reason, further reductions in unemployment, why not call that point Full Employment?

The Rational Expectationists, whose leader was recently crowned with a Nobel Memorial Prize, make the problem easy for themselves. It is, they say, rational to expect the economy to behave as the classics would have it; so involuntary unemployment doesn’t exist, and laissez-faire does.

In effect, then, for most contemporary economists both voluntary and involuntary unemployment amount to full employment. Distinguishing among the three terms would saddle scholars with two extra variables that could enormously complicate their equations. The obvious course is to simplify by using one term for three. It is with this simplification that the Assumed Employment Virus enters today’s models.

ONCE THE VIRUS is in the models, two things happen. First, since full employment is now an unequivocal term in an equation, the equation can be solved for it. Full employment is no longer a mere possibility or desideratum or dream but an eventuality, if not a determinate actuality – just as in General Equilibrium Analysis the “proof” of the possibility of an equilibrium quickly entails proof that an equilibrium exists, and that it is optimal. Second, since full employment is at last one of the prime objectives of any modern economic policy, any model containing the virus has apparently proved the achievability of the objective, and it can therefore be assumed. Whatever still remains for the economy to do can be done with comparative ease. In other words, take it easy: laissez-faire.

As might be expected, the Assumed Employment Virus, having successfully infected models of the economy as a whole, has had equal success in confusing more restricted models. Thus the proofs of Keynes and Michal Kalecki that saving equals investment have been used, and are still used, to justify the constant cries for decreased consumption and increased saving. (The proofs merely mean that whatever is invested has been saved; they do not mean that whatever is saved is invested.)

More to our present point, in the absence of truly full employment, too much saving can actually be, as Keynes was at pains to emphasize, a bar to investment as well as to consumption. Because what is saved cannot be consumed, saving reduces demand; and when demand is reduced, prudent entrepreneurs are not emboldened to invest in new production to satisfy it. Consequently, the recurrent schemes to encourage saving are generally either unproductive or counterproductive. In the 1993-94 debates over NAFTA and GATT,   Ricardo’s Law of Comparative Advantage was similarly cited regularly without acknowledgment or recognition of its dependence on the assumption of full employment.

It is obvious enough that a nation is neither enriched nor strengthened if substantial numbers of its citizens lose their jobs and are kept unemployed while the nation imports some product these citizens once made or could now make. This manifest truth is, however, rendered irrelevant by the Assumed Employment Virus.

Those who have been downsized into joblessness (including the economists we mentioned at the start) are likewise victims of the Virus. The standard productivity index is derived by dividing the Gross Domestic Product (GDP) for a period by the number of hours worked during that period. The index is a common fraction, so it will naturally rise if the denominator (“hours worked”) is reduced; hence the rush to downsize everything from the Federal government to the local supermarket.

“Productivity” may thereby be improved, but production (which is not an index number but actual goods and services produced for actual people to use and enjoy) falters. The victims of downsizing, being now unemployed, necessarily reduce their consumption, that is, the demands they make upon the economy. Entrepreneurs, faced by this reduction in demand, reduce production, which of course leads to a reduction of the GDP.

It would be different if full employment were the actuality rather than a deluded assumption caused by a “virus” in economists’ models. As long as there are unemployed workers, though, the first mission of macroeconomic policy should be to increase “hours worked”-that is, employment. This is not to say that we need a return of the Luddites. It is to say that we need economists dedicated to devising policies that will make full employment a hard reality instead of an easy assumption.

The New Leader

By George P. Brockway, originally published June 14, 1993

1993-6-14 In Pursuit of a Fiscal Fantasy title

PRESIDENT CLINTON’S $31 billion “stimulus package” was defeated by a filibuster that was organized, not on the reasonable ground that the package was woefully inadequate, but on the fanciful ground that by increasing the deficit it would hurt the recovery now supposed to be under way. I want to talk about the alleged recovery, but first let’s pay our respects to the deficit.

Suppose we had an adequate stimulus – something on the order of $200 billion, rather than the proposed $31 billion. That kind of money could knock 5 points off the official unemployment figure, bringing it down to an arguably tolerable level of 2-per cent, and could start to do a job as well on those who are working part time or are too discouraged to look for work.

But could we afford it? Of course we could. The late Arthur Okun, a universally respected economist and the chairman of the President’s Council of Economic Advisors under LBJ, maintained that a 1 per cent rise in unemployment causes a 3 per cent fall in real national product. If Okun’s Law works backward and becomes a multiplier (not guaranteed), the 5 per cent fall in unemployment we’re after should result in a 15 per cent rise in output. That would be about $850 billion and should, in turn, yield about $210 billion in taxes at present rates – not to mention the gains for state and local governments, or the savings in reduced welfare outlays. So our massive stimulus could produce a modest reduction in the deficit. As Mr. Micawber would say, result happiness.

The result would still be far from misery even if Okun’s Law didn’t quite work backward, and even if the government proved incompetent in all the ways the naysayers say it is. If we had to borrow the entire $200 billion, the deficit would be increased by the interest, or by $13 billion–and if the Federal Reserve Board should miraculously decide to be on the same team as the rest of us, the interest could be as low as $6 billion.

Are you worried silly about the $16,750 that rabble-rousers say is your share of the national debt? Grow up. I have a $75,000 mortgage that I’ll not pay off if I live till I’m 105. The bank isn’t worried. My estate will pay it off, of course, and whoever buys the house will mortgage it again and will no doubt later refinance the mortgage to pay for some improvements or repairs. And so on. It’s a well-built house and should last (and be mortgageable) for another hundred years or more. All that’s necessary is for the successive owners to be able to pay the interest. The same is true of the United States of America and its national debt.

What is the alternative? It is proposed that we get government out of the way or off business’ back or whatever metaphor appeals to you, and let the present “recovery” rip. The good old free enterprise system, we are told, the very system our economists are teaching with such smashing success to Russia and Eastern Europe, would soon show that a man knows what to do with his money a lot better than some bureaucrat in Washington. You bet.

The big trouble with this prescription for prosperity, worked out by the classical economists, is that it is based on unrealizable assumptions. One assumption we’ve mentioned previously: full employment. A second is that a level playing field, of the kind the Wall Street Journal pines for, isn’t enough. The players must have at least fairly equivalent equipment. Adam Smith put it this way: “The whole of the advantages and disadvantages of the different employments of labor and stock must, in the same neighborhood, be either perfectly equal or continually tending toward equality.”

In addition, there’s an assumption that economists pretend doesn’t matter. All the buyers and all the sellers are assumed to know all about all the products available and the demand for them. Whoever believes this assumption should have followed me around last week as I shopped for a new automobile. I don’t even know how to kick the tires. A contemporary school of economists gets rid of this assumption with another, namely that everyone acts rationally and rationally expects everyone else to act rationally, too.

If you accept each of the assumptions, you probably can see some sense in the notion that an invisible hand will guide us to the recovery of our dreams. Don’t be too sure. If I really knew what I was doing when I shopped for a car, I’d make the best buy possible–and so would you and everyone else. One dealer would start to get all the business. Then the competitors would lower their prices, and pretty quickly there would be one big price war.

Short of collapse, there could be no end to such wars. All competitors can lower their prices by cutting their costs. Their costs are someone else’s prices, which likewise can be lowered by cutting costs. And so on ad infinitum. David Ricardo and his followers argued that this regress would be stopped by the costs of food and other basic things (called “wage goods”) that workers need to survive.

But the costs of wage goods are not immune to cutting, so the regress would continue. Very likely some people would lose their jobs as prices tumbled, although the classical theory merely calls for wages to fall. Either way, if the free market were left to its own devices, the price-cutting, cost-cutting, payroll-cutting, demand-cutting sequence would continue unabated until prices, payrolls, production, and profits all approached zero. The free market could not stop the process – nor, if they played the game by the rules, could any of the participants. The invisible hand pushes everyone and everything inexorably down.

The drama has a different ending in the scenario of Leon Walras, the patron theorist of free market analysis. He wrote that “production in free competition, after being engaged in a great number of small enterprises, tends to distribute itself among a number less great of medium enterprises, to end finally, first in a monopoly at cost price, then in a monopoly at the price of maximum gain.”

So take your pick. The Walrasian theory has free competition ending in monopoly. The more conventional theory, though it says nothing about an end, offers no reason why general disaster should not result.

There is, of course, a third outcome – what actually happens. For we take steps to prevent disaster, either by accident or by design, and those steps reveal that we are, by turns, do-gooders, pragmatists, and sponsors of crime.

In our role as do-gooders we enact child labor laws, minimum wage laws, worker-safety laws, social welfare laws, and many other laws to mitigate the horrors of free competition. It is not bad to do good – except in the eyes of conventional economics. In his speech launching the idea of a natural rate of unemployment, Milton Friedman condemned all altruistic measures. They would, he said, increase the natural rate of unemployment. Pre-Depression America, which knew very little of such things, is touted as a time of low unemployment. It was also a time of child labor, the 12-hour work day, labor injunctions, and similar amenities.

It must be confessed that we are more comfortable thinking of ourselves as pragmatists than as altruists. In any event, whereas businesspeople applaud the pronouncements of conventional economics, very few act in accordance with them. They may compete vigorously, but very few compete primarily on price, having learned (as a book of business advice once had it), “Don’t sell the steak. Sell the sizzle.” With less pressure on prices, there is less pressure on costs.

Finally, we are sponsors of the crimes we deplore. A character in the funnies used to say, crime don’t pay well. For most practitioners that may be true, but it pays enough above the bottom of the current legitimate pay scale to entice hundreds of thousands into making a career of it. If these people were to renounce housebreaking and carjacking and mugging, and were to look for decent work, their competition for jobs would push the legitimate pay scale even lower.

AND THAT’S not all. As John E. Schwarz and Thomas J. Volgy show in grim detail in The Forgotten Americans, there are 30 million working poor in America – people who are desperately trying to live the work ethic yet still cannot afford the basic necessities at the lowest realistic cost. Heartbreaking thousands of these people take a flier at drug running or prostitution just to survive.

We are, as I say, sponsors of all this crime and squalor. It serves to retard the free fall of the economy, and with our altruistic and pragmatic practices it will eventually help us to settle at a stopping point somewhere between here and the pits. Economics, however, takes time, and it will be years before we reach that point. When we do reach it, we will find ourselves in what economists call an equilibrium, with upwards of a quarter of our productive capacity unused, with 20 million of our people unemployed or underemployed, and with probably 50 million men, women and children living lives that are far from solitary but are nevertheless (in the rest of Hobbes’ phrase) poor, nasty, brutish, and short.

I don’t suppose that, aside from a few fanatics for the apocalypse, there is anyone who is eager for such an equilibrium. But there are many millions who are capable of denying its possibility, and (as with other diseases) the denial makes its actuality the more deadly – especially since conventional economics can think of no way to upset the equilibrium, except by doing more of the same.

In the past, similar equilibria have been upset by wars. The Civil War made us a nation; World War I industrialized us; World War II got us out of the Great Depression. Professor Joseph A. Schumpeter celebrated the creative destructiveness of great new industries, like the railroads, which rendered canals obsolete, and the automobile, which doomed the horse-and-wagon. (Some expect the computer to play a similar role, but the information revolution is responsible for much of the payroll-cutting currently in progress, including its own.)

The thing about these equilibrium upsetters – these wars and these creative destroyers – is that they’ve all required ever bigger expenditures by ever bigger government. The expenditures for war are obvious; but often forgotten are the grants of public land to build the railroads, together with the postal contracts to keep them running, and the paving of streets and building of highways for the automobile. Is it conceivable that we can summon the wit and the will to make the expenditures that need to be made today?

I cannot conceive it. What is all too probable is that the welfare of the nation and of increasing millions of our fellow citizens will continue to be sacrificed to an accounting fantasy called a balanced budget.

The New Leader

By George P. Brockway, originally published May 19, 1993

1993-5-19 Why Productivity Will Unto Clintonomics title

THE FIRST COLUMN in this series, almost 12 years ago, was titled “Why Speculation Will Undo Reaganomics” (NL, September 7, 1981). Well, I was wrong. I was right enough in my analysis – that speculation would enrich the rich and impoverish the poor and bring on what we now call a credit crunch – but I naively could not imagine anyone being pleased with such an outcome. By last November, of course, a considerable majority of the voters did become displeased, if not with the enrichment of the rich and the impoverishment of the poor, at least with the stagnation that followed from the polarization of the economy.

I now feel possessed of another prophecy. And I hope I’m wrong again.

When I say productivity will undo Clintonomics, I mean just that. I don’t mean lack of productivity. I mean what the New York Times and the Wall Street Journal and the Economist are always writing about, what Nobel laureates in economics from MIT are always talking about, what Labor Secretary Robert Reich is now planning to try to increase. I mean that to the extent that Clintonomics is successful in improving our productivity, it will fail to improve our standard of living.

If our aim is what all these worthies say it should be, we can achieve it by decreasing production, profits, employment and wages. In fact, this is what General Motors and IBM and other giants of our economy are doing today. The fashionable word for their activity is downsizing, and the purpose is to step up productivity. Given a modicum of managerial skill and luck, half of the downsized corporations may actually improve their rating on the productivity scale. But their production and profits and employment and wages will mostly be lower. And the national product and profits and employment and labor income will certainly be lower.

Productivity is not a new idea. It was an old idea when President Reagan, in his first year in office, created a 33-member National Productivity Advisory Committee headed by former Treasury Secretary William E. Simon. You never heard of that committee? Who ever did? A year or so after its appointment I spent some time trying to find out what it had accomplished. Although I wrote as CEO of an American corporation, Simon did not answer my inquiries, nor did the White House. Finally, Senator Daniel Patrick Moynihan was able to dig up for me three or four slim pamphlets published by a second productivity committee that had been created some months after the initial one. I still have the pamphlets somewhere in this mess I call my study. As I recall them, they were paeans to efficiency and might well have been written by Frederick Winslow Taylor a hundred years earlier.

When economists started playing with productivity they changed it radically. They defined it clearly enough as output per unit of input. In keeping with their passion for mathematics, though, they devised an equation to determine it and an index to rank performance. Since labor is by far the largest factor of input, they thought to simplify the equation by letting labor stand for all inputs. This had the further attraction of allowing them to quantify input in “real” rather than dollars-and-cents terms, as they would have had to do in order to add the input of labor to the inputs of land, capital, technology, and whatever other factors one might name. Mathematical economists tend to believe that money is not real and don’t like to talk about it in public, but their simplification, as I’ve shown in greater detail elsewhere (see The End of Economic Man, Revised–Adv.), causes a serious distortion.

The productivity equation relates two quantities. It is a ratio, an ordinary fraction. In the United States it is computed by the Bureau of Labor Statistics of the Department of Labor, which divides the gross domestic product of a period by the number of hours worked in the period. “Hours worked” includes those of proprietors, unpaid family members and others “engaged” in any business.

Like all simple fractions, this one can be increased in the two ways we learned in grade school: by increasing the numerator (2/3 is greater than 1/3), or by decreasing the denominator (1/2 is also greater than 1/3)[1]. Given this property of fractions, a moment’s reflection will satisfy you that the productivity index is constitutionally incapable of providing an unequivocal answer to any question you may reasonably want to ask. It tells nothing of the size or nature of the domestic product, and nothing of the size, composition or compensation of the labor force.

The index goes up when production fails, provided “hours worked” falls faster; that is what the downsizing movement aims for. The other name for this result is recession, or depression. On the other hand, the index declines when production rises, provided “hours worked” rises faster. The other name for this result is nonsense. The economy is not less prosperous, nor is the nation weaker, because more people are working. (Otherwise, why are we so eager to get welfare mothers to work?)

The foregoing is obvious, and the mathematics is indefeasible. How is it, then, that so many intelligent, experienced, well-intentioned men and women –practically the entire membership of the American Economic Association, not to mention the with-it managements of our corporations great and small – are bemused by the productivity delusion? Psychology aside, I can make a stab at explanation.

Let’s begin with a quotation from a back issue of the Times: “A worker who produces 100 widgets an hour is clearly more productive than a worker who produces only 50 widgets an hour.” That is certainly true. And generalizing the observation, a nation of 100-widget-an-hour workers should be twice as prosperous as a nation of equal size composed of 50-widget-an-hour workers. True again – with one proviso, namely that both nations have full employment[2]. Should the first nation have only a third of its workers employed, while the second has full employment, the second will produce 50 per cent more widgets than the first and therefore will be more prosperous.

The assumption of full employment is one that economists are so comfortable with that they make it routinely, without thinking about it. Indeed, classical economics was based on this assumption, and so is neoclassical, or the economics currently practiced by most of the profession.

The beauty of full employment is that if you have it, almost anything you try will work. David Ricardo thought that England should stop making wine and concentrate on wool cloth, that Portugal should do the opposite, and that the two countries should exchange surpluses. The English vintners would become weavers, and so on. Given some rather special assumptions, this was a dandy idea in 1817 (and today it underlies the North American Free Trade Agreement). A better idea, because the British Isles were plagued by roving bands of homeless unemployed, would have been to employ the unemployed as vintners (or brewers or barley-water bottlers) and let the Portuguese keep their port, along with the wool they were perfectly capable of weaving.

If you have full employment, you can (and should) invest almost without limit to upgrade your product and upgrade the workers and capital plant that produce it. If you have millions of men and women who are unemployed or underemployed, you need to increase the number of hours worked. It doesn’t make much sense for the nation to train these people for jobs in industries that don’t exist, or that we can only imagine, to satisfy the presumed demands of a hypothetical global economy.

The new global economy is a hot ticket today. In the sense that we have one, however, there has almost always been one. Archaeologists now claim that the fabled Silk Route is two or three millennia older than Marco Polo thought. But the economic impact of the route was slight in prehistoric times, and at present the economic impact on us of Bombay and Cairo and Mexico City does not extend much beyond our corporations exploiting their labor in order to undercut our wage rates.

Unemployment is our problem. Adding up those who are officially called unemployed, those too discouraged to look for work, those too turned-off to think of working, and those able to find only occasional part-time work, recent testimony before a Congressional committee reached the appalling total of 17.3 million men and women. If we followed Mexican practice and counted as employed everyone who as much as cadged a tip for opening a car door last week, our unemployment total would be as low as the 2 per cent Mexico reports. Or if we followed mainstream economic practice and did not count at all the “naturally” unemployed, we could squinch our eyes shut and pretend that the problem didn’t exist (see “Are You Naturally Unemployed?” NL, August 10-24, 1992).

It exists, nevertheless. It really and truly exists, and as long as our best brains are trying desperately to reduce “hours worked,” it will not go away. Clintonomics may cauterize a few hundred malignant polyps at the top of our income distribution, and that will be all to the good. It may find suitable work for a few thousand middle managers rendered redundant by corporate or governmental downsizing, and that will be to the good. But unemployment will not be substantially reduced (except by the withdrawal of people from the official labor force), aggregate consumption will not be substantially increased, and whatever brave new hi-tech industries are created will stagnate for lack of consumers, here or abroad, able to buy their products.

These dismal outcomes will no doubt be exacerbated by the eagerness of Congress, whipped to a frenzy by Citizen Ross Perot, to cut government expenditures, and by the complementary unwillingness to fund the President’s already inadequate stimulus program. But all that aside, a mad drive for “productivity” in the face of long-lasting unemployment is fully sufficient to undo Clintonomics.

I hope I’m wrong, for I joined in the grateful cheering during the State of the Union address.

The New Leader

[1] Ed: Reminds me of seeing a colleague trying to explain some numerical analysis in a peer review session, a Friday Afternoon Seminar, and failing. Finally our founder stood up and said, “Well, that’s the trouble with ratios… They have a numerator and a denominator.”  He then walked off…

[2] Ed: Loyal readers will recall that the author does not believe in NAIRU, the natural rate of unemployment.

By George P. Brockway, originally published November 2, 1992

1992-11-2 The Illogic of Leanness and Meanness Title

1992-11-2 JK Galbraith                EDITORIALWRITERS and speech makers are fond of the expression “lean and mean” (or, sometimes, “mean and lean”). I suspect it is the rhyme that appeals to them. They can’t possibly be allowing themselves to think about what happens to people who work (or used to work) for lean and mean corporations. They can’t possibly give a satisfactory answer to the question John Kenneth Galbraith asks in Affluent Society: “Why should life be intolerable to make things of little urgency?”

Nor can they possibly be wondering whether lean and mean corporations make this a better world to live in, even for their customers and their stockholders. St. Augustine wrote: “Every disorder of the soul is its own punishment,” and meanness is certainly a disorder of the soul.

Yes, I know: We are told we will have to be lean and mean to compete in the global economy of the 21st century. Some commentators say that the global economy and the competition are already here.  President Bush inclines to this view; President-elect Clinton inclines to this view; and I suspect that Citizen Perot had something similar in mind. At any rate, he had a lean and hungry look.

Fifty years ago another self-made man, Wendell L. Willkie, had a vision of One World in which we would all help each other. Willkie was a lawyer and CEO of a giant utility holding company before he became the 1940 Republican Presidential candidate (Harold Ickes, Franklin D. Roosevelt’s Secretary of Interior, called him the “barefoot boy from Wall Street”); he was no starry starry-eyed innocent. Yet his touchstone was cooperation, not competition. The world seems to be different now, and not as nice. What happened?

It is, I think, a case of Samuel Johnson being right again: “Hell is paved with good intentions.” The economic situation we find ourselves in is mean enough to have at least some of the attributes of hell, and it is paved in part with free trade, a theory whose intentions were the best in the world. I say “were” because I’m not so sure they’re all so good today.

Practically every economist is in favor of free trade, and the fraternity has been joined by a broad range of right-thinking, public-service citizens groups, from the Council on Foreign Relations to the League of Women Voters. The argument for free trade is simple and strong: All of us are consumers, and therefore benefit from cheap consumption goods. Tariffs, subsidies and the like increase the costs of consumption goods, and therefore are bad. A less materialistic reason for open international trade is that it is said to make for peace, although perhaps not in the Middle East.

The foregoing arguments, including Willkie’s, may be classified as general or ideological. There are also technical arguments in support of free trade – for example, the theory that cheap imports are both anti-inflationary in themselves and anti-inflationary in their competitive pressure on domestic prices. This notion was a favorite of former Federal Reserve Board Chairman Paul A. Volcker. The most famous technical argument is David Ricardo‘s so-called law of comparative advantage. Unhappily, there isn’t sufficient space here to discuss this “law,” except to say that it consists mostly of exceptions[1].

For the moment I merely want to register the point that each of the arguments, the ideological and the technical, depends – as does standard economics generally – on three assumptions: that full employment actually obtains here and now, that chronological time does not matter, and that all public questions are, au fond, economic questions (or, as Marx had it, that the state will wither away and need not be taken seriously).

Free trade as an ideal has had a long run on the American political stage, starting at least as early as the Boston Tea Party. What has happened recently is not inconsequential. Even as late as 1950, imports were less than 5 per cent of our GNP (exservices): currently they are running at about 16 per cent. Until 1977, American exports generally exceeded imports; I don’t have to tell you that the situation is different now. Nor do I have to read you a list of American industries that have been decimated by foreign competition. Those who say that the global economy is upon us are not far wrong. I am persuaded, however, that what they propose to do about it is indeed far wrong.

Essentially, they make two proposals. The first is the lean and mean thing, to which I will return. The second involves empanelling a committee of government officials, bankers, businessmen, economists, engineers, scientists, and the obligatory representatives of the general public (but not including Ralph Nader) to recommend research and development projects to the government, and then to pass judgment on the results of the research and propose ways of implementing the development of approved ideas. The government’s role would be crucial, because of the antitrust laws and because the research is thought likely to cost more than any corporation, regardless of its size, could afford. In addition, it is observed that the largest corporations tend to devote less and less money to research.

The scheme has both practical and theoretical flaws. The chief practical flaw is that whatever good ideas the committee might come up with would be immediately available worldwide. Just as the American television set industry quickly slipped into the Pacific sunset, so would the new wonder industries.

It is inconceivable, for instance, that giant American corporations would be excluded from the marvelous new industries thought up by the committee. Our giant corporations, however, are not really American; they are multinational. They are motivated by the self-interest of the stockholders (in the conventional theory) or of the managers (in Galbraith’s view); in either case, their devotion is neither to the nation nor to the nation’s workers.

Consequently, upon learning of the miraculous new product along with everybody else, if it is truly miraculous, the responsibility of these corporations to their stockholders or to themselves would require them to start producing it in the least expensive way. And where would they do that? Wherever in the world they found the most stimulating subsidies, the most alluring tax rates and the cheapest labor.

Wherever in the world that might be, it would not be in the United States of America, for the inescapable reason that, at least so far, the American standard of living is higher than that of any other first-rank country. The cheapest labor will not be found here unless we destroy ourselves. On the MacNeill Lehrer Newshour a few months ago, U.S. Trade Representative Carla Hills seemed to believe the Mexican poverty rate was only about 11 per cent (ours was 13.5 per cent two years ago and has undoubtedly risen since). She must have been thinking of some Mexico other than the one I’ve visited.

A MINOR practical flaw in the committee scheme is inherent in the very idea of creating such a group. Schumpeter counted the mature corporation’s addiction to committee decisions a prime reason for decline, and we all know the absurdity that would result if a committee tried to design an animal. Perhaps more important, we know from experience that a committee is quickly co-opted by those with the liveliest immediate interest in the outcome of its deliberations.

In the proposed body the industry and banking representatives may not be the smartest or the best informed, but they surely will have their minds concentrated on the fate of their sector of the economy, and they will certainly wield the direct and indirect power that comes with enormous wealth. In Japan, captains of industry respect the authority of even minor bureaucrats; in the United States, money talks.

Beyond this, the committee approach has a serious theoretical flaw in that it contradicts the very reasons for its formulation. These, it should be kept in mind, are (1) the decline of American industry because of foreign competition, and (2) the presumed impossibility or unacceptability of self-protection in any form.

The conventional charge against self protection is that it interferes with and distorts the natural course of trade, thus making for inefficient if not altogether wasteful use of resources. Publicists reinforce the charge with the cliché that a man knows better what to do with his money than does some bureaucrat in Washington. Yet if the charge and the cliché were valid, there would be nothing to be done about the decline of American industry. It would be natural and inexorable. Further, it would assure the “efficient” use of resources and be a necessary contribution to the wealth and happiness of mankind. Some people would no doubt be hurt by it, but you can’t make an omelet without breaking eggs.

On the premises, there is no more place for a reindustrializing committee than there is for self-protection. If the committee wouldn’t interfere with the natural marketplace, what would it do? Its whole purpose is to interfere in a large and comprehensive way. The logic of the scheme is absurd. Major premise: American industry is being ravaged by foreign competition. Minor premise: Self-protection is unacceptable because it interferes with the free market. Conclusion: A committee should be empaneled to interfere with the free market. What kind of logic is that?

The lean-and-mean logic is similar. Major premise: The American standard of living will be ravaged by foreign competition. Minor premise: Self-protection is unacceptable because it interferes with the free market. Conclusion: We should make corporations lean by firing people, make them mean by working the surviving employees harder for less pay, and thereby make ourselves miserable without help from anyone else.

I find it odd that standard economics, based as it is on self-interest, should find self-protection invariably reprehensible.

The New Leader

[1] This link includes references to the Law of Comparative Advantage in other Dismal Science articles

By George P. Brockway, originally published August 7, 1989

1989-8-7 Exxon And Squatter Economics Title

DEAN ACHESON once remarked wearily that if anyone, at any time, found him agreeing with any Indian on any subject whatever, that person should have him certified immediately. His judgment was no doubt colored by his experiences with V.K. Krishna Menon, who wanted all North Korean POWs shipped home whether they wished to go or not.

My feelings about standard economics are similar, perhaps because one summer, in a youthful fit of self-improvement, I spent many hours reading Frank Taussig’s introductory textbook when I could have been sleeping in the sun. My recollection is that Taussig, who was a big man in his day, started off by talking about Robinson Crusoe. I have since come to doubt that Robinson had anything to do with economics at all. So far as I know or Professor Taussig said, he never bought or sold anything, or used money.

One by one the classic laws have lost their savor for me. David Ricardo‘s Law of Comparative Advantage was an early loser, and I wrote three columns[1] about it six or so years ago. The notion that producers are profit maximizers and consumers are utility maximizers attracted my attention last year, and the Law of Diminishing Returns a couple of months ago. I’ve even dropped a hint or two concerning the Law of Supply and Demand, and might supply a column about it, if I detected any demand.

I’m ashamed to say that in one of my early columns I made a slip and endorsed the proposition that free competition in a free market makes for the most efficient allocation of scarce resources. As Abraham Lincoln[2] replied when requested to apologize for saying that Simon Cameron would not steal a red-hot stove, I now take that back.

The issue is in the news because of the great Valdez oil spill. Some excitable people want to punish Exxon, but they have been patiently told it would be inefficient to do so. Encouraged by the sound of their own voices, the naysayers add that it would be inefficient to impose further restrictions on the exploitation of Alaskan oil, and also that an increase in the gasoline tax would distort the allocation of resources. They urge, too, a relaxation of the already relaxed standards of gasoline efficiency (that word again) for new automobiles. Red-blooded Americans, if given their druthers, would prefer very big cars that can go very fast; therefore they should be allowed to put their money where their preference is, and the speed laws should be lifted while we’re at it.

The more beguiling advocates of free market theory admit that sooner or later oil will run out. They are confident, however, that the spur of possible profits will drive some mad scientist to invent a way of using crab grass or zucchini for fuel (as some tried to use dandelions for rubber in World War II), thus rehabilitating suburban agriculture and saving the automobile. In the meantime, they argue, as oil gets scarcer and the price rises higher, those willing to give up coarser pleasures are entitled to enjoy the daintier pleasure of burning gasoline in fast cars, fast boats and fast snowmobiles. Their willingness shows that is the efficient thing to do.

Let’s examine the proposition, not from the point of view of ecology or even of national security (where it’s a clear loser), but from the point of view of logic. Is economics really about the allocation of resources at all? To answer that question, we have to be able to say what a resource is. How about this: A resource is something that is useful or necessary to make something else, a component of an economic commodity.

(At this point there is a side issue we ought to deal with. The Education President tells us that a trained labor force is an essential resource in our struggle with Japan and Germany for the hearts and moneys of the world. But a labor force is not a thing; it is human beings, and human beings are ends in themselves. Trade is for human beings; human beings are not for trade. They are not a resource or a means to anything else. To treat human beings as means is the ultimate sin. I know that George Bush is a kind and gentle man who does not always mean exactly what he says. But if we are to read his lips, he should watch his tongue.)

So resources are things, objects. Natural resources are things untouched by human hands, lying around ready to be picked up or dug up or fished up, and used. Economic resources are also scarce. There is no point in talking about them if they are not scarce. Taussig (if my memory serves after all these years) gave air as an example of a noneconomic resource, the reasons being that there was a lot of it, and that no one could figure out how to bottle it and sell it. We’ve made progress, however. If you’re in the hospital and they decide to pep you up with oxygen, you’ll find $100 a day added to your bill. And Los Angeles knows that breatheable air would be impossibly expensive.

But of course not all scarce natural objects, even those that could be readily packaged, such as bluebird nests, are natural resources. Leon Walras, the patron saint of marginal utility analysis, credits his father Auguste with the notion that an economic good has to be useful as well as scarce. This does not seem a remarkably difficult advance in thought. It does not really advance us very far, either.

Maybe you are not clever enough to think up uses for bluebird nests, and maybe no one is; that does not mean a use will never be discovered or invented. Think of petroleum. If you had asked Adam Smith about it, he would have shrugged his Scotch shoulders. It was a sticky, stinky substance where it appeared, as in the notorious fields near Cumae, rendering useless the land that harbored it. Or you might have asked Karl Marx about uranium. He would never have heard of it, for one thing. What kind of resource is something you never heard of.  On the other hand, ancient man mined and traded obsidian, which, apart from the art and tools the ancients made of it, is now of no interest to a Harvard Business School graduate.

From these random samples we can infer that the usefulness of objects is not something inherent in them. As it happens, there is no dispute on this point. W. Stanley Jevons, who shares with Walras the distinction of having invented marginal utility, put it this way: “The price of a commodity is the only test we have of the utility of the commodity to the purchaser.” A half century earlier Jean- Baptiste Say had characteristically introduced an intermediate and indeterminable abstraction: “Price is the measure of the value of things, and their value is the measure of their utility.”

In our day, Gerard Debreu, a Nobelist and probably the world’s foremost mathematical economist, is in agreement with Jevons and Say. “The fact that the price of a commodity is positive, null, or negative,” he writes, “is not an intrinsic property of that commodity; it depends on the technology, the tastes, the resources … of the economy.”

(Please forgive another side issue. Noting the word “resources” before Debreu’s ellipses, I confess myself puzzled, since in a subsequent passage he says, “The total resources of an economy are the a priori given quantities of commodities that are made available to (or by) its agents.” It would appear that the price of a commodity depends, at least in part, on resources, and that resources are commodities-a line of argument that looks suspiciously circular to me.)

ONE WAY or another, then, we come to the conclusion that it is not so easy to say what economic resources are. They are useful, yes, but neither petroleum nor uranium nor a bluebird nest is, in and of itself, useful. Indeed, if you don’t know how to use them petroleum is nasty and uranium is dangerous. But our economy does know how to use them, up to a point. So they are resources for us. They are resources for us because of the way our economy is organized.

The organization of our economy is, as the marginal analysts say, a price system. (Like Oscar Wilde’s cynic, we economists know the price of everything and the value of nothing.) Every price is dependent on every other price in a delicately beautiful equilibrium. It is this balanced price system that allocates resources. If tomorrow morning some bright fellow comes up with a use for bluebird nests, the supply of and demand for them (the story goes) will set the price for them. Not only that, but as the demand for bluebird nests develops, the demand for some other things must decline. But other resources (including, sad to say, human resources) are shifted into the bluebird nest industry, restoring the equilibrium. Everything is properly allocated again.

Bluebird nests are now a resource, not simply because they are rare and a use has been found for them, but because they fit into the price system. That is crucial. The market does not so much allocate resources as tell us what resources are.

What, then, becomes of efficiency? It disappears. It is not separately discoverable, for resources are resources because the market says so, and their allocation is efficient only because the market says so. The market is not a better way of allocating resources; it is the only way. This is what the theory says.

Having said this much, it has uttered nonsense. If you really want to learn about resources and their allocation, you should go, not to Wall Street, but to someplace like World Watch Institute, which publishes an annual report called State of the World that explains the consequences of what we are doing and tells how we could do better.

Nonsense is always dangerous. The horror story that “The Market Knows” damages the ecosystem.  It also destroys economics itself, reducing the whole exercise to a defense of the status quo. True believers in the market apparently do not understand this, for they are very liberal (if you know what I mean) with advice about the sorts of issues we mentioned earlier – finding a way to make Exxon pay, restricting further exploitation of Alaskan oil, and so on. Yet these matters, as they now stand, are part of the present system. Changes in favor of the oil industry are no less an interference with the market than are changes in favor of the world and them that dwell therein.

Once any sort of change is admissible, every sort can be argued up or down. In the 1850s, Stephen A. Douglas proposed squatter sovereignty (allowing the territories to vote on slavery), which appeared to be impartial but actually favored the South. In their renowned debates, Lincoln forced Douglas to admit that slavery could be voted down as well as up. That won Douglas the Senate seat, but cost him the Presidency two years later. It would be lovely if we could come to understand the vacuity of squatter economics.

The New Leader


[2] Readers should see the upcoming link about “stealing a red-hot stove.”  The author attributes the quote to Lincoln but it was, according to Wikipedia, Thaddeus Stevens talking TO Lincoln.

By George P. Brockway, originally published April 3, 1989

1989-4-3 Minimum Wage vs. Maximum Confusion Title

THE FIGHT in Congress over a minimum-wage bill was recognized by both sides to be largely symbolic. It was nevertheless worth making. The press and TV characteristically presented what little they reported of the debate as a clash of personalities. But fundamental issues were at stake, and one must hope the debate has gone at least a little way toward educating the public (and the Congress) on the way the economy actually works.

First, a bit of background: The minimum wage is now $3.35 an hour. It has not been changed for eight years, even though the Consumer Price Index has gone up 32.3 per cent in that time. If you work full time, $3.35 an hour comes to $134 a week or $6,968 a year, which is well below the poverty level. But of course the assumption of full-time work is what economists call a heroic assumption (meaning that it doesn’t hurt the economists who make it any more than heroic medical procedures hurt doctors).  In fact, 25.3 per cent of the people employed in America work part time roughly half of them because they can’t get better jobs and half because they prefer it that way. It’s a fair guess that almost all of the minimum-wage workers are in the part-time group.

At present about 4 million workers earn the minimum wage or less. (Economics is full of miracles: In mathematics there’s nothing less than the minimum, but in economics there’s a great nether region below the minimum because commerce that doesn’t cross state lines is not covered by Federal law.) There are in addition just over 6.5 million people officially classified unemployed, and just under 1 million more who do not count because they are too discouraged to look for work. That adds up to 11.5 million Americans who work or are willing to work yet still are a long way below the poverty level.

The bills recently passed by both the House of Representatives and the Senate provide for the minimum to go to $3.85 in October of this year, then to $4.25 in 1990, and to $4.55 in 1991 (by which time inflation will have wiped out most, if not all, of the increase). In an attempt to attract Republican votes, the bills include a subminimum training wage: 85 per cent of the minimum for a first-time employee’s initial 60 days.  This provision would phase out in 1992. Though the bills have substantial support in both houses, particularly among Democrats, President George Bush has threatened to veto anything that goes beyond $4.25 an hour. Thirty-five Republican Senators have promised to sustain a veto. That should pretty much do it.

The threatened veto is, naturally, presented as a kinder, gentler act. The conservative argument is that companies pay the minimum wage (or less) because they cannot afford to pay more. Since they are at the limit of their resources, a pay increase would force them to fire those paid the present minimum and to turn away inexperienced teenagers, blacks and women looking for entry level jobs. The net result, conservatives say, would be an increase in unemployment.

Anyone who bothers to look at the record, however, will find that employment has risen in seven of the eight years when the minimum wage has been raised; and the one year employment fell (1975) was a time of severe recession when the drop was expected for other reasons. Moreover, the 11 states that now have a statewide minimum wage higher than the Federal standard also have the lowest unemployment.

You will have noticed that the argument shifts back and forth between the fate of the economy as a whole and that of individual workers and individual businesses – in other words, between macroeconomics and microeconomics. Several times over the years I have called attention to the fallacy of composition, which often pops up when such shifts are made, and I’ve suggested that economists must love it because they do so much dancing. In brief, the fallacy assumes that what is true of members of a logical class is thereby true of the class itself. Sometimes this leads to the laughable, as when Engine Charlie Wilson averred, “What’s good for General Motors is good for the country.”

In the present instance, conservatives argue that what may be bad for some workers must be bad for all. Liberals, on the other hand, argue that the possible microeconomic effect of some job loss will be more than offset by the macroeconomic effect of better jobs in the economy as a whole, resulting in increased spending that will stimulate business into hiring more workers.

Over a quarter of the low-income workers would have to be fired for the total wages to fall. It’s a judgment call, and the call pretty much separates the optimists from the pessimists, and the liberals from the conservatives. I’m such a liberal optimist, I doubt that as many as 10 per cent would be fired. In that case the macroeconomic stimulus would be considerable, making it likely the 10 per cent would be rehired almost at once, thus intensifying the stimulus and making inroads on those millions of unemployed.

If you too are an optimist, I ask you to consider a special implication of what we have been saying. The happier world we have projected depends on an act of Congress combined with a President’s willingness to sign his name. There is no economic law that will achieve our goal. Rather the contrary. Standard economics pits businesses in such implacable competition with each other that even good-hearted employers are unable to pay more than the minimum, while workers compete so fiercely for jobs that even the stout-hearted can’t hold out for more. (That, by the way, is the Iron Law of Wages, which prompted Thomas Carlyle to coin the name for this column.) Thus wages tend inexorably to zero, and profits do as well. So, to be sure, do prices; but since no one will have any money, I’ve never understood what difference that makes. Individual companies can’t stop this fall; it takes governmental action. Hence the minimum wage.

Shifting back to microeconomics, we are likely to find in boardrooms across the land another objection to raising the minimum wage. It cuts into profits, the gut feelings is, and cripples enterprise. This feeling is known as the wage-fund theory: it argues that the gross receipts of any enterprise form a fund from which wages, other costs and profits are paid. Therefore, as David Ricardo insisted, “There can be no rise in the value of labor without a fall of profits.” Karl Marx, an admirer of Ricardo, found the wage-fund theory handy in explaining the implacable opposition of labor and capital. Here, as in so many cases, we find the far Right in bed with the far Left.

But taking a peek at the real world, Joseph Schumpeter remarked the empirical fact that wages and profits tend to go up together. Really good times are at least pretty good times for everybody. Profits are high, wages are high, unemployment is low, and so, for that matter, is inflation. None of this could happen if the wage-fund theory were valid. It is not valid because wages are a cost of doing business, while profits are not.

Profit (or loss) is what is left over after all receivables have been collected and all bills paid. The costs of wages, interest, rent, and supplies can all be contracted for in advance; but profit is systematically residual. What’s to come is still unsure.

1989-4-3 Minimum Wage vs. Maximum Confusion boots

I’m talking about actual profit-the kind you pay taxes on. Business people talk also about “normal” profit – what they think an enterprise ought to earn to be worth the bother. There is obviously no such thing as normal loss. Normal profit is a planning concept. It is an estimate, even an expectation, but not an actuality. It is on the basis of this estimate that go/ no-go decisions are made, prices are set, and production runs are scheduled. Although in the real world some businesses are vastly more profitable than others, and more or less profitable from year to year, normal profits, making allowance for risk, are uniform, as are short-term interest rates. High-risk enterprises must promise high normal profits, yet in the real world the low-risk enterprises generally show the highest profits.

THERE IS clearly not much point in running an enterprise if it can’t earn the going interest rate and a bit more. You could lend your money to someone else and earn bank interest or better with no trouble at all. So the interest rate is what economists call an opportunity cost of normal profit: they are roughly equal. Consequently we have three related concepts: normal or hoped- for profit, the interest rate, and actual profit or loss. Since only the first two come out of the wage fund, only they are in conflict with wages.

A common error, from David Ricardo to Alan Greenspan, is to confuse interest and actual profits. Mathematical economists, too, have trouble with this phenomenon, because they are prone to work with normal profits rather than actual profits. Actual profits are earned in historical time, but mathematics knows only the present tense.

What Ricardo should have said was, “There can be no rise in the value of labor without a fall in the interest rate.” Wages and actual profits can and do go up and down together. They go up together when the interest rate is low, and they go down together when the interest rate is high.

As Henry Ford understood, it is in the rnicroeconornic interest of each business that all businesses pay good wages. For this macroeconomic phenomenon to happen reliably, it takes a law. It takes more than a minimum-wage law, but it takes at least that. It is not unlikely that pushing up the minimum wage would eventually push up the wages and salaries above it. That is why we have said (see “Reality and Welfare Reform,” NL, November 28, 1988) that doing something about the poor is inflationary unless a major effort is made to correct the massive maldistribution of income and wealth in this country.

That will not be easy, especially since we seem bemused by personalities, and since a previously wimpy personality will veto any attempt of personable Congressional leaders to move in the right direction. There is something more to the problem than David Rockefeller‘s objections to Michael Milken’s junky performance.

The New Leader

Originally published October 7, 1985

 

I have been happily working my way through Fernand Braudel‘ s tangled, lumpy, unmade-bed of a book whose three volumes have the overall title Civilization and Capitalism: 15th-18th Century. About halfway into the second volume Braudel makes some observations about mercantilism, and they have given me furiously to think.

Every American boy or girl who paid even the slightest attention in school knows that mercantilism was a bad idea. It bled the colonies for the benefit of the homeland, and consequently the colonies revolted. Those who listened a little longer also know that the mercantilist striving for a “favorable” balance of trade meant exportation of goods and importation of precious metals, a policy that is ultimately self-defeating because, as Midas found out, gold and silver are not good to eat. Braudel knows all this, too.

As an example of mercantilist foolishness, he tells us that in 1703, toward the start of the War of the Spanish Succession, the English were advised to send “grain, manufactured products and other goods” from home to their troops fighting in the Low Countries. They could have bought these supplies easily and presumably more cheaply on the Continent, but the government was” obsessed by the fear of losing its metal reserves.” Any follower of Adam Smith or David Ricardo can see that this policy led England to waste real wealth (usable goods) and save nominal wealth (unusable metal).

In the world of theory, the mercantilist passion for a favorable balance of trade seems indefensible. It is surely more sensible to collect what you can use than to squirrel away what is of little or no use in bank vaults. But as Braudel reads the historical record of the actual world, he is forced to recognize that the mercantilist policy was in fact successful. “In any case,” he writes, “every time we have to deal with a comparatively advanced economy, its trade balance is in surplus as a general rule.” Flying in the face of classical economics, the more advanced economies exported usable goods and imported gold and silver.

The classical theory fails here (as elsewhere) because it is both ahistorical and asocial. It describes an instantaneous slice of a world without time; and it concerns things, like the GNP, not people, like you and me. Criticism of the English policy of 1703 silently assumes that purchasing war materiel overseas would have had no effect on English farms and factories. The assumption is that the goods purchased on the Continent would have been added to those produced at home, and that the English wealth would have risen accordingly. But in the real world, English farmers, deprived of part of their market, would have cut back production expenses (which is another name for employment) even if production stayed high for a time. And English manufacturers of soldier suits and the like would surely not have continued producing them if the government didn’t buy them. Their employment, too, would have fallen. These drops in employment would have meant a decline in the English standard of living. The mercantilist policy preserved that standard of living (such as it was); the classical theory would have reduced it.

Carlo M. Cipolla, in Before the Industrial Revolution (a marvelous book that covers roughly the same ground as Braudel in about one-tenth the space), has an excellently apposite quotation that dramatizes the failure of the classical theory. In 1675 one Alfonso Nunez de Castro wrote, “Let London manufacture those fabrics of hers to her heart’s content; Holland her chambrays; Florence her cloth; the Indies their beaver and vicuna; Milan her brocades; Italy and Flanders their linens, so long as our capital can enjoy them; the only thing it proves is that all countries train journeymen for Madrid and that Madrid is the queen of parliaments, for all the world serves her and she serves nobody.” As it turned out, for lack of trained journeymen Spain fell into a slough of stagnation it has yet to escape three centuries later.

In the infrequently noticed catch-all Chapter 23 of The General Theory of Employment,  Interest and Money, John Maynard Keynes includes some “Notes on Mercantilism … ” He observes that a favorable balance of trade, by bringing in gold and silver, increased a country’s money supply, which forced down the interest rate (Federal Reserve Board  please note), which stimulated investment.

Let’s carry the argument a step further. Investment is not stimulated rationally, that is – for its own sake. From the point of view of the investor, the purpose of investment is to produce goods that are in demand. From the point of view of the nation, the purpose of investment is to provide employment for its citizens, and to produce things that are wanted. Since employed citizens are able to make purchases create demand – these two purposes can work together, though they do not necessarily do so.

In the early modern world of the mercantilists, the interest rate was, as Keynes said, held down indirectly (and very possibly unintentionally) by fostering a favorable balance of trade. To have a favorable balance of trade, a country must export more goods than it imports. To export more goods, it must produce more goods. To produce more goods, it must employ more people. The secret of mercantilist success lies in the increased employment of labor.

For the power of labor is very great. Even putting to one side the facts that capital is the result of past labor, and that natural resources can be exploited only by labor, labor power is our ultimate power. The laziest, least competent, least efficiently applied labor will today produce far more than it needs to sustain itself. What Marx called surplus labor is exponentially greater than the 11.1 per cent his admittedly arbitrary calculations yielded. Hesiod (eighth century B.C.) was closer to the mark when he wrote in Works and Days: “From men the source of life has been hidden well/Else you would lightly do enough work in a day/To keep you the rest of the year while you lounged at play.”

Less poetically, we know that agriculture now produces more food than we should or can eat, more than enough natural fibers to clothe us, more than enough lumber to house us, with less than 3 per cent of our labor force (or less than 1.5 per cent of our population). Since even at our present Reaganite shabbiest, we allow almost no one to fall through the safety net and actually starve or freeze to death, it is plain that we do not need additional workers to provide for their own subsistence. Therefore, the output of every previously unemployed worker we manage to put to work will raise our standard of living a bit more above subsistence. And we can do this without importing gold or silver to control the interest rate. We simply have to get some sense into the Federal Reserve Board.

READING Braudel on mercantilism in the War of the Spanish Succession, I was struck by the parallels with our current business “recovery.” As I remarked in this space a year ago (” All You Need to Know about the Deficit,” NL, October 29, 1984), military spending increases aggregate demand, which increases employment. Any spending increases demand, for the simple reason that spending is demand. There are limits to some sorts of spending. Keynes cites the uselessness of two railways from London to York. On a more personal level, once you have a television set in every room of your house, your demand for television sets tends to subside. But military spending (because it does not and cannot face a test of profitability or indeed usefulness) has the political advantage of being supported by conservatives who insist the rest of the government be “businesslike.”

As far as the GNP is concerned, it doesn’t make much difference what the government spends its money on. The spending increases employment even when the newly employed people produce battle tanks that won’t run on rough terrain and fighting planes too complicated to service in the field.

The increase in the standard of living would of course be greater if the newly employed people rehabilitated highways and subway systems instead of battleships that were militarily useless two generations ago. It would be greater if the newly employed people built housing here on earth instead of stations in space. It would be greater if the newly employed people were cleaning up existing toxic wastes instead of producing new poison gases that will have to be burned or buried. Yet no matter how useless the things they produce, the newly employed people earn newly augmented incomes that they spend (up to a point), thereby increasing their own standard of living. And the addition of their new demand to the previous aggregate demand calls forth still further employment, and so on.

This outcome can be dramatized by asking what would happen if our present peacetime military budget were cut back, not to a rational peacetime level, but merely to the level of 10 years ago, when we were still winding down a war in Vietnam. The military budget would then be reduced by approximately $200 billion (or roughly the size of the deficit everyone fusses about). If such a reduction were not immediately offset by an increase in domestic spending, can anyone doubt the economy would forthwith crash into a depression that would make the Nixon-Ford recession of 1975 and the Reagan- Volcker depression of 1981-82 seem like paradise?

A deficit, in short, has the same salutary effect on the GNP as a favorable balance of trade; and gold and silver have nothing to do with it. As it happens, we are giving mercantilist theory another and more direct test. Our strong dollar, which is a euphemism for an unfavorable balance of trade, enables some of us to buy Pakistani sports shirts and Japanese automobiles at bargain prices. These bargains for some people, however, cause unemployment and underemployment for many people in North Carolina and New York and Michigan and ultimately throughout the nation. Critics of the mercantilist theory of a favorable balance of trade should ask themselves why an unfavorable balance has such unhappy consequences. I’ll give them a hint: We perversely distribute the benefits of our economy in a way that additionally punishes those who lose their jobs by denying them income to demand the bargains.

The New Leader

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