The budget battles

[Winstonm]

or that the problem with employment is a gdb-side problem.

 

Seriously, Winston, Phil is right.

 

Helene,

 

I understand that these measures correlate. Where I disagree is causation. Increasing production doesn't lead to increased income without consumption of those new products and services - the consumption can only come from increased incomes or new debt - if income does not rise and debt is unavailable or refused, increased production only ends with oversupply and a reduction in production.

 

But a permanent increase in income does stimulate increased spending, resulting in increased GDP.

 

That is my position. If I am wrong, I have would be glad for you to explain the errors in my thinking. I am not married to this position, but it makes the most sense to me.

[awm]

From Wikipedia:

 

Another way of measuring GDP is to measure total income. If GDP is calculated this way it is sometimes called Gross Domestic Income (GDI)' date=' or GDP(I). GDI should provide the same amount as the expenditure method described above. (By definition, GDI = GDP. In practice, however, measurement errors will make the two figures slightly off when reported by national statistical agencies.)

[/quote']

 

So basically GDP and total income are the same. The gap between them (other than measurement error) should be US corporate profits not returned to US shareholders/ownership. There is some percentage of this (companies building up cash reserves, or returning income to foreign shareholders) but it's unlikely to be a really significant percent of GDP. So it's unsurprising that the graphs are very nearly the same.

[Winstonm]

I'd like to thank everyone for their input into this side discussion as I have found it quite entertaining and helpful to hear some other viewpoints. I would like to return for a minute to Phil's discussion of inflation and its affect on wage-productivity ratios.

 

Here is a simplified example of what I understood him to mean. If a manufacturer has costs of commodity $1 and labor $1 and sells his product for $3 then productivity-wage ratio is 3:1 and profit is $1. If the commodity price rises to $3, though, then the product price must rise to $5 to keep profits equal and this then means productivity ratio changes to 5:1.

 

What this example fails to account for is an explanation of why prices didn't rise to reflect both the increased costs of the commodity and increased pay for labor. The price could have risen to $6 and included a $1 increase to labor, keeping the productivity ratio 3:1 while retaining profits of $1.

 

Say's Law requires flexibility of prices and wages. In the above example, while real production has not increased the real ability to consume that production has decreased.

[Winstonm]

Just to be clear, I am unprepared to claim any one overriding factor as a cause, but am attempting to distinguish unproductive policy from productive policy.

 

Changes in demographics play a large part in temporary supply-demand imbalances, but can have long-lasting affects if technology advances can produce more than can be consumed by the changed demand.

 

Some things that were outside the scope of the thinking of Keynes, Say, or any earlier economist are now changing the world as we know it: limited investment with near unlimited returns, such as software giants Google, Facebook, et al - when you compare the investment amounts and time needed to recoup investment of these types of businesses against things like building steel mills and railroads, it is apparent that the rules for investment and return are quickly changing.

[luke warm]

Some things that were outside the scope of the thinking of Keynes, Say, or any earlier economist are now changing the world as we know it: limited investment with near unlimited returns, such as software giants Google, Facebook, et al - when you compare the investment amounts and time needed to recoup investment of these types of businesses against things like building steel mills and railroads, it is apparent that the rules for investment and return are quickly changing.

not trying to be difficult, but i don't see it... expectatins may have changed, but not the rules... it's true that as an economy or society shifts from one base to another, things change... but that's always been the case... technology is simply of a different type and scope today than in the past, but economic changes due to technology has always been the case

[hrothgar]

 

Some things that were outside the scope of the thinking of Keynes, Say, or any earlier economist are now changing the world as we know it: limited investment with near unlimited returns, such as software giants Google, Facebook, et al - when you compare the investment amounts and time needed to recoup investment of these types of businesses against things like building steel mills and railroads, it is apparent that the rules for investment and return are quickly changing.

 

Back in the weird old days, there were plenty of opportunities for high risk, high return investments.

 

I'd argue that railroads are a classic example (you seem to assume that the share prices in railroads reflected physical issues like the time required to lay track, build up rolling stock, etc.) In actuality, share prices were enormously dependent on various sorts of political and financial shenaniggins and could fluctuate dramatically in short periods of time.

 

If you want to go back earlier, consider the profits and risks associated with long distance trade (there are good reason's why the history of insurance and limited liability corporations good hand in hand with shipping)

 

From my perspective, the big changes in finance over the last 50 odd years are:

 

1. The end of traditional defined benefit systems and the rise of 401Ks and the like

2. The emergence of mutual funds and exchange traded funds

3. Algorithmic trading

4. Exotic instruments

[mike777]

Just to be clear, I am unprepared to claim any one overriding factor as a cause, but am attempting to distinguish unproductive policy from productive policy.

 

Changes in demographics play a large part in temporary supply-demand imbalances, but can have long-lasting affects if technology advances can produce more than can be consumed by the changed demand.

 

Some things that were outside the scope of the thinking of Keynes, Say, or any earlier economist are now changing the world as we know it: limited investment with near unlimited returns, such as software giants Google, Facebook, et al - when you compare the investment amounts and time needed to recoup investment of these types of businesses against things like building steel mills and railroads, it is apparent that the rules for investment and return are quickly changing.

 

 

If the old rule is an investment is worth the NPV of all future cash flows then I dont think the rule has changed.

 

I doubt there are unlimited returns. FWIW I think facebook is a challenge to future cashflows of Google and no doubt our kids will invent something that is a threat to the cashflows of facebook.

 

HP the largest maker of PC is getting out of business. Nokia used be number one in mobile phones

 

---

 

 

As far as your main point of what is productive central govt policy vs unproductive central govt policy, well that is the debate dems and rep are having right now. It is a worldwide debate we have had around the globe for decades.

[mike777]

"Just to be clear, I am unprepared to claim any one overriding factor as a cause, but am attempting to distinguish unproductive policy from productive policy"

 

 

Winston I just wanted to add that one huge issue is just defining what Productive means. For example one gets into a dsicussion of such issues as fairness, social justice, safety nets, etc.

 

Policy makers cannot even agree if a private company should maximize long term profits as its number one goal or social justice.

[Winstonm]

I'd argue that railroads are a classic example (you seem to assume that the share prices in railroads reflected physical issues like the time required to lay track, build up rolling stock, etc.) In actuality, share prices were enormously dependent on various sorts of political and financial shenaniggins and could fluctuate dramatically in short periods of time.

 

Maybe I didn't make myself clear enough. I am not thinking of share prices but the utility of investment capital. Comparitively, it takes dramatically less start-up capital for a software company as compared to building a nationwide railway system, and the recovery of the initial investment cost is much quicker, allowing further investment. Basically, in software you build it once and then resell copies over and over, whereas railroads require physical expansion to expand market share.

[mike777]

Maybe I didn't make myself clear enough. I am not thinking of share prices but the utility of investment capital. Comparitively, it takes dramatically less start-up capital for a software company as compared to building a nationwide railway system, and the recovery of the initial investment cost is much quicker, allowing further investment. Basically, in software you build it once and then resell copies over and over, whereas railroads require physical expansion to expand market share.

 

 

?So in your example there are a great many barriers to entry to competition for my railroad company than your software company.

 

btw railroads were one of the first truly great technology industries. Today the train crash in China proves that in many ways railroads are software companies.

[Winstonm]

?So in your example there are a great many barriers to entry to competition for my railroad company than your software company.

 

btw railroads were one of the first truly great technology industries. Today the train crash in China proves that in many ways railroads are software companies.

 

Yes, entry barriers are indeed high. Not only only a comparative basis for competition but also for interindustry access to capital (investment). Why lend to a single railroad when the same capital can bankroll two dozen software start ups?

[Winstonm]

"Just to be clear, I am unprepared to claim any one overriding factor as a cause, but am attempting to distinguish unproductive policy from productive policy"

 

 

Winston I just wanted to add that one huge issue is just defining what Productive means. For example one gets into a dsicussion of such issues as fairness, social justice, safety nets, etc.

 

Policy makers cannot even agree if a private company should maximize long term profits as its number goal or social justice.

 

Mike,

 

It's kind of funny you brought this up as in one of my posts I was getting longwinded (gee, who would think that?) and ended up deleting part of it that asked some questions, one of which was: At what point should concern for the public good override an economic principle?

[Winstonm]

not trying to be difficult, but i don't see it... expectatins may have changed, but not the rules... it's true that as an economy or society shifts from one base to another, things change... but that's always been the case... technology is simply of a different type and scope today than in the past, but economic changes due to technology has always been the case

 

I could be dead-ass wrong on this, but my thinking here is that productivity (as defined by the value produced by labor over some time period) skyrockets when a single laborer can push a button and reproduce a bit of software.

 

If you extrapolate that to an entire economy made up of these type businesses, then it seems to me that the idea in classical theory that supply=demand breaks down because full employment would be impossible.

 

In Say's Law, each individual produces only because of, and to the extent of, his demand for other goods.

 

In my hypothetical extrapolation, this seems impossible. So I am wondering if economic theories and models created to explain first agrarian and then industrial models are still applicable to service/software economies or if they break down.

 

I don't claim to have the foggiest idea - I'm just asking.

[mike777]

Yes, entry barriers are indeed high. Not only only a comparative basis for competition but also for interindustry access to capital (investment). Why lend to a single railroad when the same capital can bankroll two dozen software start ups?

 

 

 

Great question!!

 

My answer is just give me and you the freedom and a level playing field to choose.

 

Of course as you have noted capital includes not only money but human capital.

 

In many ways a railroad is becoming basically a software company but I think for myself I understand that bus better than 24 start up software companies.

 

Thank goodness there are smarter people out there who make asset allocation decisions in pure computer/digital/software comp better than many of us.

--

 

What I dont want is the central govt making these asset allocation decisions as I think they choose poorly, but many disagree and that is the debate.

[mike777]

Mike,

 

It's kind of funny you brought this up as in one of my posts I was getting longwinded (gee, who would think that?) and ended up deleting part of it that asked some questions, one of which was: At what point should concern for the public good override an economic principle?

 

 

That is a politcal question and should be answered in the voting booth. I understand the answer may and will change to some degree every 2-4 years and that is ok.

 

To put my answer in a slightly different way. Every 2-4 years we will debate and experiment with options. The election will decide what we choose until the next period of debate/experiment/elections. I really think this is a cool way to run a country and an economy. It is not static.

[mike777]

It's kind of funny you brought this up as in one of my posts I was getting longwinded (gee, who would think that?) and ended up deleting part of it that asked some questions, one of which was: At what point should concern for the public good override an economic principle?

-------------

 

 

I also wanted to add in a seperate post that there is a fundamental debate that general economic principles are the best social/public policies.

 

 

What proven economic principles do you want the central govt to override that people disagree with you? What do you want to replace it with?

 

Given that there is widespread debate on what are "proven/true" economic policies is at least a start.

[phil_20686]

I'd like to thank everyone for their input into this side discussion as I have found it quite entertaining and helpful to hear some other viewpoints. I would like to return for a minute to Phil's discussion of inflation and its affect on wage-productivity ratios.

 

Here is a simplified example of what I understood him to mean. If a manufacturer has costs of commodity $1 and labor $1 and sells his product for $3 then productivity-wage ratio is 3:1 and profit is $1. If the commodity price rises to $3, though, then the product price must rise to $5 to keep profits equal and this then means productivity ratio changes to 5:1.

 

What this example fails to account for is an explanation of why prices didn't rise to reflect both the increased costs of the commodity and increased pay for labor. The price could have risen to $6 and included a $1 increase to labor, keeping the productivity ratio 3:1 while retaining profits of $1.

 

I am pretty sure you are meant to measure productivity as the "value added", so in your first example wage productivity is 3-1=$2, labour share, on the other hand, is the fraction of the selling cost paid to labour, in this case one third. So in your example, with commodity costs at $3, productivity is unchanged, at $2, but the labour share is now one fifth. (If you were wondering this shows the odd paradox that increased productivity lowers the value added, per item, but increases the value added, per worker, as I can, by definition, make more items per worker than previously.)

 

The reason that prices did not rise to reflect commodity prices, is that would expect you to sell the same number of items at the higher price, but that is not the way supply and demands work. If I increase the price of a car, I expect to sell fewer cars. Thus the true choice for a company when prices rise is to raise the selling price and lay off workers to reduce production, or squeeze wages to maintain the price. Or more likely, a bit of both.

 

EDIT: I feel like I should add, that increased productivity can drive the labour share either up or down, because it covers a cornocopiea of effects. E.g., it might mean that you can make more items in a given time, so you are reducing the amount paid to the worker per item, in order to drop the prices and increase market share, and this would increase production, so I would keep the same number of workers, but increase total commodities cost, so labour share would decline. OTOH, it could mean making more items with less stuff, then the commodity cost per item would fall, and then labour share would increase as its a bigger fraction of the selling price. However, as generally measured, the second one would not count as a productivity increase, as the value added per item has not changed. Which is a little messed up, imo :)

[phil_20686]

I could be dead-ass wrong on this, but my thinking here is that productivity (as defined by the value produced by labor over some time period) skyrockets when a single laborer can push a button and reproduce a bit of software.

 

If you extrapolate that to an entire economy made up of these type businesses, then it seems to me that the idea in classical theory that supply=demand breaks down because full employment would be impossible.

 

I don't claim to have the foggiest idea - I'm just asking.

 

This is a well known thought experiment, at least to Science fiction fans. It is a well known fact that as productive capacity goes to infinity, the share of the economy made up of manufacturing drops to zero. This is because increased productivity makes stuff cheaper, and that means there is less "value added" per item. This is somewhat counterbalanced by humans tendency to always want more stuff, and further counterbalanced by the fact that having more stuff means you have more stuff to be replaced, but if you looked at, say, the proportion of the work force in housing construction, you would find that it has fallen continuously for hundreds of years as we got better at making houses. Same story for agriculture. This is what drives the service industry, in effect, since we can already make the stuff that we want, we have to find other jobs doing services for other people.

 

Now there is a question to ask about whether we will be able to indefinitely make new technologies that people want to buy. If I had a star trek replicator and could make anything I wanted, how long would it take me before I did not need it any more?

 

Such a thing would be a "post scarcity" society, and it seems like that would inevitably form some kind of socialism, if everything is free, everyone automatically has the same income, more or less.

 

Thus it seems likely that increased production capacities should drive a society towards increased wealth transfers between citizens.

 

I stand in the opposing camp on this issue, I think that even if production goes to infinity, we will simply keep finding better and more interesting things to make. Like space ships. Some skills will still be given a higher premium, and thus will have access to better stuff. I think that is just human nature.

[Winstonm]

The reason that prices did not rise to reflect commodity prices, is that would expect you to sell the same number of items at the higher price, but that is not the way supply and demands work. If I increase the price of a car, I expect to sell fewer cars.

 

Phil,

 

But doesn't this conflict with classical thought, that prices are a function of supply/demand? It would seem that rising prices without increased demand would be an example of classical theory breakdown.

 

Thus the true choice for a company when prices rise is to raise the selling price and lay off workers to reduce production, or squeeze wages to maintain the price. Or more likely, a bit of both

 

Again, I don't see how that meshes with classical thought. Higher prices should indicate greater demand with smaller supply and a need to ramp up production to meet the demand. But in this example prices determine demand. I don't doubt that is right, but I also don't see how that concept can be incorporated into a theory that aggregate demand equals supply if it is price that determines demand.

 

In classical theory, workers produce in order to consume. But in the case of a doubling of general goods' prices without a compensating rise in wages, aggregate demand falls as prices outstrip workers ability to consume, leading to overproduction, layoffs, and unemployment, further reducing workers ability to consume.

 

The only way to plug that gap is with debt. When the point of maximum solvency is reached, aggregate demand must collapse back to the level of wages, leaving an oversupply in its wake.

 

Or so it seems to me. Your mileage may vary.

[phil_20686]

Phil,

 

But doesn't this conflict with classical thought, that prices are a function of supply/demand? It would seem that rising prices without increased demand would be an example of classical theory breakdown.

 

 

?

Not at all. It is an application of that classical theory, the supply demand curve's shape is essentially defined by who is prepared to pay what price for a good. The reason people raise prices in response to increased demand is the following: Peoples expected utility from a given item may vary, depending on their circumstances. Thus by raising prices there are always some consumers who will stop buying my product, as from their pov there is no longer a gain.

 

What I am trying to say, is that the so called supply/demand curve, is really the supply/demand/price identity. Now, in many markets, and for many items, the price paid is far from the lower bound of price, so then it is a pure supply/demand curve, there is no influence from the zero lower bound. If I have over produced, the best I can do might be to sell my product at a loss, in which case the zero lower bound should not apply either, especially if storing my product is expensive.

 

In a mature competitive industry, all agents should be selling near the lower price bound, due to competitive forces. Thus they have no control over the price, and only a small amount of control over demand. They do however control the supply. If the price changes, it is certain that the demand curve will change, as fewer people will buy my item at a higher price, the only response of a supplier is to reduce supply.

[phil_20686]

I have remembered a better way to say what I wanted to:

 

Supply is a curve in the space of price, and quantity. So is demand. Since supply should be upward sloping (it takes more money to make more stuff), and demand is downward sloping (there is greater demand at lower prices), they have a crossing point. This crossing point is the selling price. Should stuff become more expnsive, the entire supply curve shifts upwards, so that the supply and demand curves will now cross at a higher price and a lower quantity.

[phil_20686]

In classical theory, workers produce in order to consume. But in the case of a doubling of general goods' prices without a compensating rise in wages, aggregate demand falls as prices outstrip workers ability to consume, leading to overproduction, layoffs, and unemployment, further reducing workers ability to consume.

 

The only way to plug that gap is with debt. When the point of maximum solvency is reached, aggregate demand must collapse back to the level of wages, leaving an oversupply in its wake.

 

This is just another way of saying that rising prices mean living standards will fall. Or you can prop them up with debt. You can only prop them up for a limited time with debt, if they rise again later you can pay off your debt.

 

This is a fact of globalisation, increased demand is putting a strain on limited production capabilities, and that is driving down living standards in the west, precisely because drives them up elsewhere. However, some shocks are temporary. Prices will fall as mining capacity is expanded. The faster prices rise the quicker mining capacity will be expanded. Then prices will fall again, and there will be a rapid rise in living standards. OTOH, oil shocks will probably not go away, as mining capacity for oil is unlikely to outstrip global demand at any point soon.

[Winstonm]

Phil,

 

Let me be more specific as to what I mean. Although Say's Law is not all of classical thought, it is a part of classical thought. Say's Law has 6 propositions:

 

1.The total factor payments received for producing a given volume (or value) of output are necessarily sufficient to purchase that volume (or value) or output.

2.There is no loss of putchasing power anywhere in the economy.

3.Investment is only an internal transfer, not a net reduction, of aggregate demand.

4.In real terms, supply equals demand ex ante, since each individual produces only because of, and to the extent of, his demand for other goods.

5.A higher rate of savings will cause a higher rate of subsequent growth in aggregate output.

6.Disequalibrium in the economy can exist only because the internal proportions of output differ from consumer's preferred mix - not because output is excessive in the aggregate.

 

#2 is what I am addressing with my concerns. If commodity inflation causes rising prices, then there is a loss of purchasing power within the economy and the actions predicted by Say's Law would appear to me to break down.

[phil_20686]

Phil,

 

Let me be more specific as to what I mean. Although Say's Law is not all of classical thought, it is a part of classical thought. Say's Law has 6 propositions:

 

1.The total factor payments received for producing a given volume (or value) of output are necessarily sufficient to purchase that volume (or value) or output.

2.There is no loss of putchasing power anywhere in the economy.

3.Investment is only an internal transfer, not a net reduction, of aggregate demand.

4.In real terms, supply equals demand ex ante, since each individual produces only because of, and to the extent of, his demand for other goods.

5.A higher rate of savings will cause a higher rate of subsequent growth in aggregate output.

6.Disequalibrium in the economy can exist only because the internal proportions of output differ from consumer's preferred mix - not because output is excessive in the aggregate.

 

#2 is what I am addressing with my concerns. If commodity inflation causes rising prices, then there is a loss of purchasing power within the economy and the actions predicted by Say's Law would appear to me to break down.

 

This is purely a matter of semantics, but #2 just represents the fact that whatever I pay money for, that is its value. So the fact that commodities have risen in price and therefore we have less stuff, does not actually reduce our purchasing power. Its purely an accounting identity.

 

I mean saye's law as a whole is obviously wrong. There are about a dozen effects in the real world not accounted for, its more one of these ideal thought experiments that you do to understand one way of looking at things. I don't think anyone should take it as a real guide. In no particular order:

 

Prices are sticky, and so markets cannot always react efficiently to changing circumstances.

Manufacturing does not happen in a vacuum, it always absorbs some resources, so by making something that noone wants not only have you not added value to the economy, you have actually destroyed someone elses labour who created the stuff you needed.

Point one appears to be a truism, but in fact is not, as it doesnt matter if the wealth is sufficient to purchase something, if no-one actually wants to purchase it.

Money is not necessarily identical to a barter economy, a bit of an implicit assumption to saye's law.

[Winstonm]

Robert Reich seems to have noticed the same problem:

 

The economy cannot possibly get out of its current doldrums without a strategy to revive the purchasing power of America’s vast middle class. The spending of the richest 5 percent alone will not lead to a virtuous cycle of more jobs and higher living standards.

 

http://www.nytimes.com/2011/09/04/opinion/sunday/jobs-will-follow-a-strengthening-of-the-middle-class.html?_r=1