The Wrongologist

What’s Wrong Today:

Today’s New
York Times reports that The recent economic crisis left the median American
family in 2010 with no more wealth than in the early 1990s, erasing almost two
decades of accumulated prosperity, the Federal Reserve said Monday.

A hypothetical family richer than half the
nation’s families and poorer than the other half had a net worth of $77,300 in
2010, compared with $126,400 in 2007, the Fed said. The crash of housing prices
directly accounted for three-quarters of the loss.

The 2008 Great Recession and its now-prolonged
aftermath requires us to re-examine
some particularly bad ideas that have become the dominant free-market
paradigm.

So, What’s Wrong?

The Wrongologist contends today’s version of
business’ big ideas no longer function
in a manner that makes all stakeholders better off. Let’s remember that
the stakeholders include the shareholders, employees, customers, suppliers and
the communities in which the firm operates.

Here
are three Big and Wrong ideas that need to be modified or else just go away, if
we are to get back on a track to balanced growth:

#1) “Markets must be free “
– free-marketers contend that regulation should be avoided because it restricts
economic growth and market freedom.

The Talking Heads tell us that markets
produce the most efficient and just outcomes if they are free from regulation.
That makes them “efficient” because businesses and the individuals
who run them know best how to utilize their resources. Unfettered markets are
“just” because they reward individuals according to their
productivity.

Following this advice, the US deregulated
businesses, reduced taxes and welfare, and adopted freer trade. The result has largely been the opposite
of what was promised: We
have experienced rising income inequality and slower growth, both of which were
masked until recently by increasing credit expansion and increased
productivity.

With a few exceptions, all of today’s rich
countries, including Britain and the U.S., reached that status through
protectionism, subsidies, and other policies that they and their IMF, WTO, and
World Bank now advise developing nations not to adopt.

Free-market proponents usually respond that
the U.S. succeeded despite, not because of, protectionism. The problem with
that is the number of other nations paralleling the early growth strategy of
the U.S. and Britain (Austria, Finland, France, Germany, Japan, Korea, Singapore,
Sweden, Taiwan), and the fact that apparent exceptions (Hong Kong, Switzerland,
The Netherlands) did so by ignoring foreign patents (oops, that’s a free-market
‘no-no’).

Regulatory oversight of our substantially
free market hasn’t materially affected our economic development and confusion
about the regulatory environment is not stopping corporations from investing. Lack
of consistent demand is holding them back.

#2) “Companies must maximize return
to shareholders”. Today,
shareholders are the most mobile of corporate stakeholders. For
example, high frequency trading represents 70+% of trading by volume. They
often hold ownership for fractions of a second. These high frequency
shareholders ONLY want corporate strategies that maximize short-term profits
and dividends. They are in bed with professional managers who now own large
chunks of equity in public firms. Coupled with the growing trend of lesser, or
no, voting rights for stock ownership by the public, professional managers have
a free hand to get wealthy without responsibility for the longer term corporate
performance. Here are some of the wrong tools they use:

 •  Increased share
buybacks. Buybacks accounted for less than 5% of
corporate profits until the early 1980s. They were 90% in 2007, and 280% in
2008. One economist estimated that had
GM not spent $20.4 billion on buybacks between 1986 and 2002, it could
have prevented bankruptcy in 2009.

 •  Offshoring and
Outsourcing are also driven by short-term profit
perspectives in many cases. These have also brought large-scale layoffs. Over
the past five years, our top multinationals have created 5 million more jobs
off shore than they have in the US. Clearly, we see our interest in
full-employment undermined by corporate outsourcing goals.  

We
know that US Managers are overpriced – They make
substantially more today relative to their predecessors (about 10X what
managers made in the mid-1960s; (inflation would
have accounted for less than 7X).

Compared to counterparts in other rich
countries, US managers today make up
to 20X more.

We
should be asking: If American CEOs are worth so much, why are their companies losing
out to foreign competitors? Why aren’t they investing like their foreign
counterparts, instead of sitting on some $2 trillion in mostly cash assets? There are so many investment opportunities that could make them even more money; for example, investing in oil stocks could be a hugely successful move, as detailed on https://www.energyfunders.com/blog/whats-the-best-way-to-invest-in-oil/.

#3)”Making rich people richer makes
the rest of us richer.” Really? “Trickle-down” economics is
based on the belief that the poor maximize current consumption, while the rich
mostly invest and investment creates GDP growth.

However,
the highest-ever growth rates in personal income in the US occurred during the
years 1950-1973, despite increased taxation of the rich. This was also the case in Canada, Australia, and New Zealand.

During this period, per capita income grew
at 2-3%. Prior to that, it grew at 1-1.5%/year.

Since then, tax cuts for the rich and
financial deregulation have allowed greater paychecks for top managers and
financiers. Between 1979 and 2006, the top 0.1% increased their share of
national income from 3.5% to 11.6%.

The result? Investment as a ratio of
national output has fallen in all rich economies and the rate at which the
total economic pie expands, has decreased.

So, Trickle Down has to be deleted from our
“economic fix-it” tool bag.

Bottom-Line:
We
need different ideas to inform our effort to steer the ship of state to higher GDP growth and full employment. How about ending our love affair with unrestrained, free-market
capitalism and installing a better-regulated variety? 

• Let’s make financial risk taking less attractive. U.S. financial assets/GDP had exceeded 900% by the early
  2000’s.  They have averaged 4-12% return
  since deregulation, higher than most non-financial firms, which range between
  2-5%. This focus diverts attention from manufacturing and its potentially much
  larger employment. Methods of doing so are being discussed in business and
  political circles. They include taxing market transactions, indexing bankers’
  bonuses to the leverage used to produce profits, banning short-selling and
  derivatives, and limiting bank leverage

• How about tying executive performance to adequate returns for all STAKEHOLDERS
  rather than to maximum return to shareholders?

• How about recognizing that trickle down doesn’t work?

What would be wrong with trying a few different ideas?