READER ADVISORY -- Dry reading ahead about macroeconomics
I'm grabbing another post partly to link an entire blog.
Ashwin Parameswaran is self described as Ex-banker (fixed income structuring for 7 years), currently working on a startup and his blog -- Mostly about markets and macroeconomies as complex adaptive systems (emphasis on “adaptive”), sometimes about banking. A way to force myself to organise my thoughts and get feedback from others.
By way of introduction I used Twitter as I was reading the first time through to grab the following snips.
- Neoliberal crony capitalism is driven by a grand coalition between the pragmatic centre-left and the pragmatic centre-right.
- Politics today is just internecine warfare between the various segments of the rentier class.the core strategy of neoliberal crony capitalism – increase the scope and reduce the scale of government intervention
- Brezhnev once quipped that Soviet enterprises shied away from innovation “as the devil shies away from incense”
- Unwittingly, the neoliberal era has replicated the Soviet system.
- We are living in a world where rentier capitalists game the half-baked schemes of privatisation and fleece the taxpayer and the perverse dynamics of safety for the classes and instability for the masses leaves us in the Great Stagnation.
This is the Wikipedia link.
The Great Stagnation: How America Ate All the Low-Hanging Fruit of Modern History, Got Sick, and Will (Eventually) Feel Better is a pamphlet by Tyler Cowen published in 2011. It argues that the American economy has reached a historical technological plateau and the factors which drove economic growth for most of America's history are mostly spent. These figurative "low-hanging fruit" from the title include the cultivation of much free, previously unused land; the application and spread of technological breakthroughs, particularly during the period 1880–1940, including transport, refrigeration, electricity, mass communications, and sanitation; and the education of large numbers of smart people who previously received none.This gave me a flashback to a conversation I had with a Korean gentleman long ago during my assignment to his country as an American GI. At that time Korea was an undeveloped country, heavily agricultural, without electricity, plumbing or pavement in most of the country. Village houses had thatched roofs and heavy work was done by animals. I knew that the population density was one of the heaviest in the world and the country showed the devastation of the war in many ways, the most conspicuous being the absence of trees, most of which had been destroyed or burned for fuel. Arbor Day was therefore very important and cutting trees was a criminal offense. I casually mentioned how one of the challenges of early America was that there were so many trees it made it difficult to farm. First the forests had to be cleared. I hadn't thought about the challenge of regrowing trees for a whole country.
The conversation drifted to how important natural resources are to development. Something that looks as simple as farming requires careful water management, for instance, especially when the same water must be shared by numerous farmers in a way that provides enough for those downstream (or in the case of terraces, down-hill) without flooding them or leaving those at the top too dry.
My Korean friend observed that it takes many years to develop that level of cooperation. "America is a very young country," he said. "It has many natural resources, so that is the main reason it is such a rich place."
I replied that we also have a lot of creativity and imagination in America, a strong work ethic and the advantage of having a lot of people from all over the world. He gently but politely pointed out to me that when Columbus discovered the New World, Seoul, the capital of Korea, was already four thousand years old.
It was another of those moments when everything suddenly looks different. He was right. And I began to wonder if America would even be around for a fourth century, much less a fourth millenium.
What follows is the most insightful picture of the economic challenges America faces today. I will not be wasting time and energy trying to spread these ideas around. They are not only boring to most people, they are also too nuanced for most people to grasp. Nuance is not the strong suit of most minds, especially those already made up -- which unfortunately describes most of the minds of which I am aware, both personally and in what I read. I have stolen the entire post, links and all, so I can go back and read it again, this time looking more closely at all the links.
His final sentence deserves to be displayed before the jump.
==► A robust safety net is as important to maintaining an innovative free enterprise economy as the dismantling of entry barriers and free enterprise are to reducing inequality.
Radical Centrism: Uniting the Radical Left and the Radical Right
Pragmatic Centrism Is Crony Capitalism
Neoliberal crony capitalism is driven by a grand coalition between the pragmatic centre-left and the pragmatic centre-right. Crony capitalist policies are always justified as the pragmatic solution. The range of policy options is narrowed down to a pragmatic compromise that maximises the rent that can be extracted by special interests. Instead of the government providing essential services such as healthcare and law and order, we get oligopolistic private healthcare and privatised prisons. Instead of a vibrant and competitive private sector with free entry and exit of firms we get heavily regulated and licensed industries, too-big-to-fail banks and corporate bailouts.
There’s no better example of this dynamic than the replacement of the public option in Obamacare by a‘private option’. As Glenn Greenwald argues, “whatever one’s views on Obamacare were and are: the bill’s mandate that everyone purchase the products of the private health insurance industry, unaccompanied by any public alternative, was a huge gift to that industry.” Public support is garnered by presenting the private option as the pragmatic choice, the compromise option, the only option. To middle class families who fear losing their healthcare protection due to unemployment, the choice is framed as either the private option or nothing.
In a recent paper (h/t Chris Dillow), Pablo Torija asks the question ‘Do Politicians Serve the One Percent?’ and concludes that they do. This is not a surprising result but what is more interesting is his research on the difference between leftwing and rightwing governments which he summarises as follows: “In 2009 center-right parties maximized the happiness of the 100th-98th richest percentile and center-left parties the 100th-95th richest percentile. The situation has evolved from the seventies when politicians represented, approximately, the median voter”.
Nothing illustrates the irrelevance of democratic politics in the neo-liberal era more than the sight of a supposedly free-market right-wing government attempting to reinvent Fannie Mae/Freddie Mac in Britain. On the other side of the pond, we have a supposedly left-wing government which funnels increasing amounts of taxpayer money to crony capitalists in the name of public-private partnerships. Politics today is just internecine warfare between the various segments of the rentier class. As Pete Townshend oncesaid, “Meet the new boss, same as the old boss”.
The Core Strategy of Pragmatic Crony Capitalism: Increase The Scope and Reduce the Scale of Government
Most critics of neoliberalism on the left point to the dramatic reduction in the scale of government activities since the 80s – the privatisation of state-run enterprises, the increased dependence upon private contractors for delivering public services etc. Most right-wing critics lament the increasing regulatory burden faced by businesses and individuals and the preferential treatment and bailouts doled out to the politically well-connected. Neither the left nor the right is wrong. But both of them only see one side of what is the core strategy of neoliberal crony capitalism – increase the scope and reduce the scale of government intervention. Where the government was the sole operator, such as prisons and healthcare, “pragmatic” privatisation leaves us with a mix of heavily regulated oligopolies and risk-free private contracting relationships. On the other hand, where the private sector was allowed to operate without much oversight the “pragmatic” reform involves the subordination of free enterprise to a “sensible” regulatory regime and public-private partnerships to direct capital to social causes. In other words, expand the scope of government to permeate as many economic activities as possible and contract the scale of government within its core activities.
Some of the worst manifestations of crony capitalism can be traced to this perverse pragmatism. The increased scope and reduced scale are the main reasons for the cosy revolving door between incumbent crony capitalists and the government. The left predictably blames it all on the market, the right blames government corruption, while the revolving door of “pragmatic” politicians and crony capitalists rob us blind.
Radical Centrism: Increase The Scale and Reduce The Scope of Government
The essence of a radical centrist approach is government provision of essential goods and services and a minimal-intervention, free enterprise environment for everything else. In most countries, this requires both a dramatic increase in the scale of government activities within its core domain as well as a dramatic reduction in the scope of government activities outside it. In criticising the shambolic privatisation of National Rail in the United Kingdom, Christian Wolmar argued that: “once you have government involvement, you might as well have government ownership”. This is an understatement. The essence of radical centrism is: ‘once you have government involvement, you must have government ownership’. Moving from publicly run systems “towards” free-enterprise systems or vice versa is never a good idea. The road between the public sector and the private sector is the zone of crony capitalist public-private partnerships. We need a narrowly defined ‘pure public option’ rather than the pragmatic crony capitalist ‘private option’.
The idea of radical centrism is not just driven by vague ideas of social justice or increased competition. It is driven by ideas and concepts that lie at the heart of complex system resilience. All complex adaptive systems that successfully balance the need to maintain robustness while at the same time generating novelty and innovation utilise a similar approach.
Barbell Approach: Conservative Core, Aggressive Periphery
Radical centrism follows what Nassim Taleb has called the ‘barbell approach’. Taleb also provides us with an excellent example of such a policy in his book ‘Antifragile’, “hedge funds need to be unregulated and banks nationalized.” The idea here is that you bring the essential utility-like component of banking into the public domain and leave the rest alone. It is critical that the common man must not be compelled to use oligopolistic rent-fuelled services for his essential needs. In the modern world, the ability to hold money and transact is an essential service. It is also critical that there is only a public option, not a public imperative. The private sector must be allowed to compete against the public option.
A bimodal strategy of combining a conservative core with an aggressive periphery is common across complex adaptive systems in many different domains. It is true of the gene regulatory networks in our body which contains a conservative “kernel”. The same phenomenon has even been identified in technological systems such as the architecture of the Internet where a conservative kernel “represent(s) a stable basis on which diversity and complexity of higher-level processes can evolve”.
Stress, fragility and disorder in the periphery generates novelty and variation that enables the system to innovate and adapt to new environments. The stable core not only promotes robustness but paradoxically also promotes long-run innovation by by avoiding systemic collapse. Innovation is not opposed to robustness. In fact, the long-term ability of a system to innovate is dependent upon system robustness. But robustness does not imply stability, it simply means a stable core. The progressive agenda is consistent with creative destruction so long as we focus on a safety net, not a hammock.
Restore the ‘Invisible Foot’ of Competition
The neo-liberal era is often seen as the era of deregulation and market supremacy. But as many commentators have noticed, “”deregulation typically means reregulation under new rules that favor business interests.” As William Davies notes, “the guiding assumption of neoliberalism is not that markets work perfectly, but that private actors make better decisions than public ones”. And this is exactly what happened. Public sector employees were moved onto incentive-based contracts that relied on their “greed” and the invisible hand to elicit better outcomes. Public services were increasingly outsourced to private contractors who were theoretically incentivised to keep costs down and improve service delivery. Nationalised industries like telecom were replaced with heavily licensed private oligopolies. But there was a fatal flaw in these “reforms” which Allen Schick identifies as follows (emphasis mine):
...one should not lose sight of the fact that these are not real markets and that they do not operate with real contracts. Rather, the contracts are between public entities—
the owner and the owned. The government has weak redress when its own organizations fail to perform, and it may be subject to as much capture in negotiating and enforcing its contracts as it was under pre-reform management. My own sense is that while some gain may come from mimicking markets, anything less than the real thing denies government the full benefits of vigorous competition and economic redress.
One difference between the “real thing” and the neoliberal version of the real thing is what the economist Joseph Berliner has called the ‘invisible foot’ of capitalism. Incumbent firms rarely undertake disruptive innovation unless compelled to do so by the force of dynamic competition from new entrants. The critical factor in this competitive dynamic is not the temptation of higher profits but the fear of failure and obsolescence. To sustain long-run innovation in the economy , the invisible foot needs to be “applied vigorously to the backsides of enterprises that would otherwise have been quite content to go on producing the same products in the same ways, and at a reasonable profit, if they could only be protected from the intrusion of competition.”
The other critical difference is just how vulnerable the half-way house solutions of neo-liberalism were to being gamed and abused by opportunistic private actors. The neo-liberal era saw a rise in incentive-based contracts across the private and public sector but without the invisible foot of the threat of failure. The predictable result was not only a stagnant economy but an increase in rent extraction as private actors gamed the positive incentives on offer. As an NHS surgeon quipped with respect to the current NHS reform project: “I think there’s a model there, but it’s whether it can be delivered and won’t be corrupted. I can see a very idealistic model, but by God, it’s vulnerable to people ripping it off”.
Most people view the failure of the Soviet model as being due to the inefficiency of the planned economy. But the problem that consumed the attention of Soviet leaders since the 1950s was the inability of the Soviet economy to innovate. Brezhnev once quipped that Soviet enterprises shied away from innovation “as the devil shies away from incense”. In his work on the on-the-ground reality of the Soviet economy, Joseph Berliner analysed the efforts of Soviet planners to counter this problem of insufficient innovation. The Soviets tried a number of positive incentive schemes (e.g. innovation “bonuses”) that we commonly associate with capitalist economies. But what it could not replicate was the threat of firm failure. Managers safe in the knowledge that competitive innovation would not cause their firm or their jobs to vanish were content to focus on low-risk process innovation and cost-reduction rather than higher-risk, disruptive innovation. In fact, the presence of bonuses that rewarded efficiency further reduced exploratory innovation as exploratory innovation required managers to undertake actions that often reduced short-term efficiency.
Unwittingly, the neoliberal era has replicated the Soviet system. Incumbent firms have no fear of failure and can game the positive incentives on offer to extract rents while at the same time shying away from any real disruptive innovation. We are living in a world where rentier capitalists game the half-baked schemes of privatisation and fleece the taxpayer and the perverse dynamics of safety for the classes and instability for the masses leaves us in the Great Stagnation.
The neo-liberal era is often seen as the era of deregulation and market supremacy. But as many commentators have noticed, “”deregulation typically means reregulation under new rules that favor business interests.” As William Davies notes, “the guiding assumption of neoliberalism is not that markets work perfectly, but that private actors make better decisions than public ones”. And this is exactly what happened. Public sector employees were moved onto incentive-based contracts that relied on their “greed” and the invisible hand to elicit better outcomes. Public services were increasingly outsourced to private contractors who were theoretically incentivised to keep costs down and improve service delivery. Nationalised industries like telecom were replaced with heavily licensed private oligopolies. But there was a fatal flaw in these “reforms” which Allen Schick identifies as follows (emphasis mine):
...one should not lose sight of the fact that these are not real markets and that they do not operate with real contracts. Rather, the contracts are between public entities—
the owner and the owned. The government has weak redress when its own organizations fail to perform, and it may be subject to as much capture in negotiating and enforcing its contracts as it was under pre-reform management. My own sense is that while some gain may come from mimicking markets, anything less than the real thing denies government the full benefits of vigorous competition and economic redress.
One difference between the “real thing” and the neoliberal version of the real thing is what the economist Joseph Berliner has called the ‘invisible foot’ of capitalism. Incumbent firms rarely undertake disruptive innovation unless compelled to do so by the force of dynamic competition from new entrants. The critical factor in this competitive dynamic is not the temptation of higher profits but the fear of failure and obsolescence. To sustain long-run innovation in the economy , the invisible foot needs to be “applied vigorously to the backsides of enterprises that would otherwise have been quite content to go on producing the same products in the same ways, and at a reasonable profit, if they could only be protected from the intrusion of competition.”
The other critical difference is just how vulnerable the half-way house solutions of neo-liberalism were to being gamed and abused by opportunistic private actors. The neo-liberal era saw a rise in incentive-based contracts across the private and public sector but without the invisible foot of the threat of failure. The predictable result was not only a stagnant economy but an increase in rent extraction as private actors gamed the positive incentives on offer. As an NHS surgeon quipped with respect to the current NHS reform project: “I think there’s a model there, but it’s whether it can be delivered and won’t be corrupted. I can see a very idealistic model, but by God, it’s vulnerable to people ripping it off”.
Most people view the failure of the Soviet model as being due to the inefficiency of the planned economy. But the problem that consumed the attention of Soviet leaders since the 1950s was the inability of the Soviet economy to innovate. Brezhnev once quipped that Soviet enterprises shied away from innovation “as the devil shies away from incense”. In his work on the on-the-ground reality of the Soviet economy, Joseph Berliner analysed the efforts of Soviet planners to counter this problem of insufficient innovation. The Soviets tried a number of positive incentive schemes (e.g. innovation “bonuses”) that we commonly associate with capitalist economies. But what it could not replicate was the threat of firm failure. Managers safe in the knowledge that competitive innovation would not cause their firm or their jobs to vanish were content to focus on low-risk process innovation and cost-reduction rather than higher-risk, disruptive innovation. In fact, the presence of bonuses that rewarded efficiency further reduced exploratory innovation as exploratory innovation required managers to undertake actions that often reduced short-term efficiency.
Unwittingly, the neoliberal era has replicated the Soviet system. Incumbent firms have no fear of failure and can game the positive incentives on offer to extract rents while at the same time shying away from any real disruptive innovation. We are living in a world where rentier capitalists game the half-baked schemes of privatisation and fleece the taxpayer and the perverse dynamics of safety for the classes and instability for the masses leaves us in the Great Stagnation.
Bailouts For People, Not Firms
Radical centrism involves a strengthening of the safety net for individuals combined with a dramatic increase in the competitive pressures exerted on incumbent firms. Today, we bail out banks because a banking collapse threatens the integrity of the financial system. We bail out incumbent firms because firm failure leaves the unemployed without even catastrophic health insurance. The principle of radical centrism aims to build a firewall that protects the common man from the worst impact of economic disturbances while simultaneously increasing the threat of failure at firm level. The presence of the ‘public option’ and a robust safety net is precisely what empowers us to allow incumbent firms to fail.
The safety net that protects individuals ensures robustness while the presence of a credible ‘invisible foot’ at the level of the firm boosts innovation. Moreover, as Taleb notes programs that bail out people are much less susceptible to being gamed and abused than programs that bail out limited liability firms. As I noted in an earlier post, “even uncertain tail-risk protection provided to corporates will eventually be gamed. The critical difference between individuals and corporates in this regard is the ability of stockholders and creditors to spread their bets across corporate entities and ensure that failure of any one bet has only a limited impact on the individual investors’ finances. In an individual’s case, the risk of failure is by definition concentrated and the uncertain nature of the transfer will ensure that moral hazard implications are minimal.”
The irony of the current policy debate is that policy interventions that prop up banks, asset prices and incumbent firms are viewed as the pragmatic option and policy interventions focused on households are viewed as radical and therefore beyond the pale of discussion. Preventing rent-seeking is a problem that both the left and the right should be concerned with. But both the radical left and the radical right need to realise the misguided nature of many of their disagreements. A robust safety net is as important to maintaining an innovative free enterprise economy as the dismantling of entry barriers and free enterprise are to reducing inequality.
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