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I like Ed Davey but he may have fluffed this election.

I like Ed Davey, I’ve only met him twice but both times he was polite and generous. He gave a speech on climate change that was honestly inspiring. In the last leadership election I was initially torn on who to vote for, and while I admit I did eventually vote for Jo that was only after she came out for UBI, which both Ed and Layla have supported this campaign. So why am I concerned about Ed now?

His campaign has had several unfortunate incidents that I think we need to talk about. There's a school of thought in Lib Dem leadership elections that you shouldn’t mention anything that isn’t positive, and I sympathise with the reasons we prefer that, but we have a problem where we can’t really talk about things that may get the party in trouble later. So, with some hesitation, I want to talk about my concerns with Ed.

Firstly, his campaign opened by using contact details from his previous leadership campaign while Layla had to start from scratch. The returning officer ruled there was a breach of GDPR. If the party had breached GDPR in this way it would have resulted in a large fine and if Ed wins it could be one of the first national stories about our new leader. This is unfortunate in a campaign where he has centred the idea of his good judgement. Even if he viewed the risk of breaching GDPR as small it seems an unnecessarily large risk that could reflect badly on the party in exchange for an advantage he didn’t really need.

Second, he's highlighted carers and the carers allowance in his campaign, which he voted to cut in coalition. Consequently, and not surprisingly, journalists and activists have brought this up. It will dog us under Ed just as Jo being a minister dogged us under Jo. Ed's response is to downplay the coalition but that won't wash with a number of voters we really need. This also came up with a Lib Dem member at a hustings. The member had been personally affected during the coalition, having been a carer at the time, and asked Ed how he would respond. Ed replied that he didn’t think coalition was an issue and that he had got a lot of wind turbines built. He did, and that’s great, but the answer came off as really quite insensitive and alienating to a crucial group.

Why is this crucial? Because most of our Tory facing seats are won only by us getting both Tory and Labour swing voters. In 2005 we got both despite being centre-left and in 2015 we lost votes to both Labour and the Greens losing us 49 seats. Experience and judgement should tell us that however much we may feel those Labour swing voters are treating us unfairly we need them to win and we can’t win them over if we talk about coalition the way Ed is.

Add to that his interview with Julia Hartley-Brewer, who I dislike as much as the next Lib Dem, where there seems to be some debate over whether he called her "senile" or a "silly woman" but neither is good is it? Then at the same time he's angered the LGBT+ activist base in this campaign and got caught out in a hustings claiming credit for a policy created by… Layla Moran. It's a series of problems.

So if he has made a series of misjudgments and is stuck on the talking points that lost us what are now our target seats and has kept us at 11 seats and 6% in the polls, while his opponent is offering the talking points and values we had in 2005, when we won those target seats and hit our highest ever number of MPs, it's hard to see why we wouldn't choose to win again. Gaining more MPs while going back to the values we hold so dear seems a win-win. We get to make a positive difference again!

So once again I like Ed, I hope he's a minister the next time we’re in government but in order for that to happen he probably can’t be leader and I’m sad about that.

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This isn't even slightly about Cronovirus. (Although some of the follow up I'm writing might touch on it.)

This is about utility, disutility, how markets work and what that implies for neoLiberalism and Liberalism.

“Marx, Markets and disutility”: https://t.co/kuUWF2Tewn

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Redistribution as a proxy for equalising investment and savings.

Negative interest rates have been a major topic on econ twitter along with other unorthodox central bank policies. I wanted to talk about how using redistribution can arbitrage savings and investment in a similar way to how interest rates have historically been seen as the natural mechanism to balance the two.

Let’s start by rehashing the theoretical starting point of interest rates as the arbitrage mechanism for savings and investment: In a world where currency is limited in supply to a preset amount it naturally follows that if there are lots of competing investments wanting to borrow from the limited pool of available savings then those savings will flow to the highest bidder, pushing up interest rates. At higher interest rates fewer investments will be profitable and so fewer people will borrow the money. This means that investment and savings will be forced into balance naturally.

In a world where the central bank simply sets short-run interest rates and allows banks to lend an ostensibly unlimited amount of newly created currency at that rate, what happens? Well, it is worth borrowing for any project that will yield a return greater than the amount the banks will lend to you at. Investment is not, initially, limited by savings in the way that it was before. Instead, as investors borrow at that interest rate, the expectation, if the rate is set correctly, is that the economy will use all available economic capacity and so inflation will kick in. This will cause central banks to raise interest rates, slowing investment. In theory, this rise in interest rates causes people to save more and consume less while simultaneously reducing the number of investments made and so, in the long run, this is supposed to still balance savings and investment.

So how does redistribution fit in?

Imagine that the central bank does not raise interest rates but allows inflation to rise. Instead, fiscal policy is used to reduce incomes at the bottom and redistribute them to the top. More accurately this would look like governments having a flatter tax system (assuming spending is held constant) as with a flatter tax system the rich will naturally get relatively richer compared to the poorest and the middle class. What is the result? Well, the poorest and the middle class tend to consume more and save less, while the wealthy may spend higher nominal amounts but spend a far smaller percentage of their income and save a far higher percentage. The result will be a reduction in consumer demand, reducing the number of viable investments at the current interest rate, and an increase in savings due to the wealthy having more money and most of that simply being added to their bank accounts. Therefore, just as before, savings and investment are brought into balance even though interest rates have been held constant.

This holds true in the reverse: If inflation is low and interest rates are low then taxing the rich more and the poorest and middle class less will result in a redistribution of wealth from those who tend to save more to those who tend to spend more of their income. This will increase the viable investment opportunities at any given interest rate. This will solve the problem of a savings glut. This is, of course, where we are now. Interest rates are turning not just low but negative in many places and inflation is still lacklustre. To balance savings and investment using traditional interest rate means has proved extremely challenging but there is no barrier at all to using redistribution as the tool to achieve that goal.

Further, redistribution does not actually have to be between those at the bottom and those at the top of the income ladder, it can be ‘temporal’ redistribution.

If during a time when inflation is rising and must be offset, taxes are used to drain consumer demand it is perfectly possible that rather than giving that money to the wealthy it is simply kept to one side, untouched. Inflation will still be beaten all the same due to smaller consumer demand. This will directly help via lower demand and indirectly help by reducing the number of viable opportunities for investment, causing less to be borrowed. Investment will be unaffected by any change in savings- the amount of savings does not directly affect the amount of investment capital available to be borrowed, instead, that is set by the central bank via the interest rate interacting with consumer demand.

Conversely, if inflation falls too low then the money set aside previously, or new money created for this purpose, can be given directly to consumers to spend. This not only pushes up their spending but increases the number of profitable investment opportunities at a given interest rate. This causes more capital to be borrowed from the banking system.

In this way investment and savings are still balanced but there are now two types of savings- the traditional type where individuals deposit capital in savings vehicles and a new type where the taxes levied to hold back consumer demand are effectively ‘collective savings’ returned to consumers over time as market activity slows and inflation drops back down. This redistribution economics has a number of advantages for us under our current circumstances.

Firstly it will always work. (Some people claim that it won’t successfully cause inflation but if you honestly believe that we could keep giving people increasing amounts of money forever without ever causing inflation then that’s wonderful news, we should definitely do it! Sadly I don’t believe you. Inflation will eventually kick in and we will have to pair back.)

Secondly, inequality and unfairness are enormous complaints regularly thrown at the current economic system and have caused enormous political pressures that have resulted in the rise of multiple populist governments. Redistribution economics not only addresses inequality directly and ensures that the measures we take during an economic bust help everyone and not just the rich (notably interest rate policy and also Quantitative Easing have helped asset prices enormously but done little for either the real economy or ordinary consumers) but additionally when we reach an economic boom the moves we make to offset consumer demand can act essentially as ‘savings for all’ rather than a shift of income up the wealth ladder.

All this is surely preferable to the current turmoil and can make life consistently better for everyone. That seems worth doing.

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Why the Nordic model works- or why the Laffer curve doesn’t mean what you think it means…

It’s a commonly cited aphorism that higher taxes mean slower economic growth and that you collect less revenue when you raise them anyway. The less trite version of this is the “Laffer curve”, the idea that there is some logical maximum point of revenue collection for taxes. If taxes were set at 100% then presumably nothing would work and you wouldn’t collect any revenue, but equally, you won’t collect any revenue with a 0% tax either. The maximum point is therefore somewhere in between 0% and 100%... which is not very specific.

So then what is the optimal tax rate?

That’s a complicated question so let’s break that down slightly. The first question is about growth. We clearly do not want taxes so high that they lower growth. The problem with this is that tax/GDP ratios of wealthy countries vary widely but long term growth rates do not. This is true both across countries and across time. The famous tax cutting governments of Thatcher and Regan achieved the same average long-run growth rate as those before or after them. (Some point out that the “neoliberal” low tax period has actually seen lower growth.) It doesn’t seem like tax rates affect growth very much and if they do it can actually be because they’re too low!

So the second question is what about maximising revenue? This should vary fairly wildly for different taxes and jurisdictions. It depends how easy the tax is to avoid and how attractive the jurisdiction is for business/residents and therefore how much it is worth paying to be there. That last part is really the point. If there was never any value in paying higher costs to be in a specific location then nobody would be paying London or New York rents and nobody would be employed in higher wage countries… but they are. So what would happen if we inverted the logic of the Laffer curve? If there is some maximum point for taxes and taxes don’t seem to alter GDP growth all that much then should we be aiming for that maximum point? Rather than implying that we should keep taxes to a minimum does the Laffer curve actually imply that we should maximise them? And what should we do with the revenue afterwards?

This does, of course, fly in the exact opposite direction of conventional political wisdom but let’s just go with the idea that we’re maximising tax revenue for a second, what is the result? Well, we have two options essentially, the government directs the spending in what it believes is a socially optimal way or the government hands that money back to citizens and lets them choose how it should be spent. That second one may seem a touch confusing, why tax citizens and then give them back the money we just taxed them? The answer is obviously that citizens are not one homogenous block and what we’re really talking about is redistribution, i.e. fiscal transfers.

Where taxes are high and government allocation of resources is high, rather than using fiscal transfers, this doesn’t necessarily slow growth but as that government spending is counted as part of GDP it’s not actually clear if those resources are allocated the best way they can be. That’s why fiscal transfers are so attractive. The ‘Nordic model’ as it’s called is essentially a high tax, high transfer model on top of a broadly free market. Clearly, those countries do not have runaway inflation, they do not have slow growth, they don’t have lagging economies or painfully high-interest rates so this model does appear to work… but why? Let’s consider, ironically, the oversimplified framework used to explain why taxes are bad as an explanation of why, actually, this model might work quite well.

Often the “econ 101” argument goes something like this: You have a traditional supply/demand graph with a rising supply curve and a falling demand curve that intersect somewhere at a price and quantity. If you add a tax (in the simplest case a per unit tax so that we can do the simplest possible shift in the supply curve) then the supply curve shifts upwards resulting in a higher price and lower quantity produced, i.e. a deadweight loss. Is this actually what happens? Obviously not or I wouldn’t have brought this whole thing up. Even in this super simplified model if we are talking about a tax used for government expenditure then that “deadweight loss” is actually a reallocation of resources. If that’s to something that is more efficiently paid for via the government (police, fire services, the army, healthcare, etc.) then it isn’t a deadweight loss at all but simply a more efficient allocation of resources. The other scenario is our fiscal transfers argument, what happens there? Well in a fiscal transfers argument you might, at first, simply say that the demand curve shifts up by the same amount as the supply curve and so the price is raised but the quantity stays constant. (After all consumer preferences haven’t changed.) So there is nominal price inflation but no real ill effects as everyone can afford the increase. I.e. no real terms price increase. Except that isn’t what will happen either. The demand curve is not equally weighted for each consumer as each consumer has a different level of spending power. When you reallocate spending power, even with the same consumer preferences, the right-hand side of the demand curve will rise more than the left-hand side. The left-hand side may not rise at all. The result? Somewhat higher prices, although less than an equal rise across the whole curve, but also a higher quantity produced!

Now, this is still an oversimplified model and it doesn’t seem to be the case that Nordic model countries do have larger economies per se. However, and this is the important point, so long as the tax and redistribute is not so high as to cause inflation to jump above target or for interest rates to get too high and out of control the economy does not suffer from redistribution. The overall economic pie is just as large AND society is more equitable.

This is important for a couple of reasons: 1. It means the “high earners earn that much because they’ve worked hard and earned it” is incorrect. If it was correct then higher tax and redistribution would shrink the economy. It doesn’t and so in a free market economic sense, they have not “earned��� that income.

2. It means we can achieve a higher standard of living for people both at the bottom and in the middle of the income distribution than we currently have with no ill effects. If we care about each person equally then we have no reason not to do this. Whether you are a Liberal, Social Democrat, Socialist or even, arguably, some variations of one nation conservative you should support doing this.

3. In a time when we are deeply worried about entering recessions while the central banks of the world run out of steam once they hit 0% interest rates but on top of that many are also worried about government debt then fiscal transfers/tax and redistribute, seems a very attractive tool to use to end recessions without government debt or trying to make negative interest rates work.

In short, redistribution is enormously important and enormously positive and we should put it at the centre of our economic model for the 21st century.

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This is actually a really good video.

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This is actually a really good video.

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The Amazon/New York debacle is nonsense and so are “tax incentives.”

American cities have a strange proclivity for offering individual companies bespoke tax cut packages in exchange for locating in their city, so naturally when a corporate giant like Amazon announces they’re looking for a place to locate their second headquarters every city in America goes nuts trying to outbid each other to attract Amazon. This is what American Mayors and city councillors have been told they’re supposed to do and so they obediently oblige. Unfortunately it’s absolute nonsense.

If you take a step back from the US systematic love of tax cuts and competition for a moment and consider the economics of the situation it’s easy to see why this just isn’t going to work. What is a company looking for when it locates somewhere?

Well low costs are definitely important and taxes are a cost so that must be the answer, right?

Except taxes aren’t the ONLY cost and costs aren’t the only thing companies consider. They also consider benefits. Let’s start with costs though for a second.

Imagine we have two possible cities to locate our company’s new complex and somehow they have exactly equal benefits. Now we’re just considering costs. Ok, so one has lower taxes than the other. What happens? Well, initially the lower tax city will win out… but, of course, if companies keep trying to move there and bring new residents with them for their workforce the city is going to very quickly struggle to accommodate them. It can expand but the further outside of the city you are the less the access to those initial benefits. Plus rents on land will go up and with that wages for your employees. Before long costs will rise enough to offset the lower taxes and now the two cities are equally attractive again… and that’s assuming we can hold benefits constant, which of course we can’t.

In the real world benefits matter too and lower tax revenue will limit a city’s ability to provide benefits. Tax revenue is, therefore, a tradeoff: higher taxes might bring in more new companies IF the benefits secured by those taxes are a bigger incentive than the taxes are a disincentive, or it may be the reverse: if the additional taxes are a heavier burden than the benefits they provide then they’ll be a disincentive. So it depends. Sometimes you might borrow to add new benefits in the hopes of attracting more people and businesses to your city and then raise taxes to pay off those debts, but it’s all still worth it because those benefits are so good. Other times you might decide it’s better to lower the taxes and attract more people and companies instead. It will vary city by city. All the time you’re doing that, of course, non-tax costs (like land, wages, etc) will be affected as well as benefits. It’s complicated and difficult and in no way as simple as “just lower taxes to attract more business.”

But this isn’t even what US cities are doing, of course, they’re offering bespoke deals to specific companies, not raising or lowering taxes overall. In the real-life scenario they’re subsidising some big corporation to come to their city by making everyone else pay more. Either that’s just a straight up loss of revenue or a straight up cost for other residents and business or, of course, it may drive other businesses away that aren’t getting the bespoke deal! It’s all very well saying “Amazon is bringing in 25,000 new jobs!” but how many were coming in anyway? How many do you lose by hurting other businesses?

And finally there’s land values. If a company gets a tax deal that attracts them in then that will push up land values in that area. On the other hand, if you refuse to give deals and other cities are winning out over you what happens? Their land values go up, adding costs for business, and yours go down, reducing costs in your city. So in that case companies will simply relocate to you anyway because companies care about TOTAL costs and benefits and not just taxes!

All of this makes individual tax packages for individual companies utterly bananas.

If your taxes really are the barrier to growth (as opposed to a lack of benefits like inadequate services) then just lower taxes for all companies, don’t pick and choose. Especially not to help a corporate giant.

A small endnote: Amazon says it isn’t opening a second headquarters somewhere other than New York but it is “expanding it’s existing New York offices”… so New York is getting the Amazon jobs anyway… and even if it wasn’t it’s New freaking York, any number of other companies will come there!

You might say at this point that therefore maybe small towns should do the tax packages- again no! If taxes really are the barrier lower them for all but don’t forget land values. A square foot in Manhatten is worth a tonne more than a square foot in a random small town for a reason. (I thought about picking some specific random small US town but I fear this might be an insult to whichever one I picked!) That higher land value is a disincentive in and of itself and conversely the cheaper land values in the smaller town is an automatic incentive. It’s really very unlikely that you can materially alter the ratio of costs between a small town and New York without altering benefits. If you try and keep benefits constant but lower taxes two things will happen: 1. You won’t be able to afford the benefits you have, they’ll wither and you’ll lose business. 2. If you do keep benefits constant land values will rise undoing any of the incentive you created by lowering taxes.

Governments should get out of the business of subsidising one business over another. Especially to fulfil US small government dogma because that is just too darn ironic!

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Confusingly you can have free markets or Capitalism, but not both, here's why:

This is a slightly more involved blog post than usual because this is a slightly confusing topic, not least because the terms “free market” and “capitalism” both have multiple meanings.

Perhaps a better description would be that because of the multiple meanings of both words you end up needing to separate “free market capitalism” into two distinct ideas. I was reluctant to split the term capitalism in quite the way I've ended up doing in this essay and I've resisted doing so for a long time but I think the logic here forces the distinction to be made in the way I end up doing here.

Before we get into all that though we need to get into some of the reasoning used to justify free markets and how that ultimately forces you to accept two distinct ideological systems and make a choice between them.

The reasoning comes from a tool in economics called a supply/demand graph. The way they are usually described is like this:

There is a line representing the cost to produce each additional unit of whatever product you're talking about. Usually this is draw sloping upwards as ultimately if you try and produce an infinite amount of something it will become infinitely expensive.

Then there is a second line sloping the opposite way- when only a small amount of the stuff is produced the people who want it the most will pay a lot for it, then as more is produced you must sell to people who want it less and so will pay less for it. Eventually you'll come to people who will pay for the product, but only if the price is less than it costs to produce that much of it, and so the producers won't bother making any more.

At the point where producers can afford to make one more product for the same price that one more person will buy one more of the product you have the market price. All of the previous products are sold to people who would have paid more, but don't have to, and each of the previous products sold cost less than the market price to produce. That extra value that people don't have to pay is called consumer surplus and the difference between how much a product is sold for and the cost of making it is profit for the producer. Over time in a perfectly competitive market (those don't exist in real life but just imagine for a moment) the line representing the cost to supply the product will alter so that the producer profit falls to zero but the consumer surplus will remain.

If you hold all that as true then it isn't hard to see why people would argue that free markets are unambiguously good! Free markets will find a spot where enough of what people want is produced, but no more, so everyone gets as much of what they want as is technically possible with zero waste. Unsurprisingly the problem is that this doesn't all hold true.

People often point out that markets are never perfectly competitive so I'm not going to deal with that here. Suffice to say you might still justify free markets by saying that even if profits never fall to zero markets still maximise consumer surplus, plus producers are ultimately people too and so the profit isn't a problem. What I want to concentrate on is the problems that flow from this point onwards.

To see the problem we have to do two things: 1. look at how free market capitalism is described by its advocates and 2. (Unfortunately) get a little philosophical.

When describing free markets the people advocating for them usually lean quite heavily on the idea that markets reward people such that people get what they deserve. This isn't actually what the theory we've just described says! What we've said so far is that producing a new product can be profitable but that will eventually fall to zero profit. You aren't rewarded for skill or effort as such, you're rewarded for switching from something we already have plenty of to a new thing that we don't.

Well that's not so bad, it's actually quite useful, BUT that's only true in perfectly competitive markets, which don't exist, so actually you're also rewarded for being in a market where people can't properly compete with you and so you get money that nobody else could ever hope to get, not terribly fair. Before we untangle this though we have to add one more complication, which is wages. In a perfectly competitive labour market wages will fall to a “profit” of zero, which is a confusing concept so let me reword it- in a perfectly competitive labour market wages will fall such that everyone is paid enough to survive and continue to work/pay the costs of training for work and no more.

That's a little grim but luckily labour markets aren't perfectly competitive either so it's only people working the worst jobs that are paid only enough to survive and no more. The problem is that even if we could fix labour markets such that everyone could switch to any job (which would lead to equal wages/hour minus the costs of training and how unpleasant the job was to do) AND we somehow kept that equal wage above the bare minimum needed to survive, so that people were making a genuine choice between working more hours and having more money to spend and working fewer hours and having less to spend, we still hit a couple of problems.

Because now, even if we ignore the unfair monopoly payments people get in real markets AND assume people are only ever richer if they work more hours, work a more unpleasant job or move to are new industry that needs people to switch over to it, even though we're very close to what sounds like a really good system we've just screwed up our measuring system.

What do I mean by that?

Well we said it was worth rewarding people in this way because it maximized consumer surplus... but we measured consumer surplus using the demand line we talked about. We said, as most microeconomics courses do, that the demand line represented how much people wanted something, but it doesn't, it represents how much people are willing to pay and if some people have more money they can be willing to pay more not because they actually want the product more but because they're simply richer. That distorts the consumer surplus away from how we originally described it and the bigger the wealth inequality the bigger that distortion becomes.

Now you can decide this doesn't matter, that's fine, but you have to acknowledge that the reasoning has now changed. Now, in fact, the defence of markets has become a little circular- the people who are rewarded deserve to be rewarded because they are maximising happiness for the people who have been rewarded who deserved to be rewarded because they maximised happiness for the people who were rewarded… etc.

Luckily in perfectly competitive markets it's hard to earn more than the average for long… but perfectly competitive markets don't exist. So on top of this problem as it would exist in perfect markets its actually worse because there's also all of the unearned income on top of inequality due to earned income. This is what forces us down two alternative paths-

Accept this logic loop and roll with it.

People do this to a greater or lesser degree. Some (originally referred to as the “laissez-faire” doctrine or “leave it alone”, now usually referred to as right-Libertarianism) prefer to roll with it all the way, no exceptions. Some prefer to argue that the logic loop is OK if we ensure everyone has an equal start in life and/or a minimum standard that no one falls below. Some take a sort of mix of this and Conservatism and argue that this is OK but like to mildly regulate things to achieve a more stable society than you get in laissez-faire.

All of these, I think, fit into what we often term “neo-Liberalism”. Where as Liberalism was originally not terribly unified on economic policy, was arguably broadly agnostic on economics and was more of a social and political philosophy than an economic one, neo-liberalism seems to be a synonym for one of the two meanings of the word Capitalism. It seems to be the meaning where we deregulate the market such that it works as is described in this first option and those that do well, do well and those that do not, do not. It varies between the attempt at meritocracy, via minimum standards of living and as close to an equal start for all as possible, to the true laissez-faire. This is the Marxian definition of Capitalism (and I think the original usage of the term?). It's the version I've always resisted but I think the term is so necessary for describing this first approach that I'm conceding the ground on that issue. In this essay I use the capital C “Capitalism” to mean this system. I.e. a system where Capitalism is the ideology rather than just being a policy tool.

2. The second choice is to concentrate on the original aim rather than the original method.

Here we care about the consumer surplus as originally described- the aim is to maximise what each person gets as much as possible without worrying about merit as such. Here you might accept that some level of inequality is not just necessary but vital for encouraging people to turn their efforts to whatever society needs them to but you also recognise that for the market to accurately measure those needs we MUST redistribute income and minimise inequality. If you accept this option redistribution isn't optional, it's a requirement. In fact you would want the maximum level of redistribution possible that doesn't slow the economy (we know from empirical data that this is actually quite high) and you'd preferably want to raise the revenue for redistribution from monopoly rents whenever possible BUT as the very rich, definitional, can only get very rich via monopoly rents then any tax that hits the very rich is OK.

This is actually fairly well in line with original advocates of free markets, like Adam Smith, who clearly assume that it will be very hard to stay rich without someone else jumping in and the payment for that activity being eroded. Where they did see and acknowledge that there would be monopoly rents (as in Land, for example) they favoured taxation. Smith also favoured taxes that hit the wealthy generally. They just didn't realise that market distortions would be as big as they are. So none of this is a betrayal of free markets, we just now know from observation that redistribution is required to achieve that original aim!

Indeed if you think about the implicit logic of markets this all fits in quite well- the aim is to pay the minimum possible cost required to get a product produced. The idea of paying more than the minimum required is alien to markets. The logic of this is that we should pay what is required to get people to switch from producing something we have enough of to something that is underproduced but the profit they make should fall over time as new production comes online. Profits in all industries should equalise and fall to zero. Wages should equalise and fall to the minimum required to persuade workers to do the work. The end result doesn't include any provision for some people to have higher life satisfaction than others in the long run. This means that if we CAN tax and redistribute without reducing production of things people want then we MUST do so. Otherwise we would be overpaying for the same level of production, something free markets aren't supposed to have happen! This second option is much more attached to the free-market idea and far less to the capitalism part, here capitalism (small c) isn't an ideology but just an incidental acknowledgment that individuals can own capital (the means of production) but that this should, on average, yield zero profit.

These two viewpoints both use markets and both have individuals owning capital but their underlying reasoning and end results are quite different.

I would argue option 1. is rather circular and somewhat contradicts the logic inherent in free markets, that costs should be minimised and utility equalised for all. (Although markets do accept that some people may achieve that utility with more labour exchanged for more goods and some may achieve it with less labour but more leisure.) This circular logic of the people being rewarded deserve to be rewarded because they are maximising happiness for the people who have been rewarded could, frankly, apply equally well to Feudalism- rich land owners deserve to be rich because they're maximising the happiness of rich landowners, which is themselves. It's just switching from the Feudal system of picking those at the top to a Capitalistic (big C) one. They both risk justifying Plutocracy. I therefore personally find it unsatisfying as a system, but I acknowledge its existence as a real political philosophy. (Although it probably requires subdivision into Meritocratic Capitalism, Laissez-faire Capitalism and Conservative Capitalism.)

I infinitely prefer option 2, the free-markets as a tool to complete a different task, maximising utility for all equally, approach. Here Capitalism isn't the ideology driving decision making but instead capital ownership (I.e. small c capitalism) and free-markets are allowed to exist but are used to achieve that purpose. That purpose being utility maximisation for everyone equally, where utility is defined by the individuals themselves based on their own personal preferences. This is what I would call Liberalism. What this implies, however, is that providing equality of opportunity simply isn't enough, you must aim for equality of utility and that requires redistribution of wealth.

A brief acknowledgment- just as not everyone who falls in the “Capitalism” camp has the same views this other camp is also split. Some are less focused on individuals defining their own utility and think we need society to guide us- Social Democrats, some are focused on self definition of utility but acknowledge that human beings aren't always good at maximising this by themselves and we need a little help- Social Liberals. Then there is one final group that cares about utility maximisation chosen by individuals and let's them do it themselves. This is ideologically where I would like to be but I think the evidence suggests that we do need a little help so I'm a (somewhat reluctant) Social Liberal. This last group doesn't really have a well defined name but I like to use “radical Liberal” as the best placeholder. It's important to stress the difference from neo-Liberalism though, radical Liberalism isn't (big C) Capitalist and by definition it requires the absolute maximum amount of wealth distribution that is possible, that's not an optional extra, it's a core requirement.

Finally I know I haven't talked about Socialism but that's a different question for a different time.

So I accept it has taken a little wordplay to get to this endpoint but I hope I've now shown that free-markets and (big C) Capitalism don't mix!

[therichmondpapers]

We don't pay doctors more because they're smart, we pay them more because they're scarce.

It is a hugely important point, often missed, that free markets aren’t meritocratic in the way people think they are. People who are paid more in a free market aren’t paid more because they are harder working or because they’re smarter, they’re paid more because the market is trying to get people to switch jobs from their lower paying job to the higher paying ones.

This is hard for us to see in people, because we’re people too and our brains process things differently when we're thinking about other people, so we need to start with a non-human example of the way free market prices goods and then work back towards humanity and wages. The most famous examples come from Adam Smith’s ‘Wealth of Nations’, because of course they do, and go something like this:

A farmer is growing wheat in his field and so is almost every other farmer, only a few are raising cattle. As such there is more wheat than society needs but people are willing to pay a high price to get hold of the, much rarer, milk and meat. Therefore the farmers best placed to change over from wheat to cattle will do so to take advantage of the higher prices from milk and beef. This will continue to happen until the profits a farmer can make from raising cattle fall and the profits from growing wheat rise until the two meet at the same level. In a perfectly competitive market, this process will not only bring profits for different goods and services into line with each other but will actually cause all profits to fall to zero.

But there is another example that’s perhaps even more intuitive and demonstrates another important dynamic- water and diamonds. Water in Smith’s time was free and even now the water itself is largely collected free and we pay the costs of transporting it to our homes. Diamonds are hugely expensive. If prices are based on worth this doesn't make a lot of sense, diamonds are nice and all but without water we die! That’s a pretty strong incentive to purchase water for almost any cost and yet it’s virtually worthless, why? Because water is plentiful and diamonds are rare. (Ironically as I write this water is becoming increasingly scarce and we can now create artificial diamonds in a lab at very low cost so this analogy may not continue to hold but you get the idea.)

The market uses price signals to get us to switch from the production of cheaper things to the production of more expensive things, in the above example from wheat to cattle, but it can get stuck when the switch cannot be made- i.e. we can’t switch from water production to diamond production because, until very recently, we couldn’t produce either of them and we just had the supplies of them that we had. Labour markets work the same way.

So we might feel that doctors SHOULD be paid more because we feel they deserve it. That’s a perfectly reasonable moral framework to hold but it’s important to understand the free market doesn’t have your back here. There’s no attempt in a functioning free market to price things according to moral worth or what we consider to be meritocratically fair. The free market is just a system that tries to get us to switch production from things that are oversupplied to things that are undersupplied. It is entirely uninterested in how hard you work, how clever you are or any other consideration you may personally have.

The only reason some people are paid more in a free market is because there has not been a switch from other work that is oversupplied to the work that is undersupplied. That can be because it will happen at some point, but it just hasn’t happened yet, or it can be because it can’t happen, like water and diamonds. That means pay has absolutely no relation whatsoever to moral worth and high wages absolutely can be because someone is taking advantage of our collective inability to switch people from one thing to another in order to collect a higher wage than they have really earned.

Does that mean we should pay everyone the same?

No. It’s still really useful to incentivise people to switch from jobs we don’t really need them doing to jobs that are undersupplied, but that only really holds true up to a point. If the median wage is £30,000 and someone is being paid, say, £500,000 then we’ve passed the point where that higher wage is providing any value to society and it is purely a monopoly rent, extracting resources from the rest of us for no extra benefit. We can relax about taxes on the wealthy, they’re hurting no one. We might argue over the exact levels of taxes and on what income they should be levied but the overall principle shouldn’t concern us- we’re just taxing monopoly rents and that’s fine. (As long as you believe in free markets of course!)

One last point, just as a market with perfect competition drives profits of companies to zero the same is true of wages. Profit here is a bit of an alien concept so let me reword that a little- in a perfect market for labour wages fall such that the labour (i.e. people) earn only enough to survive and complete their jobs, including the costs of training, no more. That’s everyone from those that are often perceived as deserving, like doctors, all the way down to those that society so often judges as undeserving, like those flipping burgers in McDonald's. The free market doesn’t discriminate. With that in mind, we may want to consider how we confront this problem in the future. Profits falling to zero does us little or no damage as a society, wages falling to subsistence levels does us huge damage. We need to worry about that going forward.

[therichmondpapers]

Macroeconomic stability in the 21st century - a proposal

Introduction and outline: This proposal works on the assumption that the global financial crisis, credit crunch and subsequent stagnation reveal that our current economic and political model was unable to cope with the great recession. It therefore attempts to provide a comprehensive solution incorporating both the political and economic lessons of the crash and the “great moderation” and ‘neoliberal’ consensus period that came before it. This introduction will outline the basics of the idea, followed by the proposal written as a Liberal Democrat federal conference policy motion, followed by a more in depth conclusion. If we broadly take recent economic history as the pre-Keynesian period, followed by the post-war consensus, followed by the ‘neoliberal’ consensus we can see that each period attempts to build upon both the successes and failures of the previous period. In each case, it has been those attempting to adhere to the ideology of Liberalism (however much we may feel they succeeded or failed in that endeavour) that have provided a template for how to move forward. As Liberals, we should try to live up to that standard. Therefore this paper proposes using current ideas within Liberalism and incorporating them into previous concepts from the three economic periods discussed. The aim is to acknowledge both that Keynesian insights into aggregate demand really do matter, as the painful failure of austerity shows, but so does the importance of maintaining low and steady inflation. Any proposal should attempt to deal both with so-called “deficit bias” (which it seems to be acknowledged that New Labour was guilty of, if only mildly so) and austerity bias, as we saw during the post-2010 period. Essentially a political bias towards pro-cyclical economic policy that is ultimately damaging. The previous model for solving this issue was an independent central bank controlling short-run interest rates in such a way as to target low but steady inflation, usually interpreted to mean roughly 2% (or just below 2%) consumer price inflation. This was successful in some respects as low inflation was achieved, and although this did create some extra unemployment, the Nordic model shows it is possible to run this system and still achieve reasonable social justice via the inclusion of a strong welfare state. However the model falls down in two respects: concerns that it forces the creation of excessive and unpayable debts (this is damaging if true and also damaging if it is merely believed to be true as it will affect political and economic decision making) and that central banks are unable to fulfil their mandate once they hit the zero lower bound on interest rates, even with unconventional monetary policy such as quantitative easing. The thesis expounded here is this: if politics has an inherent bias towards pro-cyclical fiscal policy and central banks can “run out of firepower” at the zero lower bound then we need to transfer a small number of limited fiscal powers to central banks. The concept is not that this should undo the democratic will, instead it suggests that all political actors want macroeconomic stability but short-run political pressures make this difficult in extreme economic environments and so it is beneficial for the aims of all political actors if an independent central bank can provide that stability. This was the logical behind independent central banks setting interest rates and that logic is continued here. The three powers that this proposal sets out to be transferred are based on popular ideas in current Liberal thought rewritten as clearly targeted rules central banks can follow. The reasoning behind each will be discussed more in the conclusion section. A universal citizen’s dividend payable to all citizens that increases at just above the inflation target by default, but this increase can be adjusted if other tools fail to curb excessive inflation or underinflation. A land value tax altered based on a land value inflation target set below the consumer price inflation target but above 0%. A central bank issued bond with no maturity date, effectively an annuity, where core banks would have a reserve requirement denominated in these annuities and the reserve requirement would be altered to increase or decrease aggregate demand for these annuities such that their market price causes the nominal yield to equal the inflation target on average. There are reasons for each of these tools being included and the targets behind them which will be discussed further in the conclusion. This proposal does not remove the power of central banks to set short-term interest rates or the powers of governments to follow any fiscal policy they may wish to. It merely expands the tools available to central banks. These powers laid out as a Liberal Democrat policy motion: Conference notes that: -Central bank independence is there to separate monetary policy from politics in order to ensure that political pressures do not undermine macroeconomic stability -The Bank of England attempted to fulfil its mandate during the last decade through both conventional short-run interest rate policy and unconventional quantitative easing -Nevertheless, the UK economic recovery has been the slowest for over two hundred years -The output loss due to the delayed recovery is estimated at a minimum of £4000 per household rising to well over £10000 per household -Both of the two largest UK political parties (and many political and banking figures nationally and internationally) supported austerity policies in 2010 and during coalition, the Liberal Democrats joined them in the belief that this was the correct policy stance. -However, it is now clear that this was a severe and costly policy mistake that was largely opposed at the time by academic economists -When short-term interest rates hit the zero lower bound, even with unconventional monetary policies like quantitive easing, the Bank of England (and notably the European Central Bank in the Eurozone) was unable to sufficiently compensate for this policy as their current toolset was insufficient once interest rates had hit the zero lower bound Therefore conference resolves: -To give the Bank of England three tightly controlled fiscal powers in addition to their existing powers and mandate -1. A citizens dividend that automatically rises slightly above the inflation target, however, if all other tools are exhausted this rate of increase can be altered so as to achieve the bank’s inflation mandate -2. A Land Value tax to be altered such that there is a year on year land value inflation target set below the consumer price inflation target but above zero -3. A Bank of England issued annuity, a bond with no maturity date, with a nominal yield equal to the inflation target. The Bank of England would be mandated to raise and lower a reserve requirement for high street banks that is denominated in these annuities in order to alter demand such that the market price of the annuity averaged 100% of the nominal price, i.e. such that the nominal yield was, on average, equal to the inflation target. This will create a safe asset that will be in high demand during recessions and that high street banks will be forced to buy during booms so as to increase their resilience to economic shocks -Conference further resolves to raise the consumer price inflation target for the Bank of England to a symmetrical 3% target rather than a target of close to but below 2% -To plan an implementation period of three to four years where the citizen’s dividend will rise in block amounts each year to be matched, as closely as possible, by Land Value tax revenues before the Bank of England takes over altering them as described above -During the implementation period holders of government debt issued before a set date would be allowed to swop their bonds for Bank of England issued annuities so as to ensure a pre-existing stock of bonds to be used for bank reserves Conclusion: The reasoning behind the tools chosen here is as follows- A Universal Basic Income or a Negative Income tax (which is always exactly equivalent to a Basic Income operated concurrently with an income tax) has been a popular proposal with Liberals and others for some time. There have been arguments over affordability and practicality. The proposal for a citizens dividend is included here because it is a simple way for central banks to inject money directly into the economy and ensure a basic minimum level of aggregate demand. Affordability is obviously no issue for a currency-issuing bank but inflation is. The concept is that with the dividend rising slightly above the inflation target in normal circumstances the other tools should be sufficient to curb inflation, if not the rate of increase can be lowered. Even if the dividend starts below the level of a full UBI it should eventually rise to the point where it becomes one. Land Value taxes have been a topic of Liberal thought and discussion for over two centuries and are appropriate here for several reasons. They can be collected under all circumstances as land cannot be hidden or moved offshore. This means it is always possible to remove excess currency from the economy via this method. Further current interest rate changes tend to be most effective in increasing or curbing inflation via borrowing for purchasing land (commercial and residential) because these are long-term purchases where interest rates are a strong determinant of overall cost, as compared to short-term business purchases where the cost of borrowing is a less important factor. LVT can, therefore, be an effective tool for slowing an overheated economy or providing support to a struggling one. However, this is predicated on the Universal Dividend providing a floor to aggregate demand and on land values following the business cycle. Land values depend on investors purchasing the land with the aim of a profit and those purchasing the land for personal use. Interest rates can make this more or less expensive, affecting land values, but LVT should also be able to achieve this fairly easily. During a boom rental values for land should increase as should appetite for taking out loans to purchase housing, this should raise prices on land. Raising LVT such that land values tend to rise below inflation will disincentivise land banking and also curb the rise in the cost of land during a boom. Conversely during a downturn lowering LVT can help avoid land value deflation and protect against people who have taken out mortgages going into negative equity. This means that LVT is able to eventually slow inflation just as interest rates can and moderate the business cycle. The annuities in the plan are designed to interact with the land value tax to ensure both are effective in ensuring the overall aim of macroeconomic stability. Altering the reserve requirements such that the nominal return of the annuities tends towards inflation will create a financial asset that is very safe, if not quite as perfectly liquid as cash, with a real return of zero over the long run. Ensuring that a relatively risk-free (in the long run) asset exists with that nominal return will mean that other yields are valued in relation to that safety. Land will clearly not be as safe as these annuities but the fact LVT will alter to ensure a positive nominal increase in land values will make them a relatively safe asset in comparison to market assets that don’t have this property. As such the nominal yield on land will not be the same as the central bank annuities but it will be related to it. Therefore a general increase in economic activity will push up rents on land and, because there is a relationship ensured between land values and rents via competition with the central bank issued annuities, land values will also rise with those rents and therefore with the business cycle. The reverse is true during a recession. This ensures that the LVT tool is effective at curbing inflation by reinforcing the relationship between land values and inflation. Put another way the annuities are anchoring long-term rates of return so that rising rents always mean rising land values, which ensures land value taxes can always tackle inflation and therefore moderate the business cycle. I.e. as rental values rise in a boom and rezerve requirements are raised private investors will swop annuities for cash from central banks and the rising rents will ensure some level of this is invested in land, pushing up land values, causing an increase in LVT. Competition between central bank annuities, land and financial assets will allow risk appetite to be satisfied and rewarded during the boom with the level of risk appetite clearly shown in the difference between the yield on the safe assets vs the market assets that have no safety mechanism during a recession. Therefore the reserve requirements are important for shifting risk between the core “high street” banks and private investors. At any reserve requirement below 100%, the banks are technically capable of issuing an infinite amount of credit, just as they are now, however with each increase in reserve requirements the amount of that credit which is offset by safe (but 0% real yield) assets increases. Private investors will not have this burden. As such during a boom private investors will sell annuities to the banks, which will need them to meet reserve requirements, credit creating banks will then be in competition with financially constrained private investors for providing loans. Any risks taken on by the banks at this point will be increasingly offset by safe annuities while private investments will not. During a recession the process should invert- the banks will have been cushioned by their annuities and as private investors revert to wanting safety the price of annuities will rise, causing reserve requirements to drop. Banks will then sell annuities and buy up cut-price financial assets with their newly available credit, credit that is available because of the lower reserve requirements. The forces holding back the proliferation of loans will be similar in some ways to the current arrangement but will have some important differences. The overnight rate on reserves will continue to be a factor in restraining credit creation but in addition LVT and rent changes will be reducing profitability of businesses and making home purchases more expensive and less attractive. Concurrently the selling of annuities by private sector investors to core banks will ensure liquidity amongst financially constrained investors who can then compete with credit creating banks for providing loans and investment. If inflation is overshooting the yield on annuities and the overnight interbank rate is rising the rising reserve requirements impose a real short term cost on the credit creating core banks and this must be offset if banks wish to maintain the same profits as private investors. This means that credit creation will be somewhat redirected to financialization (as is the case now) which ties up greater and greater credit money in financial purchases which are rising in price and frequency and this credit will not directly create inflation. Inflation will instead be created where economic growth is unable to compete with the credit money that successfully makes its way into real investment and ultimately consumer spending. The relevant question from an inflation standpoint is therefore whether either existing credit money will be redirected down to consumers, increasing inflation, or if newly created credit will flow to consumers and thus also push up inflation. The long term yield stabilizing effect of the annuities should ensure that a significant portion of credit money is trapped in the financial system via financialization as rising nominal yields must therefore push up asset prices at the same time as velocity of financial transactions increases, as tends to happen during booms. This causes an increase in the credit money required to maintain financial market transactions that is scaled up as an economic boom increases ensuring that any increase in consumer spending power is not created by any redirection of credit money used in financial transactions down to consumers but instead comes from credit and investment supplied that is used either for higher wages or is supplied direct to consumers themselves. LVT will play an important role in limiting the borrowing and spending undertaken by consumers and businesses as they are required to spend more on rent and LVT costs, just as with financialisation this diverts credit money from consumer purchases. Therefore the meaningful limits on excess inflation and credit creation (whether to individuals, companies or the government) will come from rises in the overnight interbank rate, as they do now, to a lesser extent from credit becoming trapped in the financial system and credit coming from the preexisting stock rather than new loans but more substantially from the LVT and rent rises and the increasing short run costs to banks imposed by the juxtaposition of the rising annuity requirements and the interbank rate/inflation being above the yield on annuities. (It is important to note that the opposite is true during recessions as banks are able to sell annuities that are in high demand and buy cut price financial assets with the newly available credit creating capacity they gain from the dropping reserve requirements.) These three tools should interact such that there is always sufficient aggregate demand to hit the inflation target but that any increase in inflation will cause annuity prices to fall and land rents to rise which causes reserve requirements to rise and, as land values rise, land value taxes to increase. Overall inflation will, therefore, still be curbed. Interest rates for borrowers will likely still rise but this represents an increase in risk appetite and not a rise in risk-free yield on assets. Risk-adjusted yields will not have actually risen, it is simply that investors will be at a stage where they are willing to take that risk, as you would expect during a boom. The price investors pay for higher yields during the boom (and banks also pay for any purchases they make with their credit creation capacity other than annuities, or to some extent land/mortgages) is that they are left in the lurch during the next recession. This interplay of risk, land value taxes and a consistent base for aggregate demand should allow for inflation to be kept close to the target with smaller adjustments in short-term interest rates and without risk of hitting the zero lower bound or hyperinflation. Further things to note: -This proposal does not remove traditional short-run interest rate targeting from the Bank of England’s policy toolset. The annuities are, in effect, very long-term interest rate targeting. They simply imply that over an infinite time horizon capital will be available for any profitable project even if capital is limited in the short run. They imply long run rentier income on capital of zero. -This proposal does not restrict governments from enacting any policy they wish. Neither does it stop governments from choosing to be restrained in other ways, such as fiscal rules. Governments may enact all sorts of policies either to pursue political objectives or to offset the effects of central bank action by using more precisely targeted tools to stop inflation or raise it and thus remove the need for the central bank to take action. This includes more exotic policies like a jobs guarantee or a full UBI/NIT. While also including traditional policies like a strong welfare state. Nor does it interfere with a minimum wage policy, although once the citizen’s dividend rises high enough a minimum wage may be unnecessary. -The proposal should counteract deficit bias by raising LVT and thus shrinking any deficit as required and counteract austerity either through lower LVT or significant increases in the citizen’s dividend. The citizens dividend can always be raised to any level necessary if inflation stubbornly undershoots the target rate. -This is not an attempt to significantly alter the moderating effect on wages that the current inflation targeting system has that inevitably will cause unemployment if unemployment is so low that wages are rising fast enough to force inflation over the target rate. However as a citizen’s dividend (eventually rising to a UBI) is included in this system the pain of unemployment should be somewhat lessened and other policy measures can be taken by government such a strong social safety net, the Nordic model, or the newer policy proposal of a job guarantee. Once the citizens dividend has risen to the level of a UBI neither of these policies should be absolutely necessary to avoid poverty within the population but may still be undertaken if a government wishes to. -This system can be used to avoid the “too big to fail” problem. If a bank goes bankrupt all deposits should be considered valid and transferable but all equity should be wiped out and new shares issued with dividends banned. Any liabilities other than demand deposits should be converted to annuities at the inflation target, just like the central bank annuities. These should include a repurchase agreement so that the bak can always buy them back at their nominal value if it can afford to. Only then should it be given access to direct central bank lending at the upper end of the target interest rate window (or on the schedule below you might set this lending rate at 4%). Once he bank can consistently borrow below this rate it can exit the bankruptcy mechanism and pay dividends again but it will no longer be able to access the central bank loans. This is designed to make deposits very safe without creating moral hazard. -It should be noted that this system does not remove the risk of asset prices collapsing as they did in previous recession (although clearly it does affect asset prices somewhat, particularly land values via LVT changes) but it does push that risk out of credit creation, and therefore systemically important, banks and onto private investors willing to take that risk. It creates a cushion for the financial system that should remove the risk of a credit crunch without relying on perverse incentives. -This model would also have been effective as a solution to the Eurozone crisis. Especially if variation between regions was allowed in the LVT. For example, any monetary area implementing this model could allow the central bank to set regional LVT levels 50% above or below the mean level for the monetary area. This would allow areas with significantly lower land values to rise faster, and thus get closer to the average land value for the monetary area, and areas significantly above average land value to rise more slowly. I.e. if the mean LVT were 1% then regions might range between 0.5% and 1.5% -If the 3% inflation target listed in the proposal were adopted some possible numbers might be: 4% per annum default rise in the citizen's dividend 3% nominal yield target for the annuities 2% land value inflation target with a high land value region being allowed to rise slower, at more like 1% and a low land value region being allowed to rise faster even if this meant it rising at 2.5 or 3%. As long as the region’s LVT rate was no more than 50% away from the mean level. -Finally, this is not a proposal to abolish financial regulation. Instead it is intended to work as a counterweight and a safety net if and when regulation fails. It may be that we so perfectly regulate the financial system and fine tune government spending that we never have a recession again, however, we have always failed at that in the past. As such even if we try to improve bank regulations and government policy, even if bankers try to think longer term and consider the wider implications of their investments it seems prudent to have a safety net and counterweight to the economy that, if and when we fail, can swing against boom and bust and automatically give the economy a course correction when needed.

[therichmondpapers]

Robots won’t take our jobs... sorta.

People like to speculate a lot on whether AI and better robotics will make human workers redundant (figuratively and literally) or at least a large percentage of us. Some say we’re doomed once the robots get too advanced and some say they’ll always be new jobs created. So what will actually happen? Well, let’s take this to its logical extreme. Let’s assume a robot is created that is capable of literally anything a human can do and it can do all those tasks better than any individual human can. Yes, that includes creative tasks like writing plays or playing the violin. It is literally every task. Yes, even that exception you have in your head right now, that one too. The question we should be asking is- how much do these robots cost to make and how quickly can that be done? Because just because we are able to create these extraordinary robots in this scenario it doesn’t follow that we then have an infinite number of them. We have the number of them we are currently able to produce plus any we have already produced. (Subject to maintenance.) So we shouldn’t be modelling this as an employer simply always switching to the robot in every case. We should instead think of it as capital being able to add additional hyper-high skilled workers to the pool of workers in existence. What has changed is not a shift from one mode of production (humans) to another (robots) but instead an expansion of the labour pool. What happens with a larger pool of workers relative to demand? Usually lower wages. It’s important to note that the robots don’t create new demand beyond maintenance, that’s very different to migrants. Migrants increase the labour pool but also the demand for goods and services and so tend not to lower wages. Robots can and will. There is also a risk that they will ultimately result in unemployment because the supply of jobs is limited by what capital- land, raw materials, existing capital stock (factories and other buildings, machines, etc.) are required for that job to be completed. If the cost of labour plus the capital cost is greater than the sale price then private industry will never purchase that labour. This gets a little complicated though because prices can also alter. Prices can only remain high if there is demand for those goods and services and so someone somewhere has to be purchasing them. Therefore the most likely result is that those who already have capital stock will be able to significantly expand it via these robots compared to people entirely reliant on their labour to generate income. Those wealthy people can only consume so much though so it’s reasonable to assume that prices will adjust to wages sufficiently for workers to be able to buy some bare basics in goods and services (although there’s no reason to believe that would be true of literally everyone but some presumably would be in that situation). Instead, we would see ever increasing inequality of wealth but also increasing inequality of consumption where the wealthy could afford extraordinary extravagances while wage labour would barely be able to eat. There would likely still be some jobs around the edges though where use could be made of human labour, even if it were of an inferior quality, due to a lack of sufficient robots to complete all the desired tasks. So it’s grim but we don’t all get replaced… hurrah? (Fyi you solve literally every bad part of this with a basic income. Just sayin’.)

[therichmondpapers]

Why Liberalism over Socialism?

This is a harder question than Libertarianism or neo-Liberalism because I feel more able to clearly articulate the aims and strategies of Libertarianism and neoLiberalism because the words are defined a little more narrowly. Socialism is defined so broadly, by so many people, in so many different ways that it’s really very difficult to talk about as a whole. I’m therefore using this essay to break down my understanding of Socialist thought and the distinctions within it. Sadly that means this essay will, again, be a little bit of a self indulgent and pompous self referencial jargon-fest… sorry. So I’m going to start by breaking down Socialism into different blocks and giving an overview of my understanding of them. I don’t think I will manage to perfectly and accurately encapsulate them and I’m not going to suggest that I have the requisite knowledge to understand them all perfectly or as their proponents understand them. I also want to slot Socialism into my version of the political compass that I started talking about in ‘Why Liberalism over Libertarianism?’. So I’m going to deal with three broad categories: -The utopian version of Socialism and its relation to Marx’s notions of fully formed Communism but also non-Marxist understandings of Socialism. -Narrowly defined Socialism including, but not limited to, Marx’s lower form of Communism, i.e. Socialism -Broadly defined Socialism including Social Democracy and Social Liberalism. I’m going to start at the end and deal with that broad definition. Here Socialism seems to be basically anything that isn’t anarcho-capitalism or at least Libertarian or neo-Liberal Capitalism. Firstly I just want to say that I think this is an extraordinarily broad definition but it is used both by those on the right but also by people on the left, at least in English speaking countries, including people like Bernie Sanders, Alexandria Ocasio-Cortez and Jeremy Corbyn and the Owen Jones wing of the UK Labour party. This is a big enough topic, I think, for its own essay so I’ll save that for ‘Why Liberalism over Social Democracy?’ and limit myself here to defining the scope of what fits into this bracket of Socialism and what doesn’t. Here allowing private ownership of Capital, along with free markets, is compatible with Socialism so long as there is a strong welfare state, co-ops are allowed and the state is willing to regulate the market not merely to ensure strong competition but also for the good of citizens generally. This is clearly distinct from Laissez Faire capitalism and the usual doctrines of monetarism as it relates to neo-Liberalism. I would personally call these ‘mixed systems’ rather than Socialist ones but I do acknowledge that Socialism has a broader history beyond simple Marxism and doesn’t necessarily have to involve the ending of private ownership of Capital. Any more than that I’ll save for the other essay. A brief aside into Stalinism and Maoism. I appreciate that they come under the broad definition of Socialism due to state ownership of assets and indeed are the first thing people think of when they think of Socialism but I honestly believe they are just not at all representative of any of the philosophical underpinnings of any Socialist thinker. Just as the Nazi’s may have called themselves National Socialists but be wrong, I don’t buy the idea that Stalin or Mao were enacting Socialist ideals just because they say so. If anything better analogies would be other authoritarian regimes like old imperial China, Nazi Germany or Fascist Italy. Ok so now back to the first item on the list- utopian Socialism. I think it’s important to deal with this so as to get to grips with the ideology but it’s important to acknowledge that very few people are claiming that utopia is literally possible or at least possible in the current moment. That’s simply a misrepresentation. I want to compare and contrast it with anarcho-capitalism. I would argue small or zero state capitalists are either arguing that unregulated capitalism will result in a perfectly structured society where the “right” people will be at the top OR that capitalism unleashed from restraints will abolish hierarchy and lead to every individual being able to get anything they want (at least it will take equal effort for any individual to achieve any particular personal goal). Basically unlimited negative liberty will lead to unlimited positive Liberty, or at least as much positive liberty as can possibly be achieved. I obviously don’t think this is how it works in the real world and I’d argue almost everyone agrees on that. I think Utopian Socialism is the mirror of this on the left. In what I’m describing as Utopian Socialism (or what you might call Marxist Communism or Luxury Space Communism if you spend too much time on Tumblr) would be an ideology arguing that the dissolution of class boundaries (and probably private ownership of capital) along with society being run collectively by people for the benefit of all will automatically result in everyone achieving maximum fulfillment. This isn’t necessarily perfect negative Liberty (even when it’s stateless) because there is a some assumption that Society isn’t going to let you do something that might help yourself but reduce equality or the common good, but nonetheless there is something close to perfect positive Liberty because everyone can have what they want and be fully fulfilled. (Or as close to this as is possible.) I don’t believe this is any more possible than the utopian vision laid out by anarcho-capitalists. To achieve the perfect positive Liberty you need to allow more variation and inevitably what people want will conflict in ways that will require some “sacrifices for the common good” that will limit people from getting what they want. Marx himself points this out, arguing that perfect equality is impossible without restrictions on liberty and even then it is impossible in every dimension. If you set wages at an equal amount per hour then those who work more are wealthier, an inequality, but if you set wages equally per person then those who work longer hours are losing out in terms of leisure time. And what if someone has more dependants, like children? The point being that there are some practical limitations. The response to those practical limitations must be either a compromise where authoritarianism is used to bring people into line or else more variation is accepted. This is just as true of Liberalism. Ideally I would want absolute negative Liberty and absolute positive Liberty. The ability to be left alone when I want is simply more attractive to me than the social harmony utopian Socialism offers, but I am forced to accept that it isn’t possible to achieve perfect positive Liberty without some sacrifice of negative Liberty. Therefore Liberals must either accept the poverty, inequality and lack of opportunity of Libertarianism and neo-Liberalism or else accept more government action in order to correct for those problems. Socialists face a similar choice and that brings us to practical but narrowly defined Socialism. By practical and narrowly defined Socialism I mean the ideological space that is possible to achieve and fits with Socialist goals but is clearly distinct from other ideologies. So where Social Democracy is sometimes described as Socialism, it is also Capitalism. I want to look at the ideological space that is clearly not Capitalism, Conservatism, Liberalism or Authoritarianism. It is ONLY Socialism. I believe the best space for this is the mirror image of the ideological Capitalism I described in the last essay. I believe that it must be a space where private ownership of capital is either non-existent or extremely rare and capital allocation is done in some other way. It must also be distinct from Liberalism in that while Social Liberalism may recognise the importance of society in the lives of the individual, Socialism’s starting point is society and the common good. This doesn’t require the wholesale disregard of individual rights, that would get you back to the authoritarian doctrines of Stalin or Mao and almost inevitably brings back class distinctions, but it does require a social and community oriented mindset. I believe this can be done in broadly two ways- Democratic Socialism where what is acceptable/the best way to live for the happiness of the individual and the community is decided by simple majority and Liberal Socialism, where more than just basic minimum rights are guaranteed to every individual and there is an expectation that the community must allow a little more leeway for individual choice and action even while, because this is still Socialism and not Social Liberalism, the individual is expected to make concessions towards the community. Liberal Socialism is, to me, the Socialist counterpart of Liberal Capitalism, what we call neoLiberalism, I would argue they are both Liberal versions of their own ideologies but are not Liberalism itself. Essentially this splits narrowly defined Socialism into: one form of true Socialism that has more regard for positive liberty and one that only prioritises positive liberty in so far as basic minimum rights for all. So, to finally get to why I’d choose Liberalism over Socialism. There is an argument to be made that people are simply not able to be as happy under a Liberal individualist system and that every individual needs guidance from the community and from society. I recognise and understand that argument, however, while some people may genuinely be happier in a more community oriented society some will not and I simply believe that it is more effective to provide social and community outlets to those who want it under Social Liberalism while also providing more space and protection FROM community for those who want it. I do not believe that the narrowly defined Socialism I’ve laid out here is necessarily bad or evil but I do believe it falls into the trap of assuming that everyone (or at least most people) in Society deep down want broadly the same things as the proponents of Socialism. I don’t believe this is the case and I do believe that the wants and needs of individuals in terms of what they want from the society they live in require us to build a society with wide variations and options that allow us to fulfil the wants and needs (as best we can) of both the most ardent Socialists and the most committed Capitalists. While I acknowledge that neoliberalism does not and can not do this I believe that social and radical Liberalism can do this task better than any other system of thought or ideology. That’s why I believe in Liberalism over Socialism.

[therichmondpapers]

Fiscal monetarism- a deliberate contradiction in terms. (part 2)

So now we get to the fiscal part of fiscal monetarism. The last two tools I would propose for central banks would normally be considered the purview of government and not the central bank. However if the aim of an independent central bank really is to separate macroeconomic stability from day to day government spending choices then I think the 2008 crash and great recession remind us of some important lessons.

As I’ve discussed in previous blog posts I think it’s reasonable to argue that the reason quantitative easing didn’t work, with inflation staying flat and the recovery (such as it is) being stunningly sluggish is because the prices of financial assets can rise either by a growing economy OR a lower interest rate. A commonly used phrase in the post crash financial world has been “the search for yield” i.e. as money was pumped into the financial sector average yield on financial assets simply fell. This didn’t actually result in a recovery and the money injected into the system simply circulated buying ever more expensive financial assets. I believe this problem can only be solved through fiscal rather than monetary actions and so if the central bank is to be responsible for macroeconomic stability it must, therefore, have access to fiscal policy tools. So how could that work?

First let’s consider whether my first two tools alone would solve the problem that current monetarism experiences. What would happen under the equivalent scenario? Well yields can’t drop below 3% because the central bank will always issue risk free assets yielding 3%. That doesn’t solve the problem though, it just displays it more clearly. Instead of the cash circulating to buy ever more expensive financial assets the cash simply gets deposited back with the central bank in exchange for the 3% annuities/bonds. So we need a way for the central bank to get cash directly to consumers in the economy. The obvious solution, therefore, is a ‘helicopter money’ drop. The last two tools are designed to create a clear and transparent system that achieves this without causing excess inflation.

So before we talk about getting the money into the economy I want to talk about the tool for removing any excess. Obviously the reserve requirements already exist but this is a little bit akin to financing all government spending via debt. What we need is a tax. The obvious choice is land value tax. Land values already fluctuate with the economic cycle so the tax will be relatively easy to sync up with macroeconomic policy and LVT targets rentier income and so shouldn’t create deadweight losses or be passed onto consumers. Further it is very difficult to avoid and can be raised to whatever level is required to achieve the objectives. All good characteristics.

My proposal would be to have a LVT that the central bank would set with a target of 1% to 2% land value inflation year on year.

Why 1% - 2%? It means land values should rise at close to but below inflation meaning that any real economic value would have to come from productive use of the land but, vitally, land values would tend upwards reducing the likelihood of negative equity and thus more secure mortgages. During economic booms land values would rise faster and so the tax would rise twice- both because the percentage of land value called for in tax would rise, as the central bank seeks to curb land value price rises, and also because the land value itself is rising and thus any given percentage of that, now higher, value is a larger nominal amount. During recessions the reverse is true, land values will tend to fall and so LVT rates would have to be lowered to halt the loses.

To put it another way- austerity during the boom and stimulus during the bust. A classic Keynesian response.

Ok so now we have the bonds with reserve ratios pushing them towards a 3% yield and an LVT pushing land value inflation towards 1% - 2%. This sets us up so that we can have helicopter money with more than enough tools to fight inflation if necessary. My proposal therefore is for a basic income level payment paid to every citizen (perhaps with less for registered non-citizen residents). This provides a consistent safety net both for the individual and for demand stability during recessions even with sticky wages. I would argue that if inflation is in the 2% to 3% band then the UBI should be allowed to rise at 4% a year so that living standards consistently rise. If inflation is running too hot even with the bonds and LVT then the central bank should be allowed to lower the rate of increase for the UBI with the aim of keeping the rate of increase above inflation, if possible, and if not to never have a rate of increase below 2%. This gives flexibility but errs on the side of every citizen getting a share of economic growth. The way this is “financed” is really the tools that ensure excess cash is removed to fight inflation. With LVT being a core part of this you can quite legitimately argue that the basic income is coming not from “other people’s hard work” but from unearned rentier income. All that’s really happening is that unearned income is spread more fairly in society, that’s surely a positive thing?

None of these four tools enforce a particular style or size of government and should be flexible enough to cope with a very wide range of situations both economically and constitutionally. I hope to show in the future how a set up like this could help solve problems in the Euro area, for example, while also working just as well in the US, the UK or in less wealthy nations like India or Brazil. I believe it can make it much easier for us to combat something like the ‘08 financial crisis or 1929 crash without having to bail out the bankers but it should be equally applicable to high inflation scenarios like the 1970s. It’s an evolution of monetarism that reincorporates some of the insights of Keynes… or at least that’s my aim!

[therichmondpapers]

Fiscal Monetarism- a deliberate contradiction in terms.

So I want to carry on a bit with of the line of thought I’ve been following for a while and see where it goes. I want to talk a little bit about Keynes through to Neoliberalism, but only briefly, so I acknowledge the description here is a rather rough around the edges! Keynes broadly argued for targeting full employment of labour and he appeared to be implying that it should be done primarily through fiscal policy. The post war consensus more or less bought into that but was maybe more willing to use monetary policy to do so. It also assumed the Phillips curve argument that targeting full employment would result in inflation but not out of control inflation unless you exceeded full employment. Then the 1970s happened and along came lots of inflation even at full employment. The response was to shift to the monetarist view and target low but steady inflation even if it caused high interest rates or high unemployment. So I’d like to point to something we’ve learned since Keynes and why I think it’s important. Economic growth under the post war consensus and neoliberalism is actually broadly the same. This really shouldn’t be the case because we’ve been nowhere near the full employment of labour for large sections of neo-liberalism and so what this implies economically, in my view, is that it’s completely possible to achieve maximum potential output of an economy without achieving full employment of labour. This is an entirely separate issue from the social consequences of increased unemployment- that’s an important but separate question, this is just about the economics. So given that knowledge I’d argue there are reasonable grounds for updating Keynes. What that doesn’t mean is that monetarists are right about everything, I’m just going to skip the critique of neoliberalism for now because I’m assuming anyone reading this is well aware of the problems we’ve discovered in the last 40 years! So what I want to concentrate on is a point Keynes makes in General Theory and how that can be used to improve monetarism. He says that anyone suggesting we should deal with inflation/economic booms by increasing interest rates is insane because they’re basically arguing we should slow down the economy by deliberately hurting productive businesses via increasing the cost of capital which would seem to be deliberately adding in inefficiency. So we want to develop a system that takes into account the points made by both Keynes and Friedman (king of the monetarists) that keeps interest rates and inflation low while not having an economy that overheats or drops wildly below maximum potential output. That’s a tough square to circle. Let’s also acknowledge the MMT point that any government restrictions on spending are largely self imposed but also acknowledge why governments impose them! There really is an argument for separating day to day government activities from economic stabilization and having a fiscally restrained government and a monetarily unconstrained central bank that handles economic stability. Let’s imagine the central bank like a power plant for the economy. It creates money (at least in terms of reserves but that’s a complication we’ll add back in later) that money then circulates and can then be destroyed, if necessary. That’s like the electrons in a circuit that are pushed out into the circuit, circulate and are then brought back. It’s not a perfect analogy but no analogy ever is. In this description traditional monetarism is a little bit like adding a variable resistor to the circuit- if too much power is flowing through the circuit we can increase the resistance (interest rate) to calm things down and stop the components in the circuit overheating. (Or the economy from overheating.) It’s inefficient but it works (...kinda ...maybe ...maybe not). So how might we do this differently? I would suggest that there are four additional tools that we might add to a central bank’s toolkit. -First a bond issued by the central bank with no end date. Instead it is effectively just a promise to pay the coupon (the interest on the bond) for an indefinite length of time. (It’s therefore really an annuity but I think it’s easier to conceptualise as a bond so that’s what I’m calling it.) The coupon (interest) on the bond is important because the interest on a debt is the risk of default plus the risk of inflation plus the competition for capital. It may seem a little odd at first but I hope it will gradually become more clear why I want this tool to exist. Clearly a central bank can not default but the inflation risk and competition for capital still exist. So if the bond has a 3% coupon and the central bank manages to ensure that the value of the bond remains at 100% of it’s initial value then inflation plus competition for capital must add up to 3%. Inflation, therefore, must be low as long as competition for capital isn’t negative. The new target therefore is a 3% yield on these bonds rather than an inflation target of 2%. 3% is somewhat arbitrary but then so is the 2% inflation target. I picked 3% because it’s low but gives a little more wiggle room above the lower bound than 2% did. -The second tool would be to expand the use of reserve/capital requirements. By altering how much cash and how many of the above bonds commercial banks are required to hold (what criteria should be used to determine the requirement for each bank is a topic for later discussion) it would be possible for the central bank to force up and down the market price of the bonds so that they hit their 3% yield target. Let’s pause here before considering the last two tools in order to consider what is really happening when the central bank is altering reserve requirements to hit the 3% yield target. Let's start in an economic slump when investors are desperate for safe assets. The market price of the bonds will be above 100% of their nominal price, i.e. the yield will be below 3%. By lowering reserve requirements banks within the system would be able to sell the bonds they own to investors and continue to loan out funds. If appetite is strong enough they can even purchase new bonds from the central bank. This increases the supply available in the market and decreases the demand forced on banks by the reserve requirements. This pulls the price down and pushes yields back up towards 3%. As reserve requirements drop then the amount of funds the banks are able to loan out from the same reserves increases and it should therefore increase the supply of loaned out funds. (I actually think this doesn’t quite work by itself due to demand shocks, just like current monetarist policy, for reasons I’ll explain in part 2.) Conversely during a boom the market value of bonds will fall below their nominal value and effective yields will rise as private opportunities offer higher yielding assets. Reserve requirements can then be raised so that investors who are feeling buoyant and want to sell their bonds can do so due to the higher requirements placed upon the banks. This drives prices back up until yields are back around 3%. It also causes investors to have cash to make investments during the boom but restricts the banks from doing so, effectively transferring risk from the taxpayer backed banks to individual investors willing to take those risks. As talked about in my piece on neo-fisherism driving yields down like this also means more of the money supply is required for the same financial market transactions. This is a very broad overview and this process can be structured different ways with different implications but I wanted to address the overall idea first and the nuance later. What these two tools together create is a system that's similar in many ways to the current monetarist model but with a slightly different structure and targeting. To go back to the electricity example it's like adding a battery to the system that stores up power when too much is being generated and discharges that power when there's not enough. This is better than interest rates because rather than increasing resistance to 'put sand in the gears’ instead the system is storing excess capacity to be used at a later date. You may notice that this has echos of a Keynesian government borrowing during the hard times and paying it back in the good times where the inner banking system attached to the central bank sells bonds out during hard economic times and buys them in during the good ones. I believe the evidence from the post war era is broadly clear in saying that economies will usually achieve long term maximum potential output if inflation and interest rates are consistently low and so this system would do at least as good a job as the current monetarist system. So while this is an improvement on the current system I believe the last two tools, while more controversial, address some of the problems we've learned about since 2008 about the limitations of supply side economics. This is already quite a long essay though so I shall address them in part 2. (Available here: https://therichmondpapers.tumblr.com/post/175817927614/fiscal-monetarism-a-deliberate-contradiction-in)

[therichmondpapers]

So this is almost workable! So obviously there may still be a Tory revolt but leaving that aside: 1. The lack of a single market in services is pretty devistating for the UK economy and we would have to accept a lot of EU rules on goods without having any say in making them... And 2. Even if we can charge EU tariffs on any goods passing through the UK to the EU it's not clear at all how we could ensure that every component of every good shipped to the EU was made entirely in the UK and therefore meets the common goods standards. Impressive ingenuity though!

[therichmondpapers]

Stagnant wages at full employment- the no mystery mystery.

A topic of much debate and consternation in the US at the moment is why unemployment is so low but wages aren’t rising. (The median wage adjusted for inflation actually fell a little recently!) With unemployment below 4% the US economy is at, in theory, “full employment”. The term full employment is a little confusing here so I want to talk about it for a second. So full employment is supposed to mean everyone who wants a job has a job bar people who have only just left their previous job and have only just started looking for a new one along with other frictions. So unemployment, as in the number of people actively looking for work, can never quite be zero but at full employment it should be pretty close. I would argue that the definition has shifted slightly in the post 1980 monetarist environment to mean unemployment low enough that it starts to push inflation above 2%. It’s that last bit I want to focus on. The reason I think this is a non-mystery relates to the now famous graph of productivity/GDP continuing to rocket up under neo-liberalism but wages staying entirely stagnant once you adjust for inflation. I.e. wages take home a smaller and smaller percentage of a pie that is getting larger and larger. So the median wage has about the same buying power even though the economy has grown enormously. This has coincided with “the great bull market in bonds” which basically just means risk adjusted interest rates have dropped continuously over that time and are now at record lows bouncing off the 0% lower bound. (And in some cases managing to go negative…) So here’s my argument- all of these events signify the same thing. As bargaining power for workers has decreased but the economy has grown enormously there are now simply more jobs available at the median wage that are worthwhile for employers. If there is an abundance of capital but wage costs haven’t risen then companies can afford to employ more people and as bargaining power is so low the unemployment rate at which inflation rises above 2% is simply lower. What we have done over a thirty to forty year period is, in effect, increase the amount of the population that can be employed at the median wage without skyrocketing inflation. This shouldn’t be a huge surprise- it was the explicit policy goal of post 1970s politics!!! But now we recognise the problem. The way we have lowered unemployment without inflation rising is by holding down wages basically permanently. Can we keep that up as people get more and more stressed, as their wages may not technically have less buying power but their lives are more and more precarious, all while the wealthy get a bigger and bigger slice of the pie? Current political events suggest not. My somewhat radical suggestion is this- full employment is no longer a policy aim we should strive for. The only way we can increase standards of living for ordinary people without skyrocketing inflation is to have financial security without assurances of private sector employment. That’s the conversation we should be, and in some quarters are, starting to have.

[therichmondpapers]

Two possible neo-fisherite mechanisms.

So neo-fisherism is this odd little theory that the old President and new dictator of Turkey is rather big on at the moment and I think it’s worth talking about. Not because I think it’s entirely correct but because I do think it might help explain why interest rates as monetary policy can be an unreliable policy tool. So Irving Fisher (for whom neo-fisherism is named) is credited with pointing out that the zero risk interest rate (for example short term government debt) should follow the formula: Nominal interest rate = expected inflation + competition for capital This isn’t hugely disputed but the assumption that neo-fisherites add in is most definitely disputed and that is that under modern financial systems the competition for capital is frictionless and is therefore zero. I.e: Nominal interest rate = expected inflation Therefore if the central bank raises interest rates it will also raise inflation and if it lowers interest rates it will lower inflation- exactly the opposite of what basically everyone (including central banks) believe. So I don’t actually think neo-fisherites are quite right because I think the idea that competition for capital is always zero seems a little spurious but I wanted to cover two possible mechanisms that might work to create a neo-fisherite effect. My argument here is not that these forces are everything that’s going on but that they may well be real forces that do act in the economy and do have real effects that can make interest rate based monetary policy less efficient. First of the effects is about interest rates themselves and distribution of the money supply. Traditionally monetarism works on the view that: Price level = (money supply × velocity of money) ÷ nominal GDP Monetarists assume velocity of money is constant (also a crazy assumption in my view) and therefore money supply can simply be altered as GDP changes so that prices rise at a low and steady level. My argument is this: price level obviously covers the whole economy but different types of prices can rise at different rates. It is perfectly possible for prices of financial assets to rise faster than prices of goods and services in the shops. (Something we’ve seen a lot of during the period of QE.) This does make some sense in the context of interest rates. As prices of financial assets go up yields and interest rates correspondingly go down. I.e. their price level has risen. If the transactions happen at the same pace, i.e. velocity stays the same, then more money will be required for each purchase and with the same volume of purchases that will require greater utilisation of the money supply. The money supply could, of course, be used in the purchase of both financial assets and physical goods but in order for the price of physical goods to rise because of that dual use the velocity of money use must also increase. It is therefore perfectly possible for money to get trapped in the financial system whereby it enters the financial system and is used to buy a financial asset which drives up the price of financial assets which means all subsequent purchases of financial assets require more money for the same transaction, i.e. a rising price level for financial assets. Anytime interest rates go down the prices of financial assets must go up and therefore there is less currency available for day to day transactions. This would logically limit the inflationary effects of QE. That fits quite well with what we’ve seen happen. Mechanism two is really just a function of modern financial systems. If interest rates go up then banks do have to charge companies more for loans, however, that applies to ALL companies that are taking out loans and happens largely all at once. Companies simply have to accept the new terms or immediately go bankrupt and so many will accept higher fees in the hope that they’ll be able to put up prices without losing customers. (They effectively have no choice.) They then discover that they haven’t lost any customers because their competitors have also been forced to raise prices for the same reason. The process works in reverse with lower interest rates. As loans become cheaper companies realise they can lower prices in an attempt to undercut the competition and attract customers, this drives down prices overall. This effect can be considered as analogous to oil prices (which affect almost everyone) rising and pushing up prices or falling and allowing price competition. Between these two mechanisms it’s certainly possible to imagine a neo-fisherite effect BUT here is why I think it would be misguided to simply assume neo-fisherites have discovered a universal truth. Firstly most economies buy things from places with different currencies. Even national currencies aren’t total monopolies and so exchange rates do matter. It’s all very well these effects pushing on prices but if trade is pushing in the opposite direction then their power simply won’t be absolute. This might partly explain why QE was so ineffective- all the major economies did it at roughly the same time and so it didn’t have the exchange rate effects you might expect if only one economy had done it. Secondly the assumptions here are questionable- is velocity of money really always equal? Why? Because it makes the maths easier? I’m simply not convinced there’s some hard and fast rule ensuring that’s the case. Equally capital friction may be very low with current banking systems but I don’t think we can assume it’s always zero, especially in the short run. Finally, lag- contracts don’t all roll over at the same time and neither do loans. Therefore companies will not all be hit perfectly symmetrically by an interest rate hike. Besides which companies obviously aren’t all equally indebted/in need of capital. Therefore it seems reasonable to argue that in the short run raising interest rates could temporarily jam up the system for some companies and not others and therefore slow the economy. Equally a sudden drop in interest rates might give a temporary boost. What I think this discussion does show is that interest rates may well work in the short run but it’s far from clear that they are a clean and elegant method of macroeconomic stabilization and probably aren’t perfectly reliable. That’s a good enough reason to think about moving away from a pure neo-liberal monetarist doctrine.