Let millionaires pay to solve our twin environmental and economic crises
At heart, our economic and environmental crisis are the same.
No, the economic crisis is not, as some advocates of a green rapture claim, a direct result of peak oil or resource depletion. But they are two consequences of one mistake, a mistake every farmer used to know the folly of: eating our seed corn. Capital was converted into consumption and financial game playing. Public and private infrastructure was no longer replaced as it was used up. This included factories and bridges. But it also included finite natural resources, like oil. And it was the rich, the Masters of the Universe, who converted capital into consumption — both for their own direct use, and to conceal a huge transfer of wealth and income from ordinary people to themselves. Detail and documentation follow.
Both worldwide (wri.org query) and in the U.S., share of Gross Domestic Product (GDP) and value added from industry compared to services has dropped over the past three to four decades. The ratio of world financial assets to GDP has tripled since 1980 (PDF requiring free registration). The financial sector in the U.S. more than doubled as a percent of GDP between the 1960s and the eve of the financial crisis. Financial transactions have grown even faster, from a world volume of about 15 times world GDP in 1990 to about 72 times world GPD in 2006 (PDF). Large financial infrastructure or financial transaction volume greater than the underlying economy is not itself necessarily problematic. Up to a point this can represent changes in allocation of capital, real circulation of goods and services between multiple parties, and hedging against risk. But past a certain point, an inflated financial structure that outgrows the real economy on which it is based is a risk.
Meanwhile, the American Society of Civil Engineers estimates the U.S. is about 2.2 trillion short on needed public infrastructure, with a D average grade for what currently exists. Worldwide, in spite of some bright spots, most infrastructure is similarly inadequate. Globally, 1 in 6 of us lack access to clean water, largely because of lack of infrastructure.
Of course, just as conventional infrastructure has been neglected so has renewable and other types of green infrastructure. In all fairness, wind electricity became competitive with natural gas comparatively recently, and solar electricity is still more expensive than fossil fuels in a majority of applications. (Though one could argue that funding R&D and subsidizing more deployment to help bring manufacturing costs down is one of the types of infrastructure investment that was neglected.)
But various types of efficiency improvements that pay for themselves in very short time periods have failed to be deployed for decades. Most buildings still lack adequate weather sealing, duct sealing, insulation. Recycled energy is deployed at a fraction of the level that has been known to be economical for decades. (Recycled energy is where waste energy from industrial processes is used to produce electricity or energy for other industrial processes, or waste energy from electricity production or industrial processes is used to provide climate control and hot water.) Solar water heating has had a life cycle cost lower than electricity and natural gas since the ’80s, and a lower cost than oil for longer than that. Passive solar heating has been known to have a lifecycle cost lower than any fossil fuel in new buildings since 1972, maybe longer.
In the U.S, Paul Krugman says:
According to the federal Bureau of Labor Statistics, the hourly wage of the average American non-supervisory worker is actually lower, adjusted for inflation, than it was in 1970. Meanwhile, CEO pay has soared — from less than thirty times the average wage to almost 300 times the typical worker’s pay.
It has also translated into lower unionization, workers paying higher percentages of health costs, or going uninsured. In poorer nations, it has translated into the ending of free education, and charging school fees high enough to keep huge numbers of children out of school, of adding health fees to health care systems that exclude large numbers of people from receiving health care.
To visualize the scale of inequality, picture net worth translated into stacks of twenties. The wealth of most of us, even most of us in rich nations would be negative or zero, or stacks of bills a few inches high. But the stacks for the top 2% would range from hundreds of feet to miles.
So how does the shift from manufacturing to services, and from manufacturing and services to finance, relate to inequality and infrastructure neglect?
Because of the ability of financial assets to outweigh real ones, and the ability of financial transactions to overwhelm real transactions, the profit rate from financial transaction can greatly exceed the rate from real production. This is especially true when deregulation allows all sort of super profits to be made, and risks to be concealed. Thomas Geoghegan thinks this started when interest rates were deregulated, first for in-store purchase financing, then credit cards, then finally pay-day loans. At any rate, from the first loosening of such regulations we have seen super-high returns to finance (really FIRE: Finance, Insurance, Real Estate) followed by demands for comparable rates of return in other areas. That, in turn, helped drive investment from manufacturing and industry to services. Because service industries are mostly (not entirely) much lower in capital requirements than industry, investors can earn a higher return on capital than in manufacturing, even if profits are a lower percentage of sales.
Consider an office cleaning services business, a large one that cleans hundreds of offices. Even if the markup after expenses is only 5% (probably unrealistically low) most of those expenses are operating expenses: wages, sales, marketing, supplies, accounting and management, communications. Only a small percent of total expenses are capital — office space, office equipment, cleaning equipment, some trucks to give rides to workers who don’t have their own cars. Further, these expenses can be cut various ways.
For example, the actual cleaning can be outsourced to subcontractors who hire undocumented workers and save money by paying them illegally low wages and subject them to
illegal working conditions. (This is much easier if labor laws are enforced by underfunded bureaucrats, if the penalties for violating labor laws are trivial compared to what is saved by violating them. It is even easier if half the time the governments running those departments are hostile to labor and discourage even what little enforcement those departments are capable of. See: U.S. labor law, actual enforcement of.)
This is cruel and unfair. But it is also ultimately unrealistic, a demand for profits that grow faster than the economy.
One way to fill that demand is to constantly lower the share of income going to labor. But there is only so far this can go, because there are not many jobs out there pleasant enough that people will volunteer to do them for free. Also, if you are a business person it is all well and good to cut the wages of your workers. But if every business person is doing the same thing, then some SOB is cutting the wages of your customers!
One way to generate profits faster than the economy grows is to create out and out scams. Create and sell imaginary wealth, then scamper off. Leave customers, naïve small investors, and taxpayers with the losses. In the past years we have had the bursting of foreign investment bubbles, followed by savings and loan scandals, where government guaranteed mortgages were granted against inflated property values. (The borrowers lost the property they over paid for. The U.S. government ended paying the difference between the debts and what the actual property was worth. And many of those who created the S&L scam ending up buying the property post bubble at bargain rates and profiting from it.)
Then there was the famous internet bubble, where investors just put money into jazzy schemes with no hope of making money. The stockholders didn’t know it, but they were the customers. The companies were selling stock, not products. Anybody who warned against this was accused of “not getting it.”
After an unsuccessful attempt to start a biotech bubble (well, there was one, but it only had a lifespan of months), we ended up with the current real estate bubble, where cheap credit fueled an increase in real estate prices trillions of dollars past historical prices. And deregulated finance leveraged that to the point where there were 25 dollars in financial instruments outstanding against every dollar of inflated real estate value. So when the bubble burst, the combination of actual mortgages and derivatives meant the entire economy was dependent not on real estate, but on unreal estate. And presto, we have the current catastrophe.
An important point about all these bubbles was that they also were con games that bought tolerance from workers as their paychecks were raided. Your hourly wages have gone down? Your income has only gone up because the two of you are working longer hours than you used to, and it has not gone up that much? Well, we have a deal for you: you can borrow a lot of money and still buy a lot of toys. Your house is worth a lot! Don’t leave all that value sitting idle. Take it out, buy what you want. Or invest it. Buy apartments. Oops! Invest in internet stocks. Oops! Buy some nice safe bonds. This time we promise you will get rich. Um, oops?
Bubbles were also one basis for pension raids, where pensions were converted from defined benefit (you get a guaranteed income when you retire) to defined contribution (money is put in an investment fund and you get what you get). The trick was to wait until a bubble inflated the value of a pension fund to the point where it could apparently pay all the benefits promised and then some. Withdraw the “and then some” because an employer has no responsibility to overfund a defined benefit pension. When the bubble burst, well nobody could have foreseen … Or maybe the employers did not have to wait that long. A bubble is great time to persuade workers to voluntarily convert from a defined benefit to a defined contribution pensions. After all, if you are turned loose with capital in this market (whatever bubble is being inflated) you are going to get rich, rich, rich!
Of course, as Geoghegan points out, employers had other ways of getting out of obligations like pensions. There is almost no contract a corporation can’t break with its workers by sifting assets and obligations between subsidiaries, and then declaring bankruptcy in the empty shell that the employees are contracted with. The recent high-minded declarations that taking back AIG bonuses violated sacred contracts was one of the most breathtaking displays of hypocrisy ever. The entire business model on which our financial is system is based is the routine breaking of contracts with workers. Unless you work for a very small business, there is no long-term property right you have been granted by your employer that can’t in practice be taken away.
At any rate, I suspect bubbles are one among many reasons profitable efficiency and renewable investments did not get made. Like any real investment they could not compete with speculative bubbles.
A third way for profits to (temporarily) grow faster than the economy is direct eating of the seed corn — consuming capital. At the beginning of this essay, I linked to studies showing how public infrastructure was neglected. But it is not uncommon for private infrastructure to be neglected, for business to stop maintaining equipment, or avoid upgrading needed to maintain market share. Heck, here is a dirty secret about the dying newspaper industry: A lot of newspapers that are being shut down were profitable when they were taken over. But they were earning 5% returns on investments in an era that demanded 35% returns or 12% returns. So when they were bought by the Masters of the Universe, cost cutting measures drove away customers and advertisers to the point where they were no longer profitable. And I’ll bet a lot of those same cost cutters would be happy to get that 5% now. I’m not saying in the age of the internet that the majority of the newspapers this crash will kill would have survived if local ownership had been maintained. But I’ll bet a substantial minority could have.
And the kind of infrastructure neglect I documented also springs from profit seeking. As capital shifts from industry and services to finance, part of the ideology appears to be a belief in infinite tax cuts, that public investment is parasitism, that the Masters of the Universe know best how to spend their own money — and ours too.
So how do politicians meet the business demand for tax cuts and the public demand for service? What is the basis of free lunch conservatism? Well, one obvious base is to stop maintaining infrastructure, to not worry about twenty years from now, or ten years from now or seven years from — only spend money where the benefits are clear today. (You can also do what the current governor of California did, and borrow billions while publicly cutting up a giant mock-up of a credit card. When the bill comes due, well nobody could have predicted … )
The pattern of replacing the old popped bubbles with new bubbles has been repeating for some time now. Are there any reasons to think the latest is different? One is sheer size. The number of dollars lost is already larger than any past bubble. And housing prices are not down to historic levels yet. Nor has the full impact of overvalued commercial real estate or cars been felt yet. Nor have we come anywhere close to evaluating the net exposure of various derivatives.
Also, we managed to drag just about the entire world economy into this crash — which means there is not a lot of “outside” available to tie a recovery to.
This is why the current plan won’t work. Lending money to buy worthless assets in hope that the price of those worthless assets will be permanently driven up high enough to get the banks out of trouble only works if we can survive another bubble. It depends on getting the rate of return for finance up to absurd levels in hopes that will lead to a healthy econom
y. Look, I understand the modern medicine has discovered that leeches actually are the most effective cure for certain diseases. But this is not one of them.
Dean Baker makes the point that the maximum additional growth that could be expected from pouring money into the banks won’t begin to equal the losses they are offsetting. Household losses simply mean the demand won’t be there. No recovery will be effective unless it gets a lot more money into the hands of ordinary people — enough to get demand moving again. And the only way to do this, without adding inflation to our current economic woes, is to start directing money into infrastructure and other areas like health care and education that actually pay back their costs.
In short, substantial redistribution of income, wealth, and power away from the Masters of the Universe and toward the rest of us is no longer optional as a fundamental solution to the problem. The rich are going to have to make some sacrifices for the good of everybody.
And, as everyone but the most ignorant of conservatives realizes, this is not going to be done on a pay-as-you-go basis. Because debt is part of the recovery, lenders and investors are going to need some assurance money won’t be poured down a rat hole. And that means not leaving the rats in charge of the pipeline. The AIG bonuses may represent a tiny percentage of the money that has been stolen from us. But they are a huge illustration that no fix will work that leaves the current top executives in charge of AIG or of any major institution we bail out. If they can’t even get over their sense of entitlement enough to understand what was wrong with the bonuses, they sure as hell won’t be able to make the radical changes needed in their lending and investment practices. Reversing decades of class warfare by the rich against the working and middle classes is no longer a short term issue. It is an immediate need.
What this means in practice in financial terms is putting the banks and failed financial institutions into receivership, making bondholders, and possibly even some counterparties to transactions write off part of their debts. It means shrinking the size of the financial sector relative to the rest of the economy, and democratizing it. One immediate action would be to take Geoghegan’s proposal seriously — put a ceiling on interest rates, thus limiting the ability of finance to demand super profits.
Similarly, we could put some sand in the gears of the giant finance machine so that money does not move so frictionlessly compared to the real economy it represents. This goes back to an old idea of a Tobin tax, a quarter of a percent or so tax on all financial transactions, on the sale or transfer of any financial instrument. This would be trivial for normal hedging and asset and liability transfers, but would put a crimp in constant flipping of assets dozens or hundreds of times.
In terms of democratization, you will note that our credit union system is not currently in crisis. (I think there are three credit unions in the entire nation in trouble.) Nor does the bank of South Dakota have major problems, which indicates that if the states owned their own banks, and those state banks constituted a substantial percent of the banking system, this would be a nice stabilizing and democratizing factor.
There are other factors to improving finance, but this would be a good start. However all the improvements in finance in the world won’t do any good if we don’t get demand moving again, and don’t improve what is financed, if we don’t stop eating our seed corn.
That is a good argument for financing a smart grids locally, and long distance transmission nationally. For financing renewable energy and energy efficiency, and for financing agriculture that builds rather than destroys soil, agriculture that protects rather than harms the health of the people who eat its products, the people who work in the fields, and larger ecosystem is in which it is embedded. But it is also a good argument for helping people stay in their homes (whether owned or rented) through foreclosure and eviction protection. It is a good argument for providing aid to states and municipalities so they don’t have to drastically cut services in the middle of a depression. It is a good argument for financing health, and education, and mass transit, even increasing payouts to old people by giving a raise well above inflation to social security recipients.
On other occasions I have made arguments for specifics in these areas, and will again. But here my emphasis is three intertwined general points:
- We can no longer afford to eat our seed corn.
- We can no longer afford to continue letting the Masters of the Universe drain the rest of the economy for their own benefit.
- And as these two points imply, we can no longer let the Masters of the Universe make the key decision for us. Somehow we have to change the balance of power between classes.