Russia’s Economic Interests (Part 1) | Credit Writedowns.

If you’d like to understand more about the US economy and how we might solve some of our most pressing problems, I comment to your attention two consecutive blog posts by Michael Hudson:

Russia’s Economic Interests (Part 1)

Policy Conclusions for Russia (Part 2)

A few lifts: from Russia’s Economic Interests (Part 1)

We all know that the world is unfair. The most useful question to ask is how much poverty is economically necessary, how much is a product of policies that can be alleviated? …

For starters, it is necessary to distinguish between how much poverty is “economically” justified and how much is unnecessary. There are many ways to get rich, and countries are experiencing various kinds of poverty. The good news is that much of today’s poverty does not stem from technological or other “objective” causes such as low productivity. Rather, it stems from special interests carving out privileges to extract income without any technologically necessary cost of production, but simply by ownership of “tollbooths”: land, mineral rights, or basic monopolies and banks privileged to create credit.

Poverty and austerity are the result of special interests monopolizing the economic surplus at the expense of the economy at large. The main rentiers falling into this category are the financial class, landowners and natural resource owners at the top of the economic pyramid. It is to them that the bottom 90% are indebted and must pay interest, rent, user fees and other access charges. Rent seeking is an economically unnecessary burden – and one from which the classical economists sought to free society. The idea of a “free market” from the Physiocrats and Adam Smith down through John Stuart Mill and the 19th century socialists was to free industrial capitalism from the rentier class that itself was a carry-over from Europe’s feudal epoch.

However, today’s neoliberal advisors turn this classical idea of free markets upside down. Their idea of “free” markets is one free of government price regulation, “free” of taxation on land rent, monopoly rent, financial interest and other categories of what the classical economists called “unearned income.” So we find ourselves with two quite different ideas of the economy. The classical idea was to grow by avoiding “artificial poverty,” purely extractive forms of wealth-seeking at society’s expense.

The neoliberal idea is to dismantle the government’s ability to regulate markets to steer growth and economic advance in the national interest. They claim that this is an alternative to centralized planning. But the reality is that it simply centralizes planning in the hands of bankers – primarily those of Wall Street and the City of London, followed by financial interests in satellite economies and other subordinate partners in this policy.

Neoliberal economists endorse this as being the “natural” way in which economies grow and accumulate wealth. Their concept of “wealth” in this case takes the form of financial riches and special privileges, not the means of production, education and skills, or research and technology. In this respect, “bad” forms of wealth-seeking have become the major threat to national economic growth and power today. This in turn results from a failure to draw the classical economic distinctions between productive and unproductive investment.

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I suggest to focus on public tax policy and infrastructure investment to steer wealth to expand national output and living standards, because this is the line of least resistance in overcoming poverty and economic polarization spurred by bad taxes – not by taxes as such, but by dysfunctional taxes favoring special interests at the expense of the economy at large.

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In Western textbooks the wealthy are supposed to earn income and grow rich by investing in economic growth. Corporate profits are re-invested in new plant and equipment, to raise productivity. Credit is supposed to finance investment that will generate enough new income to pay off loans with interest, leaving a profit for the entrepreneur or other investor.

Since the 19th century, industrialists have justified their personal wealth by claiming to use it to invest in building up the economy’s stock of capital, employing more labor in the process – and of courses, donating to charity, especially to universities and policy “think tanks” these days. The business schools and lobbying tanks that they endow depict them as wise managers of companies run by industrial engineers. But this is not what happens in reality. It is easier to make money by predatory means. That is how the great American fortunes were made, by the railroad land barons, and by Wall Street railroad and stock market manipulators. Heavy industry was turned into trusts that fought against labor unionization, against the drive for safer and better working conditions, and to raise prices without regard for costs.

The vested interests broke away from classical political economy’s value system that underlay this takeoff. The break was mainly over the claim that all wealth is “earned.” There’s no recognition of unearned wealth achieved at other peoples’ expense. This “value-free” doctrine rejects not only Marx, but also Adam Smith, John Stuart Mill and other classical economists. Every way of getting rich is now deemed to be “productive,” in proportion to the wealth it creates at the top of the economic pyramid. The neoliberal Chicago economist Milton Friedman went so far as to claim that “There is no such thing as a free lunch.”

But even as he made this claim, the U.S. and European economies were becoming more and more about how to get a free lunch. By the 1980s a new form of economic polarization occurred. If industrialists were getting rich by squeezing out more profits to invest in capital, industrialization would have called for more employment, and also higher-grade labor. Instead, wealth has concentrated at the top of the economic pyramid by financial means, and by creating monopolies bought and sold on credit – on terms where the gains are paid out as interest and dividends. While industrial profits have shrunk, the financial sector has increased its share of reported profits in the U.S. national income and product accounts (NIPA) to 40%. This phenomenon has gone hand in hand with de-industrialization of the U.S. economy – and also those of the post-Soviet states, I should add.

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Domestically, in each economy the bubble economy raised the price of housing, forcing consumers to take on a lifetime of debt to afford it. The rental income was turned into interest. Educational fees also were imposed, financed by student loans. In the United States, these loans cannot be wiped out via bankruptcy. Many students took on debt that will take a number of decades to pay off – without regard for their ability to earn income as unemployment levels rise.

The financial sector also funded the takeover of companies. Raiders used corporate cash flow (ebitda: earnings before interest, taxes, depreciation and amortization) to pay their bankers and bondholders, and simply to buy up their own stock in an effort to increase its price – and hence, the value of their own stock options. Industrial companies were run by Chief Financial Officers, not by industrial engineers or even salesmen. The aim was not to make the economy richer, but to make themselves wealthier – not by new direct investment, but by disinvesting, downsizing and outsourcing, and in the end by asset stripping.

This was the mentality of the neoliberals who came to “help” Russia during the 1990s. They did not come to exploit your labor by hiring it and squeezing out surplus value. They didn’t want much to do with your labor at all. They wanted your raw materials resources on the cheap. They wanted to help your leading scientists and industrial engineers to emigrate to America, because the United States was producing mainly financial graduates, not technology-oriented graduates. And they wanted your flight of capital as well as skilled labor.

The financial polarization process went hand in hand with fiscal polarization. From the 1980s onward in the US, the tax burden was shifted off the higher wealth brackets and onto employees – onto the middle classes and indeed, the bottom 80% of the population. Taxes on real estate and financial gains were slashed to only a fraction of income taxes (if such gains were taxed at all). Meanwhile, public social spending on Social Security, Medicare and other programs were treated as “user fees” and financialized – paid for in advance by employees (up to a $102,000 cut-off point), providing the government with enough revenue to cut taxes on wealth. The result was that the tax system became regressive instead of progressive.

… from “Policy Conclusions for Russia (Part 2)”

The most obvious caused poverty is by debt. And the largest category of personal debt in today’s world is mortgage debt to obtain a family home of one’s own. The price of homes rises when taxes are lowered (or shifted off property and onto employees), because more rental value is left for new buyers to pledge to banks for loans to buy the property on credit. From America to much of Europe, families have to take on a lifetime of debt in order to obtain housing of their own. The winning bidder for property is whoever pays the most of the site’s rental value as interest. So the banks end up with the rent. This is why the financial sector has grown so rich, and also why debtors have so little money remaining to spend on goods and services. So markets shrink and economies fall into recession.

The second problem impoverishing labor from North America to Europe is the tax shift off wealth (especially off finance, real estate and monopolies) onto employees and consumers.

These two problems can be solved simultaneously by following what classical economists recommended: basing the tax system on “free lunch” income: land rent and monopoly rent, while keeping as many natural monopolies as possible in the public domain to provide services at subsidized rates or freely (as in the case of roads, water, etc.).

It may seem counter-intuitive to say that rising real estate taxes will lower housing prices, but it is easy to explain. A major reason why real estate prices have soared is the fact that the tax collector has relinquished its tax obligation. The high point of land taxation in England, for example, was in the Domesday Book ordered by William the Conqueror. The idea was that land ownership would be the tax base. Increasingly, landlords fought back to “free” themselves of this tax. These efforts forced governments to tax sales and income of labor and industry. The result was that lower property taxes “freed” land rent to be pledged to the banks for mortgages, while shifting the tax burden onto the production-and-consumption economy.

This tax shift had a major negative impact on the national interest. Taxing the land and monopolies leaves less to be pledged for bank loans, and hence keeps down the price of housing, office building and other debt-financed rent-yielding assets. But taxing labor and industry (via sales taxes, income taxes, etc.) raises the cost of living and doing business. So this tax shift makes economies less competitive internationally.

… American business economists of the late 19th century explained that the nation could become more competitive by treating public infrastructure investment as a “fourth factor of production” alongside labor, capital and land (Simon Patten’s words). Its “return” did not take the form of income (wages, profits or rent), but rather the degree to which it would lower the national price structure.

By contrast, privatization in a financialized manner adds on pseudo-costs. These technologically unnecessary charges are headed by the credit borrowed to buy the asset from the government, high payments to management, and most of all, stock options and capital gains. In effect, privatizers install “toll booths” across the economy to extract economic rent.