Real vs. Financial Accounting: Responses to Blog #17

Ok this week we are detailing the difference between real and financial—both flows and stocks. Let me provide answers on seven points, and (sorry) postpone for a couple of days an answer to the eighth (which I have not had time to go through).

Q1 (Neil): What about a reserve currency? What about insufficient real investment—especially to deal with the extra demand of ELR?

A: All the real and financial accounting applies to any nation, any currency. No difference. But, OK, might be worthwhile to have a blog devoted to the international reserve currency. Will do.

On adopting ELR and capacity. Look, my belief is that capitalists are not (too) stupid. If there is demand, they will try to meet it. There can be bottlenecks, but those are temporary. We do not need to prod them to invest. If there are sales prospects they will add capacity. On ELR (a topic we have not covered yet), we increase employment and probably demand for consumer goods. By Okun’s law, reducing the unemployment rate by one percentage point raises output by three percentage points (GDP). The ratio could be considerably less for ELR. Note that conventional estimates of a universal ELR program are that wages and other costs would be about 1% of GDP, so by Okun’s law, reducing unemployment by 10 percentage points or so the extra output generated would be far more than enough (up to 30 percentage points of GDP, although probably less) to satisfy the demand. But—we’ll do this later.

Q2: (Tom): Doesn’t childcare (etc) increase value added as women (etc) are released to higher value work? And Austrians argue only real assets, not financial assets, constitute “the economy”.

A: Agreed on the first point, but “efficiency” is vastly overrated—see below. The second, Austrian, point might be OK as a prescription, but certainly not as a description of the real world (a point Dave makes, too). This is a “monetary production economy” where satisfying consumer demand (providing “utils”, raising living standards, reproducing labor power—whatever you want to call it) occurs only by coincidence. What matters is monetary profits. All the more important when Wall Street runs the economy.

Q3: (Geerussell): Does government need to tax all activity, including production for own use?

A: No. We need a broad-based tax that is hard to avoid. Cubic foot of dwelling space, or perhaps cubic inches of cranial space, will do it. (Everyone needs shelter and a brain.)That will drive money, allowing government to move resources to the public purpose.

Q4: (Rvm) Does MMT apply to communist society?

A: In theory, socialist society still uses money to motivate production, hence to move resources to public purpose. So, yes, taxes drive money and money motivates labor. From each according to ability to each according to contribution. In communist society, in theory, you no longer need money to motivate activity. From each according to ability to each according to need. No taxes, no money.

Q5: (Dave): Is drop-out hippiedom the future?

A: Well, a lot of people thought that back in 1965. We’re still waiting. Note, I do think that “slow” and “local” food is a good thing, with proper caveats.

Q6: (Forrest) Again, a question on efficiency vs independent food production.

A: Briefly, efficiency is vastly overrated as an overriding goal, and it often (maybe always) conflicts with sustainability. Without getting overly tree-huggy about this, if using a few more workers in agriculture instead of poisonous petrochemicals can help to save the globe, let’s give up some efficiency. It is not like we’ve run out of labor. And if we go a bit wonky, the economic definition of efficiency is only well-defined in a general equilibrium model with continuous full employment. That ain’t our real world. Most of the time we have massive amounts of unemployed resources, so putting them to work increases output without sacrificing any efficiency, no matter how inefficient the production process.

Q7: (Joe & Larry—I sure wish it had been Moe&Larry!): Money is the way to shift real production; money is not real stuff, but moves it.

A: Mostly agreed—from the perspective of government. Government creates a money of account, issues IOUs denominated in it, and imposes a tax to move real resources to the public sector to accomplish the public purpose (as it sees it). Unfortunately, in a capitalist economy, the captains of industry that control a huge portion of production do not see it that way. All they really care about is money.

Q8: (Mattay): Accounting example.

A: Sorry—will try to answer soon.

4 Responses to Real vs. Financial Accounting: Responses to Blog #17

  1. Seems to me if "efficiency" results in environmental or social problems, national defense issues (as with foreign oil), and so forth, then we need a new definition of "efficiency" that incorporates those as part of what sets efficiency rather than leaving them as "externalities." Many businesses have already figured this out, but most have not.

  2. I realized yesterday that in my accounting example I forgot to include the fact that by issuing stock shares, Bill is creating a liability for himself as well as creating an asset. He is committing to pay out some future stream of dividends, and is bringing the expectation of such into the present by financializing it. If the market is efficient, everyone is omniscient, etc, then the degree to which Bill counts that future stream of dividends as a liability should match the market price of the share, and thus the asset should cancel out the liability. Of course, in reality, I doubt that's the case… Also, what if he issues tulips instead of stock shares? Then there really is no offsetting liability.

  3. Maybe I'm offtopic, but something disturbs me : you say centralbank reserves cannot escape him, it can only moves from a central bank checking account to another. But, the reserves are considered equivalent of cash (coins and banknotes), can't the banks loot the reserves the same way they loot cash : create fraudulent loans upon it and extort huge bonuses on it, then let all things crash ? When people are too looted to provide them with sufficient cash, they can loot unlimited reserves thanks to the Fed…To me, it looks like reserves are non-inflationary not because they can't but because those benefitting it don't raise salaries but, say, commodity prices, and employed people an't afford, ultimately inflation with fixed salaries.Maybe it works because traders knw that, if some bets are going to raise salaries and create inflation, central bank governors would quickly strangulate it raising interest rates, hence, they self-fulfill the prophecy and never tries to inflate salaries (the bubble the employees would love the most).Am I all wrong ?

  4. Hi Professor Wray:I came in late on this, but thought I'd mention that I did a calc on what GDP would be if we included (based on the census's leisure time studies) what most people would consider to be "productive" non-monetized work. I figure GDP would be about 33% higher, so "home work" would constitute about 25% of GDP.FWIW…