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Mainstream economic
analysis starts and often finishes with mutterings about what the
‘consumer’ will or will not do. This is unfortunate, since it not
only perpetuates the hoary errors of the ‘Underconsumption
school’, it tends to mask developments in the areas which are really
crucial to the system in general — and to commodity investors in
particular — namely, the state of business expenditures and of
their profitability. Here, we try to set out what exactly it is at which we
should be looking and which of the available macro data can shed some light
on the subject. Finally, we consider what they are telling us about the
current situation and where the risks might lie.
The myth of the
reluctant consumer
In the wake of the
seizure suffered in the Chinese stock market late in February 2007, the
newswires were soon abuzz with the fears being expressed that ‘consumer
confidence’ would be shaken and that, therefore, Mrs. Li and Mr. Chan
would immediately tighten their purse strings, setting in train a calamitous
series of events which would see all manner of ‘discretionary’
spending evaporate, leaving the simmering cauldron of the world economy
drained to the bottom.
Such is the hold of
the absurd mantra that “the consumer is two-thirds of the
economy” that the author was even asked, in all earnest, if he thought
that this tremor would affect the price of wheat growing far away in the
American Midwest. Just imagine worrying that men and women will only eat
bread when their stock portfolios are in positive territory!
Despite the fact that
the history of humanity is one of a precarious scrabble to fend off the
effects of famine - not of a struggle to forestall the consequences of feast
- implicit in such commonplace thinking is an unshakeable anxiety about the
continued ability of the poor, hapless consumer to absorb sufficient of the
prodigious bounty of modern industry at a rapid enough pace to forestall the
emergence of a depression-inducing glut of unwanted products.
Showing there are few
bounds to human self-delusion, such ‘underconsumptionist’
attitudes remain stubbornly persistent even among the very people most
disposed to denying that industrial capitalism has anything at all to commend
it: namely, those same gloomy Malthusians who never cease to harp on about
how we are simultaneously about to exhaust the material endowment of the
earth, or to exceed this vast planet’s ability to deal with the puny
gaseous effusions vented as we bipedal microbes go about our everyday lives.
To understand the
virulence of this intellectual plague, we need to unpick a whole complex of
intertwined half-truths, fallacies, and ‘category errors’. One
obvious mistake lies in the fallacy of composition committed when one takes
the single businessman’s patent need to find a sufficient market for
his produce and then conflates the difficulties which this individual may
occasionally experience into the postulated emergence of a generalized,
nationwide ‘lack of effective demand’.
In particular, this
supposed threat is held to be self-aggravating for, once we allow
‘demand’ to drop, it only requires a short leap of the fevered
mind until we find ourselves subject to the irrational phobia expressed about
the evils entrained by the all too rare phenomenon of generally falling prices.
Once evidence of this
latter appears — even if it is the wholly benign result of an
improvement in productivity, as in, say, the modern computer industry —
the Chicken Littles are instantly off and running, shrieking that people who
ordinarily cannot pass a pastry shop without stuffing a superfluity of
trans-fats into their arteries will soon be outdoing Ghandi in their powers
of heroic abstinence, all helplessly compelled to deny their present
appetites because they might be able to shell out a good deal less, a week
next Wednesday, when the coming ‘deflation’ has done its evil
worst.
It never seems to
occur to anyone that idea of postponing gratification is a decidedly atypical
behaviour only displayed by the kind of profit-maximizing automata who populate
the imaginings of mathematical economists. As such, it is actually at odds
with the whole phenomenon of mortal man’s inherent sense of time
preference and with the fact of the positive natural interest rates which
invariably result from this.
We might further
point out that the suggestion of such a preternaturally rational forbearance
is continually being contradicted by the premise upon which both the global
fashion industry and the commercial flower market (especially near
Valentine’s or Mothers’ Day) is based, or that it is repudiated
by the scrums seen outside stores selling the latest must-have techno-toy
upon its price-maximum launch.
A further refutation
is to be had in the enduring effectiveness of the annual car model change or
licence plate rollover ploy. Then again, the existential fact of consumer
credit — running the cost and respectability gamut from Mastercard and
Visa, via ‘payday’ and so-called ‘predatory’ lenders,
to that extended by outright loan sharks — argues that people often
feel almost compelled to pay more in total for immediacy than they
would if they were patiently to save for the desired goods and services and
acquired them at a later date.
To conclude, what
must be the cardinal example of the real human impulse is to be found amid
the orgy of the Christmas shopping season when dear little Tommy simply must
be overindulged on the morning of the 25th and no other, notwithstanding the
fact his doting parents cannot avoid being bombarded as they shop with the
insistent message that “January sales start Boxing Day!”.
Crusoe was a
profiteer!
The final facet of
the ‘underconsumptionist’ puzzle is a throw back to the wholly
discredited ‘labour theory of value’, as advanced by Smith and
Ricardo and subsequently consecrated by Marx.
Starting from this
faulty premise, a chain of reasoning can be forged which seems to furnish
proof that the poor, exploited worker — stripped of part of his just
dues by that barely legal theft called ‘profit’ — cannot
possibly therefore dispose of the means with which to take up all of the
output to which his stalwart efforts have given rise (the black-hearted
profiteer who employs him never, ever wishes to consume anything himself, of
course, much less does he aspire to improving or expanding his stock of
capital).
In passing, we would
make far fewer mistakes in both economics and politics if we were to
recognise that, far from being a morally dubious residual, profits are, in
fact, the fons et origo of income and that the factor costs payable to
hired labour (wages) are therefore merely a derivative of these.
To grasp this,
consider that Crusoe initially worked on his island in order to feed and
clothe himself and himself alone: to the extent his efforts were successful,
all his income was ‘profit’. Only later, when Friday finally
turned up on an island homesteaded and provided with a stock of primitive
capital goods by our shipwrecked hero, did our man Robinson realise he might
achieve more if he could enlist the other man’s help by offering to sharing
a fixed portion of his potentially-expanded returns with the newcomer.
It was this
contractual deduction from Crusoe’s surplus, or profit, which took the
form of Friday’s ‘wage’ — a recompense which was
therefore a decidedly secondary, not a primary, source of income. Be that as
it may, in the 1920s, this hoary old doctrine of an inbuilt lack of
‘purchasing power’ was notoriously re-invigorated under the aegis
of two Americans — Harvard graduate and college professor William T.
Foster and steel baron and Goldman, Sachs investment banker (comment
superfluous) Waddill Catchings. Showing a shrewd appreciation of the
principles of marketing well beyond their rudimentary grasp of economics,
this rather odd couple craftily publicised their rehashed thesis by offering
a prize for anyone who could prove their theory wrong.
That this feat evaded
most of those who entered the competition, speaks volumes about the state of
English-speaking economic understanding (then and now?), but it was
later refuted beyond all doubt by Hayek himself in his seminal ‘Paradox
of Saving’.
Fatally, however the
efforts of these two worthies were of great practical import in that they
were a source of inspiration for the malign interventionism practiced in turn
by each of the “Great Engineer” Herbert Hoover and his much less
principled successor in the White House, as well as by that other
magnate-turned-mandarin, the inflationist Marriner S Eccles after whom the
current Fed HQ is named and according to whose reforms the current US Fed is
fashioned.
As history shows, far
from easing the crisis, the measures which resulted — in conjunction
with a cascade of worldwide political blunders mostly committed on the basis
of a similar reasoning being practised elsewhere — only served to prevent
an early liquidation of the boom of the Roaring Twenties and so turned the
1930s into that dark decade in which was incubated such a sorry harvest of
future woe. Minus the bleak global backdrop, the present generation has, of
course, been offered its own, salutary lesson about the detrimental effects
of a state suppression of the free markets attempts to purge itself of an
inflationary poison in the shape of Japan’s fifteen year sojourn in its
own, self-inflicted slough of despond formed after its 1980s bubble burst.
Indeed, a
reinforcement of the lesson may yet be delivered regarding the superficially
more successful attempt to camouflage the fallout from the late 1990s Tech
& Telecom mania and the arguably unprecedented orgy of speculation which
the requisite easy money policies soon ignited across the globe, in its wake.
But if Foster and Catchings — or if England’s ‘Major’
Douglas — were the minor prophets of this cult, the Moses to whom the
false god of underconsumption owes most of his multitudinous adherents is, of
course, our old friend Keynes and his ‘General Theory’ is nothing
less than its Torah.
And hereby hangs
another tangled web of confusion, for when he came down from his own
inflationist Mount Sinai, Keynes had scribbled on his tablets of law, not the
Ten Commandments, but the series of tautologous equations of the form Y = C +
I, or ‘aggregate income equals consumption plus investment’.
Once such
formulations became enshrined in the statistics compiled by the likes of
Simon Kuznets — who was acting in the service of dirigiste
central planning (firstly in order to help guide the commissars of the New
Deal and later to assist control of the wartime command economy) — the
blindly aggregate approach which they engendered could hardly fail to blinker
economic reasoning thereafter.
Thus, the Keynesian
of the cart of consumption has been harnessed before the Hayekian horse of
production for the past three-score-years-and-ten, to the detriment of all
for, if it is true — as Edwin Canaan famously argued it was —
that a solid understanding of economics benefits the politician, rather than
the businessman, what hope of sound policy can there be when the former finds
himself shaping it when mired in a morass of underconsumptionist mental error
and so despises thrift and condemns profit?
Double-entry, not
double-counting
Here, at last, we
come to the half-truth hidden in the familiar cliché, for the data
with which we are so familiar are compiled, à la Maynard, in such a fashion that consumption is indeed 60 per cent of the aggregate
— if only because the supposedly gross product in fact nets out the
literally trillions of dollars of intermediate goods and services which are
essential to the continued satisfaction of human needs and in whose delivery
the majority of the population earn their own daily bread.
But being 60 per cent
of this artificial and inconsistent construct is not the same as being 60 per
cent of all significant economic activity: the model is not the market and the
map is not the territory.
This is because the
GDP system only measures the bread in the baker’s shop and compacts all
remaining economic value into its sale alone, arguing that it would be an
exercise in ‘double-counting’ to take any notice of the contribution
of the wholesaler, the miller, the farmer, the seed merchant, the tractor
maker, and the fertilizer manufacturer — not to mention that of all
those who make the tools and construct the buildings upon which each of these
relies, in his turn; or upon those who mine the ore and drill for the energy
needed for their production (as well as for the fabrication of the
equipment the resource extractors themselves require).
It we stop to think
about it for a moment, we must see this represents a gross over-simplification
of the world about us — and a dangerously deceptive one, to boot: for
this is akin to saying that we need not pay any attention to the efficacy,
the timeliness, the viability, or the reproducibility of any of the steps
along a complicated auto assembly line, just so long as we take note of the
man giving the finished vehicle its final coat of polish before it is loaded
on to the waiting transporter, ready to be shipped off to the dealership.
In fact, if any of
the preceding stages goes awry — because men or materials are
unexpectedly not available, because the production schedules have been
miscalculated, because specification or quality control errors have crept in
— or if the engineering solution adopted turns out to be more
wasteful or more cumbersome than had been presumed or, above all, if the
costs associated with a certain step suddenly change for the worse
— the car will either not be produced at all, will arrive too late,
will be worryingly sub-standard, or will involve its producer in a financial
loss.
Taking this to the
next step, if we now break the assembly line up into its constituent parts
and spin these off — if we ‘outsource’ them — so that
they each take place in proprietarily distinct companies (in some sense, this
is analogous to the way our complex modern economy actually does function),
we can now see that not only are the intermediate stages operationally
critical, but that each must pay its way (over both the short and
intermediate horizons) if capital is to be maintained and the flow of goods
uninterrupted. Furthermore, the proportionate and punctual completion of each
of the intervening stages is not a matter of dull, immutable routine. Instead,
it requires the wholly volitional — and thus highly uncertain —
participation of an entrepreneur to accomplish the task.
It is not beyond
possibility that one of these entrepreneurs does indeed happen to decide that
he would rather be doing something else. Perhaps he has spotted a better
opportunity somewhere else; perhaps he has been squeezed out of his current
niche after a period of poor returns; perhaps he wants to indulge himself and
buy a Maserati with his receipts, rather than a new machine tool; or perhaps
he’s long since made his pile and now just wants to retire to go game
fishing.
Under any of these
circumstances, the subsequent appearance of our finished car can in no way be
taken for granted, no matter how insistently the final customer may demand
it. One can indeed extend the argument that consumer demand for goods in
general — if not for this one good in particular — can actually
increase the likelihood that our entrepreneur might shift the focus of his
attention into producing these other items instead and so excess end demand
can even act as a drag on higher order production (both because effort has
been physically diverted and because the alternative use has raised co-factor
prices).
As a metaphor for
this, imagine the brewer suddenly finding he faces severe labour retention
problems because his workers keep quitting to open their own bars, where they
feel will be paid better for serving his beer than for making it. Taking a
more concrete example, consider that present plans to build oil refineries
and LNG plants are being stymied by costs associated with high metals prices
which are, in turn, rising partly as a result of the increase in the volume
of house-building and auto production taking place across much of the world
outside the United States.
Sean Corrigan
Sean Corrigan is Chief
Investment Strategist at Diapason Commodities Management (Lausanne and
London)
Copyright © 2006 -
Copyright © Diapason Commodities Management - Sean Corrigan
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