Value creation.

Wealth creation.

These are really powerful words.

Maybe you think of finance,
you think of innovation,

you think of creativity.

But who are the value creators?

If we use that word, we must be implying
that some people aren't creating value.

Who are they?

The couch potatoes?

The value extractors?

The value destroyers?

To answer this question, we actually
have to have a proper theory of value.

And I'm here as an economist
to break it to you

that we've kind of lost our way
on this question.

Now, don't look so surprised.

What I mean by that is,
we've stopped contesting it.

We've stopped actually asking
really tough questions

about what is the difference between
value creation and value extraction,

productive and unproductive activities.

Now, let me just give you
some context here.

2009 was just about
a year and a half after

one of the biggest
financial crises of our time,

second only to the 1929 Great Depression,

and the CEO of Goldman Sachs said

Goldman Sachs workers are the most
productive in the world.

Productivity and productiveness,
for an economist,

actually has a lot to do with value.

You're producing stuff,

you're producing it
dynamically and efficiently.

You're also producing things
that the world needs, wants and buys.

Now, how this could have been said
just one year after the crisis,

which actually had this bank
as well as many other banks --

I'm just kind of picking
on Goldman Sachs here --

at the center of the crisis, because
they had actually produced

some pretty problematic financial products
mainly but not only related to mortgages,

which saw many thousands of people
actually lose their homes.

In 2010, in just one month, September,

120,000 people lost their homes
through the foreclosures of that crisis.

Between 2007 and 2010,

8.8 million people lost their jobs.

The bank also had to then
be bailed out by the US taxpayer

for the sum of 10 billion dollars.

We didn't hear the taxpayers bragging
that they were value creators,

but obviously, having bailed out

one of the biggest value-creating
productive companies,

perhaps they should have.

What I want to do next
is kind of ask ourselves

how we lost our way,

how it could be, actually,

that a statement like that
could almost go unnoticed,

because it wasn't an after-dinner joke;
it was said very seriously.

So what I want to do is bring you back
300 years in economic thinking,

when, actually, the term was contested.

It doesn't mean that
they were right or wrong,

but you couldn't just call yourself
a value creator, a wealth creator.

There was a lot of debate
within the economics profession.

And what I want to argue is,
we've kind of lost our way,

and that has actually allowed this term,
"wealth creation" and "value,"

to become quite weak and lazy

and also easily captured.

OK? So let's start --
I hate to break it to you --

300 years ago.

Now, what was interesting 300 years ago

is the society was still
an agricultural type of society.

So it's not surprising
that the economists of the time,

who were called the Physiocrats,

actually put the center
of their attention to farm labor.

When they said, "Where
does value come from?"

they looked at farming.

And they produced what I think was
probably the world's first spreadsheet,

called the "Tableau Economique,"

and this was done by François Quesnay,
one of the leaders of this movement.

And it was very interesting,

because they didn't just say,
"Farming is the source of value."

They then really worried about
what was happening to that value

when it was produced.

What the Tableau Economique does --

and I've tried to make it
a bit simpler here for you --

is it broke down the classes
in society into three.

The farmers, creating value,
were called the "productive class."

Then others who were just
moving some of this value around

but it was useful, it was necessary,

these were the merchants;

they were called the "proprietors."

And then there was another class
that was simply charging the farmers a fee

for an existing asset, the land,

and they called them the "sterile class."

Now, this is a really heavy-hitting word
if you think what it means:

that if too much of the resources
are going to the landlords,

you're actually putting the reproduction
potential of the system at risk.

And so all these little arrows there
were their way of simulating --

again, spreadsheets and simulators,
these guys were really using big data --

they were simulating what would
actually happen under different scenarios

if the wealth actually wasn't
reinvested back into production

to make that land more productive

and was actually being
siphoned out in different ways,

or even if the proprietors
were getting too much.

And what later happened in the 1800s,

and this was no longer
the Agricultural Revolution

but the Industrial Revolution,

is that the classical economists,

and these were Adam Smith, David Ricardo,
Karl Marx, the revolutionary,

also asked the question "What is value?"

But it's not surprising that
because they were actually living

through an industrial era
with the rise of machines and factories,

they said it was industrial labor.

So they had a labor theory of value.

But again, their focus was reproduction,

this real worry of what was happening
to the value that was created

if it was getting siphoned out.

And in "The Wealth of Nations,"

Adam Smith had this really great example
of the pin factory where he said

if you only have one person
making every bit of the pin,

at most you can make one pin a day.

But if you actually invest in factory
production and the division of labor,

new thinking --

today, we would use the word
"organizational innovation" --

then you could increase the productivity

and the growth and the wealth of nations.

So he showed that 10 specialized workers

who had been invested in,
in their human capital,

could produce 4,800 pins a day,

as opposed to just one
by an unspecialized worker.

And he and his fellow classical economists

also broke down activities
into productive and unproductive ones.

(Laughter)

And the unproductive ones weren't --

I think you're laughing because
most of you are on that list, aren't you?

(Laughter)

Lawyers! I think he was right
about the lawyers.

Definitely not the professors,
the letters of all kind people.

So lawyers, professors,
shopkeepers, musicians.

He obviously hated the opera.

He must have seen
the worst performance of his life

the night before writing this book.

There's at least
three professions up there

that have to do with the opera.

But this wasn't an exercise
of saying, "Don't do these things."

It was just, "What's going to happen

if we actually end up allowing
some parts of the economy to get too large

without really thinking about
how to increase the productivity

of the source of the value
that they thought was key,

which was industrial labor.

And again, don't ask yourself
is this right or is this wrong,

it was just very contested.

By making these lists,

it actually forced them also
to ask interesting questions.

And their focus,
as the focus of the Physiocrats,

was, in fact, on these objective
conditions of production.

They also looked, for example,
at the class struggle.

Their understanding of wages

had to do with the objective,
if you want, power relationships,

the bargaining power of capital and labor.

But again, factories, machines,
division of labor,

agricultural land
and what was happening to it.

So the big revolution
that then happened --

and this, by the way, is not often
taught in economics classes --

the big revolution that happened
with the current system

of economic thinking that we have,

which is called "neoclassical economics,"

was that the logic completely changed.

It changed in two ways.

It changed from this focus on
objective conditions to subjective ones.

Let me explain what I mean by that.

Objective, in the way I just said.

Subjective, in the sense that
all the attention went to

how individuals of different sorts
make their decisions.

OK, so workers are maximizing
their choices of leisure versus work.

Consumers are maximizing
their so-called utility,

which is a proxy for happiness,

and firms are maximizing their profits.

And the idea behind this was that
then we can aggregate this up,

and we see what that turns into,

which are these nice, fancy
supply-and-demand curves

which produce a price,

an equilibrium price.

It's an equilibrium price,
because we also added to it

a lot of Newtonian physics equations

where centers of gravity are very much
part of the organizing principle.

But the second point here is that
that equilibrium price, or prices,

reveal value.

So the revolution here is a change
from objective to subjective,

but also the logic is no longer
one of what is value,

how is it being determined,

what is the reproductive
potential of the economy,

which then leads to a theory of price

but rather the reverse:

a theory of price and exchange

which reveals value.

Now, this is a huge change.

And it's not just an academic exercise,
as fascinating as that might be.

It affects how we measure growth.

It affects how we steer economies
to produce more of some activities,

less of others,

how we also remunerate
some activities more than others.

And it also just kind of makes you think,

you know, are you happy to get out of bed
if you're a value creator or not,

and how is the price system itself
if you aren't determining that?

I mentioned it affects
how we think about output.

If we only include, for example, in GDP,

those activities that have prices,

all sorts of really weird things happen.

Feminist economists
and environmental economists

have actually written
about this quite a bit.

Let me give you some examples.

If you marry your babysitter,
GDP will go down, so do not do it.

Do not be tempted to do this, OK?

Because an activity that perhaps was
before being paid for is still being done

but is no longer paid.

(Laughter)

If you pollute, GDP goes up.

Still don't do it, but if you do it,
you'll help the economy.

Why? Because we have to actually
pay someone to clean it.

Now, what's also really interesting
is what happened to finance

in the financial sector in GDP.

This also, by the way, is something
I'm always surprised

that many economists don't know.

Up until 1970,

most of the financial sector
was not even included in GDP.

It was kind of indirectly,
perhaps not knowingly,

still being seen through the eyes
of the Physiocrats

as just kind of moving stuff around,
not actually producing anything new.

So only those activities
that had an explicit price were included.

For example, if you went to get
a mortgage, you were charged a fee.

That went into GDP and the national
income and product accounting.

But, for example,
net interest payments didn't,

the difference between
what banks were earning in interest

if they gave you a loan and what
they were paying out for a deposit.

That wasn't being included.

And so the people doing the accounting
started to look at some data,

which started to show
that the size of finance

and these net interest payments

were actually growing substantially.

And they called this
the "banking problem."

These were some people working
inside, actually, the United Nations

in a group called the Systems
of National [Accounts], SNA.

They called it the "banking problem,"

like, "Oh my God, this thing is huge,
and we're not even including it."

So instead of stopping and actually
making that Tableau Economique

or asking some of these
fundamental questions

that also the classicals were asking
about what is actually happening,

the division of labor between different
types of activities in the economy,

they simply gave these
net interest payments a name.

So the commercial banks, they called this
"financial intermediation."

That went into the NIPA accounts.

And the investment banks
were called the "risk-taking activities,"

and that went in.

In case I haven't explained this properly,

that red line is showing how much quicker

financial intermediation
as a whole was growing

compared to the rest of the economy,
the blue line, industry.

And so this was quite extraordinary,

because what actually happened,
and what we know today,

and there's different people
writing about this,

this data here
is from the Bank of England,

is that lots of what finance
was actually doing

from the 1970s and '80s on

was basically financing itself:

finance financing finance.

And what I mean by that is finance,
insurance and real estate.

In fact, in the UK,

something like between
10 and 20 percent of finance

finds its way into
the real economy, into industry,

say, into the energy sector,
into pharmaceuticals,

into the IT sector,

but most of it goes back
into that acronym, FIRE:

finance, insurance and real estate.

It's very conveniently called FIRE.

Now, this is interesting because, in fact,

it's not to say that finance
is good or bad,

but the degree to which,

by just having to give it a name,

because it actually had an income
that was being generated,

as opposed to pausing and asking,
"What is it actually doing?" --

that was a missed opportunity.

Similarly, in the real economy,
in industry itself, what was happening?

And this real focus on prices
and also share prices

has created a huge problem
of reinvestment,

again, this real attention that both
the Physiocrats and the classicals had

to the degree to which the value
that was being generated in the economy

was in fact being reinvested back in.

And so what we have today is
an ultrafinancialized industrial sector

where, increasingly, a share
of the profits and the net income

are not actually going
back into production,

into human capital training,
into research and development

but just being siphoned out
in terms of buying back your own shares,

which boosts stock options,
which is, in fact, the way

that many executives are getting paid.

And, you know, some
share buybacks is absolutely fine,

but this system
is completely out of whack.

These numbers that I'm showing you here

show that in the last 10 years,
466 of the S and P 500 companies

have spent over four trillion
on just buying back their shares.

And what you see then if you aggregate
this up at the macroeconomic level,

so if we look at aggregate
business investment,

which is a percentage of GDP,

you also see this falling level
of business investment.

And this is a problem.

This, by the way, is a huge problem
for skills and job creation.

You might have heard there's lots
of attention these days

to, "Are the robots taking our jobs?"

Well, mechanization has
for centuries, actually, taken jobs,

but as long as profits were being
reinvested back into production,

then it didn't matter: new jobs appeared.

But this lack of reinvestment
is, in fact, very dangerous.

Similarly, in the pharmaceutical industry,
for example, how prices are set,

it's quite interesting how it doesn't look
at these objective conditions

of the collective way in which value
is created in the economy.

So in the sector where you have
lots of different actors --

public, private, of course, but also
third-sector organizations --

creating value,

the way we actually measure
value in this sector

is through the price system itself.

Prices reveal value.

So when, recently,

the price of an antibiotic
went up by 400 percent overnight,

and the CEO was asked,
"How can you do this?

People actually need that antibiotic.

That's unfair."

He said, "Well, we have a moral imperative

to allow prices to go
what the market will bear,"

completely dismissing the fact
that in the US, for example,

the National Institutes of Health
spent over 30 billion a year

on the medical research
that actually leads to these drugs.

So, again, a lack of attention
to those objective conditions

and just allowing the price system
itself to reveal the value.

Now, this is not just
an academic exercise,

as interesting as it may be.

All this really matters
[for] how we measure output,

to how we steer the economy,

to whether you feel
that you're productive,

to which sectors we end up
helping, supporting

and also making people feel
proud to be part of.

In fact, going back to that quote,

it's not surprising that Blankfein
could say that.

He was right.

In the way that we actually measure
production, productivity

and value in the economy,

of course Goldman Sachs workers
are the most productive.

They are in fact earning the most.

The price of their labor
is revealing their value.

But this becomes tautological, of course.

And so there's a real need to rethink.

We need to rethink
how we're measuring output,

and in fact there's some
amazing experiments worldwide.

In New Zealand, for example, they now have
a gross national happiness indicator.

In Bhutan, also, they're thinking
about happiness and well-being indicators.

But the problem is that we can't
just be adding things in.

We do have to pause,

and I think this should be
a moment for pause,

given that we see so little
has actually changed

since the financial crisis,

to make sure that
we are not also confusing

value extraction with value creation,

so looking at what's included,
not just adding more,

to make sure that we're not, for example,
confusing rents with profits.

Rents for the classicals
was about unearned income.

Today, rents, when they're
talked about in economics,

is just an imperfection
towards a competitive price

that could be competed away
if you take away some asymmetries.

Second, we of course can steer
activities into what the classicals called

the "production boundary."

This should not be an us-versus-them,

big, bad finance versus
good, other sectors.

We could reform finance.

There was a real lost opportunity
in some ways after the crisis.

We could have had
the financial transaction tax,

which would have rewarded
long-termism over short-termism,

but we didn't decide to do that globally.

We can. We can change our minds.

We can also set up
new types of institutions.

There's different types of, for example,
public financial institutions worldwide

that are actually providing that patient,
long-term, committed finance

that helps small firms grow, that help
infrastructure and innovation happen.

But this shouldn't just be about output.

This shouldn't just be about
the rate of output.

We should also as a society pause

and ask: What value are we even creating?

And I just want to end with the fact
that this week we are celebrating

the 50th anniversary of the Moon landing.

This required the public sector,
the private sector,

to invest and innovate
in all sorts of ways,

not just around aeronautics.

It included investment in areas
like nutrition and materials.

There were lots of actual mistakes
that were done along the way.

In fact, what government did was it used
its full power of procurement,

for example, to fuel
those bottom-up solutions,

of which some failed.

But are failures part of value creation?

Or are they just mistakes?

Or how do we actually also
nurture the experimentation,

the trial and error and error and error?

Bell Labs, which was
the R and D laboratory of AT and T,

actually came from an era
where government was quite courageous.

It actually asked AT and T that
in order to maintain its monopoly status,

it had to reinvest its profits
back into the real economy,

innovation

and innovation beyond telecoms.

That was the history,
the early history of Bell Labs.

So how we can get these new conditions
around reinvestment

to collectively invest
in new types of value

directed at some of the biggest
challenges of our time,

like climate change?

This is a key question.

But we should also ask ourselves,

had there been a net
present value calculation

or a cost-benefit analysis done

about whether or not to even try
to go to the Moon and back again

in a generation,

we probably wouldn't have started.

So thank God,

because I'm an economist,
and I can tell you,

value is not just price.

Thank you.

(Applause)