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← An honest look at price, innovation and who powers the economy

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Showing Revision 7 created 12/11/2019 by marialadias.

  1. Value creation.
  2. Wealth creation.
  3. These are really powerful words.
  4. Maybe you think of finance,
    you think of innovation,
  5. you think of creativity.
  6. But who are the value creators?
  7. If we use that word, we must be implying
    that some people aren't creating value.
  8. Who are they?
  9. The couch potatoes?
  10. The value extractors?
  11. The value destroyers?
  12. To answer this question, we actually
    have to have a proper theory of value.
  13. And I'm here as an economist
    to break it to you
  14. that we've kind of lost our way
    on this question.
  15. Now, don't look so surprised.

  16. What I mean by that is,
    we've stopped contesting it.
  17. We've stopped actually asking
    really tough questions
  18. about what is the difference between
    value creation and value extraction,
  19. productive and unproductive activities.
  20. Now, let me just give you
    some context here.

  21. 2009 was just about
    a year and a half after
  22. one of the biggest
    financial crises of our time,
  23. second only to the 1929 Great Depression,
  24. and the CEO of Goldman Sachs said
  25. Goldman Sachs workers are the most
    productive in the world.
  26. Productivity and productiveness,
    for an economist,
  27. actually has a lot to do with value.
  28. You're producing stuff,
  29. you're producing it
    dynamically and efficiently.
  30. You're also producing things
    that the world needs, wants and buys.
  31. Now, how this could have been said
    just one year after the crisis,
  32. which actually had this bank
    as well as many other banks --
  33. I'm just kind of picking
    on Goldman Sachs here --
  34. at the center of the crisis, because
    they had actually produced
  35. some pretty problematic financial products
    mainly but not only related to mortgages,
  36. which saw many thousands of people
    actually lose their homes.
  37. In 2010, in just one month, September,
  38. 120,000 people lost their homes
    through the foreclosures of that crisis.
  39. Between 2007 and 2010,
  40. 8.8 million people lost their jobs.
  41. The bank also had to then
    be bailed out by the US taxpayer
  42. for the sum of 10 billion dollars.
  43. We didn't hear the taxpayers bragging
    that they were value creators,
  44. but obviously, having bailed out
  45. one of the biggest value-creating
    productive companies,
  46. perhaps they should have.
  47. What I want to do next
    is kind of ask ourselves

  48. how we lost our way,
  49. how it could be, actually,
  50. that a statement like that
    could almost go unnoticed,
  51. because it wasn't an after-dinner joke;
    it was said very seriously.
  52. So what I want to do is bring you back
    300 years in economic thinking,

  53. when, actually, the term was contested.
  54. It doesn't mean that
    they were right or wrong,
  55. but you couldn't just call yourself
    a value creator, a wealth creator.
  56. There was a lot of debate
    within the economics profession.
  57. And what I want to argue is,
    we've kind of lost our way,
  58. and that has actually allowed this term,
    "wealth creation" and "value,"
  59. to become quite weak and lazy
  60. and also easily captured.
  61. OK? So let's start --
    I hate to break it to you --

  62. 300 years ago.
  63. Now, what was interesting 300 years ago
  64. is the society was still
    an agricultural type of society.
  65. So it's not surprising
    that the economists of the time,
  66. who were called the Physiocrats,
  67. actually put the center
    of their attention to farm labor.
  68. When they said, "Where
    does value come from?"
  69. they looked at farming.
  70. And they produced what I think was
    probably the world's first spreadsheet,
  71. called the "Tableau Economique,"
  72. and this was done by François Quesnay,
    one of the leaders of this movement.
  73. And it was very interesting,
  74. because they didn't just say,
    "Farming is the source of value."
  75. They then really worried about
    what was happening to that value

  76. when it was produced.
  77. What the Tableau Economique does --
  78. and I've tried to make it
    a bit simpler here for you --
  79. is it broke down the classes
    in society into three.
  80. The farmers, creating value,
    were called the "productive class."
  81. Then others who were just
    moving some of this value around
  82. but it was useful, it was necessary,
  83. these were the merchants;
  84. they were called the "proprietors."
  85. And then there was another class
    that was simply charging the farmers a fee
  86. for an existing asset, the land,
  87. and they called them the "sterile class."
  88. Now, this is a really heavy-hitting word
    if you think what it means:
  89. that if too much of the resources
    are going to the landlords,
  90. you're actually putting the reproduction
    potential of the system at risk.
  91. And so all these little arrows there
    were their way of simulating --
  92. again, spreadsheets and simulators,
    these guys were really using big data --
  93. they were simulating what would
    actually happen under different scenarios
  94. if the wealth actually wasn't
    reinvested back into production
  95. to make that land more productive
  96. and was actually being
    siphoned out in different ways,
  97. or even if the proprietors
    were getting too much.
  98. And what later happened in the 1800s,

  99. and this was no longer
    the Agricultural Revolution
  100. but the Industrial Revolution,
  101. is that the classical economists,
  102. and these were Adam Smith, David Ricardo,
    Karl Marx, the revolutionary,
  103. also asked the question "What is value?"
  104. But it's not surprising that
    because they were actually living
  105. through an industrial era
    with the rise of machines and factories,
  106. they said it was industrial labor.
  107. So they had a labor theory of value.
  108. But again, their focus was reproduction,
  109. this real worry of what was happening
    to the value that was created
  110. if it was getting siphoned out.
  111. And in "The Wealth of Nations,"

  112. Adam Smith had this really great example
    of the pin factory where he said
  113. if you only have one person
    making every bit of the pin,
  114. at most you can make one pin a day.
  115. But if you actually invest in factory
    production and the division of labor,
  116. new thinking --
  117. today, we would use the word
    "organizational innovation" --
  118. then you could increase the productivity
  119. and the growth and the wealth of nations.
  120. So he showed that 10 specialized workers
  121. who had been invested in,
    in their human capital,
  122. could produce 4,800 pins a day,
  123. as opposed to just one
    by an unspecialized worker.
  124. And he and his fellow classical economists
  125. also broke down activities
    into productive and unproductive ones.
  126. (Laughter)

  127. And the unproductive ones weren't --

  128. I think you're laughing because
    most of you are on that list, aren't you?
  129. (Laughter)

  130. Lawyers! I think he was right
    about the lawyers.

  131. Definitely not the professors,
    the letters of all kind people.
  132. So lawyers, professors,
    shopkeepers, musicians.
  133. He obviously hated the opera.
  134. He must have seen
    the worst performance of his life
  135. the night before writing this book.
  136. There's at least
    three professions up there
  137. that have to do with the opera.
  138. But this wasn't an exercise
    of saying, "Don't do these things."

  139. It was just, "What's going to happen
  140. if we actually end up allowing
    some parts of the economy to get too large
  141. without really thinking about
    how to increase the productivity
  142. of the source of the value
    that they thought was key,
  143. which was industrial labor.
  144. And again, don't ask yourself
    is this right or is this wrong,

  145. it was just very contested.
  146. By making these lists,
  147. it actually forced them also
    to ask interesting questions.
  148. And their focus,
    as the focus of the Physiocrats,
  149. was, in fact, on these objective
    conditions of production.
  150. They also looked, for example,
    at the class struggle.
  151. Their understanding of wages
  152. had to do with the objective,
    if you want, power relationships,
  153. the bargaining power of capital and labor.
  154. But again, factories, machines,
    division of labor,
  155. agricultural land
    and what was happening to it.
  156. So the big revolution
    that then happened --

  157. and this, by the way, is not often
    taught in economics classes --
  158. the big revolution that happened
    with the current system
  159. of economic thinking that we have,
  160. which is called "neoclassical economics,"
  161. was that the logic completely changed.
  162. It changed in two ways.
  163. It changed from this focus on
    objective conditions to subjective ones.
  164. Let me explain what I mean by that.

  165. Objective, in the way I just said.
  166. Subjective, in the sense that
    all the attention went to
  167. how individuals of different sorts
    make their decisions.
  168. OK, so workers are maximizing
    their choices of leisure versus work.
  169. Consumers are maximizing
    their so-called utility,
  170. which is a proxy for happiness,
  171. and firms are maximizing their profits.
  172. And the idea behind this was that
    then we can aggregate this up,
  173. and we see what that turns into,
  174. which are these nice, fancy
    supply-and-demand curves
  175. which produce a price,
  176. an equilibrium price.
  177. It's an equilibrium price,
    because we also added to it
  178. a lot of Newtonian physics equations
  179. where centers of gravity are very much
    part of the organizing principle.
  180. But the second point here is that
    that equilibrium price, or prices,
  181. reveal value.
  182. So the revolution here is a change
    from objective to subjective,

  183. but also the logic is no longer
    one of what is value,
  184. how is it being determined,
  185. what is the reproductive
    potential of the economy,
  186. which then leads to a theory of price
  187. but rather the reverse:
  188. a theory of price and exchange
  189. which reveals value.
  190. Now, this is a huge change.

  191. And it's not just an academic exercise,
    as fascinating as that might be.
  192. It affects how we measure growth.
  193. It affects how we steer economies
    to produce more of some activities,
  194. less of others,
  195. how we also remunerate
    some activities more than others.
  196. And it also just kind of makes you think,
  197. you know, are you happy to get out of bed
    if you're a value creator or not,
  198. and how is the price system itself
    if you aren't determining that?
  199. I mentioned it affects
    how we think about output.

  200. If we only include, for example, in GDP,
  201. those activities that have prices,
  202. all sorts of really weird things happen.
  203. Feminist economists
    and environmental economists
  204. have actually written
    about this quite a bit.
  205. Let me give you some examples.
  206. If you marry your babysitter,
    GDP will go down, so do not do it.
  207. Do not be tempted to do this, OK?
  208. Because an activity that perhaps was
    before being paid for is still being done
  209. but is no longer paid.
  210. (Laughter)

  211. If you pollute, GDP goes up.

  212. Still don't do it, but if you do it,
    you'll help the economy.
  213. Why? Because we have to actually
    pay someone to clean it.
  214. Now, what's also really interesting
    is what happened to finance

  215. in the financial sector in GDP.
  216. This also, by the way, is something
    I'm always surprised
  217. that many economists don't know.
  218. Up until 1970,
  219. most of the financial sector
    was not even included in GDP.
  220. It was kind of indirectly,
    perhaps not knowingly,
  221. still being seen through the eyes
    of the Physiocrats
  222. as just kind of moving stuff around,
    not actually producing anything new.
  223. So only those activities
    that had an explicit price were included.
  224. For example, if you went to get
    a mortgage, you were charged a fee.
  225. That went into GDP and the national
    income and product accounting.
  226. But, for example,
    net interest payments didn't,
  227. the difference between
    what banks were earning in interest
  228. if they gave you a loan and what
    they were paying out for a deposit.
  229. That wasn't being included.
  230. And so the people doing the accounting
    started to look at some data,

  231. which started to show
    that the size of finance
  232. and these net interest payments
  233. were actually growing substantially.
  234. And they called this
    the "banking problem."
  235. These were some people working
    inside, actually, the United Nations
  236. in a group called the Systems
    of National [Accounts], SNA.
  237. They called it the "banking problem,"
  238. like, "Oh my God, this thing is huge,
    and we're not even including it."
  239. So instead of stopping and actually
    making that Tableau Economique
  240. or asking some of these
    fundamental questions
  241. that also the classicals were asking
    about what is actually happening,
  242. the division of labor between different
    types of activities in the economy,
  243. they simply gave these
    net interest payments a name.
  244. So the commercial banks, they called this
    "financial intermediation."
  245. That went into the NIPA accounts.
  246. And the investment banks
    were called the "risk-taking activities,"
  247. and that went in.
  248. In case I haven't explained this properly,
  249. that red line is showing how much quicker
  250. financial intermediation
    as a whole was growing
  251. compared to the rest of the economy,
    the blue line, industry.
  252. And so this was quite extraordinary,

  253. because what actually happened,
    and what we know today,
  254. and there's different people
    writing about this,
  255. this data here
    is from the Bank of England,
  256. is that lots of what finance
    was actually doing
  257. from the 1970s and '80s on
  258. was basically financing itself:
  259. finance financing finance.
  260. And what I mean by that is finance,
    insurance and real estate.
  261. In fact, in the UK,
  262. something like between
    10 and 20 percent of finance
  263. finds its way into
    the real economy, into industry,
  264. say, into the energy sector,
    into pharmaceuticals,
  265. into the IT sector,
  266. but most of it goes back
    into that acronym, FIRE:
  267. finance, insurance and real estate.
  268. It's very conveniently called FIRE.
  269. Now, this is interesting because, in fact,

  270. it's not to say that finance
    is good or bad,
  271. but the degree to which,
  272. by just having to give it a name,
  273. because it actually had an income
    that was being generated,
  274. as opposed to pausing and asking,
    "What is it actually doing?" --
  275. that was a missed opportunity.
  276. Similarly, in the real economy,
    in industry itself, what was happening?

  277. And this real focus on prices
    and also share prices
  278. has created a huge problem
    of reinvestment,
  279. again, this real attention that both
    the Physiocrats and the classicals had
  280. to the degree to which the value
    that was being generated in the economy
  281. was in fact being reinvested back in.
  282. And so what we have today is
    an ultrafinancialized industrial sector
  283. where, increasingly, a share
    of the profits and the net income
  284. are not actually going
    back into production,
  285. into human capital training,
    into research and development
  286. but just being siphoned out
    in terms of buying back your own shares,
  287. which boosts stock options,
    which is, in fact, the way
  288. that many executives are getting paid.
  289. And, you know, some
    share buybacks is absolutely fine,
  290. but this system
    is completely out of whack.
  291. These numbers that I'm showing you here
  292. show that in the last 10 years,
    466 of the S and P 500 companies
  293. have spent over four trillion
    on just buying back their shares.
  294. And what you see then if you aggregate
    this up at the macroeconomic level,
  295. so if we look at aggregate
    business investment,
  296. which is a percentage of GDP,
  297. you also see this falling level
    of business investment.
  298. And this is a problem.
  299. This, by the way, is a huge problem
    for skills and job creation.

  300. You might have heard there's lots
    of attention these days
  301. to, "Are the robots taking our jobs?"
  302. Well, mechanization has
    for centuries, actually, taken jobs,
  303. but as long as profits were being
    reinvested back into production,
  304. then it didn't matter: new jobs appeared.
  305. But this lack of reinvestment
    is, in fact, very dangerous.
  306. Similarly, in the pharmaceutical industry,
    for example, how prices are set,

  307. it's quite interesting how it doesn't look
    at these objective conditions
  308. of the collective way in which value
    is created in the economy.
  309. So in the sector where you have
    lots of different actors --
  310. public, private, of course, but also
    third-sector organizations --
  311. creating value,
  312. the way we actually measure
    value in this sector
  313. is through the price system itself.
  314. Prices reveal value.
  315. So when, recently,
  316. the price of an antibiotic
    went up by 400 percent overnight,
  317. and the CEO was asked,
    "How can you do this?
  318. People actually need that antibiotic.
  319. That's unfair."
  320. He said, "Well, we have a moral imperative
  321. to allow prices to go
    what the market will bear,"
  322. completely dismissing the fact
    that in the US, for example,
  323. the National Institutes of Health
    spent over 30 billion a year
  324. on the medical research
    that actually leads to these drugs.
  325. So, again, a lack of attention
    to those objective conditions
  326. and just allowing the price system
    itself to reveal the value.
  327. Now, this is not just
    an academic exercise,

  328. as interesting as it may be.
  329. All this really matters
    [for] how we measure output,
  330. to how we steer the economy,
  331. to whether you feel
    that you're productive,
  332. to which sectors we end up
    helping, supporting
  333. and also making people feel
    proud to be part of.
  334. In fact, going back to that quote,
  335. it's not surprising that Blankfein
    could say that.
  336. He was right.
  337. In the way that we actually measure
    production, productivity
  338. and value in the economy,
  339. of course Goldman Sachs workers
    are the most productive.
  340. They are in fact earning the most.
  341. The price of their labor
    is revealing their value.
  342. But this becomes tautological, of course.
  343. And so there's a real need to rethink.

  344. We need to rethink
    how we're measuring output,
  345. and in fact there's some
    amazing experiments worldwide.
  346. In New Zealand, for example, they now have
    a gross national happiness indicator.
  347. In Bhutan, also, they're thinking
    about happiness and well-being indicators.
  348. But the problem is that we can't
    just be adding things in.
  349. We do have to pause,
  350. and I think this should be
    a moment for pause,
  351. given that we see so little
    has actually changed
  352. since the financial crisis,
  353. to make sure that
    we are not also confusing
  354. value extraction with value creation,
  355. so looking at what's included,
    not just adding more,
  356. to make sure that we're not, for example,
    confusing rents with profits.
  357. Rents for the classicals
    was about unearned income.
  358. Today, rents, when they're
    talked about in economics,
  359. is just an imperfection
    towards a competitive price
  360. that could be competed away
    if you take away some asymmetries.
  361. Second, we of course can steer
    activities into what the classicals called

  362. the "production boundary."
  363. This should not be an us-versus-them,
  364. big, bad finance versus
    good, other sectors.
  365. We could reform finance.
  366. There was a real lost opportunity
    in some ways after the crisis.
  367. We could have had
    the financial transaction tax,
  368. which would have rewarded
    long-termism over short-termism,
  369. but we didn't decide to do that globally.
  370. We can. We can change our minds.
  371. We can also set up
    new types of institutions.
  372. There's different types of, for example,
    public financial institutions worldwide
  373. that are actually providing that patient,
    long-term, committed finance
  374. that helps small firms grow, that help
    infrastructure and innovation happen.
  375. But this shouldn't just be about output.

  376. This shouldn't just be about
    the rate of output.
  377. We should also as a society pause
  378. and ask: What value are we even creating?
  379. And I just want to end with the fact
    that this week we are celebrating
  380. the 50th anniversary of the Moon landing.
  381. This required the public sector,
    the private sector,
  382. to invest and innovate
    in all sorts of ways,
  383. not just around aeronautics.
  384. It included investment in areas
    like nutrition and materials.
  385. There were lots of actual mistakes
    that were done along the way.
  386. In fact, what government did was it used
    its full power of procurement,
  387. for example, to fuel
    those bottom-up solutions,
  388. of which some failed.
  389. But are failures part of value creation?
  390. Or are they just mistakes?
  391. Or how do we actually also
    nurture the experimentation,
  392. the trial and error and error and error?
  393. Bell Labs, which was
    the R and D laboratory of AT and T,

  394. actually came from an era
    where government was quite courageous.
  395. It actually asked AT and T that
    in order to maintain its monopoly status,
  396. it had to reinvest its profits
    back into the real economy,
  397. innovation
  398. and innovation beyond telecoms.
  399. That was the history,
    the early history of Bell Labs.
  400. So how we can get these new conditions
    around reinvestment
  401. to collectively invest
    in new types of value
  402. directed at some of the biggest
    challenges of our time,
  403. like climate change?
  404. This is a key question.
  405. But we should also ask ourselves,

  406. had there been a net
    present value calculation
  407. or a cost-benefit analysis done
  408. about whether or not to even try
    to go to the Moon and back again
  409. in a generation,
  410. we probably wouldn't have started.
  411. So thank God,
  412. because I'm an economist,
    and I can tell you,
  413. value is not just price.
  414. Thank you.

  415. (Applause)