Investment, Goverment Spending, Profits, and Saving

[Joe Leote]

In the Minsky skeletal model the profits in the economy manifest per the Kalecki-Levy profits equation. A simplified version reads as follows: 

 

I + G = pi + T

 

investment I plus government spending G equals profit after taxes pi plus taxes T. The variables I and G are on the left to represent a causal assumption, namely, that choices by the market concerning investment spending, and by the government concerning fiscal spending, combine to determine gross profit to firms after taxes plus the tax bill.

 

Note the profits here are not as reported on a balance sheet, but include all components of the price markup over the wage bill for direct labor, such that profits pi = total revenue minus direct labor wage bill.

 

In this model generally recessions are caused by a drop in investment and expansions are caused by rising levels of investment spending.

 

The idea of government stabilization per Minsky is three-fold. Since fragile finance can be a contributor to investment via contracts executed in money and credit markets, financial regulation is a necessary pillar of assisting with economic stability. "Hands off" approach to financial regulation will produce periodic financial crises as a consequence of typical financial intermediary behavior.

 

Flexible changes in government spending G and taxes T can be effectively configured as "automatic stabilizers" to smooth business cycles caused by varying levels of spending on investment. During an investment boom fiscal policy should tend to reduce G and increase T, during a recession with decreasing investment fiscal policy should boost G and target reduced taxes T to distribute purchasing power in a manner that balances aggregate demand with supply capacity. 

 

Since full employment is a transitory state of a dynamic economy which tends to either inflate or deflate the consumer price level by investing too rapidly or decreasing investment abruptly, an employer of last resort (ELR) can improve social well being without harming and possibly even improving the production capacity over time of the economy. Another reason full employment is not achieved is because uncertainty about the future generates a cushion or "spare capacity" in market-based choices, this means markets rarely use all resources to full capacity of their own accord. The MMT crew argue that if full employment is a public good, and markets do not provide this good, then government is the proper agent to provide this social benefit as an aspect of the public good.

 

In the profit model there is a component called "saving out of wages" sW*. This is the part I think the Modern Monetary Theory crew view as a component of the money supply which is decoupled from the process of spending on investment. In the classical model it is assumed that savings convert to investment via financial intermediation. But the "paradox of thrift" occurs when too many folks are increasing their savings rather than consuming the level of profits to firms goes down, not up.

 

This savings should show up as stagnant money or "zero velocity" purchasing power in the money supply. I think the MMT view is that government can spend without selling offset Treasury debt as long as there is a decline in investment and a desire to net save in the currency via sW*, so government should spend to smooth the economy and satisfy demand for more private saving.

 

Joe

 

Here is a 3 page pdf: Savings, Investment and Growth: Theory and Reality

http://www.g24.org/pbno35.pdf 

[Joe Leote]

This paper discusses the declining personal savings rates in industrial countries from roughly 1993-2007:

 

http://research.stlouisfed.org/publications/review/07/11/Guidolin.pdf

 

with analysis based on BEA, NIPA, and Flow of Funds data. Page 492 (pdf page 2) it describes the conventional view that investment (left) must be financed out of National Savings (terms on right):

 

Private Gross Investment (I) = Personal Saving (Sp) + Business Saving (Sb) + Government Saving (Sg) + Trade Deficit (Sf)

 

where the component of investment that appears to be missing is personal and business financing of investment via expanding private sector debt.

 

The view under Modern Monetary Theory is that in the closed domestic economy the Net Financial Wealth of the Private Sector is equal to the sum of banking system reserves, currency in circulation, and Treasury debt. In this view during a current period the change in private sector saving is equal and opposite to the change in the government saving:

 

Sp + Sb = -Sg

 

so in terms of permitting the private sector to hold more money and Treasuries (private sector savings) the government must run a deficit with spending G in excess of taxation T. If government runs a surplus or "net saves" it has the impact of draining Net Financial Wealth of the private sector and this is recessionary according to the proponents of Modern Monetary Theory.

 

In the closed domestic economy:

 

I - Sg = Sp + Sb

 

or

 

I + Df = Sp + Sb

 

where this last equation is similar to Minsky writing I + Df = pi (business profits Sb) although his sketch equations use the view that all business profits are the markup on direct labor wage bills, and the personal savings Sp would be a decision to not consume out of income which flows to households from the structural flows in the business profits toward households.

 

So it appears there are two views on the government deficit. The conventional view is that the government saving (running a surplus) is somehow a source of finance for the level of private gross investment. The Modern Monetary view uses the same equations to show that the government net spending (running a deficit) is a source of business profits and private saving in terms of greater Net Financial Wealth of the private sector.

 

In terms of the stated goals of monetary policy, stable prices and full employment, I think the view of the MMTers is that monetary policy is not good enough to get the job done especially since modern economies seem to drive the interest rate toward the zero bound, and that regulatory and fiscal policy must be refined to accomplish the goals that have been more or less dumped on the Central Bank.

 

Minksy develops a sketch model of consumer price levels, derived from the wage bill in consumption goods WbC as the baseline or "common denominator." This makes sense to me because price inflation in consumption goods should have much to do with the supply of consumption goods (how many workers are allocated to production of goods C) and then the changing levels of wage bills in investment goods WbI, wage bills paid by the government WbG (directly to workers or indirectly to government contractors), and the mix of taxes taking purchasing power away from segments of society, impacts the consumer goods price level by purchasing power transfer mechanisms. These purchasing power transfers have two components, the capitalist planners are allocating purchasing power through the structure of business firms with the markup on the direct costs, and the government is transferring purchasing power through its regulatory, monetary, and fiscal policies at any given time. Add in the balance of payments in trade and overall one is trying to understand how to generate stable prices and full employment if a very complex system which seeks to increase production capacity over time and allocate purchasing power to keep prices stable too.

 

Joe

[Jean Erick]

     As I just posted, I do not understand the discussion of declining savings rates.  Savings increase is the largest part of M2 increase.

 

James

[Joe Leote]

If you bother to read the paper, a chart of personal savings in the United States shows a long term decline since about the Reagan era (when 401k based saving for retirement kicked into high gear). Savings has increased during this crisis. It is not the rate of savings that I am primarily concerned with in this thread, it is the economic dictum that "savings equals investment" whereas I suspect the opposite is true, decisions to invest force the "savings" or lack of savings depending on how the investment is financed as a mixture of equity injections, retained earnings, and new debt as the source of funds for new investment activities. The future course of the economy is embedded in cash flow contract relationships which either validate or invalidate the prior financial planning of the investments.

[Jean Erick]

     Check FRED.  At about 2000, a noticeable increase in savings was initiated, again, composing most of M2.  You're answer, eloquent as always, restates the contradiction but shows no futher progress than that.

     The prospect that "savings equals investment" is logically inconsistant because there are at least two things you can do with savings.  1.  Maintain status.  2. Invest the savings.  And, there are, at least, two ways you can fund investment. 1. Savings  2. Debt.  But, as usual, the discussion will get caught up in the confused round robin of equity, debt, and supposed money creation.

     I am very excited about a couple of things I have just comprehended and learned.  One is the debt.  $54 Trillion is the conveyance of a lot of interest.  At a %5 average, that conveys our $14 Trillion GDP in about six years.  Another is the fact that it appears that all the so called "conservative" capitalists (at least those in the popular domain) are, in actuality, mercantalists.  The last is my perception of late that the FED creation of money is as the multiplier in that it is not a PERMANENT creation of money.  That raises the possbility that the lack of creation of real money, needed to equal the increased volume of products due to increased productivity, forced debt.

 

     I've got it down to this:  Jump on it you see somethiing wrong.

 

The Treasury issues debt to all except the FED.  The Treasury redeems their debt from all.

The FED buy and sells debt from everybody except the Treasury.  We've just had the unusual occurance of the FED buying PRIVATE instead of PUBLIC debt.

       (This last part reminds me of you talking about the government replacing bad debt with good debt.  Except it was replacing bad debt with reserves.)

 

     If all multiplier debt is paid off, and all Treasuries are redeemed, there is no debt left except intermediary.  Only money. There is financial value in savings, etc., but no net surplus of money therefore no money has been created.  I see a little problem with that.  What do you think?

[Mr Economy]

Hello,

 

When looking at any economic model, it should be remembered that in real terms savings always has to equal investment. For example, if the government printed 50 billion one day and said it wanted workers to build high speed rail lines across large sections of the US; there has to be saved resources like food for them to spend the newly printed money on in order for worker's to sustain themselves as they build the lines. If there wasn't saved resources how could workers focus on building the lines if they had to look for food all day.

 

Savings is the material means of production needed for investment. The role of interest rates in the economy is to regulate the structure of production by allocating scarce resources to it's most productive means. When interest rates and exchange rates get heavily distorted, malinvestment and a distorted capital structure results; just like what the US has today of many people going into debt to consume instead of producing to consume because of distorted exchange rates that encourages outsourcing of capital. Gerard Jackson in his article, The Fallacies Behind Keynesian Dogma explains perfectly the confusion between savings and investment in monetary terms:

 

The 'problem' of equality between savings and investment arises when we define savings in purely monetary terms (which we usually do) and investment at given prices. When investment exceeds savings we have inflation. The excess investment means that the banking system has created new credit. (This has led some economists to jump to the absurd conclusion that we can have investment without savings. They obviously have not heard of 'forced savings').

 

Deflation reverses the situation. A crisis has occurred and credit and money have contracted, banks have foreclosed, investment has halted, pessimism is rife, cash holdings have increased and prices are falling. (Note: a demand for cash balances does not precipitate the crisis). Savings now exceed investment. In short, it is monetary disturbances that cause discrepancies between savings and investment.

 

 

Whether or not you agree with author's opinion about certain things he says, the article linked below is still an interesting read.

 

The Fallacies Behind Keynesian Dogma

http://www.brookesnews.com/092302keynesianism.html

 

---

[Joe Leote]

Post a link to the FRED data you consider relevant. I sense you are not looking at the savings data.

 

Your questions on FED/Treasury operations belong in another thread. I may open a thread soon on the concept of the hierarchy of modern money as a balance sheet operation. The operations of FED, Treasury, and Federal Reserve banks are at the center of these balance sheet operations in our economy.

[Joe Leote]

Scroll down the page at this link for a discussion of the Financial Sector distortions of the modern economy:

 

http://www.itulip.com/forums/showthread.php/891-Saving-Asset-Price-Inflation-and-Debt-Induced-Deflation

 

where this author claims the old production-consumption economic model requires adjustment for the structure of the modern economy. Some of the ideas in the FIRE sector (Finance, Insurance, Rentier Economy) are similar to Hyman Minsky's view that firms with "market power" extract profit margins above and beyond the technology determined costs of production of capital investment and consumption.

 

Joe  

----- Original Message -----

From: Joe Leote

[Jean Erick]

      I've got the pdf's, not the links.  BOGAMBSL, M2SL, STDSL, M1SL, SAVINGSL in one chart.  And I AM thinking of savings.  The fact that the rise is so singular and dramatic is why I broached the subject at all.. It's inconsistant with the talk of minimal savings.  6-8 Trillion is not a small amount

[Joe Leote]

FRED Saving & Investment data sets:

 

http://research.stlouisfed.org/fred2/categories/112

 

Chart of PSAVERT (Personal Saving Rate):

 

http://research.stlouisfed.org/fred2/series/PSAVERT?cid=112

 

The % rate of personal savings declined on average from 1980 to early 2000s and has been rising more recently.

 

Although Saving Deposits have been increasing exponentially:

 

http://research.stlouisfed.org/fred2/series/SAVINGSL 

 

For a ballpark comparison a larger number is the Household Credit Market Debt Outstanding:

 

http://research.stlouisfed.org/fred2/series/CMDEBT

 

where to find the net saving rate debt would be subtracted from other factors regarded as "savings" and I do not know the exact formula for the Personal Saving Rate applied by NIPA.

 

My point in this thread is not to debate such matters, however, rather to understand whether savings fuels investment in the modern economy, or whether some kind of de-coupling between savings and investment occurs via the financialization of the economy (balance sheet recession personal savings goes up and investment goes down, bubble economy investment goes up and savings rate goes down).

 

Joe

[Jean Erick]

     This caps my more then year long goal, and efforts, to gain an accurate, general paradigm of economics.

I cannot think of a more important piece of information.  It simply provides an accurate paradigm, explanation for our economy.

It is a clarifying of historic and present reality, as opposed to a new paradigm.  I owe myself a compliment in that I was, of late, using the same words that are used in the article.  I had the peices but I just couldn't quite confidently put them together.  This explains the out of mainstream but compelling Kondratief wave, Roubini's asset price rise, and the FRED graphs, whose cause, I have been trying to figure out lately.  This envelopes them all.   Congratulations Joe and thank you.

 

James

[Jean Erick]

     I guess you didn't read that, IMHO pivotal, artilce that you posted.  It seems to explain that.

[Joe Leote]

I wrote this post after reading the "pivotal" article. However I would have applied the same logic based on my extensive studies to date.