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Stumbling Past Econ 101

Raising the minimum wage will help reverse this ugly decline in the share of profits going to working people.

The world is full of people who took Econ 101 and 102, micro and macro, and decided that they understood the subject, even if they thought the math was too hard to stay in the field. That’s why the Koch Brothers fund the economics departments of so many schools. That neoliberal crap doesn’t teach itself, you know. If you’d like to see this principle in action, just check out the economics threads at Quora, like this one. I don’t know what possessed me to participate, but I did, and you can find my answer near the bottom. The question posed was whether Republicans ignore the stimulative effects of increases in the minimum wage. The nearly uniform position of the two-course economists in the thread is that there is no stimulative effect.

The simplest argument is that wages are set by the market, and any attempt to interfere is evil, or at least bound to fail. As one commenter put it, wages are a simple matter of supply and demand. Apparently these people think labor markets are like markets for cows. If there are people who aren’t worth enough money to live on, they should die, and we should turn them into Soylent Green, or dogfood. Quickly, before they suck up any more resources. Certainly they shouldn’t be getting any help from the government, because keeping them alive is a disservice to the Almighty Market.

A different crowd argues that if you raise the minimum wage, employers will hire fewer people. That implies, at least for existing businesses, that employers have already hired too many people, and keep them on the payroll for some altruistic reason. That contradicts the basic premise of the simple mindset, that businesses always take every action that will reduce their costs. Alternatively, it means that businesses will demand that their current employees work harder for the same money. Why would free workers do that? What would Ayn Rand do? Because they are afraid of losing their jobs? That means wages today are set by exercise of economic and political power, and have nothing to do with the value of work, either in its power to produce valuable stuff, or in its intangible values.

And finally, there is a group that seems to think that it doesn’t matter who gets the money. If workers get more, owners get less, and it balances out and there is no stimulative effect. Let’s take a simple example. Billionaire Bob cuts his workers’ wages by $1 million, and pockets the difference. When does he spend it? Econ 101 apparently teaches that BB spends it tomorrow, just like those workers would have if they had gotten it.

No he doesn’t. Remember BB is a billionaire. Let’s suppose his billion produces a return of 4% in interest and dividends. That’s $40 million dollars. Then, his businesses pay a salary of, let’s say, $10 million. They also pay a lot of his living expenses, his cars, his insurance, his country clubs, his city clubs, his philanthropic gestures, his marina fees if not his yacht, his airplane tickets if not his private plane, and so on, let’s say $10 million more. So Billionaire Bob has total income of $60 million. He pays taxes at Mitt Romney’s rate of 15%, leaving his total income at $51 million. That’s the before picture. How much of that is he spending? Not that much. Most of it rolls over into investments. In the after picture, he takes $1 million more from his workers, and pays $150 thousand in taxes, leaving $850,000. That goes into investments, too. And let’s not forget that the value of his investments is likely going up on top of the cash return.

Confronted with this example, Collegiate Econ People argue that even if BB invests or adds the money to his capital pile, it still gets spent. That isn’t true either. To the extent that BB buys existing bonds, roll-over bonds, or existing equities, he’s just trading cash for investments with other rich people. They aren’t going to spend the money, unless they are retirees who take out some money for expenses or other small fry with small sums. Only money spent buying new issues of stocks or bonds gets consumed, and the timing of that expenditure is always delayed.

Loans in red, deposits in blue. That divergence is money not being consumed.

Once upon a time, banks were expected to lend money, but that isn’t true today. JPMorgan Chase, the gigantic US bank, has a loans to deposit ratio of just 57%. When you consider the fact that a lot of those loans are older, not new transactions, you realize that bank deposits aren’t being consumed, just invested. The London Whale disaster was the result of JPM’s efforts to make money on excess deposits, meaning money on deposit not being loaned. The total amount of money just sitting around is estimated at $5 Trillion by Yanis Varoufakis in the LA Times:

Try to imagine the mountain of cash on which corporations in the United States and Europe are sitting, too terrorized by the prospect of insufficient consumer demand to invest in the production of things that society needs. We now have it on good authority that some $2 trillion of surpluses are slushing around within corporate America. Another $700 billion is loitering within the United Kingdom’s circuits of finance, refusing to be channeled into productive investments. A further $2 trillion is “lost” in the no man’s land of idle savings, which circulate in continental Europe, Asia, and Latin America. Nearly $5 trillion of idle money is hardly a sign of a world in the process of “rebalancing.”

Varoufakis doesn’t include the money stolen by corrupt dictators, or hidden by drug cartels, or any of the money stolen by financial criminals, either. The fact is that this money is not consumed. It just piles up in the form of claims on personal income in the future. And it won’t be spent later, either. It will pass on to the heirs of the filthy rich who will live off its proceeds while preserving the capital for their own offspring. This is the cycle that will produce our future overlords.

Now suppose Billionaire Bob raises the wages of his workers by $1 million. He won’t miss the money. The employees spend the money now. That is stimulus, and it didn’t cost the taxpayer a nickel.

I bet they didn’t teach that in Econ 101. They didn’t teach their students how to think about this problem, either.

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