I think I shall have to stop reading Eric Hare’s blog Barataria. When Eric writes about subjects he actually knows and understand, he is a very good writer. That is, he is something of a good technical writer explaining what knowledge he has master to those who have yet to understand such knowledge. Unfortunately economics is not his oyster, let alone the shell. A depression is something but we really can’t define it. Then how do you know if an economic period is a depression? That’s like saying that I know what a golf ball is even though I can’t define it and have never seen one. Uh, I think there’s a problem here with such a statement. Mathematics is about relationships. (A + B) * C = A*C + B*C, right, the distributive property. But to a third grader struggling to understand his times tables the last think he is thinking about is the distributive properties of mathematics and logic. He knows what a seven is, he can count that high on his fingers. But theory, that pattern is a shade beyond his comprehension. Show him a page full of solved calculus and the pattern just doesn’t jump right out at him.
Alright, so let’s cut to the chase. Mr. Hare believes that one can accurately measure productivity of the American worker (or any worker in any country) by dividing the number of workers by the Gross Domestic Product. Perhaps in a vague aggregate sense. But GDP is comprised of government spending, investment, and net exports, which may be negative. So if manufacturing product decreases and government spending increases then the productivity may stay the same. Would you buy that argument? What does government spending have to with productivity? And what is productivity? Ah, a fools question. But let us take a stab. If I manufacture some good or sell some service then I can measure my output, the number of units produced whether in units of goods of manufacture or units of services completed. A service may be a tax service that fills out the income tax form for those who cannot do it for themselves (or perhaps they don’t want to do it themselves). Thus the number of widgets or the number of 1040 forms that are filed is my output. The number of employees I have hired to d such work can be divided into the output and thus give me a rough aggregate of units per employee. This is not to say that each employee had actually contributed equally. Only that is it an aggregate number.
If I wish to increase productivity per employee then I have two options. One is I can hire more employees and thus produce more output. That is an increase in productivity although it may not increase the number per employee, only the number of units for the business. The second option is that I could invest my capital (money, either through retained profits or borrowing money) and buy machinery that would allow my existing employees to produce more output units. With me so far? And it might be that I could buy equipment that not only increases the number of unit output but reduced the number of employees. Did the employees in the capitalization really become more productive or was it the capital that did the extra work? If the old machine allowed me to produce one hundred units a day and a new machine allows me to produce one hundred and twenty units a day then it is the machine that has increase the productivity and not me. On the other hand, if the machine is capable of producing one hundred and twenty units a day on average and I as its operator can make it produce one hundred and forty units a day, then the extra productivity is due to both the machine and my efforts. But productivity has absolutely nothing to do with dividing the number of workers by the GDP of a country. It is an empty measurement whether it is adjusted for inflation or not. Do you see why? We are not really measuring productivity directly.
Now the irony is that Mr Hare is a former industrial engineer. That means he is very familiar with statistical processes. And yet, to read his blog one would think the man totally ignorant on the subject. Perhaps its the influence of economics where they can never get the math right. Now I trained in psychology, had to take courses in statistical (for lack of a better word) understanding. Any time you run experiments in statistics raises its ugly head and says’ “Just what do you think you are doing, sport?” That scientific method was pounded into our brains as was interpretation of statistical processes and data. Everything is about the deviation from the average, everything. And there are more ways to Sunday to examine the date for relevance, for accuracy, for interpretation, than Billy Sunday has sermons. It is all about the measurement. The dispersion of the data points (who fits where on the line from average to above or below average), the outliers, the clusters, and all that good stuff. I even learned how to program in SAS, the program for statistical analysis. So, when you start talking statistics with me you better know your shit.
For those who follow Keynes, the crux of the statistical argument is aggregate amounts. But aggregate amounts are a bit misleading. Let us talk energy prices. We may be given an aggregate energy price for petroleum energy prices. Well, yes, one can do that. But that includes the price of the various grades of automobile gasoline, the price of diesel and fuel oil (they are actually the same thing but treated differently for tax purposes, diesel for trucks is tinted red, diesel for oil heating is tinted blue and woe be he that puts heating oil in his truck fuel tank), and there is kerosene for jet aircraft and kerosine for camping lanterns and camp stoves, there is gasoline with ethanol in it, aviation gasoline for piston aircraft, and the list continues. So when the aggregate price rises it doesn’t mean that all these fuels are rising in price. Indeed, the aggregate price rise can be very misleading and over state one fuel while understanding the others, in terms of price. The aggregate measure only tells you the measurement of the aggregate and not the individuals within that aggregate. By aggregating things one is allowed to throw in stuff together that may have little relevance to each other and yet are suppose to have greater relevance when grouped together. Well, sometimes that works. Grouping infantry riflemen with heavy machine gun units with small artillery units with transportation units with headquarters staff units with supply units yields a battalion, a brigade, a division, and so on. Composition has meaning but only to a point. If I were the opposing general would I prefer to face a light infantry brigade or an armored division. No contest there, take the light infantry any day of the week as they are lightly armed and fewer of them.
Measurement is subject to three qualifiers. Does the measure measure what it purports to measure? If it does then it is a valid measurement. If I want to measure the height of a group of one hundred men then I need some measuring device that would prove valid. That is, an eight foot rule where the divisions are marked in equal portions. That an inch on one area of the pole would be the exact same an an inch on another spot. Now I could make such marks logarithmic or even exponential. That would mean that someone who measures at an eight foot height would be x times higher that someone who measured at five feet. Of course such a measure has little meaning. I am exponentially taller than you means what to you? It is a valid measure but it has little acceptance for the reason that in measuring length we tend to relate to a simple unit measure. On the other hand, if I am measuring IQ do I really know what IQ is and what that measurement means?
The second part of measurement is that it is reliable. That is, if I administer the same measure again are the results almost the same? This is called reliability. If my measuring stick gives you the same measurement for height every time I measure you then that measuring stick is reliable. But there is a third quality to measurement, assumptions. If my assumptions about some measurement process are wrong then that affects my results. Let’s take GDP as an example. If I wish to compare the GDP of China to that of the United States my assumption is that GDP is measured the same exact way. Well, already I’m wrong for the two measurements have significant differences. But suppose know that and am looking for a third measure that will convert the two others into a proper comparison. Ah, I’ll use PPP or Purchasing Power Parity. But that is not an independent measure as it it highly dependent on the comparable products for sale in each county. We may eat a lot of Ramen noodles and the Chinese may not have such a product. Well, a slight hitch in our comparison. Using PPP would induce error because it is not independent of the two GDPs in question. Thus our assumptions are wrong and add to our error. Using data over an extended time period where the data has not been adjusted for inflation adds to the error of our attempts at measurement and interpretation.
So lets talk about other misconceptions that add error to our thinking. Profit is a dirty word. And yet those who deride it as an evil thing have little idea just what it represents. Back to the basics, Mr Hare. You are an industrial engineer and you decide to start your own machine shop making some product we will call “Nifty.” You have save up your wages from your previous job and now you are ready to buy a milling machine, a lathe, breaks, and other equipment. Now this equipment costs money, I mean, it ain’t cheap hand tools. These are what accountants call capital equipment. That is, as equipment goes they have a long useful life with which you can make stuff. This equipment has a useful life, say twenty or thirty years before it is ready for the scrap heap. That means is cost can be depreciated over its useful life and has a scrap value, all equaling the original cost of the machinery. Why would we make this allowance? Because we are in love with cost accounting. It will cost you a certain amount of money to make Nifty. And whether you make a thousand Niftys or three million each year, the cost of capital equipment will be a part of the cost to produce each Nifty. Then we have the cost of running the machinery. The cost of sewage hook up and environmental protection costs (the scrap that is tossed, the fluids used to manufacture each Nifty, and the cost of the inspectors who must inspect your operations. So far, you are the only employee making the Nifty. But perchaps you employ a CPA to keep your books honest on a monthly basis and file your taxes. The utility costs of running your machinery, the cost of heating and maybe air conditioning for the shop, the cost of materials, both raw and unfinished that you may use, and the waste created when you make machine each Nifty. All these things add up and thus a cost assigned per individual Nifty that leaves your door. But you aren’t making Niftys out of the goodness of your heart. You want to be paid for your time and your talent. Well, we’ll stick to time, it is less messy. You decide that your work is worth twenty dollars an hour but you’ll take ten if you can get it. Without that minimum wage your doors will close and you will go out of business. That wage, since you are a sole proprietor, is your profit. That is, it is the cost of doing business in the future. That is what a profit is, the cost of doing business in the future. Now if my skills are such that you, the buyer, are willing to pay the equivalent of two hundred dollars an hour for my Nifty, so be it. What is wrong with that price? Hell, you’ll take it any day of the week. A thousand an hour, hell yes, got to make it while the getting is good. Chances are that if he rewards is high enough competition will result as others seek that high profit margin. Of course competition will knock the price down as each proprietor is willing to take a pay cut, but only to a point. Unions want wage increases, or in other words, a bigger slice of the profits.
Understand that a corporation attracts capital by selling stock or ownership in the corporation. Each share has the right to participate in the profits, if any, of the corporation. Any loss for the stockholder is limited to his investment. I mean, only the Fed lends money at zero interest, the rest of us want rent on our money. That is what interest is, rent. A stock holder expects to either participate in the profits by way of a declared dividend (slice of the profits less the retained income), see his share appreciate in price (rise is price on the stock market) or three, gets paid to hold the stock until he can sell at a nice profit, meaning he draws a dividend for the time he waits on the price appreciation of the share of stock. Back before creative financing corporations and even proprietorships and partnerships would retain earnings for future investment in the business. Maybe a new physical plant needed to be build and the officers did not want to borrow money at high interest rates. So the corporation saves earnings (a portion of after tax profits) and then uses that savings (profits) to build the new plant of buy the new machinery. That is what profits do, reward investors and allow capital formation to grow the business. Oh, but these corporations make too much money. Are the earnings too high because the corporation can extract a premium or are they so large because of the size of the business. If the best profit margin General Electric can do over a twenty year period os an average of ten percent profit on its business, then what’s your problem? Now if they were making fifty percent I can see that they are ripping off the public. But whether they make five million or five trillion, if the profit is only ten percent then why are you whining?
On the other hand, do we really need business/corporations to concentrate to such a degree that they are almost unmanageable and that they are predatory upon the public at large? Ah, now you are talking limiting the size of corporations and that would be, in my judgment, a good thing. The concentration of wealth is the concentration of power. Corporations that are extremely large tend to wield influence out of proportion to their legitimate needs. It is called monopolistic power and should be dismantled. My whole point, Mr Hare, is that you are rather ignorant in the knowledge needed to comment intelligently about such things. Yes, we can all issue as many ignorant comments as we like, that is our right of free speech, the right to make an ass of ourselves. But I think you are smarter than that. Expand your references. DH Short has better date on economics than the Fed and he is willing to help you, to a point. The Chinese melt down was not due to the carry trade, I don’t know where in hell you got that from. Part of the problem is margins, borrowing on margins, naked short selling, and so on. But not the carry trade. You want to know about China, then find the right blogs to follow. I can recommend a few. I can recommend many economic blogs, many blogs about the fed, and so on. You won’t find it on Wikipedia or CNN or CNBC or MSNBC or any of those talking head shows. But please, do your research and please educate yourself. Economics for Dummies is not a passable textbook.