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Will Stirling Newberry please pick up the white courtesy phone? We have a question on "rents"

[See update below. -- lambert]

I think these paragraphs in baseline scenario contain a key, perhaps the key, both economic and political* to our current plight, but somebody who knows what they're talking about -- and that, in this context, is definitely not me -- needs to elucidate:

Big financial players now know they have a colossal potential put or bailout option. They can also construct interconnected structures that no one can understand, except possibly the Treasury. So every 10-20 years (or more often?) we will experience a crisis of current proportions?

There is a growing consensus that large banks should be broken up; no more “too big to fail”. But the President’s implied point about economic/political complexity suggests* that derivatives - for all their obvious potential benefits - are too dangerous to be allowed at anything like their current scale. Who will be willing down the road to let Treasury, without outside comment or oversight, repeatedly provide massive amounts of resources to financial system insiders?

Derivatives have the potential to create a rent-seeking structure that is unparalleled in human history. No society can afford to allow that kind of financial system to operate. Either we figure out how to make it much more transparent - and amenable to outside review - or the re-regulation process currently in the hands of Senator Dodd and Congressman Frank needs to consider more radical alternatives.

How about "transparent" meaning "criminalize [what has become known as] financial engineering," just like shell games are crimininalized on the street?

That said, I think I get the concept of "rent," thanks to Newberry's work. For example:

Let me talk about why this means that your world is fucked up, and is going to continue to be fucked up for a while yet. You see, you, and I mean you, support giving power, privilege, and position - the ability to do shit and make enough money to live - to people just like this wunderkind who can act as if four relatively solved problems require "innovation." In fact, we've had two generations of "innovation" to get around the known solutions, because they didn't have what a business goon really wants: the ability to create a "solution" that becomes so pervasive that everyone else has to pay rent. Consider credit cards. They represent a 3.5% tax on virtually the entire economy. Now that's innovation a business thug can get behind: resolving a problem that has been solved, and collecting hundreds of billions in rent, because not everyone can set up a credit card.

"Rent-seeking" is what the banks who are charging you an ATM fee to withdraw your own unemployment check are doing. That ATM fee is a rent.

"Rents" is also (Stirling?) what the insurance companies are charging you for the privilege of not getting care; that's the system that all the health care "reforms" on offer from the Obama administration and its allies are concerned to preserve. (They want to make sure that the parasite doesn't kill the host; but they are committed to fixing the parasite even more firmly in place, through such measures as the computerization of health records.) The $350 billion single payer will save comes largely (Stirling?) from eliminating the overhead of processing the rents.

But what I don't get is how derivatives enable rent-seeking behavior.

Stirling? (No need to answer here or now; just think about it, since you're the subject matter expert. When an answer appears, we'll notice it...)

NOTE Assuming, arguendo, that there is a difference.

UPDATE * Amazingly, the post starts out from Obama's comment that he doesn't read blogs. Here is the inference:

Blogs relax previous format restrictions. Length can vary, as can technical content. Comments allow immediate feedback, clarification; debate is healthy for ideas. Experts can now express a view or an endorsement immediately to a broader audience - and get pushback, as appropriate.

And, on the President’s point, experts can now talk directly to other experts at a very detailed operational level, and the results of that conversation are now public - and again attract public content (let’s be honest: sometimes experts are way off-base and they need to be told). This is very threatening to official technocrats, both because their monopoly on expertise crumbles and because a broader set of people become skilled at criticizing their ideas. These technocrats would much rather have their boss read newspapers and weekly magazines.

There is a good reason that the IMF is not free to speak candidly about the United States; it is full of experts who know what they are talking about.

But the President knows all this, which suggests another interpretation for his remarks. Perhaps the financial situation - e.g., in and around derivatives - really is too complex for anyone to understand, unless they have the inside knowledge of regulators. This would mean, of course, that going forward no one can question Treasury about anything important.

Which would explain, I suppose, why nobody's there to answer the phone?

Then again, this argument would imply that only those who inside a huge pile of shit can know whether there's a pony there. I don't think that's true.

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gizzardboy's picture
Submitted by gizzardboy on

Let's say a company or municipality wants to sell bonds. The big bank organizes the sale and includes in the costs an insurance policy against a failure to redeem -- in the form of a credit default swap -- in the offering. It is pretty crappy insurance as we have found out, but a credit default swap is a derivative. The cost of the derivative is a "rent" factored in to the offering. Maybe that what is being said. And if all tax payers are standing behind the credit default swaps because the banks and AIG are too big to fail, we all are rent payers, picking up the tab for unbacked insurance.

Stirling Newberry's picture
Submitted by Stirling Newberry on

In classical political economy, there were the wages of labor, the profits of capital, and the proceeds of rent. Utilitarianism, in part, was meant to get rid of the nagging distinction between rent and capital, and to a lesser extent labor, because it was, and is, hard to easily tell the difference. Even a humble house painter, once he has a reputation for good work, acquires an advantage over other house painters, because he has painted houses before. So the classical definition was the difference between what a factor of production was being paid, and the absolute minimum to get it to be used at all. For example, let's say there is a vacant lot. There is some minimum price to get someone to build on it, and there is the actual price that they get for building on it. Rent, according to the classical definition, is that difference. Or, in modern terms, the producer surplus from assymetrical information. In simple words: how much the producer is paid because the buyer does not know what the minimum price is.

The next definition of rent became connected to barriers to entry. After all, the first person to build a factory has an advantage over others, the owner of valuable mineral rights does as well. This definition focused on uncompensated value: that is, value extracted above the competitive, as opposed to minimum, price. So if $5 would be the price of a good in a competitive environment, and $7 is the price in a monopoly, the monopolist is extracting $2 of rent. Information assymetry is not required: everyone can know that a better deal would be possible under a different regime.

From this we can derive a better defintion: a rent is an economic advantage in time or space. This definition is in accord with classical, and modern, practice. A rent seeking behavior then, is one that uses exclusion of some kind to derive a higher revenue than would be possible. The profits of a monopoly, for example are because the monopolist got there first.

Libertarians define rent as government, but then the define hangnails as being caused by government too, so I'm going to ignore most of the "government manipulation" driven definitions, since the fold in to better definitions of rent. After all, almost all rents rely on force, and therefore on some form of government, either de facto or de jure.

Rent, in itself, is not particularly bad, since much of the work people do has deferred payment which comes in the form of rent. Rent represents accumulated information, the background against which we make judgments. That information has value, and it is reasonable to pay for it. Up to a point.

However, as economic thinkers from Plato forward have pointed out, that's not how things go left to their own devices. Instead what happens is that there is "rent seeking" behavior. This is when someone does something not to improve total output, or even shift output from worse uses to better ones, but to reduce competition or give themselves a first move advantage for longer.

For example, extending copyrights, is a rent seeking behavior. Nelson blocking changes to student loans so that private companies in Nebraska can continue to over charge for them is rent seeking. Controlling the flow of oil from OPEC is rent seeking.

Any financial instrument can be rent seeking. In fact, most financial instruments are an attempt to collect a rent. After all, the reason we pay off the national debt, is that some people had money to loan, often before we were born. The fear with derivs is this: that having to pay off the losses of derivs from pre-regulated days will be a perpetual rent. We will never pay them off, because we will go from one financial crisis to another, and each time the national debt will go up as we pay off the crash. So paying off te 1970's inflation left debt higher, paying off the S&L crisis left debt higher, paying off the NASDAQ bubble left debt higher, paying off this crisis leaves debt higher.

That is, when times are bad, we pay off the losses, but when times are good, they don't pay the taxes needed to cover the losses. Thus a continued transfer of wealth, that is control over society, from ordinary people, to elites, who aren't even really economic elites, in the sense that right now Citibank has a lower net worth than an old lady pushing a shopping cart and mumbling about aliens stealing her 23 babies.

Submitted by lambert on

These are the two sentences I'm interested in, from a policy, and polemic, perspective:

Derivatives have the potential to create a rent-seeking structure that is unparalleled in human history. No society can afford to allow that kind of financial system to operate.

Thoughts?

vastleft's picture
Submitted by vastleft on

It seems to me that this is definition of excessive rent, rather than of rent itself. This may be a venerable definition in economic circles for all I know, but I'm trying to get my head around it.

A certain portion of what someone pays in rent reflects the real costs of owning and maintaining the property, with the remainder being the landlord's profit. If I read you correctly, your definition of rent focuses only on the profit portion, and maybe even only on excessive profits (however that might be defined).

Stirling Newberry's picture
Submitted by Stirling Newberry on

and yet have been deemed "to important to fail."

This would mean that the "shadow banking system" can take almost unlimited risks, without any real oversight, and then dump the costs on to people. Consider that right now banks are getting 0% money from the fed, and charging consumers and businesses very high interest rates. That they can get that fed money, and you can't, represents a rent. The reason for that 0% interest is... because of the meltdown of derivs and sfi's.

Submitted by lambert on

That would mean that the shadow banking system has no reason at all to wish for a recovery, right?

So that can't be true.

NOTE Nice avoidance of agency on "been deemed," heh heh heh heh.

Submitted by jawbone on

charged by the powerful.

As mentioned in The Vasslas Handbook I came across yesterday.

Citizens are gone. They are now vassals. It happened in a funny way. All the banks around the world collapsed, broke. So the peoples’ money was used to refund all the banks. But don’t get any ideas. When the people buy the banks, do they not own them? Yes and no, but mostly and decisively no. You see, the people may properly own the banks (having bought them) but they sure as hell do not get to decide what to do with the money or how to do it. For that is not capitalism, and capitalism is what they bought. Clear? Clever? Clout. In capitalism, the people do not own the decisions. They are not the deciders. They are the consumers, the workers, and in a pinch they may be the funders. To review, the people may be the buyers and in theory the owners, but they are never ever upon any circumstances the deciders. In capitalism, the well-connected few are the deciders, the rulers who select candidates for office, who dole out funds for the campaigns, who provide the illusion of choice via sundry discrepancies for vassals to obsess over and pick between. Nothing more is meant to be. (My emphasis)

I think I'm getting the economics definition of "rent," but I don't quite get the demarcations between fair rent and unfair rent. Nice of Stirling to drop by and answer the white courtesy phone. Nice of Lambert to ask!

But did that result in Drupal saying no connection to Corrente due to, iirc, too many connections?

a little night musing's picture
Submitted by a little night ... on

Just want to thank Stirling Newberry for his very helpful responses!

Never would have believed, not too long ago, that I would be eager to get educated on economics...

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