Plutonomics, Citibank, and the Doom Cycle

Regular readers of this column (and there might be some) know by now that I am given to rants against the banks, accusing them of being plutocrats and oligarchs, and sometimes descending into even stronger language. But I did not expect to receive confirmation of this thesis from the nation’s biggest bank. Citibank uses a term to describe our economy which has never occurred to me, “plutonomy,” an economy run for the benefit of the rich. This is the term we find in a Citibank investment advisory letter from March, 2006. The memo (which Donald Goodman mentioned in his last post) is rather remarkable. It sounds like a satire written by some mad Distributist (like me, for example). But no, they are in deadly earnest, and unlike the mad Distributist, they are quite happy about the situation.

On Citibank’s analysis, in the U.S., the UK, Canada and Australia, “the rich take an increasing share of income and wealth over the last 20 years, to the extent that the rich now dominate income, wealth, and spending in these countries.” They speak but the truth; the top 10% of households accounted for 43% of income when the memo was written. “In total, the top 20% accounted for 68% of total income; the bottom 40%, for just 9%.” And the situation is worse when we look at wealth. The top 10% account for 57% of household net worth; the bottom 40% share only 9%.

The writers of this letter point out that in other places, such as Japan and much of Western Europe, the rich were confined to pretty much the much the same share they had in the 80’s, but in the plutonomies, such as the US, the “capitalists benefit disproportionately from globalization and the productivity boom, at the expense of labor.” In other words, the imbalance is not necessary, but a creation of particular forces within the plutonomies.

Citibank does note that the rich face some problems. For example, the CLEW Index has rising much faster than the Consumer Price Index. And what is the CLEW, you may ask? It is the Cost of Living Extremely Well, which measures such essential items as the price rise in Beluga caviar or a suite at the Four Seasons. Pity the poor rich. As the authors note, “In 2005, the CLEW Index rose 4%, while US CPI rose at 3.6%.” Well, no wonder the rich have to claim such a large share of the income “at the expense of labor.” What laboring man really needs Beluga caviar in his lunch box?

The Citibank analysts note that plutonomy explains many of the conundrums in the economy. For example, they note that the rising price of oil did not dampen demand, for the simple reason that the price means nothing to the rich. They can fill their Hummers and Porsches with what amounts to spare change, in effect outbidding everybody else, who must economize in hard times. The economy of the many should drive down usage, and therefore the price, but that simple market wisdom does not work in the face of great imbalances.

Another conundrum explained by this imbalance is the low savings rate. It is received wisdom that Americans are profligate, especially the poor and middle classes. They don’t save, which is precisely why they are poor, and because of their bad habits the nation has a net negative savings rate. The truth is otherwise, as the authors point out. The bottom 2 quintiles were actually saving at a respectable 7% rate in 2000. Meanwhile, the top 20% were actually dissaving (their word, not mine) at a rate of 2% of their considerable incomes. But since they so dominate income, their dis-savings consumed everybody else’s savings, leaving no net national savings.

The authors do note one threat to the hegemony of the rich:

[T]he rising wealth gap between the rich and poor will probably at some point lead to a political backlash. Whilst the rich are getting a greater share of the wealth, and the poor a lesser share, political enfranchisement remains as was – one person, one vote (in the plutonomies). At some point it is likely that labor will fight back against the rising profit share of the rich and there will be a political backlash against the rising wealth of the rich. This could be felt through higher taxation (on the rich or indirectly though higher corporate taxes/regulation) or through trying to protect indigenous laborers, in a push-back on globalization – either anti-immigration, or protectionism.

In other words, Joe the Plumber might get a brain and actually start voting against the policies which keep these people in power. But I doubt it. Most people subscribe to the “John Gault” myth that the rich are rich because they have earned their incomes by contributing to the productive powers of the economy. And some have. But by and large, the increasing share that the rich get is not due to productive power, but to political and economic power, and particularly the power to free themselves from any public obligations,through lower taxes, for example, or any public control, through de-regulation, especially of the finance industry. And here we get into arcane matters to which Joe the Plumber does not give much thought. At least, not now. And probably not until the situation becomes so bad that it can no longer be ignored. I think that day is now in sight.

Why? Because this situation has been building for 30 years, and has involved repeated crises, all of which have been covered by an increasing scale of government intervention in behalf of the rich. The authors of the memo venture no explanation of why the rich have been able to claim a larger share. For that, we need to turn to the analysis of Simon Johnson, former chief economist at the IMF. And Johnson finds a “doom cycle” built into the very structure of the financial system, ever since the Reagan Revolution. Johnson summarizes his analysis in this short film.

He finds that since Reagan, the banks and other financial institutions have an in-built incentive to take ever-greater risks, and to grow as large as possible. This is because the risk rewards are asymmetric. The bankers can make massive amounts of money by taking massive risks. But when the bets fail, they can get bailed out. Thus, there are great rewards for success, and no penalties for failure. The profits are privatized, the losses are socialized. How far are they socialized? The Congressional Budget Office estimates that the portion of the public debt attributable to bailouts amounts to 40% of GDP. And then there are the 8 million jobs lost. That’s a lot of socialization.

What deregulation has set up is a doom cycle. An increased incentive to take risks, resulting, initially, in out-sized profits, then in massive failures, creating a need for bailouts, which leave the same people in charge, and the game begins again. Already, the profits of the banks are rebounding to pre-crash levels, but not on the strength of their lending to productive businesses (which by and large they aren’t doing) but by the same risky ventures that got us here in the first place. We are already repeating the cycle.

The rewards from the finance sector far outstrip the profits from manufacturing and other non-financial sectors of the economy. But in a sane economy—in an economy that is not actually a plutonomy—this cannot happen. The purpose of finance is to assist productive activities, and the rewards cannot logical exceed those of the things they finance. Yet that is precisely what has happened.

Further, the grip of the financial sector over the economy continues to grow. In the 1990’s, the Big 6 financial institutions controlled assets equal to 20% of GDP; today their assets are 60% of GDP. “Too big to fail,” and getting bigger by the moment. This is in an industry which, as Simon notes, “involves massive abuse of consumers, where they speak openly about ‘ripping the face off their customers.’”

But plutonomies are not stable, and doom cycles end in doom for everybody involved. The task of Front Porch Republicans, I believe, is to save what can be saved, and build what must be built. Up to this moment, that task has been theoretical; soon it will be actual.

18 comments:

Mr. Piccolo,  Thursday, March 18, 2010 at 11:18:00 PM CDT  

Excellent post, Prof. Médaille.

I have found it difficult to make these kinds of arguments to people I know because in the United States, if you criticize the rich and even hint that not all of the wealthy became wealthy because of their own productivity, you are accused of engaging in class warfare or worse.

I once had a Randian relative of mine (who is living on Social Security, by the way, not that I think there is anything wrong with that) call me a Communist and worse because I made similar arguments. Ugh.

That being said, what is distressing is despite all the talk about the rise of angry populism, I really don't see it, at least not where I live. Perhaps we live too far apart in suburbs these days, or we are too individualistic, but it seems like there is no resurgent labor movement. I think the prevailing attitude is still “I'm All Right, Jack, after all you've got to look out for Number One.”

JimB Friday, March 19, 2010 at 8:58:00 AM CDT  

"Joe the Plumber might get a brain and actually start voting against the policies which keep these people in power."

By "these people" are you implying Republicans? If so, surely you can't be serious !

Grace Potts Friday, March 19, 2010 at 11:26:00 AM CDT  

I'm thinking "these people" are the Republicrats.

JimB Friday, March 19, 2010 at 2:01:00 PM CDT  

Well Joe "the Plumber" Wurzelbacher is an infamous Republican - just sayin.

Anthony,  Sunday, March 21, 2010 at 1:15:00 AM CDT  

A great post John.

It is interesting that given the utter dependence that China and the US have on each other (Chimerica), there is an irony that one is a plutonomy and the other is a command economy. Rather similar beasts really - all the economic activity controlled by a very narrow group of people.
Of course my own country, Australia, not only suffers from being a plutonomy wannabe but also is simply the quarry for China - and it seems most of the populace is happy to be relegated to such a role - which will be disastrous once China has burst its bubble.

Oh that we would have listened to leaders like Rex Connor who saw that Australia should use its own natural resources for value added production within Australia instead of flogging it all off to the oil giants or China as raw product.

Chris Campbell Monday, March 22, 2010 at 7:46:00 AM CDT  

"I have found it difficult to make these kinds of arguments to people I know because in the United States, if you criticize the rich and even hint that not all of the wealthy became wealthy because of their own productivity, you are accused of engaging in class warfare or worse."

Piccolo, true, the USA-shaped by the Protestant "either/or"ethos and the media, which promotes "either/or" ...thinks the same way, either you are for the free market or you area socialist....like the scam they always perpetuate were its Dems vs Repubs, as if there was really opposition there....the idea of a 3rd, 4th, 10th position, economic theory or political party is out the window, not even on the radar....

The Protestant thing often goes liek this-either you beleive in the Bible, or, you believe in the Pope.setting up a false division, whne the answer is BOTH. That thinking is wholly American.....so to, the media makes it look like tehre is really huge differences in Repubs or Dems, when in actual principle, there is little.right now, both think it is up to the Federal Govt to regulate and save health care, when it is not....so, neither beleive in subsidiarity...or a sound economy where people and groups locally can manage healthcare......they have destroyed the dollar and the economy in such a way that only Hudge and Gugde can work a healthcare system now, the same H&G that led us to ruin in the 1st place.......

Americans, inc the majority of Catholics, think that either you must have to be a "liberal Democrat" or a "conservative Republican", either a socialist or a free market capitalist.....very narrow thinking..

For 4 yrs, I was a state Chairman of the Constitution Party and am a Distributist, so to the majority, I am misunderstood a lot.....insisting on multiple Parties and other economic models...

Chris Campbell Monday, March 22, 2010 at 7:49:00 AM CDT  

JimB said...
Well Joe "the Plumber" Wurzelbacher is an infamous Republican - just sayin


Likely, always was and every 4 yrs, both parties send their operatives out to find "regular" people......as opposed to their normal circle of Bilderbergers and Ivy Leaguers......then use them as poster boys.....either Joe was a plant or, likely, the GOP quickly saw a symbol to use to show they were just like the rest of us....

JimB Monday, March 22, 2010 at 11:38:00 AM CDT  

It was the latter. Obama showed up on his street gripping & grinning and Joe walked up and asked his question about redistribution of wealth. It was totally innocent. The party got a hold of it and ran it into the ground (remember the debate where McCain invoked his name about 5 - 6 times). Odd thing is Joe ended up slamming McCain for it.

My point in raising this was the post implies that Republicans voting "these people" into office is the reason we have a runaway finance sector.

Reagan may have unlocked the gate with deregulation, but it was the "Committee to Save the World" (Greenspan, Summers & Rubin) that stampeded the herd.

http://www.pbs.org/wgbh/pages/frontline/warning/

Anonymous,  Monday, March 22, 2010 at 4:13:00 PM CDT  

I've followed the Review for a few months now and have, for the most part, like what I have read. I have this to say, however:

I have been under the impression that "free trade" is what Distributists cherished most. Capitalist corporations and Socialist bureacracies, on the other hand, use whatever resources they have to prevent free trade, even going so far as to call the new system "free trade," though it is not. A man should be allowed to buy and sell whatever goods and services he wants, and take risks of his own free will. If we had truly free trade, the People would be free as well.

Perhaps I misread the other comments on this page, but I just wanted to clarify that point.

(I am anonymous for want of an account, and I hope being so does not give offense.)

Donald Goodman Tuesday, March 23, 2010 at 8:31:00 AM CDT  

+AMDG

Anonymous, if you don't want to be anonymous, you don't have to be. Just sign your post; you don't need an account.

Distributists like free trade, but we only like *really* free trade. An illiterate coal miner in southwestern Virginia *cannot* engage in free trade with the coal companies, for example, even if his contract with them is totally uncoerced; he just doesn't have equal bargaining power.

That's why distributism promotes free individuals *with their own productive property*; that is, *economically* free individuals. This makes them free players, as they're not dependent upon others for their livelihoods, allowing a truly free market to exist.

Praise be to Christ the King!

Donald Goodman Tuesday, March 23, 2010 at 8:32:00 AM CDT  

+AMDG

In the above comment, I really should have said "free families" or "free actors" rather than "free individuals." Sorry.

JimB Tuesday, March 23, 2010 at 9:22:00 AM CDT  

Video of interview with Robert Johnson of the Roosevelt Institute.

Financial reform: Did Wall Street get off easy?

http://www.youtube.com/watch?v=nlgg8Ppitrc

What struck me most in this was the political gamesmanship being described. Any "reforms" have to fit into a "Republican / Democrat" template and put on a scale to weigh the effect of election outcomes.

My takeaway, Congress is a flock of geese. If we don't get a Sully Sullenberg piloting the plane - we're totally screwed. Brace for impact.

http://www.youtube.com/watch?v=jZPvVwvX_Nc

Abednego Tuesday, March 23, 2010 at 4:56:00 PM CDT  

To Mr. Goodman, that is what I hoped you meant. We're on the same page now.

Anonymous,  Tuesday, March 23, 2010 at 10:16:00 PM CDT  

Sorry- as a dyed in the wool Distiributist this author is NOT a clear example of True Catholic thought - too bad because we need a real Catholic bolg out there fighting for what is right. Try Storck! JS WIlson

Brien Tuesday, March 23, 2010 at 10:56:00 PM CDT  

Dear Mr. Wilson,

I fail to see what you mean when you accuse Mr. Médaille of failing to be an example of catholic thought in the economic realm. Distributism is an attempt by several prominent intellectuals, from Hilaire Belloc and G.K. Chesterton to the present, to create a social and economic order truly in line with Catholic social teaching. It would involve things like the principles of Solidarity and Subsidiarity, which are blatantly ignored in today's centralized "profit at all costs" capitalism.

I'd be curious to hear you elaborate upon just where a 'dyed-in-the-wool' Distributist conflicts with the teachings of the Church.

Yours in Christ,
Brien Hartung

Joe Hargrave Thursday, March 25, 2010 at 4:04:00 PM CDT  

"In other words, Joe the Plumber might get a brain and actually start voting against the policies which keep these people in power."

I have to say that I don't believe this attitude is helpful at ALL.

There are plenty of people for whom voting is a struggle of conscience - who vote Republican because the Democrats are pro-abortion, anti-family, anti-marriage, anti-school choice, and generally opposed to a whole array of important cultural and religious values. These are not insignificant considerations, and a person is not lacking a brain if these things mean something to him. In fact a person to whom these things mean absolutely nothing may be lacking a conscience.

That said, the Democrats are as much in bed with Wall Street as the Republicans, so it isn't clear HOW a person could vote to avoid this particular problem anyway.

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