Debunking Economic Myths #OWS
Yesterday in Alt Banking we were honored to have Suresh Naidu visit us to talk about and debunk economic myths.
The first myth, and the one we spent the most time on, is the idea that people “deserve” the money they earn because it is an accurate measure of their “added value” to society.
There are two parts of this, or actually at least two parts.
First, there’s the idea that you can even dissect the meaning of one person’s value. And if you can, it’s likely a question of a marginal value: what does our society look like without Steve Jobs, and then with him, and what’s the difference between the two worlds? As soon as you say it, you realize that such a thought experiment is complicated, considering the extent to which Steve Jobs’ journey intersected with other people’s like Steve Wozniak and a huge crowd of Chinese workers.
If you think about it some more, you might conclude that the marginal value of a single person is impossible to actually measure, at least with any precision, and not just because of the counterfactual problem, i.e. the problem that we only have one universe and can’t run two parallel universes at the same time. It’s really because any one person succeeds or fails, or more generally contributes, within a context of an entire culture. Even Mozart wrote his symphonies within a cultural context. In another context he would have been a kid who hums to himself a lot.
Second, there’s the assumption that people who earn a lot of money are actually adding value at all. This isn’t clear, and you don’t need to refer to formally criminal acts to make that case (although of course there are plenty of rich people who have committed criminal acts).
In many examples of super rich people, they got that way through not paying for negative externalities like polluting the environment, or because they had control of the legal mechanisms to reap profits off of other peoples’ work. Not technically illegal, then, but also not exactly a fair measure of their added value.
Or, of course, if they worked in finance, they might have made money by keeping stuff incredibly complicated and opaque while providing liquidity to the credit markets. It’s not clear that such work has added any value to society, or if it has, whether it’s balanced the good with the bad.
Some observations about this myth that were brought up include:
- There’s a deep belief in “the markets” at work here which is rather cyclical. The market values you more than other people which is why you’re paid so well for whatever it is you do. Other people who have less to offer the market are get paid less. Anyone who doesn’t have a job doesn’t deserve a job since the market isn’t offering them a job, which must mean they are adding no value.
- There are exceptions where people add obvious value – caretakers of our children for example – but aren’t paid well. This is because of a different mechanism called supply and demand. For whatever reason supply and demand isn’t at work at high ends of the market.
- Or maybe it is and there’s really only one possible person who could do what Steve Jobs did. Personally I don’t buy it. And I chose Steve Jobs because so many people love that guy, but really he’s one of the best examples of someone who might have had a unique talent. Most rich people are generically good at their job and not all that unique.
- It’s mostly the people that benefit from the market system that believe in it. That kind of reminds me of the marshmallow study, or rather one of the many re-interpretations of the marshmallow study. See the latest one here.
- It’s patently difficult to believe in the market system if you consider a lack of equality of opportunity in this country due to extreme differences in school systems and the like. I’m about to start reading this book which explains this issue in depth.
- For other evidence, look at Pimco’s Bill Gross’s recent confessions about being born at the right time with easy access to credit.
- The unequal access of opportunities in this country is becoming increasingly entrenched, and as it does so the myth of the market giving us what we deserve is becoming increasingly difficult to swallow.
mathbabe 
As far as the idea that someone’s market value = marginal product, I wrote a short article on this topic a few years ago. The classic theorem which says those will be equal, the Core Equivalence theorem:
a) requires the assumption of many interchangeable workers
b) has as an additional consequence that all of these “duplicates” make the same amount
which is a big problem in applying it to the upper tail in the real world, I think.
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Great, thanks!
Why do you think it’s so hard to be thought of as interchangeable in the upper tail? Is it because connections are so important, and they are unique to individuals?
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Yes, exactly; even if the necessary endowments of talent are duplicated many times, the right set of connections is unique. Not just talking about connections as in back-scratching, but also the necessary knowledge of the firm…this gives the CEO a form of monopoly power over the ability to run the firm. One could say that few are born irreplaceable, but many achieve irreplacability or have it thrust upon them.
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WRT CEO irreplaceability: it is really an apparent irreplaceability, because it is the board’s perception of how irreplaceable the CEO is that counts. Note that the average lifespan is not that great – in my country, Australia, I understand the mean to be around 3 -5 years. So CEOs are actually replaced all the time, and it has been pointed out that within their lifetime at the top, a very significant fraction of CEOs do not have time to learn their firm’s business to any useful extent.
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Yes! “apparent” because that is what super-stars create for themselves! Only idealized super-individualism can attribute so much to one person, even to Steven Jobs. It is the “Law of Small” numbers, read, not as social topology, but as a causal argument, which it is not (i.e., the attention space can only accommodate a very small number of super-stars).
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Why is it so hard? Social network topology.
Like in these diagrams of “innovation” and creativity.
http://www.globoforce.com/gfblog/2012/cultivating-genius-social-networks-and-talent-clusters/
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“It’s mostly the people that benefit from the market system that believe in it. That kind of reminds me of the marshmallow study, or rather one of the many re-interpretations of the marshmallow study.”
This is patently false.
Meaning that you are missing the point.
Most people generally “believe” in whatever the zeitgeist is at the moment, however humans have a significant multi-year generational lag where one paradigm is replaced by another one because of the way people form their worldviews in the aggregate.
The rise of the “market system” ran from the recession in the early 1980’s through the crash in 2008.
The next zeitgeist is not going to be “the market system.”
The last time this happened, with the end of “the market system” in the early 1930’s, there was the entire issue of Communism driving the passions of the working class, so to speak. We got the New Deal.
There isn’t anything out there right now, except whatever it is that Elizabeth Warren wants to do. I suppose it goes along with what Jesse (of the Cafe Americain) keeps saying…”The banks must be restrained, and the financial system reformed, and the economy brought back into balance, before there can be any sustained recovery.”
There isn’t a New Deal in the wings, even though we are reliving a mild version of the Great Depression.
I need to find Mike Alexander’s Old political cycle zeitgeist chart.
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Ummm… you must be talking to different people than I am. There are still plenty of people who believe in the market.
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What does “believe in the market” actually mean? There are two reasonable interpretations:
1. Well-functioning markets are generally a good distributed allocation mechanism, and can achieve an allocation similar to what an omniscient social planner would achieve. Moreover, creating a functioning market where there previously was not one is tends to improve welfare (see, e.g. the market for SO2).
2. Just because something is a market, it is a well-functioning
1. is highly defendable. 2 is trivially false.
The labor markets is not a good example of a well-functioning market – it is rife with path dependence, network externalities, asymmetric information, imperfect mobility, insider problems, principal-agent problems and a host of other important deviations from what is needed for a well-functioning market.
This said, the best path is to make the market better, or to paraphrase Churchill, you will be hard pressed to design a non-market(-like) solution that will achieve a better allocation.
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A good example of this, I think, is how wealth inequality was a pressing issue in 1830s in US, prompting unions, socialists, etc., as well as evangelical capitalism (i.e., Second Awakening revivals), with its moral imperatives at the forefront. Using David Ricardo’s wage analysis, the socialists and Marx, argued (as some do here) that workers should get all their value in wages. So, even this argument goes back to the advent of the Industrial Revolution, and the socio-political movements, including utopian communes, that sprung up in it’s wake.
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Wait a second. That’s not a myth, it’s a societal agreement: we agree to reward people (like Steve Jobs) who succeed in organizing people so as to make the group (like Apple employees) productive. The reward is commensurate with how much value the group ends up creating. It’s a hard and risky endeavor, and most people fail at it (i.e. lose money and don’t end up with groups that create much value). So if activity such as Steve Jobs’ were not appropriately rewarded, there would be less of it, and society would be poorer.
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That’s very strange, because if you go out and ask people like Steve Jobs what motivates them, they rarely respond with the statement that money is the motivation. Either they are not self-aware, or they are lying, or you are wrong (or some combination of the above).
There are also historical examples, like the example of Mozart which Cathy mentioned, where monetary reward does not coincide well with societal value. I think in principle any value-of-money adherent would necessarily have to be a strong advocate for rebalancing the risk/reward ratio in the arts, since the present system is clearly failing to produce value (we haven’t had many Mozarts lately). However, I see very few die-hard capitalists clamoring for more arts funding. It’s not OK to insist on proper risk/reward ratios for some areas of society and not others.
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In your comment, substitute “John Gotti” for “Steve Jobs”. Does it still make sense?
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Cathy, Thanks for this. Some points:
1) You leave out the issue of whether there is a cost associated with inequalities of wealth and income (e.g., do they exacerbate the business cycle? Is inequality socially unhealthy?)
2) The societal agreement is about private ownership of capital and people defend that vigorously without reference to its efficiency and probably would even if were to be found inefficient. The largest number of millionaires inherited their wealth. Tech or manfacturing entrepreneurs, a la Henry Ford, is third on the list. Second is real estate speculators. People who own companies that do business with the Federal government is 4th, and so on.
3) While you can incentivize effort for tedious work, incentivizing for creative innovation may
actually be counter-productive, there is supposed to be a large literature on this.
4) How about the massive amounts of resources used to game the markets legally, marketing, advertising, etc. (Fageddabot the illegal stuff). The markets are the mechanisms which allegedly drive efficiency through price competition and accurate pricing. Apparently if they do that (i.e. all the money spent on advertising is a wash) there is a premium we have to pay to make markets work, assuming they do.
5) Josh Mason, something of a heterdox economist, makes a very salient point. Mainstream economics mostly ignores the issue of technological change even though it is regarded to be a primary source of economic growth. Basically, there is no effort to compare the magnitude of gains from market allocative efficiency (including the pricing of “talent”) to gains from technical improvements, and it is not an unreasonable assumption that tech gains are much more important. And given the the infrastructure for tech development is substantially a public good, the whole argument that markets (and especially capital markets) substantially contribute the wealth of society begins to look a little shaky.
He may have actually made the point in relation to macro-levels of demand but it still holds (i.e. could higher levels of government spending actually speed up tech growth – imagine a world where government funded something called the internet – if so all the arguments about the economic downsides of public debt are simply hot air).
Personally, while I think there’s a place for markets, the idea that large inequalities of wealth and income are needed to spur tech and innovation are dubious and sometimes just silly.
Btw, Jobs talent largely seem to have been as a marketer and using design as a marketing tool, i.e. to get people to pay more for tech than its worth. Something of an asshole too, I hear.
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Isn’t this a straw man argument? In 20 years in finance I don’t think I’ve ever heard anyone justify their compensation in terms of ‘deserving’ it, except in an internal context (telling whoever influences the bonus pool division).
Introducing a moral dimension to this seems fraught with problems. Did the Instagram team deserve a billion dollars for a couple of hundred days of work? What about athletes in the better paying professional leagues? Fashion models? Lottery winners?
So, some people get paid more than others. The link between what they’ve done and what they’re paid is faint. Whether that’s a problem and if so, what could possibly be done about it, is even fainter.
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Wide disparities in pay and a lack of a connection between compensation and value generated are clear evidence of a problem.
To put it another way – would you still consider it a “straw man” if the government proposed expropriating 90% of your undeserved pay and assets?
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The ‘straw man’ point is that I haven’t come across many people who think that they ‘deserve’ their money in any moral sense; they deserve their compensation because they’ve played a specific game according to the rules that have been set out in advance, and the pay-off for doing so is their income.
Your question about expropriation highlights exactly the problems that I see in applying a moral standard (“deserve”) to compensation. Who decides who deserves what? Do let me know the calculus involved in deciding pay for models, athletes, Instagram founders and so on at the same time that you’ve decided what financiers ‘deserve’.
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“The ‘straw man’ point is that I haven’t come across many people who think that they ‘deserve’ their money in any moral sense; they deserve their compensation because they’ve played a specific game according to the rules that have been set out in advance”
And that is almost **precisely** their “moral sense”. The moral questions that you want to exclude from consideration include whether the game is worth playing in the first place, and how far from the playing field damage might occur. Usually, to anybody not wrapped up in the game (i.e., most people), **those** are the really important matters.
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The moral dimension has been around for as long as the rich and the poor. The “deserving” it argument is in Ricardo/Marx. Yes, what can be done about it is a huge problem — which is why you get Socialist unions, Marxian Revolutions and Utopian communes, and religious revivals — all at about the same time.
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It’s hard to beat being born a time that places out of military service during war time and coming of age at the point of growing prosperity. And I should add, not being apprehended in your youth while doing the stupid stuff that kids do. Luck is indistinguishable from planning when viewed from a distance.
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Try this: Wall Street isn’t worth it.
http://jacobinmag.com/2013/11/wall-street-isnt-worth-it/
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If Leona Helmsly leaves her fortune to her cousin, does the cousin earn/deserve the money generated by the inheritance?
If she leaves it to her dog, does the dog earn that money?
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If an oil company CEO ‘earns’ a significant cut of the profits of the entire enterprise, why doesn’t a refinery manager get a similar cut of the profits generated by that refinery?
Does the fact that the refinery manager isn’t paid as generously show that his actual earnings have been stolen by his management chain?
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