It is 'common knowledge' that the consumer is 70% of the U.S. economy -- it's a figure that's used all the time in economic reporting.  Too bad it's utter nonsense.  The consumer may be 70% of the way we measure certain aspects of the economy, but it's a statistic that is so misleading as to be harmful.

As usual, I like to get back to basics, in order to cut through the bullshit that passes for economic analysis these days.  So, let's consider things from simple principles (warning: there will be some basic math):

The first important concept is how 'the economy' is measured.  Should one measure production, consumption, or some combination of the two?  On a global basis (and ignoring for the moment reinvestment and a few other items) all production is eventually consumed in some fashion.  Thus, we could claim that the consumer is 100% of the global economy. It would make a lot more sense, however, to say that consumption is 100% of production.

Now, let's add a few other important items.  It is impossible to be perfectly efficient in production, so there will always be some waste (food spoilage for example).  Also, on the basis of a group that is smaller than the entire world, one can consume more than one produces by taking on external debt.  The main catch with debt is the interest expense.  So, we're now at:  Consumption = Production + External Debt - Interest - Waste.

Finally, the primary way to grow an economy (on a per-capita basis, which is what matters) is through reinvestment of production.  It's also a good idea to save some of our production for unforeseen events and retirement.  This gets us to an equation that covers all the most important items:  Consumption = Production + External Debt - Interest - Waste - Investment - Savings.

Now ask yourself, "What is the actual goal of an economy?  What are we trying to maximize?"  The answer, of course, is wealth.  From the standpoint of our equation, wealth is measured by savings and investment.  The more you are able to save and invest, the wealthier you will be.  Increased consumption is a byproduct of a wealthy society, but not the cause of one.  Let's rearrange the terms of our equation to reflect this:  Savings + Investment = Production + External Debt - Interest - Consumption - Waste.

Now we have a useful way of looking at things, and can see the reason for the title of this post.  To put it bluntly, consumption decreases wealth, so we wish to minimize our consumption to the extent which is reasonable.  Measuring our economic health through our consumption is completely idiotic.  Economic measurements should focus on the term in that equation which increases our wealth, namely production.

One final (and important) note is that our equation indicates that debt increases wealth (to the extent that it's greater than current interest).  This is an unfortunate artifact of a 'snapshot' measurement of the economy.  The truth, of course, is that we are losing wealth through interest, while the debt will eventually need to be paid back, subtracting this amount from our wealth in a future 'snapshot'.  The effect of debt over time is therefore negative  (a net zero on principal and a loss on interest).  A more rigorous (and needlessly complex for this post) approach would indicate this, along with a better breakdown of 'savings and investment' (assets such as houses, for example), as well as a few other time-series type items (such as depreciation and earned interest).

Posted by: Hermit Dave at 01:59 PM | No Comments | Add Comment
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Productivity gains are always touted as a good thing, and they are to the extent that they free up labor for other productive endeavors.  However, as productivity increases to the point where very little labor is required to produce vast amounts, we run into the problem of 'useless population'.  This, in my opinion, is one of the main reasons we find ourselves in our current economic situation.  This is also a situation for which libertarianism has no good solution, which, even as a libertarian, I'm willing to acknowledge.

Let's take an extreme example:  Consider a population with one need/want -- food.  If we maximize productivity, we have robotic farms which can feed millions with a handful of human workers.  This sounds wonderful, except that most of those millions have no way to earn a living, as their labor is completely redundant.  So one of three things must happen: (1) Those people farm for themselves so that they can survive, (2) We accept a socialistic society so that the productivity of the farms is distributed evenly, or (3) We borrow so that the 'useless population' can purchase food in the hope that they'll eventually become productive.

In situation (1) above, we devolve back to a much less productive society, which seems to be a very silly thing to do.  In situation (2), most people are getting a free ride on the back of those that actually produce, which hardly seems fair.  Finally, in situation (3), we start off with the equivalent of situation (2) and end up with unsustainable debt (which eventually causes either huge inflation or a crash) such that we're right back to situation (1).

I think it's easy to see how this simple example applies to the much more complex economy of the real world.  We're currently in a nightmare hash of situations (2) and (3), and rapidly headed for situation (1).  Many don't realize how prevalent situation (3) is at this point, but if one looks at the percentage of GDP that is subsidized through government debt, it's a rather astonishing 12%.  This is a topic Denninger (rightly) keeps harping on and the referenced post is just the latest of his many diatribes on the subject.

Given our complex economy, it can be difficult to discern just how few people are actually productive, but it's probably far fewer than most realize.  Take tax accountancy for example.  From the standpoint of actual wealth, this is a completely useless and unproductive profession -- the financial equivalent of filling in holes that have been dug by the government.  The profession neither creates nor preserves wealth, and is effectively part of a socialistic society -- just one in which make-work jobs replace completely free handouts.

At the moment, the governments of the world are trying to cover up the issue of 'useless population' by papering over the problem with a needless increase in economic complexity (health care legislation, etc.), borrowing, and outright printing of currency.  The former is obviously socialism, while the latter is unsustainable.  Either we're going to have to accept socialism, allow the expansion of debt/currency until we have hyperinflation or a crash, or we're going to have to find a better solution.

Clearly, I'm in the camp of find a better solution, but it's far from obvious what this solution should be.  For today, however, this post is long enough.  The reader (all zero of you) will hopefully think about the issue -- in the near future, I'll post about some of our options and the direction in which I think we should head.

Posted by: Hermit Dave at 10:33 AM | No Comments | Add Comment
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