Let’s start winding up the analysis Steve Roth’s handy compilation of leftist bromides, non-sequiturs, self-congratulations, and just plain ol’ errors, “Why Welfare and Redistribution Saves Capitalism from Itself.”[i] The issue this series is addressing is: Did Roth explain why welfare and redistribution saves capitalism from itself? (Discussions of other instructive aspects of the article can be found in PART I, PART II, PART III, PART IV, PART V, and PART VI.)
As discussed in the previous parts of this series, the first third or so of Roth’s article did not attempt to explain “Why Welfare and Redistribution Saves Capitalism from Itself.” The attempt to do that began in the ninth paragraph of his article with:
“Then add an Econ 101 notion that is pretty much universally accepted, because it’s strongly supported by theory, empirics, and just plain sensible intuition: decreasing marginal propensity to spend. A poorer person is more likely to spend an extra dollar (in wealth or income) than a richer person. Because: the “utility” (or just benefit) purchased by that extra dollar is so much higher for the poorer person. The fourth ice cream cone, iPhone, or Lamborghini just isn’t as enjoyable as the first. So greater concentration into a few hands means less spending — in economic terms, lower “velocity,” or turnover, of wealth.”
Roth’s claim that an extra dollar is more valuable to a poor person than to a rich person is correct.[ii] It is also very likely true that if a massive amount of dollars were given to poor people, they would spend it more quickly than the money would be spent if it stayed in the pockets of the rich from whom it was taken. This is largely due to the fact that wealthier people tend to save/invest more of their income than poor people do. From these two factoids, Roth asserts a conclusion: “So greater concentration into a few hands means less spending — in economic terms, lower “velocity,” or turnover, of wealth.”
Eureka? What is “velocity of wealth?” And who ever said it was a good thing?
Starting a paragraph referring to Econ 101 and ending it with “in economic terms, lower ‘velocity,’ or turnover, of wealth” [emphasis added] is playing fast and loose with the facts. I Googled “velocity of wealth” and got only three pages of results—none of which were links to academic papers and one of which was another article by Roth. It is certainly not a topic addressed in Econ 101. “Velocity of money”[iii] (and money is not wealth[iv]) is a common term used in economics. (If you Google “velocity of money,” you could spend years reading the academic papers and articles on that subject.) Velocity of money is important and might be mentioned in Econ 101, but it is typically discussed in more advanced courses on money supply and monetary policy. By citing Econ 101 and “velocity of wealth” in the same paragraph, Roth appears to be trying to lend a patina of sophistication to an unsubstantiated and perhaps made up concept. His appeal to “sensible intuition” is comical. A main purpose of economics is to dispel people of the foolish intuitions held by those who have neither an education in economics nor an “Economic Way of Thinking,” but believe their intuitions to be sensible.
To the extent that the velocity of money reflects a high level of trading (the realization of the wealth each party has created), a higher velocity of money is good. Do not be fooled, however, into believing that this fact means that a higher “velocity of wealth” going from the rich to the poor via force is a reflection of an economy working well. The fact that such velocity might effectively alleviate hardships might be good for the economies of the recipients or the souls of those who favor it proves nothing about its economic effectiveness overall—and Roth is attempting an economic argument.
In general, compared to voluntary wealth transfers, forcibly moving wealth from the rich to the poor tends to 1) enable the poor to consume more than they otherwise would—in the short run, 2) enable producers to sell more of their goods and services—presumably making more profit—in the short run, 3) reduce the incentives to produce wealth—so long as it persists, and 4) lessen the amount of research, discoveries, innovation, development, and production of new and better things. (Innovation delayed is innovation denied to those who die before the innovation is made.) Roth attempts to focus the reader on the short-run effects of wealth transfers and ignores both the current damage to the poor caused thereby and the long-term negative effects of wealth transfers on everyone—especially the long-term damage that wealth transfers do to the psyches and standard of living of the poor in the long run.[v]
There is much that is positive to be said for money moving from the rich to the poor, especially when done voluntarily (or by the inadvertent and unavoidable free flow of gushes of wealth from innovators and wealthy people to the poor[vi]—which some people call “trickle down”[vii]). (The poor in America have gone from being approximately equal to the poor everywhere in the world as of America’s founding to being in the top 1% or 2% of the wealthiest humans who have ever lived, and extremely little of that progress is attributable to anything done by the poor.) Good cases for taking from the rich and giving to the poor can be made based on caring and empathy. Note that Roth’s paragraph quoted above is not making that case. He is trying to make an economic case for taking from the rich and giving to the poor. Let’s sort out whether that paragraph gets the job done.
After the Econ 101 fiasco, Roth launches into a series of paragraphs that try to string together syllogisms to reach the conclusion that taking money from rich people and giving it to poor people is good for the economy. Roth’s theory is something like this: 1) Producers need people to spend money to buy their products, and 2) rich people do not spend as high a percentage of their cash on hand as poor people; therefore, taking from non-spenders and giving it to spenders prevents capitalist economies from “strangling” themselves due to people being insufficiently willing or able to buy enough. If such were the case, then one would have to conclude that the more massive the forced redistribution, the better off a country would be. (Roth neither suggests there is any limit of “massive distribution” beyond which things would get worse, nor that there even is such a limit.)
The argument has a strong Keynesian odor, but Roth seems not to realize that John Maynard Keynes[viii] prescribed government spending only in certain very specific circumstances that occur only occasionally. In simple terms, he theorized the existence of a vicious cycle in which: 1) “animal spirits”[ix] occasionally cause too many people to lose confidence in the economy, 2) when there is too little confidence, people slow their rates of spending, 3) when rates of spending slow, people lose their jobs, and 4) confidence in the economy lessens when many people are losing their jobs. Repeat. For the most part, however, Keynes was not talking about Roth’s “massive welfare redistribution”—which would take place all of the time and in ever-increasing amounts. On the contrary, Keynes theorized that government could break the vicious cycle by “priming the pump” of job creation with government-made work projects. The idea was to increase confidence in the economy by putting people back to work so as to change the spirits of the animals. People could get money from the rich transferred to them, but they had to work for it.[x] People getting money to enable them to stay at home and consume was no part of the theory. Keynesian theories do not support Roth’s claim that “massive redistribution” to people who produce insignificant wealth or none at all even works, much less that it “saves capitalism from itself.” (Keynes would surely reject Roth’s claim.)
Did some other giant among economists come up with a different theory to support the idea that “massive redistribution” equals “economic prosperity?” Not that I am aware of. (I’d be happy for someone to identify such a giant.) Roth may have come up with this idea on his own with a little “help” from the “Modern Monetary Theorists.”
Is there a good reason to believe that this perpetual motion theory would work? First, note that very little money in the U.S. economy is currency under mattresses. Rich people tend to invest what they do not spend, and how much they spend is influenced greatly by their anticipation of future income from such investments. Those investments fund the businesses that are creating the country’s jobs and wealth. (The people with those jobs are earning money to spend and are paying taxes that keep the government activities, including redistribution, funded.) And, of course, the rich spend a lot of money—i.e., they are the source of much of the spending (“saving”) Roth says is so essential for capitalism not to strangle itself. Taking money from the rich will, therefore, result in 1) either less spending by the rich, less investment by the rich, or both, 2) fewer jobs (less spending) than would otherwise be the case due to a lower level of investment in the country’s businesses, and 3) spreading the money available to be redistributed over more people (because there are fewer jobs/more people out of work when investments in businesses are sold off to pay taxes for redistribution). (It also slows the invention of new tools that enable people to be more productive—i.e., valuable—and get paid more.)
For a perpetual motion machine to have a chance of working, it must produce more energy than it consumes. Roth offers nothing to support the idea that the wealth created by moving money from the rich who value it less to the poor who value it more comes close to offsetting the clearly identifiable losses to the economy such transfers would cause. The Modern Monetary Theorists theorize that governments can spend as much as they want without causing any problems. Not even a formerly great economist turned fashionable pundit who is a lionized leftist, Paul Krugman, believes this nonsense.[xi]
Roth then makes a claim that appears to be supported by nothing more than his keystrokes:
“Absent the redistribution and government programs that rich countries provide, market capitalism strangles itself, through concentration, with insufficient demand to drive — to “incentivize” — its own masterful engine of production. Absent those programs, countries never make it into the the [sic] rich-country club.”
How can this be squared with the fact that the American and European economies boomed throughout the Industrial Revolution of the 19th century—a period during which there was no massive redistribution by national governments? Somehow, “the masterful engine of production” roared on (the opposite of “strangling itself”) without government “incentivized” demand. The incentive to buy was enough to create vast amounts of innovation, production, and wealth, while the standards of living grew more rapidly than ever before. In short, “The Industrial Revolution marked a major turning point in history. During this period, the average income and population began to exhibit unprecedented, sustained growth.” Standards of living of the poor rose also in this period. A case can be made that it is no coincidence that upper class people in Great Britain and elsewhere, having discovered that, with free market economies, the upper classes could prosper economically without maintaining the institution slavery, started the long process of making slavery illegal almost everywhere.
Roth then tries to prop up his so far fanciful claims by resorting to the history of the Great Depression. The weakness of that attempted support of his claim will be discussed in the next post.
[ii] I made the same point in “Income Inequality — the Gap Is Not as Large as You May Think.”
[iii] “The velocity of money is the rate at which money is exchanged from one transaction to another and how much a unit of currency is used in a given period of time.”
[vi] “The economist William Nordhaus has calculated that the inventors and entrepreneurs nowadays earn in profit only 2 percent of the social value of their inventions. If you are Sam Walton the 2 percent gives you personally a great deal of money from introducing bar codes into stocking of supermarket shelves. But 98 percent at the cost of 2 percent is nonetheless a pretty good deal for the rest of us.” “How Piketty Misses the Point” by Deirdre N. McCloskey
[viii] John Maynard Keynes came up with the theories upon which FDR relied as he extended Hoover’s policies that turned the crash of 1929 into the Great Depression. (Some people do claim that because Keynes was not an advisor to FDR, FDR “was not heavily influenced by Keynes.” Nevertheless, Keynes was the key figure lending economic credence to the economic policies that FDR employed. Keynes gave FDR plausible theories with which to combat the barrage of highly credible opposition to his policies from Friedrich Hayek and others.
[x] Keynes: “The government should pay people to dig holes in the ground and then fill them up.” People would reply, “That’s stupid, why not pay people to build roads and schools.” Keynes would respond saying “Fine, pay them to build schools. The point is it doesn’t matter what they do as long as the government is creating jobs” [emphasis added]