Thread by @CultRoam

Last two days, we went through the context of this opportunity to explore #BuildingaBetterEconomy and the current state of the world. Today we are going to do a #causaanalysis of this state. #Chapter3

Capital Accumulation is a function of the below parameters
- A systematic risk and skewed incentives in the system.
- A gaping problem with modern econ theories and modern financial systems.
- Centralization of data/information with powerful tools to exploit them.

1. Between March 18, 2020, and April 12, 2021, the collective wealth of American billionaires leaped by $1.62 trillion, or 55%, from $2.95 trillion to $4.56 trillion. The reference here: docs.google.com/spreadsheets/d…

The ethical issues of the economic crisis are related to a relatively new form of capitalism, high-leverage finance capitalism as documented and analyzed by Richard Nielsen for 2007-2009 economic crisis. 4 types have been considered - cambridge.org/core/journals/…

1) hedge funds
2) private equity leveraged buyouts
3) subprime mortgage banking
4) high-leverage banking

Structurally related problems with the 4 types of high-leverage finance capitalism converged in a perfect storm of economic conditions. Leverage ratios of many financial institutions from 1980 to 2008 rose from traditional levels of 1:10-to-15 to over 1:30 & even 1:50

i.e., in traditional banking and finance, a 1:10 ratio meant that for every $1 of secure, invested capital, a bank would borrow and lend $10. With a leverage ratio of 1:30 or 1:50, for every $1 of secure, invested capital, financial institutions would borrow and lend $30 or $50.

This exponentially increased both the potential for up-side gains and down-side losses. E.g., with a leverage ratio of 1:30, a 10% positive return would represent a $3 return on the $1 of capital before expenses, such as interest charges.

Over-leveraging of trading and investments by financial institutions and, too much subprime consumer and subprime corporate debt are key causes of the 2008 worldwide economic crisis.

With that, let us dive into the first reason: A systemic risk and skewed incentives in the system. We will look into the modern central banking system and fiat currency, the bizarre rules of lending, cycles of boom and bust and the drivers for these cycles

Most of us fathom that money comes from the government, but of course, with any country following the US Federal Reserve System ( which is most counties ), it does not. The story of modern central banking is as riveting as it is terrifying. Watch this.

In 1694, after suffering through 50 years of war, English government needed loans to fund their political means. Scottish banker, William Paterson proposed that a privately owned bank that could issue the money to government out of thin air was to be the solution.

This was the first modern central banking system in the world. Fast forward this to the 20th century and in December of 1910, senator Nelson Aldrich ordered a private train car in New York with six others.

After a meeting, that lasted 9 days, the federal reserve system was created. The bankers told the American public that the purpose of the system was to stabilize the economy and to stop the grip of the Wall Street banks over America.

The problem was the guys that wrote the bill were the very same people they said they would stop. If they succeeded, it would give a small group of men the ability to create money from nothing and loan it to the American government with interest.

To cover and quell the suspicion of Congress, they got two millionaires to carry the bill and had bankers protest publicly in the newspaper against the bill which was renamed to Federal Reserve Act. The public then ended up unknowingly supporting the Trojan horse.

The bill was passed on December 23 1913, while most of Congress was out on holiday, and with that, a small group had complete monopoly over the issuing and creation of “American money.”

Post WWII, the Bretton Woods System was created. All US dollars were backed by and exchangeable for gold. Unfortunately, in 1971, due to a falling US dollar, international capital flows into gold and the funding of Vietnam War, President Nixon took the US dollar off gold standard

Think about it, the US dollar is backed by nothing. And money backed by nothing is known as fiat currency. Fiat in Latin means let it be done. So in essence, a check is written and money is created on an account that does not have any funds.

The money Federal Reserve creates can be used as legal tender to buy things and eventually makes its way into the real economy. If you and I did that we would go to jail for fraud, but they can do it because they invented the system. This is the same system used around the Globe.

Another part of this money-creation happens at the commercial bank side. Each time the bank makes a loan, the bank doesn't use other people's deposit and money and give it to you, it creates new money.

Another crazy thing that commercial banks can do is lend out 10 times more money than they actually have in reserves. This is called Fractional Reserve Lending. So who wrote this ridiculous system into law? For the US, it was part of the Federal Reserve System drafted in 1913.

When more loans are given, more money is created and rest in circulation, they loose their value. This is inflation. It's not a bad thing, as long as our wages grow with it.

This loan is written down as an asset in the bank as a negative form, kind of like a negative value of money or debt. Under the system, debt is money. So in effect, our economy now relies on debt instead of gold as its backbone. The debt-based monetary system.

This requires the debt to always grow. People must become deeper in debt so there's more money in system. Cos, that is money. If people and the govt stop borrowing money and pay back loans, the debt doesn't grow, money supply shrinks, & the system falters. Isn't this just nuts?

Federal Reserve & other central banks control money by adjusting its supply and how much it costs to borrow money otherwise known as the interest rate. With these tools, & as a consequence of human group psychology, central banks can create booms and busts in the economy at will

Principles by @RayDalio is a great resource to understand the rant:

The drivers of these cycles of booms and busts are not well managed and have “unintended” consequences. Eg: when the federal reserve dropped interest rates to 1%, bankers decided to “lever” up and borrowed for themselves, used the credit for further lending,

holding down interests rate and forcing people to make decisions that they otherwise would not make. What do you believe happens when you encourage more and more people to buy houses they cannot afford ?

This was a systemic incentive issue because houses were appreciating at 15%. But why was it this bad in 2008 ? Perhaps you can think about it. But the learning from 2008 is that people have, the conventional wisdom, that banks lose control is incomplete or even wrong.

Maybe it was the government that lost control and it had both foreseeable and unintended consequence. annualreviews.org/doi/10.1146/an… This article examines the history and application of the SRISK, to monitor systemic risk around the globe.

"The GFC was 10 years ago. Since then, we have seen the European sovereign & Asian debt crisis. A key similarity is the role of financial assets that are taken to be risk less by regulators and risk managers and become widely held. When they become risky, a crisis threatens."

The second reason: The gaping problem with modern economic theories and modern financial systems. To begin with, let us breeze past the history of value creation and capture

What are modes of value creation? Finance? innovation? Creativity? How do we differentiate between value creation and value extraction; productive and unproductive activities?

Economists like @MazzucatoM are looking to arrive at a theory of value that will help resolve some dilemmas. But it was first described by French economist François Quesnay in 1758, which laid the foundation of the Physiocratic school of economics

"Quesnay believed that trade and industry were not sources of wealth, and instead in his 1758 manuscript Tableau économique (Economic Table) argued that agricultural surpluses, by flowing through the economy in the form of rent, wages, & purchases were the real economic movers.”

This model is deemed as probably the first spreadsheet and system model for en economy. They tried to simulate permutation of various scenarios only because they cared about the “source” of value.

This was followed by the industrial revolution and classical economics. Adam Smith, Jean-Baptiste Say, David Ricardo, Karl Marx etc devised this system at a time of growing industrialization. In the process of chasing down "value" themselves, they pinned it to "industrial labor"

In classical economics, value usually refers to the value of exchange which is separate from the price, which William Petty classified into market price and natural price.

Market price is momentary with transient influences, while natural price captures systemic and persistent forces operating at a point in time.

In classical theory, prices is seen to be determined from three givens:
1) The level of output
2) Technology
3) Wages.

From these givens, one can rigorously determine a theory of value.

20th century, we had the Keynes & neoclassical economics. The value of a good or service is determined through the interactions between the SUBJECTIVE measure of
1) maximization of leisure by workers
2) maximization of profits by firms
3) maximization of utility by individuals

This approach has often been justified by appealing to rational choice theory, which has been under considerable scrutiny lately. People buy antique cars over a more useful newer models. A single mother raising three kids will find an extra job instead of maximizing her leisure.

21st century-behavioral economics. It studies the psychological, cognitive, emotional, cultural and social factors on the decisions of individuals and how they vary from that implied by classical economics. It is concerned with the bounds of the rationality of the economic agents

It includes how market decisions are made and the mechanisms that drive public choice. We definitely need to study this model closely given our eventual aim and problem.

The foundational issue is what neoclassical theories have led our economies to and the second, equilibrium price or prices REVEAL value instead of starting with OBJECTIVE measure.

This matters as it affects how we measure GROWTH and how we steer economies to produce more of some activities, less of others and how we also remunerate some activities more than others.

A great source to understand the problems with neoclassical economics and price discovering the value. noahpinion.substack.com/p/is-economics…

It describes essentially 3 problems.

First, shaky foundation of a subjective system that currently runs the world. Consider this, until the 70s the financial sector was not directly included in the GDP. The fee that you were charged for mortgage was added to GDP and national income and product accounting,

but net interest payments were not. Unfortunately, a path of mere convenience was chosen where these net interest payments were named as Risk-taking activities etc & included. What happened & what we know today, is "finance financing finance" which started

Second, increasing sterilization of real value source by inappropriate funding. There is no intention to vilify the financial sector, but creating the conditions for liquid investments should never be confused with creating actual output. @elonmusk

It should be viewed as the lubrication system that allows the economic engine to function more efficiently, but any gains in that sector in GDP is to double count the actual output created by the investment it facilitated.

In the real world too the emphasis has been on the prices, and/or share prices which have created a huge problem of reinvestment. Mechanization, for example, has always been a risk, but throughout history we have been able to retain and re-educate people in new, more creative

and more “humane” directions through reinvestment. . But look what's happening now.

The figures below are from 466 of the S&P 500 in the 10 years from 2008 - 2017.

Third, Indiscriminate pricing of products & services justified by fake morality. In the pharmaceutical industry, for eg. how prices are set, it's quite interesting how it doesn't look at these objective conditions of the collective way in which value is created in the economy

So when recently the price of an antibiotic went up by 400%, overnight, and the CEO was asked - "How can you do this? People actually need that antibiotic, that's unfair?" He said, - Well, we have a moral imperative to allow prices to go what the market will bear,

completely dismissing the fact that in the US, for example, the National Institutes of Health spend over 30 billion a year on the medical research that actually leads to these drugs.

Our failure to understand and under-invest in optimizing value capture is a huge problem for us. We often assume that if value is created, rewards will follow. So much is lost in this oversight. hbr.org/2014/10/captur…

The 3rd reason: Centralization of data/information with powerful tools to exploit them. The FTC recently accused @Meta of breaking antitrust law by gobbling up many smaller social media startups and acquiring several large, competitors, towards a social media monopoly.

At the heart of the Facebook antitrust lawsuit are the company’s two biggest acquisitions: Instagram and Whatsapp. Not only did these deals increase FB's size and hold over the social media space, but they also enabled the sharing of data among the largest social media platforms

These two giant acquisitions consolidated Facebook’s direct control over a vast portion of the social media landscape. While the Facebook, Instagram and WhatsApp platforms appear to be separate social media sites to end-users, in the background FB has established ever-closer

data integration between the three platforms. And Facebook has been anything but transparent about how it is making use of the ocean of user data it gathers across the three platforms.

Next, @amazon. "The latest inquiries build on other investigations into Amazon’s business practices, signalling that the company may have grown too powerful to escape regulatory oversight. How did Amazon get here? By doing the same thing retailers have done for decades —

with a big technology boost. Amazon has been developing its own private label products for years, most visibly under the AmazonBasics name, and marketing them alongside products from third-party sellers. It’s the same tactic deployed by big box stores and the reason you’ll see

Kroger-branded tissue sold for $1 less than the Kleenex brand on the shelf next to it. The difference is the powerful technology that allows Amazon to supercharge insights about shoppers and sellers.

Amazon captures 38.7% of online retail sales in the U.S.,emarketer.com/content/amazon…, and knows how often customers search for specific items and how well products are selling. Amazon also owns an increasingly large share of distribution for third-party retailers by offering logistic

The subcommittee provided details that it says shows how Amazon uses its size and platform to thwart competitors, dedicating more pages to its findings about the Seattle-based technology giant than the other subjects of the probe.

While Amazon claims its private-label products make up about 1% of its total sales, its sales in specific categories have grown rapidly. businessinsider.in/retail/amazon-…

According to Numerator, brands selling in Amazon’s core consumer packaged goods (CPG) category—household, grocery, baby, pet, beauty, and health products—saw an 81% growth in the 2017 to 2018 time period. numerator.com/resources/repo…

And this increase has come with increase in seller unease. According to our 2019 marketplace survey we conducted among eCommerce executives, Amazon’s private-label brands are a top concern—73% of survey respondents say they are concerned with Amazon’s private label products

competing with their own, and 57% of those indicated that they are very concerned. info.pattern.com/challenges-and…

The following excerpt is from Jeff Bezos testimony:
“What I can tell you is we have a policy against using seller-specific data to aid our private-label business,” Bezos said. “But I can’t guarantee you that policy has never been violated.”

One other example of data aggregation leading to power aggregation is Epic games v Apple and Epic games v Google lawsuits. Filed by Epic related to malpractices on their respective app and play stores.

Epic Games specifically had challenged Apple's restrictions on apps from having other in-app purchasing methods outside of the one offered by the App Store. Epic Games founder Tim Sweeney had previously challenged the 30% revenue cut that Apple takes on each purchase made in the

App Store, and with their game Fortnite wanted to either bypass Apple or have Apple take less of a cut. Epic implemented changes in Fortnite intentionally on August 13, 2020, to bypass the App Store payment system, prompting Apple to block the game from the App Store

So what’s the conclusion here ? A digital well-funded business that was part of the first wave in the industry, with massive data monopolies & of not very strong moral constitutions lends itself very well to creating a monopoly with its perverse incentives -

perhaps you already have certain companies in mind. All this allows for a LOT of data in the hands of a few. With ML & AI, the said data can easily be leveraged & even exploited just how Amazon did with its Basics & FB with its agendas.

Data is the new oil. But it’s not always bad, remember that too. A lot of this can be used to actually make world a better place. forbes.com/sites/forbeste…

Indeed, data is worth more than oil ever be. It powers the information economy, it is the most important asset for a business ( think of the 5 most valuable companies in the world ). It can stored forever, and in numerous ways - improve levels of customer insights and engagements

improved fraud detection and prevention, improved market trend analysis, enhanced risk management, enhanced employee engagement etc. You can imagine how centralization of data can put those who own it in position of control.

But, then how do we classify private data and who should own it ? Here is a great study by Jones and Tonetti. The study considers the balancing issue of privacy and efficiency, and proposes three cases for an ideal marketplace. gsb.stanford.edu/gsb-box/route-…

It was observed that when, individuals owned their data with split incentives to share their data, Jones and Tonetti found outcomes that were close to optimal. “Consumers care about privacy, but they care about consumption, too,” says Jones.

With this split incentive, consumers preserved the data they wanted private but sold other data to many different firms, capitalizing on the value inherent in sharing non rival data widely.

When asked how to build such a data marketplace, Jones suggested that, and rightly so ( wink wink ) that people are thinking about it and working on it, using blockchain and other novel technologies.

#TLDR
Capital Accumulation is a function of the below parameters
- A systematic risk and skewed incentives in the system.
- A gaping problem with modern econ theories and modern financial systems.
- Centralization of data/information with powerful tools to exploit them.

In the next thread we will revisit past economic solutions to the problems we discussed in this thread. And maybe, that will lead us to the promised land.