Hard Choices

 Some Labour party comrades are very exercised at present over how the party should vote in a division that might never happen. What should the parliamentary party do in a vote which has not been called on a deal which does not yet exist?

I confess I find it hard to care about an issue which will change absolutely nothing. Indeed if there was a possibility that a deal was to exist and be voted down in the House of Commons then I think no-one would be in any doubt about what the PLP should do. Voting against is not an option because the party is united in wanting a deal. 

The choice between voting Aye or abstaining is purely symbolic. I find it hard to explain rationally the energy being expended on this hypothetical, gestural, procedural choice. I suspect no one outside of the bubble of political obsessives will even notice. The famous red wall voters have better things to think about.

The decision will have no impact on the real world. Not one person will be made better off; not one patient will receive treatment any sooner; not one homeless family will be housed; crime rates will not fall; the dole queue will not shrink.

I put quite a bit of effort into politics. I do so because I want to see change, real change, not to feel better about myself or to signal that I'm a right thinking member of the right tribe. There are enough real issues to keep us busy - climate change, poverty in the midst of plenty, corruption at home and oppression overseas.

Our representatives are worrying about the wrong thing and need to regain a sense of perspective. Forgive me if I don't care how you vote. Frankly, my dears, I don't give a damn. 

 

A Narrative of Abundance

This is also a first draft for the same piece I am developing. Constructive criticism is welcome.

Britain is a wealthy country. The UK has been a member of the club of rich nations, the OECD, since it was founded in 1961 and it grows steadily richer. We were not a poor country in 1980, but by 2019 we were twice as rich when measured by GDP per head. Part of the story we need to tell is about how the economy has led to such abundance.

In a production economy the output of economic activity is greater than the inputs. The value of the goods or services produced must be sufficient to provide for the wages of labour, a return on capital and to pay other direct costs. In fact, most production creates a surplus above the minimum needed for these purposes. Surplus is the difference between a subsistence economy and an economy which is capable of developing.

While it might seem like an obvious idea, economists have used different terms for “surplus” and encumbered it with theoretical and critical appendages. Adam Smith called it “extraordinary profit”. Neo-classical economists talk about “economic rent”. Marx drew on Ricardo’s labour theory of value to explain “surplus value”. (See box) For the purposes of a new narrative the term surplus will serve well enough although I may occasionally say rent where that is more natural.

In the market story profit is not a dirty word, but rent is. Profit is understood as the appropriate return to capital, the payment for patiently tying up capital in production. Rent however is a sign that a market is not functioning well so that the supplier or suppliers have power in the market enabling them to extract additional rewards. This view obscures an important reality of a production economy. Surplus is ubiquitous. It arises in many forms and is, in fact, the aim of any business with ambitions towards growth.

In what follows I will first outline the main types of market power which leads to surplus. I will show some evidence that business understands the pursuit of rent and finally explore what this means for our new narrative.

Market Power

Saudi Arabia can produce oil at a cost of around $3 a barrel. Adding capital, administrative and transport costs this rises to $9. If it sells at $50 a barrel then it has a surplus of $41 for every one of the 12 million barrels a day it sells. Oil is an extreme example of a resource rent. All the other oil producers share in resource rents. Even the UK where the total costs are $44 a barrel can provide large surpluses to Shell and BP.

Oil is not unique; all commodities are subject to the same dynamic. Some producers have lower costs of production than others and so win greater surpluses when they sell at the world price. Metals like copper, nickel and zinc; cereals like wheat, maize and rice; raw materials like timber, rubber and cotton; foodstuffs like beef, sugar and coffee; all are capable of delivering resource rents to particular producers.

Monopoly is another source of surplus. In most markets there are buyers prepared to pay a high price and many more ready to buy if the price is low. This gives the monopoly supplier an opportunity.  She can choose to keep production low and earn a large surplus on each sale or increase production and earn a lower surplus but by selling more increase the total take. A monopolist will try to set the price which maximises the total surplus.

Although the market story has a distaste for rents, governments are a major source of monopoly power. Governments grant patents to entrepreneurs who then have a monopoly on the production of their invention. In effect, patents offer the promise of monopoly profits as an incentive to innovation. They offer a bargain where the patent holder has excusive rights to the invention but must disclose it in the patent filing. Thus, when the patent expires, usually after 20 years, the innovation can spread more widely.

Pharmaceutical companies  are a good example of businesses which run on surpluses created by government. Technology firms too rely on patents, although software is protected by copyright which has longer time limits and fewer disclosure requirements.

Some monopolies occur naturally. If there are strong economies of scale then it may be cheaper to have a single producer or supplier. Natural monopolies include utilities where each household or business needs only one connection to the network. Amazon has built its business on economies of scale becoming a utility for online shopping and gains a monopoly surplus as a result

Digital technology has brought us a new kind natural monopoly, one where the economies of scale are on the demand side. We use Skype, for example, because other people we want to talk to use it. In fact, the larger the number of other users the more useful it is to us. This same logic applies Microsoft operating systems and office software. We want to be compatible with the systems everyone else is using.

There are many techniques businesses use to attract a surplus from branding to enable them to charge premium prices, to differential pricing – charging more to less price-sensitive customers. Monopoly profit may not need a single supplier but an industry with a small number of big players who don’t compete on price can create enough surplus to go around.

Business Strategy

Many businesses generate very little surplus. In small businesses like local shops, restaurants, workshops and professional bureaus the surplus is adsorbed into the income of the owners. Any business with ambitions to grow will want to create a surplus to pay for investment in expansion. However, it is in large corporations where making a surplus is approached as a scientific effort. As a student of business studies I learned that most corporations do not seek a level playing field. In fact, the aim is to tilt the field in their favour. Few firms will express it that way; the term of art is “competitive advantage”. A company with an advantage over its competitors is one which can reap extraordinary profits.

Competitive advantage is a central idea in business strategy. Various techniques are used to identify and to sources of advantage. One well known tool, Michael Porter’s five forces model, provides a framework for analysing an industry to assess its scope for generating surplus. The five forces are:

•          rivalry among competing firms,
•          bargaining power of suppliers,
•          bargaining power of buyers,
•          barriers to entry,
•          substitute products.

Recall that surplus is the difference between the price a firm can charge and the total costs of production. Where a firm sits in the supply chain can affect its surplus. If its suppliers or buyers have strong bargaining power then they can set their prices so that the surplus come to them. Rivalry between firms can erode the surplus, but in many industries firms prefer to compete on quality or by differentiating their products rather than on price. The availability of substitutes can put a limit on surplus if customers might switch if they judge that the price advantage outweighs the inconvenience.

Barriers to entry offer a range of possibilities. Intellectual property, such as patent, can be a barrier. So too can government regulation, where licencing or safety rules are onerous. Large economies of scale or the need for high capital investment can discourage new entrants who would face risking high investment cost in order to challenge the incumbents.

Take the pharmaceutical industry as an example. Supplier power is low but buyer power can be significant if the NHS chooses to use it. Rivalry is limited as each company sells differentiated products. Substitute products are limited except for those who believe in homeopathy. Incumbent companies are protected by many barriers to entry. The high costs of R&D have to be borne for a long period before there is any income. Regulatory approval is also time consuming and technically complex and finally patents provide a temporary monopoly for each successful product. It is not surprising that a small number of incumbents dominate this industry.

Firms and their investors can use this model to identify how competitive pressure might impact on the opportunity for completive advantage and consequent surplus.

An Economic Narrative

This is a first draft of a piece I am developing. Constructive criticism is welcome.

We need to tell a new story about the economy. I don’t mean a new theory. Alternative theories already exist. The old dominant framework for academic economics was fatally wounded in the crisis of 2007-8. It is dying slowly. As Thomas Kuhn argued a scientific revolution takes a generation and is only complete when the old professors have retired or otherwise moved on. What we need is a new narrative.

The narrative derived from the old idea still shapes our thinking, our policy-making and public discourse on the economy. The language we use to describe economic features is derived from the old story. If we want more informed discussion, more creative policy thinking, and better outcomes we need to break free from this old idea and put something better in its place.

The current narrative puts markets at the centre of all economic thought. Buying and selling in the marketplace, in this story, is the engine that drives an economy. There is a great deal more to an economy than markets. The old Labour Party constitution used to talk about “production, distribution and exchange”, but in recent years exchange has become the dominant force. Public discourse will only talk about goods, services, wages, profits, housing, technology and international trade in terms of markets.

My argument for a new narrative begins from a critique of how the market story distorts and limits our ability to frame alternatives. Firstly, markets are impersonal. They are set above us, above the level of human action. As Lady Thatcher once said, “you can’t buck the markets”. The market story serves to disempower us as workers, consumers and citizens. This narrative sets the economy as a thing apart from society, like a disembodied machine which runs on its own logic beyond human control. We cannot vote for economic change if it is the market that has the power.

For example, the market story justifies both low wages and obscenely high salaries. Care workers on precarious contracts with private suppliers are paid the rate for the job decided by the market. Even the national minimum wage was introduced in the teeth of opposition which claimed the market would punish the Labour government for its presumption. Meanwhile corporate CEOs are in a different labour market where international competition drives salaries and benefits ever higher. All wages in between are subject to market forces, unless the workers concerned have strong trade unions.

Up to a point, consumers do have power in the market story. If we want to improve the environment the market will provide organic produce and charge us a premium. To avoid exploitation the market will serve up fair trade foodstuffs. If climate change is a priority then the market will offer to offset our individual carbon footprint. However real change to protect the environment, promote development and tackle global heating require fundamental changes beyond any individual choices.

Secondly, the market story distorts our understanding of the economy. Its emphasis on the exchange of goods and services obscures the questions of where these goods and services have come from in the first place. Equally it offers no explanation for economic change. It does not account for technology and technical change. It appears that technology is also above the level of human action and springs fully formed from the head of Zeus to challenge the status quo.

At best the old narrative allows for “entrepreneurs” who bring innovations to the market. The role of research, development, regulation, social change, incremental advance, public sponsorship, spillover effects, market power and a host of other factors which contribute to innovation is not accounted for.

A major gap in the market story is that it fails to address the large part of the economy which does not operate on market mechanisms. About a fifth of the economy is accounted for by services paid for by the government rather than the final customer. The market story does not just ignore the production of these services but creates the impression that they lie outside the economy and need to be paid for by the market sector.

A further distortion arises from the way the market story denies the importance of market power, for example in the case of monopolies.  According to the narrative monopolies should not exist. Where they do it is a sign of market failure and the government should act to eliminate them. Unfortunately, the reality of the economy we live with is that market power is ubiquitous across the corporate sector. (More on this later.) As an MBA student I learned that the purpose of business strategy is to find and exploit opportunities for market power.

This leads to poor policy choices. For example, most utilities have a natural monopoly. In the past this was dealt with by nationalisation. However, when they were privatised competition was introduced through the creation of several supplier companies. This does not eliminate the basic economics of a natural monopoly and so the then governments created regulatory bodies with a mission to ensure that the new companies behaved as if they were in a competitive market. The experiment failed. The utilities have found ever more inventive means of exploiting their market power. This is evident from the wide range of prices gas and electricity firms offer their customers when, in theory, a competitive market has only one price.

From Theory to Story

The power of the market narrative came from the fact that it was derived from a highly developed economic theory which has dominated professional economics over the same period. Neo-classical economics has its origins in the late 19^th century. Economic thinkers created a model in which prices were determined by an equilibrium between supply and demand. In each market, they argued, there was a unique price which balances the number of buyers and the number of sellers.

This idea dominated micro-economics throughout the 20^th century. It had less success in macroeconomics where it was overshadowed by the ideas of J M Keynes. However, in the 1950s an important mathematical argument was expounded which showed that it was possible for all the markets which make up an entire economy could be simultaneously at equilibrium. In addition, it was claimed that this general equilibrium represented the best of all possible worlds.

In the 1970s Keynesian ideas began to lose out to the revival of neo-classical economics with the concept of general equilibrium providing a means for analysing the macroeconomy. The macroeconomic models which incorporated some of Keynes’s ideas (IS-LM and Mundell-Fleming, for example) gave way to new neo-classical models. The Treasury, the Bank of England and most academic economists now run “dynamic stochastic general equilibrium models” though their powerful computers.

For four decades we have lived with a dominant narrative of the economy which has now run its course. The idea that the economy could be understood in terms of markets gave us a story in which markets were the core of all economic function. It is a story which obscured a great many other truths. There is much more to economic life than can be understood from exchange in marketplaces. The old narrative separates the economy from its social context, setting it above or outside human control. It both disempowers and hides the reality of where economic power rests. It provides justifications for inequality, low wages and unemployment. It obscures the processes by which wealth is created and shared and undervalues the contribution from the production of public services. Finally, it fails to expose how economies change and develop. Technology, like the economy, isn’t something that happens it is something that we do.

We need a new narrative; one which shows how the economy is embedded in society and interacts with its social and political developments. It should have at its base the human activity that produces goods and services that make up the wants and needs of the community. The new story should recognise that we live in a rich country where there is surplus enough for everyone’s needs. Economies are in constant flux and our new story should combine understanding of the forces of change with the need for the social and political environment that makes a dynamic economy possible.

That is the challenge I set myself. In future posts I will ty to set out the narrative for a dynamic, production economy.

Political Polarisation I

I have been struggling to understand what happened to British politics between 2016 and 2019. A fissure opened up following the referendum which grew in time to a chasm. The country did not just divide, as time went on each tribe moved more towards the extremes. As part of my investigation I have come up with this simple model. It looks at polarisation without reaching for any psychological or behavioural explanations, which is why I refer to it as "rational".

A Rational Model of Political Polarisation

Policymakers make choices. The essence of decision is to choose between alternatives, at least in a rational model. To simplify, suppose a policymaker has to decide between option A and option B. Both advance the policy towards its goal. Option A has certain advantages, but also some downsides. Option B has some disadvantages and certain benefits. The rational decisionmaker then chooses, trading off benefits and costs of the different options

Policymaker
Option A	Option B
Advantages of option A	Disadvantages of option B
Disadvantages of option A	Advantages of option B

 

The policymaker operates in a political environment where lobbyists and campaigners will advocate for their preferred solution. From this perspective the information which matters to their case will be the advantages of their favoured option and the disadvantages of the alternative. The Lobby for A will emphasise the benefits of A and the problems of B. The campaign for B will do the reverse.

This can be summarised in the table below. While the rational policymaker must assess the trade-offs of the decision, campaigners have a simpler time highlighting the factors which suit their viewpoint.

	Policymaker
	Option A	Option B
Campaigner for option A	Advantages of option A	Disadvantages of option B
Campaigner for option B	Disadvantages of option A	Advantages of option B

 

The model demonstrates that even a rational decision process, under political conditions, has within it the seeds of polarisation. To give concrete examples, replace option A with Scottish independence and option B with retaining the union. Campaigners for Yes (independence) set out a vision of how a self-governing Scotland would operate and of the problems of union, such as the times when the UK is governed by a party rejected by Scots voters. No campaigners focused mostly on the costs of independence, particularly the economic impact. The benefits were fiscal and social, such as ties of family across national identity.

In the aftermath of the referendum, when voters have picked a side, they are caught up in the campaigner perspective rather than the policymaker viewpoint. They can explain their choice by reference to the advantages of A plus disadvantages of B (or vice versa). This explains the different distribution of viewpoints across the range of possible positions.

Would the SPD Candidate Be an Ally for Labour?

 Some Labour front benchers have spoken warmly about Olaf Scholz,the German politician who  has now been chosen as the SPD candidate for chancellor in the elections next year.

I am surprised given the gulf that exists between the policies which the SPD have supported in the coalition government in Germany. Mr Scholz himself is a fiscal hawk of a kind which is almost extinct in Britain.

Fearful that Labour might be tempted to follow the German example, I wrote this piece for Labour List:

Who is Olaf Scholz – and can Labour look to the SPD candidate as an ally?

The common perception of Germany is of a country with a strong economy. The costs of its trade surplus and its impact on other European countries is too little known. I try here to explain the chasm between the low-wage, low-investment approach of the SPD and Labour's alternative.

Trade Myths and the UK-US Trade Deal

 Britain needs a trade deal with the US. A deal will bring jobs and increasing exports will make us better off. 

In fact none of that is true. "A trade deal offers no tangible benefits – no jobs, no great boost to economic growth or productivity and now is a teachable moment when Labour can set out the truths about the economic impact of trade." I explain the reasoning on Labour List:

We should welcome trade with the US – but not a trade deal

The arguments against a UK-US trade deal are well known - from chlorinated chicken to the NHS. My aim was to present a novel argument for opposing the deal, put simply, whatever the costs there were not enough compensating benefits.

Income €1,650. Expenditure €4,300. For How Long?

It is not normal for the Treasurer to vote against the budget, as happened at the Brussels Labour AGM in June. But then it is not normal for an organisation with an income of €1,650 to decide to spend €4,300. 

As the Treasurer in question, I tried to prepare a budget that didn’t dip too far into the reserves. Our income is falling and even with the medical emergency our expenses are rising.

What really blew the budget out of the water was a demand to include €2,000 for various donations. This is possible only because we have substantial reserves built up from many years of members’ contributions.

Distrust

Underlying the willingness to run down our reserves through donations is the difficult relationship between the branch and the CLP, Labour International. This distrust has grown over recent years leading to a them-and-us outlook which I find unhealthy.

It appears that some members had been seized by the idea that our reserves could be taken by our CLP, Labour International, and spent in support of left-wing causes. The alternative, it seems, was to grab the reserves ourselves and distribute them to other causes.

There was never any prospect of Labour International dictating our spending priorities. This has now been confirmed by Labour International and by Party headquarters. The branch is the custodian of its own resources and the only constraints are those of ethics, its constitution and good financial management.

The first conclusion we should draw from this episode is that the breach between Brussels Labour and Labour International is a danger to our ability to run an effective branch for Labour members in Brussels. We must seek to create a dialogue aimed at finding a modus vivendi and beginning to restore trust. LI is our channel to the wider Party which we need to keep open.

Rational

My second conclusion is that we need a more rational approach to financial management.

Our income is down but our costs are rising. In a normal year, meeting costs, web hosting, Zoom subscription and a John Fitzmorris lecture already amount to €1,450 which leaves little for social events, campaigning or annual conference, let alone donations.

We will need the reserves to keep the branch activity going while we improve the income side. To persuade members to donate we need to sustain a level of activity that members will value enough to make a financial contribution.

Brussels Labour should develop a protocol for good financial governance. A clear set of principles for using branch funds and funds raised for supporting other bodies is needed. The officers and the Executive of the branch are the stewards of other people’s money and must uphold high standards of financial management.

This post is edited from an article which appears in the latest issue of Germinal, the Brussels Labour journal.