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Asset shortages and the Great Recession: A Kaldorian Perspective

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Financialization and Securitization session at 12th International Conference

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Asset shortages and the Great Recession: A Kaldorian Perspective

  1. 1. Asset shortages and the Great Recession: A Kaldorian Perspective Nicholas Snowden Lancaster University Management School, LANCASTER, LA1 4YX, United Kingdom n.snowden@lancaster.ac.uk
  2. 2. Introduction • Monetary and financial variables were relatively neglected by the ‘modern consensus’ macroeconomics before 2008 • Heavy focus on financial sector developments has arisen since with Minsky’s views widely endorsed • But was financial instability ultimately connected with ‘real’ sector (structural) developments? • This was a theme in the 1930s (re the Wall Street Crash) and there has been some recent revival:
  3. 3. Sector shifts and investment • For example, the ‘technological disemployment’ thesis of the 1930s’ has some echoes in Gatti et.al. (2012) • They draw an analogy between the employment shift from agriculture to manufacturing in the 1920s and the modern shift from manufacturing to services • Workers in agriculture/manufacturing are trapped between sluggish demand and rising productivity • Fiscal expansion, or an adequate rate of investment spending could, in principle, aid the transition • But, if inadequate, might debt-fuelled consumption spending have (temporarily) had a similar role?
  4. 4. A ‘necessary’ bubble? • This is the theme of the present study – initially prompted by recent writing on asset shortages and ‘necessary’ bubbles • Kaldor (1966) proposed a (non-speculative) capital gains mechanism to adjust saving (consumption) to investment at full employment • A minor extension to this model highlights the probable connection between the sub-prime boom and earlier trends in US corporate investment (and saving) behaviour
  5. 5. Purchasing power transfers • In OLG terms, a bubble asset transfers consumer purchasing power from the high-saving ‘young’ to the low-saving ‘old’ • In Kaldor’s model, higher share prices boost shareholder consumption while releasing equities for workers’ retirement portfolios • The modification here introduces a given (asset shortage-linked) US current account deficit 퐹 = 푀 − 푋 with the associated credit allocated to corporate needs and, residually, to housing
  6. 6. ‘Neo-Pasinetti’ profits? • Kaldor’s model derives expressions for the long-run profit rate (ρ) and for the equity valuation ratio (v) with a given issue ratio • In the shorter term, the issue ratio could be derived from a given profit rate (reflecting a predetermined mark-up at full employment): • Simple rearrangement of Kaldor’s expression for 푔퐾−푠퐶휌퐾 휌 would then imply: 푖 = 푔퐾 • With this determination of 푖 the modified valuation ratio is:
  7. 7. Full-employment asset values • 푣 = 1 푐퐵 퐹 푔퐾 1 − 푐퐻 θ + 푠푊푊 푔퐾 − 푔퐾−푠퐶휌퐾 푔퐾 1 − 푐퐵 − 푐퐻 휋 θ • As national accounting would imply, if 퐹 ↑, or if 푖 ↓, v↑, (cet.par) to generate extra shareholder consumption • But the influence of 퐹 ↑ on v is lessened if associated housing gains raise consumption through ‘equity withdrawal’ (푐퐻) • In particular, if investment spending slackens (푔퐾↓) and if the profit rate rises (휌↑) then 푣↑ (cet.par) • But, the implied fall in issues diverts credit to the housing sector (reflected in 푐퐻 휋 휃 ) limiting the necessary rise in 푣 • How did these variables behave before 2008?:
  8. 8. 0.4 0.3 0.2 0.1 0 -0.1 -0.2 -0.3 1 0.8 0.6 0.4 0.2 0 -0.2 -0.4 -0.6 Corporate 'financing gap' and asset price changes: 1950-2013 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Real house price deviation from CPI (Ln) 'Q' diff from mean Finance gap to capex (RH axis) Finance gap to capex HP trend
  9. 9. Corporate funding and asset values • The dashed series (and H-P trend) show the financing gap as a % of GCF (≈issue ratio) • This ratio was high in the 1970s while ‘Q’ deviations suggest weak equity valuations (≈v) • The gap recedes through the 1980s with +ve equity gains (‘Q’ deviations) after 1991 • After the exceptional NASDAQ boom the financing gap falls dramatically and housing equity withdrawal greatly increases
  10. 10. Other influences? • The NASDAQ boom coincided with substantial external financing needs – contrary to the model • This takes expectations to be constant with capital gains reflecting only the value of installed capital relative to its purchase cost • If extended it would also suggest that a lower budget deficit would raise share prices, and the budget deficit declined remarkably in the 1990s • But, was the weakness of ‘Q’ in the first greyed period only due to OPEC and recession? →
  11. 11. 1.2 1 0.8 0.6 0.4 0.2 0 0.3 0.25 0.2 0.15 0.1 0.05 0 -0.05 Capital formation and profitability: 1950-2013 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 GCF to corp VA Gross pt profit to VA Real interest rate GCF to gross pt profit (RH axis) GCF to profit HP trend
  12. 12. Over-to-under-investment? • GCF tended to rise re corporate value added (and profits) during the 1970s up to the Volcker squeeze • GCF and gross profits both then fell but GCF more so. Earlier in the NASDAQ period, profits amply matched growing GCF • After 2001 the contrast between rising profits and falling GCF against CVA is striking - • Despite falling real interest rates - this is the housing equity withdrawal period • But why did the corporate GCF changes occur? →
  13. 13. 0.3 0.25 0.2 0.15 0.1 0.05 0 0.4 0.3 0.2 0.1 0 -0.1 -0.2 -0.3 -0.4 -0.5 -0.6 -0.7 Distributions and the financing gap: 1950-2013 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Financing gap to capex Financing gap HP trend Equity issue to capex Dividends paid to gross pt profit (RH axis)
  14. 14. Changing distribution policies • Weak equity prices in the first greyed period were linked to low payout ratios and new equity fund-raising • Beginning in the mid-1980s, the recovery in ‘q’ was linked to the emergence of negative equity issues (share repurchases) and, later, to greatly increased payout ratios • The timing of share repurchases suggests an interpretation:
  15. 15. Management and shareholders • The first key buy-back period (1983-92) was linked to the emergence hostile takeovers and leveraged buyouts - prompted by low profits and empire-building in the 1970s (Murphy, 2012) • Share repurchases during 1992-2001 (shaded) were linked to reorientation of managerial incentives through stock option schemes (ibid) • Generally, a tighter screening of new capital projects from the 1980s was reasserted after NASDAQ and dominated the cyclical recovery of 2001-07
  16. 16. Investment dearth – housing boom • In investment/saving (aggregate demand) terms, the corporate sector became increasingly a ‘sink’, rather than a ‘spout’ after 2001 • Combined with hefty capital inflows, and as Kaldor’s framework suggests, monetary policy needed to stimulate consumption • Contrary to recent trends, and pending a revival in private investment appetites, substantial public capital formation would help to prevent further financial disruption • Moreover, debt financing for these purposes would also help to address the international asset shortage problem

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