Washington’s blog is encouraging debate on what monetary system we should have in the United States. In the discussion, Australian economist Steve Keen advocates that equity shares owned by the original owner when the physical underlying capital was formed would have perpetual life. However, once the original owner sells the shares in the secondary market, the share begins to expire over (say) 25 years. Dr. Keen points out the benefit of this arrangement:
Shares purchased in an initial public offering or float would last indefinitely while held by the original purchaser. But once these shares were sold, they would have a defined life of (say) 25 years.
This would have several benefits over our current system:
(1) Purchasers of shares on the secondary market would be forced to do what the Capital Assets Pricing Model (the delusional neoclassical theory that dominated academic finance prior to the GFC) pretended they do now: to value shares on a sensible valuation of expected future dividend earnings. You would only buy a share under this system if you expected a reasonably good stream of dividends from it, because in 25 years it would expire; and
(2) It would encourage the act of providing finance to new ventures. At present, the share market does a very poor job of providing new finance, with over 99% of the transactions being secondary market sales in search of capital gains. With my change, the only way to secure an indefinite stream of revenue from a new venture would be to provide it with some of its initial capital. This proposal would drastically shift the balance in favour of raising initial capital, which is the only truly socially beneficial role of the stock market.
We applaud this sort of thinking…good luck in getting it past Goldman Sachs.
However Dr. Keen has an even more valuable piece that strongly supports the arguement of the “deflation camp”:
So the following numerical example might make it easier to understand their arguments:
- Imagine a country with a nominal GDP of $1,000 billion, which is growing at 10% per annum (real output is growing at 4% p.a. and inflation is 6% p.a.);
- It also has an aggregate private debt level of $1,250 billion which is growing at 20% p.a., so that private debt increases by $250 billion that year;
- Ignoring for the moment the contribution from government deficit spending, total spending in that economy for that year–on all markets, both commodities and assets–is therefore $1,250 billion. 80% of this is financed by incomes (GDP) and 20% is financed by increased debt;
- One year later, the GDP has grown by 10% to $1,100 billion;
- Now imagine that debt stabilises at $1,500 billion, so that the change in debt that year is zero;
- Then total spending in the economy is $1,100 billion, consisting of $1.1 trillion of income-financed spending and no debt-financed spending;
- This is $150 billion less than the previous year;
- Stabilisation of debt levels thus causes a 12% fall in nominal aggregate demand.
With the fall in demand, we can expect falling prices. Consider: unless the government is able to create debt in amounts sufficient to offset more than the current decline in private debt (virtually impossible in the current political environment), we will see continued declines in GDP and…deflation.