What I’m going to explore in this post is whether “money manager capitalism”, as Minsky defined it, impacts the behavior of various sectors and in particular what it has to tell us about the private sector balance. This post will be running through a lot of sectoral balance concepts and accounting. For those familiar with MMT and the stock-flow consistent approach, these will be familiar. Nonetheless, I will be reviewing them below.
It may seem obvious that the private sector’s financial balance would persistently be positive, thus necessitating persistent budget deficits , but it is not actually clear that this would generally be the case. Why is the private sector accumulating surpluses? The standard response in MMT social media is that the private sector “desires to net save”. I do not think this gets us very far. First it is our job to explain these “desires”. Second, the private sector of the U.S. (or any other economy) is huge with a myriad of differently structured organizations. In this context assigning such a “human passion” to explain such an important macroeconomic phenomenon seems problematic. Third, many people “desire” a great many things; they often aren’t able to accomplish them. I personally desire to “net save” equal to 5% of next year’s GDP. Unfortunately, I do not think my “desire” will become a reality. This silly example is meant to emphasize the point that we have to look at how sectors or particular sub sectors make decisions and understand how those decisions result in certain recorded financial surpluses or financial deficits at the end of a recording period. To be clear, I don’t think people have been “wrong” to use such turns of phrase, just that to do a more in depth analysis requires putting them aside.
In this context the greatly underappreciated paper “Household and Enterprise Saving and Capital Formation in the United States: A Market Transactions View” by the great economist couple Nancy and Richard Ruggles is crucial. They argue that once you reorganize the NIPA accounts so that households invest in houses, cars and other “durable consumer goods”, while removing insurance premiums and pension contributions from household savings, households on average over the post-war period invested roughly as much as they saved. They found the same to be true for non-financial businesses for the most part, with the notable exceptions of mining and publicly regulated utilities. Thus the big private sectors running persistent financial surpluses were Institutional Investors ie those sectors controlled by money managers. It is this phenomenon that I want to focus in on and its effect on the behavior of sectoral balances.
In the popularized version of Keynes’s “argument”, it is commonly said that he thought governments should run surpluses during booms and deficits during recessions. The purpose of this is to be in balance on average. Post-Keynesians and others rightly ridicule this simplified story, especially because it makes governments seem like they have more control over their deficit position than they do. Nonetheless, the Ruggles and Ruggles analysis suggests that something like that may be possible in a closed economy with households, non-financial corporations, and governments. Households and non-financial corporations would invest more leading to rising tax revenues, drops in government expenditures (especially on transfer payments) and ultimately saving below investment. Conversely they would cut their investment expenditures in recessions, leading to drops in incomes, drops in tax revenues and rises in government transfer payments. Intuitively, we can see that this process would lead to roughly balanced sectoral balances, sans the business cycle being overweighted to either boom or depression, over long periods of time if these were the only sectors of the economy.
This is easier to understand when we look at the structure of these sector’s spending decisions. Both households and non-financial corporations invest to acquire capital goods required for their continuation. Households invest in houses to live in, cars to get around in and items like washing machines because they expect their lifetime cost to be much lower than a lifetime of renting. Non-financial corporations invest to create capacity to produce more, to replace depreciated assets and to increase specific infrastructures required to continue doing business. Recall that paying off debts are a form of saving in NIPA. Thus individual households and corporations either run up financial surpluses to make a large investment good purchase (ie run a gigantic financial deficit for one period) or they make a large investment good purchase on credit and save by paying off their debts.
Either way at the individual level this appears as financial surpluses interrupted by a discontinuous and discrete tremendous financial deficit. Since these decisions in the aggregate don’t happen all at once and are spread unevenly over many different periods, the large dissavings to purchase investment goods are more or less counterbalanced by the fixed contractual payments many other households and corporations are making and/or the savings being built up to make an internally financed purchase. In other words at the aggregate sector level these sector’s saving and investment should be near each other. Thus there are reasons to expect that over long periods of time these sectors average financial balances would be near balanced. This is because both households and corporations income and investment are sensitive to the business cycle. This leads us to a thesis- those sectors whose expenditures and income have large room to react to business cycles will see their financial balances be in rough equality over a long period of time.
Below is a simplified disaggregation of the private sector to focus on two things, Ruggles and Ruggles analysis of businesses and households and the anomalous role of Money Managers and the institutions they control in financial sectoral analysis. Representing all private sectors as they exist in the NIPA accounts would be a time consuming and unnecessary process for these purposes. The point I would like to make is capable using the accounting identity below.
The defining feature of the institutional investors money managers control is that their income and expenditures are tightly contractually defined. Households and non-financial corporations are more or less obligated to “make contributions” of a certain level during any given year and it is very difficult for the state of the economy to change these obligations (sans bankruptcy and the freezing of pension plans or the like). In addition, the assets that institutional investors hold are for the most part contractual obligations such that there is very little flexibility in adjusting payments to financial conditions sans mass bankruptcy. On the spending side, these organizations are both obligated to make certain levels of required payments and obligated to hold financial assets as “reserves” for future payments. This again would require mass institutional investor bankruptcy to change as a sector.
Thus in the absence of government deficits households and/or corporations would be pushed to run deficits to support the balance sheets of institutional investors which of course would eventually lead to mass bankruptcy. As Minsky showed so well in his other work, large automatic stabilizer spending and taxation programs are designed to avoid this outcome. In other words, the structure of the economy and institutional investors is tilted away from institutional investor capital losses being the adjustment mechanism and towards continued financial surpluses through government deficit spending.As a result, these sectors whose expenditures and income are strongly insensitive (but not completely insensitive) to the business cycle will have a tendency to accumulate financial surpluses over long periods of time.
Ruggles and Ruggles wrote their paper around the same time as Minsky started to develop his “money manager capitalism” analysis. As noted earlier, Minsky’s thesis was not just that these large institutions were changing the behavior of the economy and financial assets, but also they were changing corporate behavior. In particular they generated stronger uncertainty at the firm and plant level. Thus we may expect that corporations are less likely to invest in the same business cycle situations as earlier and thus may be expected to run financial surpluses over many business cycles in the future. We won’t know until a strong boom gets going. Either way, the central fact is that it is large sectors like institutional investors that has biased the private sector to running financial surpluses over the long run.
In my research into the antebellum financial system, this is a process I closely researched. It is very difficult to gather data but my strong sense from reading up on these periods is the process by which savings banks, insurance companies etc started being chartered tilted the economy more towards private sector financial surpluses as time went on. Large losses were likely taken in crisis periods in the “balance sheet simplification” process Minsky identified in his work. Nonetheless capital losses likely didn’t come close to balancing out the surpluses and as government budgets became more important this process was intensified. The way business cycle insensitive sectors impact financial dynamics and financial net worths need closer examination in the future and need to be at the center of our stories for why governments as a whole can’t balance their budgets over the business cycle.