A Capital Idea Part 118: Making Money Real
I saw a Dateline report recently from a series called Power, Money and Wall Street, which talked about the financial crisis brought on by derivatives trading. I had not really dealt with this issue in this series, given that money itself is an abstraction of sorts. Thus, I concentrated on the fundamental abstractions of creating perceived value in order to make claims on resources, an issue which goes all the back historically to the origins of money. However, money can be tied to things, labor or services of real worth. On the other hand, when "derivatives" are allowed to masquerade as something of real value, what we have is an abstraction of an abstraction, a kind of abstraction-squared situation, which makes connecting money to real value virtually impossible in the real world, and the idea of any semblance of fairness, essentially a joke. This is what the banksters did to the world of finance, in order to increase their profits.
In a fair, balanced, rational and sustainable economy -- of which the current economy is none-of-the-above -- economic processes not only have a moral, fair-minded basis, and a biomimetic property making the economy resemble a healthy ecosystem, but also, there should be a requirement that what we use to represent wealth, have a basis in reality. I have an analogy from my training as a psychology researcher. In psychology, there are many tests which have been written to measure various psychological properties. These are written essentially, according to the theory to which the author prescribes, as well as the author's intuition. Some of these tests may appear valid on the surface, but actually are poor ways of measuring what they intend to, due to some common misconceptions perhaps, among both psychologists who are test authors, and the test takers. Other tests do not appear to be measuring what they appear to, which is sometimes intentionally done by psychologists in order to prevent social desirability from affecting test responses, or in order to evoke material from the test taker's unconscious mind in the case of psychodynamically based, so-called "projective tests." (The psychodynamic perspective is the perspective in psychology which postulates that we are motivated unconsciously.) These tests according to research, never seem to have very good validity, and some of them have hardly any validity at all, especially among projective tests. However, some of these tests do have decent, if not good, validity, while preventing social desirability biases from affecting peoples' responses, at least to an extent. In fact, tests which lack "face validity" typically have poor or mediocre reliability, meaning that basically, the results of the test are unpredictable; when a test is unreliable, for example, respondents have a tendency to answer differently from one administration of the test to the next, or more to the point, answer differently on various questions which are supposed to be measuring the same thing. If a test is not reliable, it cannot be valid; reliablility puts an upper limit on potential validity.
Once a test has been demonstrated to have decent or better reliability, the hardest part of creating a good psychological test is validating it, which involves much empirical data collection that correlates the test with other measures in order to prove that the test works. The most difficult and crucial of several types of validity is called construct validity, which means getting down to the real nitty-gritty of demonstrating that the test measures what it was intended to measure. In order to demonstrate construct validity, a requirement that is absolutely essential, is that the test be demonstrated to predict results from real world variables. A psychological test could correlate with other psychological tests, but if those other tests are not valid, such correlations are meaningless. One would essentially be constructing a house of cards, a mirage giving the illusion of validity when in fact, the results of the test were fatally flawed, making the test's results misleading. I think "a house of cards" is a pretty good description of what has happened in the financial world. Such a system would never even pass for anything more than a joke in the realm of psychological testing. Money has basically been decoupled from any connection to real worth, in the places where most of the world's money resides, the financial industry.
To give an example from psychology, the Five Factor Model of Personality by Costa and McCrae has been tested extensively over the past couple of decades, and the five factors have been found to predict numerous real world outcomes. Extraverted people spend more time with other people, neurotic people have more psychological and physical problems, people who are open to experience are more progressive minded and interested in learning, agreeable people are more charitable and kind-hearted, and conscientious people have much better and more meticulous habits such as health habits, to name a few results. We know from these results, that the test is measuring something real which tends to correspond to specific real world outcomes.
When it comes to money, the financial industry is playing with its money in a fantasy world. I guess the most important message of this post is that we should not let financial institutions play with our money, because it distorts any real value to the point that it becomes unrecognizable. Rather, we need to tie money, in whatever form it may take, which could include scripts, vouchers, credits, proxies, local currencies, national or international currencies, to real value -- labor, natural or human resources. The first step in doing so would be to prohibit the use of derivatives and other forms of gambling by financial institutions. Banning derivatives should be relatively easy to do, as these activities have not even been done by financial instititions until the past couple of decades, when deregulation made the use of derivatives possible. I don't know that much about derivatives, but as far as I know, they are still being used although in a somewhat more regulated manner than before recent reforms. Perhaps someone else who reads this will know more about that. However, the stock market is essentially a gambling institution created by and for -- make no mistake about it and don't buy into the "stock market is for everyone" meme -- rich people in order to increase their wealth by distorting the value of their investments. Thus, the stock market -- that bastion of capitalism -- as difficult as this may be, should be eliminated in order to form a fairer economy in which there is more of a connection between money and real value.
Beyond these steps, minimum wages are useful, but need to be increased to reflect real costs of living. Businesses which cannot afford to pay a minimum wage to their employees, perhaps should not be in business. To go into relatively more uncharted territory, would suggest the use -- at least to me at the moment -- of price controls and government determined pricing, which along with eliminating the stock market, is another of my suggestions which I am recycling from earlier posts. (Okay, maybe I am running out of new topics or ideas here, but not new ways of explaining them.) Also mentioned previously, is that my studies of the world's health care systems has revealed at least one instance in which government determined pricing works very well, which is the price of medical procedures in Japan. If my studies of other topics can uncover that, there are likely to be other instances around the world (presumably not in the United States yet, though) which show that government pricing can work to create a fairer economy.
Coincidentally, my good friend Poor Richard has recently written a post on essentially the same topic, "Love's Labor Lost?" on May 3 (http://almanac2010.wordpress.com/). While in general agreement with this post, Poor Richard essentially makes the case that all monetary value can be connected to labor; it isn't really necessary to separately value natural or human resources monetarily, and this makes sense to me. Here are a few quotes from Poor Richard's post:
“Labour was the first price, the original purchase-money that was paid for all things. It was not by gold or by silver, but by labour, that all wealth of the world was originally purchased.” Adam Smith
"As long as the value of money is ultimately based on (backed by) labor, I think it may be safer to use whatever currency, token, or proxy is most convenient for a particular kind of transaction." Poor Richard
"Many will object that labor is a poor value standard because the value of labor varies according to the qualities of labor (abundance, expertise, fitness for a given purpose, etc.). But to argue that the value of one person’s labor or time differs from another’s is to claim that the value of different people’s lives varies.
The products or results of one person’s labor may be more valuable than the products of another persons labor, but we need not (in fact I believe we must not) conflate the value of the product or service with the value of the labor or the person– despite the tempting convenience and simplicity of so doing. Many things go into the value of a good or service besides the cost of labor. My proposal is only that the value of a unit of human labor should be universal and that this value might become the ultimate standard behind the value of any basic unit of currency. Might that make it easier to keep track of risk and value even if financial engineers converted labor into other units or bundled time into derivatives?" Poor Richard
"It may seem intuitive to simply make a distinction between the monetary value and the moral value of a person’s time, labor, life, etc.; but doing so may in fact, if my hypothesis is correct, be a slippery slope towards evil, because it introduces an element of hypocrisy and cognitive dissonance.
Labor’s love lost?
Instead of monetizing labor, maybe we should be labor-tizing money." Poor Richard