Conventional economic wisdom has it that times have never been better. Unemployment and inflation are both near historic lows, while national income, national wealth, and consumer confidence have never been higher. Surely it's a time for national rejoicing.
Not according to a recently published work by an FSU economics professor. E. Ray Canterbery has a different tale to tell–of an economy in which a relative few are growing obscenely wealthy while the majority are just getting by. What's more, says Canterbery, this enormous, inverted pyramid of wealth teeters precariously on a huge and shaky pile of unsecured debt. While the rich accumulate stocks and bonds, the majority accumulate ever larger credit card balances. It is, says, Canterbery, a cautionary tale.
As it's chapter titles clearly attest, Canterbery's latest work, Wall Street Capitalism: The Theory of the Bondholding Class (World Scientific, 2000) is far from the usual weighty relic of the dismal science. There are damsels in distress ("Goldilocks and the Good News Bears"), warlike struggles ("The Final Assault on the Clinton White House), villains and betrayers ("The Bondholding Class and Alan Greenspan Downsize America"), and ageing ladies with too much money ("The Widows of Chevy Chase Country Club").
In an age of narrow specialists, Canterbery is still a generalist. A past president of both the Eastern Economic Association and the International Trade and Finance Association, he has written on an enormous variety of topics relating to economic history and theory.
The Making of Economics, published by Wadsworth in three editions between 1976 and 1987, established Canterbery as an economic historian of the first rank. But Canterbery's ability to enliven macroeconomic theory is equally impressive. His treatment of economic principles (the stuff of Econ 101 for many of us) is The Literate Economist (HarperCollins, 1995), now about to appear in its second edition.
For Canterbery, economic data interrelate not only with one another, but also with other facts usually encountered only in history, literature, and science classes. Thus while The Literate Economist examines the ideas of economists from Malthus and Ricardo to Friedman and Galbraith, it also reveals the economic relevance of scientists like Newton, Leibnitz, Darwin, and Clerk-Maxwell, and of a score of literary figures from Chaucer to Tom Wolfe. A two-page time line inside the front cover runs from 340 BC to 2000 AD and places the leading economists in relation to major literary, scientific, and technological milestones.
As a writer, in fact, Canterbery bears some decidedly Chaucerian traits, not the least of which is his endemic lightheartedness. It's hard for him to keep a straight face for very long, confronted with the persistence in economics of human folly, ignorance, and outright absurdity. In The Literate Economist, for example, the technical vocabulary of economics is explained in "A Glossary of Endurable Terms."
Whereas Chaucer skewered the hypocrisy of impious churchmen like the Pardoner, Summoner, Friar, and Monk, Canterbery pokes frequent fun at the presumption that economics is a science, and a science of diamond hardness at that. The zealousness of doctrinaire economists can approach religious fervor, and Canterbery thus makes considerable use of religious metaphors. Throughout Wall Street Capitalism, for example, he mocks the financial markets' reverential treatment of Alan Greenspan, dubbing the Fed chairman "the Pope of Wall Street" and the Fed's Open Market Committee "The Sacred College of Bonds and Money."
Canterbery also has an almost criminal weakness for bad puns: "Smith distilled Locke's natural rights argument in favor of private property and its protection until it was 86 proof " (i.e., the strength of scotch). [The Literate Economist, p. 45.] Or, in reference to the predations of J. Pierpont Morgan, who had earlier bought smooth-bore carbines from the government, rifled the barrels, then sold the slightly improved weapons back at six times their original price: "But Pierpont's rifling of the U.S. Treasury was small bore compared with his actions at his peak velocity." [The Literate Economist, p. 117.]
Still, for all its linguistic playfulness, Canterbery's is an earnest message. Wall Street Capitalism is first and foremost an indictment of the monetary and fiscal policies of recent administrations that have led to what Canterbery sees as an intolerable disparity in wealth between the richest Americans and everyone else, coupled with a dangerous instability in the financial system.
Wall Street Capitalism is presented in five sections, each a necessary part of Canterbery's intricate argument. Part One documents the processes by which the "bondholding class" arose. Part Two describes the Wall Street/Washington alliance that maintain the class in power. Parts Three and Four detail the negative effects that the "bond market strategy" of the alliance has on, respectively, the general public and the national and global financial systems. Finally, Part Five outlines the remedial steps that can be taken to extend the current prosperity to the nonrich population and to avert a financial meltdown.
Half a century ago, bonds were the stuff of trust funds and retirement accounts. No longer, says Canterbery. Military spending and tax reductions in the 1980s tripled the supply of government bonds, and Reagan administration policies encouraged corporate mergers financed by high-risk ("junk") bonds. Today there is a vast secondary bond market that is as volatile as the stock market, and Canterbery sees that as a dangerous sea-change:
In the good old days at Chevy Chase the resale market was used almost exclusively for liquidation during family emergencies. In contrast, more recent activity in the secondary bond market rejects family values in favor of the one-night stand. Bond traders buy "long-term" bonds to hold for only a few seconds, minutes, hours, days, weeks or months.... The bond market now resembles not so much a marketplace as a giant casino. [Wall Street Capitalism, pp. 40, 41.]
RinR: Your subtitle is "The Theory of the Bondholding Class." Exactly who are these people?
Canterbery: The 1.1 million families that now have an average net worth of $10 million. Their support group consists of a small number of professionals on Wall Street, the Federal Reserve System, and the U.S. Treasury. They have their own editorial page–in the Wall Street Journal. Their average bond holdings exceed the value of their share holdings by about two to one, despite the many highly-compensated CEOs in their midst.
RinR: Why do you say that "the New Economy" has benefitted mainly this class?
Canterbery: During 1995-1999, on average a household member of the bondholding class gained $2.6 million in net worth; the average household among the 89 million families in the bottom 40 percent gained $1,500. The gain in productivity was in output per worker; the gain in wealth was for those at the top. What is "new" about the rich getting richer at the expense of those who have to work for a living?
RinR: But according to headlines, the overall economy is doing better than ever. The "boom" has lasted since 1991, the number of millionaires has doubled, and half of all households now own stock, and so on. Doesn't the "New Economy" represent a new paradigm?
Canterbery: First, nothing remotely describable as a "boom" began much before 1997. Second, those few "millionaires next door" still comprise a minute portion of the population compared with the 35 million persons in poverty in 1998, a full percentage point higher than in 1979. Third, 64 percent of the stock-holding households have $5,000 or less in securities.
The distribution of wealth has moved toward greater and greater inequality since the late 1970s. The wealthiest one percent of households control about 38 percent of national wealth, while the bottom 80 percent control only 17 percent. Financial wealth holdings are even more concentrated. The top one percent of stock owners hold almost half of the value (47.7 percent) of all stocks, while the bottom 80 percent own only 4.1 percent. Only four percent hold any marketable bonds whatsoever.
RinR: But isn't just about everyone better off?
Canterbery: No. Try this test; bring your entire balance sheet online and subtract the value of your debts from your assets for 1990 and, then, do the same for 1999. If you are a typical American household your net worth increased only $2,200. Even though the value of your stockholdings grew by $5,500, your household debt increased by $11,800. Some of that debt was used to buy some of those stocks.
Still, I think it's great that we now have twice as many millionaires as before. It's just too bad that they comprise such a small minority.
RinR: What's the main thesis of Wall Street Capitalism?
Canterbery: That during the final quarter of "The American Century" the economy's growth has been below its potential, while inequalities of wealth and income have widened more than during any similar time span in American peacetime history. Moreover, financial fragility has reached an astonishing level–more dangerous than during the Roaring Twenties. That's mainly due to the new symbiotic relationship between two former adversaries—Wall Street and Washington DC.
RinR: Why has economic growth been below its potential?
Canterbery: Because the chief mission of the Federal Reserve under Alan Greenspan has been to eliminate inflation, the mortal enemy of the bondholding class, thereby increasing the wealth of that class at the expense of the vast majority of Americans.
RinR: But, reportedly, the savings rate is at an all-time low. How can the bondholding class be doing so well?
Canterbery: Because personal savings is more than a value measured in national income accounts, which reveal only totals like personal income, private consumption, and real investment. These account figures understate unspent income or savings. To get true estimates of personal wealth increments, you have to look also at credits and debits from the Federal Reserve's flow of funds and personal financial holdings in the Fed's household finance surveys. The difference between these increments and "savings" measured in the national income accounts "evaporate" in economic theory. I call this is the "angels' share" of personal savings.
RinR: What's this financial angels' share composed of?
Canterbery: This net wealth is comprised mostly of financial asset inflation from the financial markets' bubbles of the last 20 years. It consists of financial capital gains amplified by tax relief.
RinR: What makes this the angels' share and not productive wealth?
Canterbery: Since at most only four percent of the value of financial activity in the stock and bond markets raise funds for corporations or governments (i.e., through new issues in the primary market), 96 percent or more of the value of securities sales create only market liquidity and not real investment.
Still, in a speculative bubble whereby security prices continue to rise, personal net worth is enhanced by those sales. This explains in great part why the Federal Reserve's measure of personal savings—as changes in net worth—has run 30 to 45 percent higher than the Commerce Department's estimates in the national income accounts. The rich cannot spend all these gains, and since corporations and governments do not have them, capital gains fail to flow into the spending streams of the economy. In this important tendency, these savings simply evaporate; they are the "angels' share" of personal savings.
Governments do receive a share of these funds from capital gains taxes, but presently the federal government is joyously running surpluses to create only "political capital" from its share of the evaporation.
RinR: So the Wall Street/Washington alliance is linked to the angels' share?
Canterbery: Yes. For Wall Street to continue to prosper, this angels' share of personal savings must continue to grow even as it remains invisible in economic theory. Ironically, the institution that is collecting the correct data on this phenomenon, the Federal Reserve, has contributed mightily to the bubbles and to the magnitude of the angels' share.
RinR: That's a fairly arcane argument. Is this a book for economists only?
Canterbery: I don't think so. My graduate students tell me that it is an easy and even "fun" read. The literate and intellectually curious share of the population might learn from it. While some economists have told me that they have been "educated" by it, I notice on Barnes & Noble.com that those who buy WSC also are buying investment oriented books like Investing for Dummies.
RinR: Speaking of real investment, surely there has been a goodly amount of it, given the noninflationary productivity increases.
Canterbery: Yes, but no thanks to the bondholding class. Recently, national personal savings rates have been negative (as conventionally measured) and business investment for the first time during the 1990s expansion, has been robust. Moreover, since 1995, we have experienced at least modest increases in real incomes for workers. The long-awaited expansion has been consumer-led, fueled by unprecedented consumer and corporate debt. Meanwhile, the angels' share of savings, measured as capital gains, etc., has been soaring—as if on the wings of angels—for the top one percent of the wealth distribution. Properly measured, extra savings out of extra capital gains for the bondholding class may be as high as 85 cents on the dollar. Yet, only five or six cents of each extra dollar ever wend their way into real business investment.
RinR: Of course, these capital gains are realized in the secondary or "previously owned" securities markets. The case for secondary markets–in stocks as well as in bonds–is often stated in terms of efficiency. They ensure that prices reflect current value. You don't buy this argument?
Canterbery: Nope. Just look at the amount of "churning" in financial markets required for alleged "efficiency." It took 2,702 trades a day and $45.8 trillion in resale activity in 1994 to yield only $185.3 billion in proceeds for the U.S. Treasury. What is so efficient about that? No retailer would spend 247 times his sales revenue simply to keep his store "open"!
RinR: With budget surpluses current and projected, doesn't the criticism of the bondholding class lose some force?
Canterbery: No. First, the current and projected budget surpluses could disappear quickly in a financial and economic crisis. Second, during a period, 1995-2000, when federal "surpluses" are awash, the federal debt outstanding has expanded! Other government agencies besides the Treasury can issue, and have issued new debt. Today, the federal debt outstanding is about $5.7 trillion. If this is insufficient for full-time play by the bondholding class, there has been a flood of corporate bonds coming to market since 1995.
Besides, if net worth becomes so great that bonds become scarce, their prices should rise and capital gains will be even greater. Finally, don't forget stocks; it just happens that today the median value of their bond holdings is about twice the median value of their stocks. Let them eat stocks! Still, bonds–their staff of life—are here to stay, and the Good News Bears will continue to dictate the choices made by Alan Greenspan.
RinR: You say in the book that the secondary market in bonds sets bond prices even for the Fed. These bond prices are in turn based on expectations of Fed actions. Yet the Fed's moves relate to expectations about goods inflation, and these expectations are patently false, because goods inflation tracks interest rates increases, not vice versa. Is that accurate?
Canterbery: Yes it is. It's a closed circle or loop. The secondary market governs because the primary market otherwise has no basis for determining what new issue prices should be. The private players in the secondary market look to anticipated Fed actions that will alter bond prices. Meanwhile, the Fed's actions are based upon expected goods inflation.
But in fighting inflation, the Fed lowers bond prices–thereby raising interest rates—and increases the corporate costs of production–costs that are usually passed along to consumers. The resulting increase in inflation signals to the Fed that it needs to bump up interest rates still more, thus adding still more to goods inflation. This process eventually comes to an end when demand and production slow or decline and unemployment rises. Then, the Fed decides it has "done its job" in fighting inflation.
RinR: In your book you also propose several ways to reduce the angels' share and stabilize the economy on a more equitable basis. Could you summarize those briefly?
Canterbery: Certainly. The remedies I propose include the following: one, an oversight committee, appointed by Congress to act as a watchdog on the Sacred College; two, expanded use of zero coupon and cost-of-living-adjusted (COLA) bonds; three, enlarging on a suggestion by Nobelist James Tobin, a financial transactions tax on shorter-term resale of securities, sized to the holding period; and four, U.S. Treasury interest-free loans to state and local governments to fund infrastructure investment. The source of the loan funds should be off-budget Congressional appropriations, not the Fed.
RinR: Taking the last proposal first, wouldn't money creation by Congress be inflationary?
Canterbery: No, because loans have to be repaid, and new loans should be made during economic slowdowns. Furthermore, if the Sacred College of Bonds and Money doesn't want the money supply to increase by the amount of the new loans, it has the power to neutralize the loans' effect. Or it could raise banks' reserve requirements. Or it could do some of both. Such interest-free loans have been deployed several times in U.S. history.
RinR: Your third proposal involves imposing a transactions tax on securities sales in the secondary markets. Besides being a revenue source, what would this accomplish?
Canterbery: My transactions tax, sized by time to maturity of the instrument, would do much to dampen speculation in securities and reduce market volatility. After all, 10-to-30-year bonds and mortgages are designed to provide funds for long-term investments, not to create opportunities for making money off money in a casino economy. Similarly, corporations issue stock in order to finance capital improvements and to reward investors with dividends and solid growth. A stock certificate should not be a lottery ticket. A transactions tax, graduated from a high percentage near term and vaporizing in two years, would discourage short-term speculation.
RinR: Is today's stock market overvalued?
Canterbery: Well, yes; this is about the only matter on which Alan Greenspan and I are in agreement. Our differences are: He contributed greatly to the overvaluation and I did not. Presently, Greenspan's model has overvaluation for the S&P 500 at about 38 percent.
RinR: What's your estimate?
Canterbery: The best historical measure of over-valuation is the price-earnings ratio for a financial market. Any historical ratio above about 15 to one has ended either in a bear market or a stock market crash. The peak ratio in August 1929 was around 20 to one. Today, the Dow is about 30 to one and the NASDAQ ratio is fluctuating between 150 and 200 to one. You do the arithmetic.
RinR: You've taken quite a few shots at Alan Greenspan is this book [see page 21], so your enmity towards him is clear. But what do you consider to be his place in history?
Canterbery: Alan Greenspan is the greatest politician Washington has ever seen. He makes Bill Clinton, whom he compromised before Clinton was inaugurated, look politically inept. Even more remarkably, Greenspan claims that he and the Fed are apolitical!
Most of all, Greenspan enjoys great luck. Just when he makes a terrible blunder, events elsewhere in the world change so dramatically that a policy mistake becomes a stroke of genius.
RinR: For example?
Canterbery: Greenspan began hiking interest rates in the mid-1990s (when the unemployment rate was a "dangerously high" six percent), and that was moving the economy toward a recession. Then the South Asian financial crises coupled with the collapse of a giant American hedge fund led Greenspan to reverse his policy and aggressively lower interest rates.
He did so under duress, and only to prevent the collapse of financial markets in Asia and thus on Wall Street. Yet this accident led to the only sustained economic expansion during the 1990s.
Of course, it's an expansion that Greenspan has tried to slow–so far, luckily, with only modest success–by means of five interest-rate hikes since June of 1999. The final stages of the current presidential campaign now provide him an excuse to end the interest-rate hikes, for fear that he, God forbid, would be accused of playing politics.
Ultimately, that's how Greenspan will be judged. If there's a financial crash before he leaves office, he will probably be blamed for it. He's trying to avoid that at almost any cost.
