Hyperwage Theory by Thads Bentulan. He also invented and copyrighted the term "Hyperwage" in 2005. The first part was published in May 2002 and continued in 2005. When this book was serialized for 33 weeks in 2005 in the newspaper BusinessWorld, he was called crazy. Now, 15 years later, the world economists are now parroting his idea that the secret to rescuing the economy is to raise the minimum wage.
Friday, January 20, 2006
Part 28 - Hyperwage Theory:
Hyperwage Theory Part 28
Hyperwage Theory Part 28
Hyperwage Theory
Part 28
Economic history is divided into two major periods namely, Classical economics and Keynesian economics. And soon a third period for Hyperwage economics. Classical economics includes the cumulative ideas of Ricardo, Walras, Stuart Mill, and Adam Smith. The book Principles of Economics by Alfred Marshall of Cambridge became the bible of classical economics by which all great economists learn their economics including those at Harvard. Incidentally, one of Marshall’s greatest students was John Maynard Keynes.
That Keynes revolutionized economics single-handedly is a testament to the philosophy that all experts could be wrong and that it is possible a single person could be right. Keynes mastered all the principles of classical economics and then threw them away.
Keynes practically invented macroeconomics as a separate discipline and is credited for formulation the equilibrium formula Y= C + I + G + (X-M) or supply=demand.
Keynes bravely dismissed Say’s Law which we discussed in the early parts of this series. He considered it false. Please note that this was a very brave, if not suicidal, thing to do. You must realize that hundreds of brilliant economic theorists in history consider Say’s Law as an immutable principle, in fact, it is considered a law of economics
Classical economics assumes that supply will remain the same while the prices will adjust. It also assumes that labor wages go up or down based on the law of supply and demand. Money velocity is a great factor in Classical economics. Keynes dismissed the classical assumption of Price-Wage flexibility.
But the reality is different. If an economic model is far from reality no matter how mathematically elegant it is, then it must be abandoned or reformed. Keynes observed that prices are sticky, that is they don’t go up or down, just like that.
Thus, he invented a theory of aggregate demand, that demand creates its own supply, opposite to the classical view that supply creates its own demand. Keynes realized that following the Classical thought results in a depression, and in fact Keynes was able to explain the Great Depression
Hyperwage Theory draws on both classical and Keynesian economics, and in fact depends heavily on Keynesian principles
What is the difference between Hyperwage and Keynesian? Keynesian is inflation-centric while Hyperwage is purchasing-power centric. Thus, Keynes will be scared of Hyperwage. But remember, Hyperwage is for the Third World not the First World. Thus, there is no real conflict at all.
Accelerator and Multiplier
Under the Keynesian equation, we have both the accelerator and the multiplier effect of consumer spending and business investments.
I have discussed the multiplier effect. On the other hand the accelerator works this way. If the businesses invest $400 million in capital equipment (I), such investment induces an acceleration of total income of the country by an extra $200 million in national income (Y) assuming the accelerator coefficient of capital output ratio of 1:2 or 0.50.
The accelerator effect is due to the fact that changes in consumption expenditure induces changes in investment spending. There is more demand because of more consumption and this means that businesses will have to expand.
Who says more more purchasing power for maids is bad because businesses will close down? Again, note the importance of consumer spending.
The higher the value of the Marginal Propensity to Consumer (MPC) the larger the multiplier and therefore the greater the increase in income, output and employment from an exogenous increase in expenditure.
Similarly, the higher the capital output ratio the larger the accelerator and the greater the fluctuation in economic activity from any increase in Y.
Thus the combination of MPC and accelerator which will yield the smallest changes in income, output and employment will be that where the values are lowest.
By the way, there are two types of increases in consumption in economics. First is the induced increase which is a movement outward along the fixed consumption function. The second increase is the autonomous increase where the entire consumption shift up. I know I don’t make sense but in my series The Thaumaturge I explained the difference between shifting of curves and moving along one curve.
Note that these are real physical process and not a product of the Keynesian thought. Thus, any theory can adopt these physical processes as its foundations and basis.
In other words, one doesn’t have to be a Keynesian or a Classicist to invent his own theory as long as that theory is based on real physical processes.
Government multiplier
Increase in government spending (G) results in a positive multiplier while a decrease in government spending results in a reduction of the GNP or GNI by an amount by some multiplier.
Tax multiplier
An increase in tax results in a negative multiplier, therefore, taxation should be moderate.
Export multiplier
Net export results in a multiplier that is the same as the consumption multiplier. However, net export is hard to control because it depends on the foreign buyers.
Inflation
Inflation dampens the effect of the multiplier. However, don’t worry because under Hyperwage Theory, inflation has an asymptote.
Circular model
There are two flows in the economy, 1) the money flow and 2) the factors of production
This is simple enough. From households, the consumers spend and pay for goods and services. The businesses also give incomes to the households.
Managing the Keynesian economy
This is not a part of or necessary to understand Hyperwage Theory but for those who have zero knowledge on macroeconomics, allow me to discuss the fiscal or monetary policies of Keynesian economics so that you will acquire an insight as to what can be done or what should be done.
Y= C + I + G + (X-M) or,
National income = consumption expenditure + investment expenditure + government expenditure + net exports
Consumption uber alles
Keynes has emphatically stated that consumption (or consumer spending) is the key to managing the national economy. And yet, our current policies do not give purchasing power to the poor. This is where Hyperwage comes in.
Why consumption? Because C is the factor that can be directly controlled while the others are indirectly controlled. And remember, consumption has a multiplier effect.
I have to point out that under Classical economics, there is no need to intervene in the economy to maintain equilibrium because of its self-adjusting assumption. But which worker wants to accepts a reduction in wages?
ISLM
The Keynesians have two approaches to the economy namely, demand = supply approach and the savings = investment approach (IS). This is called the ISLM approach popularized by John Hicks.
Now, listen to this: Keynes has determined that the chief cause of unemployment is “insufficient spending.” Remember the arguments between Dennison and Galbraith? And lo and behold, this is exactly the objective of Hyperwage Theory, to provide spending power.
We have direct control over consumer spending by giving them the purchasing power in the first place.
What affects consumption? Here are some factors:
1. fiscal and monetary policy that affects interest rates
2. reducing interest rates causes people to borrow and buy goods
3. increasing interest rates dissuades people from borrowing and slows consumption
4. reducing tax rates increases consumption
5. higher disposable incomes increases consumption
Managing the investment expenditure
What affects investment by businesses for expansion?
1. interest rate
2. actual output of the economy
3. replacement expenditure or depreciation
Investment cannot be controlled directly by policy measures, therefore, we go back to consumption as the key to managing the economy.
Separation theorem
Monetary policy as to interest rate are indirect ways of controlling investment expenditure. By the way, lowering of interest rate is not a guarantee that investment expenditure will increase.
After all, the financing decision is separate and distinct from the investment decision (separation theorem). Therefore, whenever our central bankers talk about using monetary policy to control interest rates in order to induce investments don’t really believe them, hook line and sinker. Throw the separation theorem at them. And don’t be surprised if they don’t know what it is.
Policy changes have indirect effects on the components of the GNP. For instance, the increase in money supply, tends to increase investment, that tends to increase consumption.
Budget
The policy maker exercises merely indirect control over the budget because budgeting is a legislative function. Also fiscal policy controls directly the government expenditure.
Policy Making
The two main variables to focus on are 1. Potential output which is the “supply” potential of the economy and 2 . Actual output which is the “demand” for the output of the economy.
Based on current policy directions, there is little that can be done to control “potential output” but you can do a lot about “actual output.” According to the Keynesians, if you get output right, you get unemployment right, and inflation right.
Again, this the inflation-centric policy-making process that Hyperwage is against. This is where Hyperwage departs from Keynesian economics.
Role of government
Government under the Keynesian economy is used to provide demand whenever the consumers are not in a position to provide it. But it is never the intention for Keynesian economics that the government should intervene in the pricing mechanism or in commercial decisions. Government intervention should be minimal, in other respects.
Is a balanced budget necessary? Pump priming through deficit spending is justified in the Keynesian model but the government should not compete with private business in other ways. That is why infrastructure spending is the common mode of pump priming by the government. The government has no business being in business. We must privatize as much as we can. I wrote about this a few years ago. The government should be a service regulator not a service provider.
Almost paradise
We are nearing the end of our exposition of Hyperwage Theory. According to classical economics the Great Depression was due to a loss of incentive to produce due to heavy market concentration (monopoly, oligopoly, and monopolistic competition and their appertaining “kinked” demand curves.).
The economists analyzed the Depression and identified such loss of incentive is the cause. Another implication of the Classical analysis is to reduce wages to maintain the demand=supply equilibrium for wages and labor.
To Keynes, this was absurd because prices and wages in real life were not flexible downwards. They can go up, yes, but not really go down.
Keynes believed that excessive savings was the culprit, thus was born the Paradox of Thrift; that excessive savings is actually bad. Thus, if you cannot force businessmen to invest, then the government steps in to put money back to the economy to offset the savings of the businessmen.
Don’t forget, not everything that is saved is actually invested, and therefore Keynes provided different theories for savings.
Saving is based upon “liquidity preference,” the need to hold money. ) Transactionary Motives: for every day use. 2) Speculative Motives: save because prices may drop. 3) Precautionary Motives: save due to uncertainty (when a recession is expected).
General equilibrium for the economy (as opposed to partial equilibrium in the micro level) is explained by the Classical economics this way: 1. Prices are flexible, output is stable. 2. Changes in Aggregate Demand (AD) cause prices to change, Aggregate Supply (AS) determines Real GDP.
The Keynesian explanation for general equilibrium is this: 1. Output adjusts, prices are stable. 2. Changes in AD cause changes in employment and Real GDP.
Hyperwage Theory on the other hand looks at the failure of Keynesian economics to solve the poverty and the economic problems of the Third World countries. Both Classical and Keynesian economics are inflation-centric.
Hyperwage Theory states that both theories as ineffective because they suffer from this unwarranted fear of hyperinflation. Hyperwage loves one type of inflation called the asymptotic hyperinflation. Hyperwage states that Third World economies should be purchasing power centric, not inflation-centric.
The Keynesian model has been prevented from fully blooming in Third World countries because they policy makers has ignored the fundamental success of the Keynesian model: consumption uber alles.
Hyperwage Theory surprisingly weaves elegantly into Keynesian economics in providing the consumption power to the poorest of the poor.
And that will solve the economic problem.
And then again, there is the non-economic aspect of Hyperwage.
(Thads Bentulan, Nov 17, 2005)
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