Corrupted Economics and Misleading Experts

by Manfred Davidmann

CONTENTS

Summary

Introduction

Inflation - Inflation-proof Profits - Struggle for Cost-of-living Increases

Misleading the Population

Inflation and Cost of Living
Index linking
The Fight against Inflation
Inflation and Unemployment
General Interest Rates: Unemployment, Profits and Share Prices

Balance of Payments - Currency Exchange Rates - General Interest Rates - Inflation - Devaluation Profiteering

Maximising Profits: What the Market Will Bear: Price Profiteering

Role of Experts

Vested Interests of Experts

Notes <..> and References {..}

Relevant Current and Associated Works

Relevant Subject Index Pages and Site Overview

SUMMARY

This report shows how 'Economics' is used to misinform and mislead the general public, and looks at the role and vested interests of experts.

So this report discusses the relevance and reliability of some economic relationships, clearly stating them and the underlying considerations as well as commenting on misleading political interpretations and misuses of the work of economists.

Subjects discussed include the cost of living, the fight against inflation, index linking, unemployment, uses of the base interest rate, share prices, currency exchange rates, the role and vested interests of experts.

INTRODUCTION

This is one of a series of four studies which were undertaken to obtain a better understanding of why people have to struggle throughout their adult lives, in all countries and organisations, at all levels, to maintain and improve their standard of living and quality of life.

We know what people are struggling to achieve {2, 16} and so these studies explore why people have to struggle by looking at what they are struggling against.

The main report 'What People are Struggling Against' brings together the work reported in the four component studies by extracting and rearranging key findings from them.

To get an overview, it would be best to read the main report first. If you want more information on particular aspects of interest, you could then go to the component studies (See Relevant Current and Associated Works).

INFLATION - INFLATION-PROOF PROFITS - STRUGGLE FOR COST-OF-LIVING INCREASES

When prices of imported goods increase or wages go up, costs increase. Profit is commonly marked-up <2> at a fixed percentage of cost. As costs increase, profits increase automatically.

These profits are paid to shareholders by way of dividends and as capital gains. Part of the profits are paid out as dividends which are annual cash payments. The remaining profits are retained in the enterprise and increase the value of its shares. The shareholder realises this capital gain when selling his shares.

Inflation is an increase in prices, in the cost-of-living. Inflation increases costs. Profits increase correspondingly and automatically. All the profits are given to shareholders by way of dividends and capital gains.

The higher prices are felt by wage and salary earners who demand pay increases in line with increasing prices, in line with the increasing cost of living. Prices increase as a result, the increase depending both on the extent to which wage and salary demands are satisfied and on how much of the price consists of labour costs. {12}

So costs increase, profits increase automatically, prices increase, employees struggle to keep up, wages increase,

so costs increase, profits increase automatically, prices increase, employees struggle to keep up, wages increase,

so costs increase, ......

It does not really matter where you enter the upward spiral to tell the story. Start with wages going up and 'wage inflation' looks like the cause. Start with profits going up and increasing prices ('price inflation') looks like the cause.

So as prices increase, profits increase correspondingly and automatically and are given to shareholders. Wages and salaries increase only after employees struggle to maintain the purchasing power of their take-home pay and then only to the extent to which their demands are satisfied.

MISLEADING THE POPULATION

In this report we are looking at what seem to be misleading fictions and smokescreens in the field of economics which relate to exploiting people at work, as citizens, and in the market place.

What is being commented on is not the work of economists who are exploring and applying underlying relationships to the best of their knowledge and experience. The comments made here relate to work and pronouncements which appear to be biased by political ideology, which appear to be misleading political interpretations and misuses of the work of economists.

INFLATION AND COST OF LIVING

Consider this example:

The UK's RPI (Retail Price Index) measures changes in the cost of living of a typical household. Its component items and their weighting are based on population consumption surveys and representative sampling. This is the cost of living index which measures changes in the cost of living and it does its job well.

If the RPI were called the 'cost of living' index, it would tell ordinary citizens that this was an easily understood measure of how changes in prices and government policies were affecting them. It would point to its use for negotiating cost-of-living pay increases.

But another index (RPIX) was then introduced by a conservative (Tory) government which excluded mortgage interest payments. In the UK the purchase of one's own home by taking out a mortgage is widespread. Mortgage interest costs depend on the level of the centrally determined base interest rate and so this index does not reflect the corresponding increases in the cost of living when the base interest rate is increased.

Still another index (RPIY) was then introduced which excluded not only mortgage interest payments but also excluded indirect taxes which had to be paid by all regardless of how small their income. It excludes VAT (Value Added tax), Council tax (local government tax), excise duty, car purchase tax, insurance and airport tax. In other words, this index does not show the effects on a typical household's cost of living when such taxes are introduced or increased.

The RPI index is a good cost of living index but instead of being called 'cost of living index' it is called 'Headline rate of inflation'. The RPIX index is called 'Underlying rate of inflation'. To me these are misleading terms which confuse instead of illuminate, and which seem intended to confuse.

Such misleading developments are particularly harmful because we have, and have had for many years, the knowledge, understanding and means for automatically increasing pay and pensions in line with the cost of living (inflation), allowing at the same time for increased merit (knowledge and experience) and the betterment (share of increased national income) {4, 9}. Index linking is one aspect of this process and index linking is discussed in more detail in the next section.

INDEX LINKING

Consider how index linking operates in relation to the increasing cost of living. {9}

Owners' profits (dividends plus capital gain) increase automatically whenever costs increase. So profits are in effect linked to costs, to inflation.

Linking of pay to a cost of living index takes the heat out of employer and employee pay bargaining, reduces confrontation and strife, eliminates having to struggle just to maintain one's place. It is at times applied to essential public services such as medical, fire, police, teaching and government. {9}

Pay is reviewed at intervals and is increased according to changes in the index. If the index has increased by 2 per cent say, then pay is increased by 2 per cent. Another way of linking is to increase pay by a given percentage whenever the index has increased by that percentage. {9}

But the cost of living index should reliably reflect the cost of living of the working population, by its composition and weighting, and be protected against politically motivated change which favours one side or the other. {9}

For example the index needs to be protected against misleading changes of the kind which try to replace a validly compiled, appropriate and easily understood 'cost-of-living' index with something else.

After index linking, pay bargaining can concentrate on the main issue, namely on how to share out the increased value created by the joint effort of both sides, and on how to adjust national differentials to ensure that no one section gains unfairly at the expense of others and to balance out inequalities. {9}

A ruling establishment could be expected to avoid and resist index-linking of pay because index-linking would limit their efforts to increase profits by lowering the standard of living of the population. But what stands out is the way the UK's trade union and Labour party establishments appear to have neglected index-linking for so many years.

THE 'FIGHT AGAINST INFLATION'

While profits, dividends and 'capital gains' increase automatically, a bitter struggle develops as owners and employers attempt to use inflation as an excuse for reducing labour costs, that is wage rates, wages and salaries of the working population, so as to increase profits still further. Employees are then not compensated for increased skill, experience and responsibility (increased merit), do not receive their share of the increasing national income and wealth (the betterment), do not receive merit increases and betterment increases. {4}

Pensioners also stand to lose betterment increases, do not receive their share of the increasing national income and wealth (the betterment) which is being achieved on the basis of their past labours. {4}

Changes in the cost of living are measured by the cost-of-living index (RPI). The betterment is the extent to which increases in average earnings exceed increases in the cost-of-living. {4}

Here is an example. Since 1980 the UKs Tory government has withheld from pensioners their share of the increasing national income and wealth, for no apparent good reason, amounting to something like 2 percent of their pension every year. Pensions had been linked to the index of average earnings but in 1980 they were linked to the cost-of-living index. As a result their present pensions are a fraction of what they ought to be, have now to be increased by 34 percent just to reach the level at which they should be now. And pensioners still have to be compensated for the moneys withheld from them without good reason by the government since 1980.

This attack on the living standards of the working population is misleadingly called a 'fight (or battle) against inflation' to persuade the working population to tighten its belts, to reduce its standard of living.

In Britain, for example {1}

A salary and wages 'freeze' by a Labour government did not restrict dividends.

A Labour government limited wage increases to 5 percent maximum at a time when inflation was running at roughly 10 percent p.a.

The so-called 'fight against inflation' appears to be an economic deception designed to exploit the working population even further. Just how one-sided this is can be judged by the fight supposedly being against 'wage inflation'. Left out of consideration are excessive price increases, profits, dividends or capital gains. Also more or less ignored is the large top-level remuneration which has been increasing yearly for some years at up to four or five times the rate of inflation, increasing each year by amounts many times exceeding the average income of the working population.

In the USA, 'Citizens for Tax Justice' in 1991 published a revealing article 'The total cost of the wealthy's tax cuts explains the entire increase in the federal budget deficit!' {10}

In the UK {14}

'The best-paid directors in the country's largest companies received increases that were six times the rate of inflation and four times the growth in average earnings, ...'

'In the early 1990s ... corporate bosses were indulging themselves with pay rises of 25 to 30 per cent ...'

'The highest-paid directors now collect as much in a working week as the average employee earns in a year.'

And {15}

'Over the past 10 years, the remuneration of the highest-paid directors has risen at three times the rate of the wider workforce.'

INFLATION AND UNEMPLOYMENT

I consider correlations of unemployment and inflation rates to be largely spurious and inconsistent, apparently depending on time and place, on how unemployment and inflation are defined, apparently not taking into account all relevant factors.

Consider this argument. Say unemployment is low and labour is in demand. 'Free enterprise' competition for labour causes wage rates to increase. Increasing wage rates cause inflation.

The argument then goes that one is fighting against inflation, that falling unemployment causes inflation so that to keep inflation down one has to increase unemployment or at least keep it above a certain level.

In other words, one is supposed to keep unemployment up, or increase it, so as to prevent free-market competition for labour pushing wages up as this would reduce profits.

This piece of logical-seeming misleading argument is based on the untrue assumption that inflation is caused only by wage increases.

Conveniently ignored by those putting forward such misleading arguments are all the other causes and relevant considerations mentioned in different places in this report including the effect of a country's balance of payments and consequent economic policies on the exchange rate and the purchasing power of its currency.

GENERAL INTEREST RATES: UNEMPLOYMENT, PROFITS AND SHARE PRICES

We hear about the effect of changes in the bank rate, in the general interest rate, on unemployment and deflation. I consider that such relationships, if they exists at all, are at best remote and theoretical, have not been proved conclusively either way. As regards such matters, however, what I am doing here is to discuss only selected aspects.

An increase in general interest rates increases profits for lenders (within a country and internationally). It also increases costs for borrowers and thus inflation, but only to the extent to which loan interest plays a part in the costs. So profits increase in greater measure than costs or inflation.

Money moves towards a better investment. If interest-paying investments give a better return than dividend-paying shares, people will buy interest-paying investments and sell their shares. Interest-paying investments are then in demand and their prices increase, shares are not in demand and their prices drop. Share prices will continue to drop until the amount of the dividend payment (in currency units such as USD) represents a return <3> from the share which is the same as the interest paid by interest-paying investments.

So increasing the general interest rate reduces share prices, reducing the general interest rate increases share prices. And the return from shares (dividend payment as a percentage of share price) tends to move towards the new interest rates. As follows:

This sample calculation illustrates the effect. However, share prices also depend on other factors such as the risk associated with the investment and the country's creditworthiness as reflected in currency exchange rates.

Other key uses of general interest rate in relation to balance of payments and currency exchange rates are discussed in the following section.

BALANCE OF PAYMENTS - CURRENCY EXCHANGE RATES - GENERAL INTEREST RATES - INFLATION - DEVALUATION PROFITEERING. {12}

Suppose our country spends more on imports than it earns from exports. We then see a payments deficit which has to be made good as imports have to be paid for. We pay from our foreign currency reserves. <1>

If the payments deficit persists and we are using up too much of our foreign currency reserves we can increase the amount of foreign currency deposited with us by increasing the interest paid by us to depositors. This is a form of short-term borrowing.

What attracts deposits is the relative interest rate. If another country offers more, that is where the deposits are likely to go. So what we are doing is to attract more deposits by increasing our interest rate in relation to that of others. And we adjust our interest rate when other countries change theirs.

Interest rates affect the cost of borrowing and the profit from lending. So increasing interest rates increase prices, increase the cost of living.

The value of our currency depends on the assets backing it and on the amount of money in circulation. These assets include the foreign currency reserves. As the reserves drop so does the value of the currency as each currency unit is then backed by fewer assets. Our currency becomes weaker compared with other currencies.

Instead of increasing the interest rate we can pay our debts by printing more money. This increases the amount of money in circulation. As our assets have remained unchanged, each currency unit is now backed by fewer assets. The value of each currency unit decreases accordingly and our currency weakens relative to other currencies.

When we do not make ends meet we become less credit-worthy, our currency weakens and so does its purchasing power. It buys less and prices increase.

As our currency weakens (devalues) so our exports become cheaper abroad but we have to pay more for imports. This reduces our standard of living relative to others abroad as they find our produce cheaper while we find theirs more expensive.

We now have to produce and sell a greater volume of exports so as to earn as much foreign currency as we did before and have to sell even more if we are to improve our position, if we are to benefit from the devaluation.

Only too often do producers and exporters charge abroad what the market will bear, charging the highest price their goods will fetch, without reducing prices when their currency is devalued. The result is that the producer's and exporter's profits increase enormously because they sell the same volume as before but make a far greater profit on each sale.

We saw that as our currency weakens (devalues) so our standard of living is reduced relative to others abroad. So these greater profits are made at the expense of a general lowering of the standard of living of the country as a whole. And as prices have not been lowered, there is no corresponding gain in the volume of production, that is in economic growth. And the greatly increased profit redistributes income and wealth from the general population whose standard of living is falling, distributing it to those at the top who benefit from such profit increases.

MAXIMISING PROFITS: WHAT THE MARKET WILL BEAR: PRICE PROFITEERING

In practice directors are generally required by owner-serving laws to act first and foremost in the interests of the owners, so that it is profit which is maximised. Short-term and long-term profits can be and are being maximised regardless of the cost to others, that is regardless of the cost to the community. {5}

Profits are maximised regardless of the cost to the community, limited only by the likelihood of unpleasant consequences such as restraining fines, punitive legal punishment or adverse publicity. {1, 5}

The mark-up between buying or producing in a low-wage country, and then selling in a high-wage country, is often enormous. Large additional profits result at the cost of increasing unemployment in the high-wage country. {7}

Imports are priced at what the market will bear, or just under {7}. The enormous profit margins then cause production to move from high-wage to low-wage countries. The consequence is a lowering of standard of living in high-wage countries to that in low-wage countries, instead of a raising of standard of living in low-wage countries to that in high wage countries.

The phrase 'the polluter pays' sums up popular feeling about how to right past wrongs, about how to hold to account those whose profits are made at the expense of the community and those who benefit from antisocial activities. {5}

It appears that fines imposed for antisocial company behaviour are usually too small to be an effective deterrent, bearing in mind that prices are what the market will bear and the small chance of the company being found out or taken to court.

And it is the customer who is made to pay because enterprises recover any cleaning-up costs and compensation payments by increasing their prices. {5}

So it is the customer who pays while the company is unlikely to be deterred from socially irresponsible behaviour by fines which in amount are ridiculously small compared with the size of the company's overall operations. {5}

One of the most effective restraints has been found to be the fear of bad publicity, of public awareness of socially irresponsible company behaviour, with its effect on company image, consumer trust and market share, and thus on profits. Particularly so when publicity names those responsible for making anti-social decisions within the company or for condoning and omitting to restrain the company's anti-social activities.

To owners and employers the worth of a job is what has to be paid to get it done. They want work to be done at the lowest rate at which they can get it done {4, 6} as profits can be increased by reducing labour costs, by exploiting employees.

So owners and employers will, when they can, pressurise the working population into accepting even lower rates of pay by increasing the working population's needs {1-3}. Doing so by advocating greater unemployment, reducing social security, reducing national health service provisions, weakening the quality of education (knowledge, clear thinking, understanding, objective evaluation).

So profits are apparently being maximised regardless of the cost to others, to the community. Without care or concern for the condition, standard of living or quality of life of the working population. Without being concerned about the in sum-total enormous human suffering which results.

Overall, what we see are consequences of decisions made at the top, and the results of putting them into effect. Results and consequences which at times make the decisions seem so brutal that they appear inhuman.

ROLE OF EXPERTS

An expert is a person having special knowledge or skill in a particular subject. Experts inform and advise and it would be better to refer to them as advisers.

We are here looking at the functional relationship between on the one hand the person who has to take the decision and on the other hand the advising expert. {11}

Within an organisation

The adviser is accountable to his manager for giving expert advice and for the quality of his advice. {11}

A person making a decision is accountable to his manager for the consequences of the decision he takes. Which includes that he is responsible, that is accountable, for obtaining expert advice, for accepting or rejecting this while clearly stating reasons, and for reporting useful results to the adviser. {11}

In a democracy,

Experts inform and advise the electorate about what should, can or cannot be done and about likely consequences either way.

The electorate, the population, decide what is to be done and by when it is to be done. The elected representative puts into effect the decisions made by the electors, that is policy set by the electors.

Note that people are not told what they must do. The role of experts is to advise.

An expert is supposed to advise to the best of his ability, knowledge, skill and experience and is responsible, that is accountable, for the quality of his advice. Responsible, that is accountable, also to those he is advising for the quality of his advice from their point of view, for the extent to which he is considering their best interests.

Too often do experts tell people what the expert thinks is good for the people to do. Too often it is the expert who decides or who attempts to compel others to do as told.

The difference it can make when experts restrict themselves to advising, pointing out what can and cannot be done, is enormous. This is clearly illustrated in a TV documentary about providing housing for people from inner city areas. The documentary clearly describes and illustrates the whole process, showing how architects acting as advisers can be instrumental in providing modern working-population housing described by one resident as 'heaven on earth'. {13}

VESTED INTERESTS OF EXPERTS

People assume that an expert who talks convincingly and seems sure of himself knows what he is talking about, an additional factor being that he is likely to use long important-sounding words with an air of conviction and certainty. This applies particularly in the areas of economics, psychology, sociology, philosophy and politics. {1}

'He who pays the piper may call the tune' is an old proverb which seems to describe rather well what is often seen in practice.

Employers are likely to pay close attention to what their employees say in public and particularly so when the occasion is in the public eye, is likely to be opinion-forming. Employees are aware of this, are likely to see such occasions as potentially career-advancing, are likely to be saying what employers would wish to hear. And so employers have a strong influence on what their employees say in public and employees are likely to be advocating viewpoints which are employer-serving instead of being people-serving and community-serving.

Bias is increased further because employers are likely to promote, and to put forward for making public statements, only those who agree with the employers' point of view.

And bias can be increased even further when media present mainly one point of view, say that of employers, or of a particular political party, or of advertisers.

Similarly, would it not be a good idea for each member of a government, each elected representative, to state in public what they personally are likely to gain, or lose, from the way they are voting on a particular legislation.

I feel that lists of such gains and losses may make interesting reading, for example about the recent changes by a conservative government to UKs local government taxation, from 'Council rate' (depending on property value) to Poll Tax (depending on number of resident people, on size of family) to Council Tax (Poll Tax amended because of public protest).

What people need to do is to consider the community's short-term and long-term interests objectively, seeing things as they are {8}, without bias. {1}

NOTES AND REFERENCES

NOTES

REFERENCES

{ 1}  Social Responsibility, Profits and Social Accountability

Manfred Davidmann
https://www.solhaam.org/

{ 2}  The Will to Work: What People Struggle to Achieve

Manfred Davidmann
https://www.solhaam.org/

{ 3}  Style of Management and Leadership

Manfred Davidmann
https://www.solhaam.org/

{ 4}  Work and Pay

Manfred Davidmann
https://www.solhaam.org/

{ 5}  Community Economics: Principles

Manfred Davidmann
https://www.solhaam.org/

{ 6}  Ownership and Deciding Policy: Companies, Shareholders, Directors and Community

Manfred Davidmann
https://www.solhaam.org/

{ 7}  Exporting and Importing of Employment and Unemployment

Manfred Davidmann
https://www.solhaam.org/

{ 8}  Using Words to Communicate Effectively

Manfred Davidmann
https://www.solhaam.org/

{ 9}  The Right to Strike

Manfred Davidmann
https://www.solhaam.org/

{10}  Inequality & The Federal Budget Deficit

Citizens for Tax Justice
Robert S McIntyre, 1991

{11}  Organising

Manfred Davidmann
https://www.solhaam.org/

{12}  Inflation, Balance of Payments and Currency Exchange Rates

Including: Multinational Operations;
How Base (General) Interest Rates determine Share Prices and Pensions;
Standard of Living and The Struggle for a Bigger Share.

Manfred Davidmann
https://www.solhaam.org/

{13 }  TV Documentary on architecture and housing co-operatives

Produced by Suzanne Davies, 1986
Broadcast 06/06/98 in UK

{14}  The boardroom bonanza

Lisa Buckingham and Roger Cowe
Guardian, 22/07/98

{15}  Pleas for restraint fail to curb

Lisa Buckingham and Roger Cowe
Guardian, 22/07/98

{16}  Motivation Summary

Manfred Davidmann
https://www.solhaam.org/

Relevant Current and Associated Works

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Copyright    ©    1998    Manfred Davidmann
All rights reserved worldwide.

History
30/07/98 Completed
03/01/99 To Website
07/02/99 Main report published. Reference added.
02/06/02 Added 'Relevant Current and Associated Works'

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