Prioritizing

In a comment on Scott Sumner's Debt surges don’t cause recessions, Sumner wrote:

Woj, You said;

“As the aggregate amount of debt and interest rises, the percentage of income used to pay interest costs or pay down debt also rises, lowering the amount available for consumption/investment.”

This is simply factually wrong. Every debt payment is money received by someone else.

Let's put it a little differently, then. Let's stop confusing the financial sector with the productive sector. Let's look at them like two different sectors of the economy. You know: the same way the stats are presented all the time.

As the aggregate amount of debt and interest rises, the percentage of productive sector income used to pay interest costs and pay down debt also rises, lowering the amount available for consumption and investment in the productive sector.

It does not matter that "every debt payment is money received by someone else." It would not matter even if every debt payment was received by the same person who made the payment! What matters is that the money is moving out of the productive sector, and into finance. That is the problem.

Among economists, mind you, productivity is said to be of the highest importance.

I go back again and again to Adam Smith and his Factors of Production, though I do not think he called them that. Smith looked at the component parts of the price of commodities. He thought the topic important enough not only to write about, but to use in the title of the chapter where he wrote it.

Modern economists, or textbook writers at least, seem to think the Factors of Production are all about the inputs to the production process. That is incorrect or, if not incorrect, it is of no importance whatsoever to macroeconomics. (Why economics seems boring: Economists insist on talking about inconsequential and meaningless things. In place of math anxiety there is economics ennui.)

The issue is the component parts of price: The issue, gentlemen, is cost.

As the aggregate amount of debt and interest increases, the cost of finance rises in the productive sector. As Smith put it,

The interest of money is always a derivative revenue, which, if it is not paid from the profit which is made by the use of the money, must be paid from some other source of revenue...

The cost of finance, if not paid out of profit, comes out of wages...

Now who ya gonna listen to -- Sumner, or Smith?

Adam Smith Explains the Demise of Aristocracy

(Just a bit more from Book One, Chapter VI of The Wealth of Nations)

As any particular commodity comes to be more manufactured, that part of the price which resolves itself into wages and profit comes to be greater in proportion to that which resolves itself into rent.

Arthur Shipman Explains the Demise of America

As any particular economy comes to rely more on the use of credit, that part of price which which resolves itself into interest comes to be greater in proportion to that which resolves itself into wages and profit.

Factors (2)

A little more from Adam Smith on the factors of production:

But the whole price of any commodity must still finally resolve itself into some one or other, or all three of those parts; as whatever part of it remains after paying the rent of the land, and the price of the whole labour employed in raising, manufacturing, and bringing it to market, must necessarily be profit to somebody.

So there are three factors by definition. I find that interesting.

Regarding the cost of interest, Smith writes:

Wages, profit, and rent, are the three original sources of all revenue as well as of all exchangeable value. All other revenue is ultimately derived from some one or other of these.

The interest of money is always a derivative revenue, which, if it is not paid from the profit which is made by the use of the money, must be paid from some other source of revenue...

Smith's use of the word "derivative" does not, of course, refer to modern derivatives, but simply to the fact that the money to pay interest originates in and must be pulled from one or more of his three factor incomes -- profit, wages, and rent.

Factors

NOT LONG AGO I POSTED AN EXCERPT FROM THE MARC BLOCH BOOK FEUDAL SOCIETY.. IT DIDN'T WORK.. I COULDN'T READ IT, MYSELF.. ON PAPER, IT WAS GREAT.. AND TYPING IT ALL IN HELPED ME SEE EVEN MORE IN HIS WORDS.. BUT ON THE COMPUTER SCREEN, IT JUST DIDN'T WORK.

I HAVE TO POST AN EXCERPT HERE FROM ADAM SMITH.. IT IS UNQUESTIONABLY ONE OF THE BEST PARTS OF THE WEALTH OF NATIONS.. BUT I WILL TWEAK IT AS NEEDED, TO TRY TO MAKE IT READABLE.. (FORGIVE ME.)

I change spelling (LABOUR) and punctuation, and paragraph breaks.
I hesitate to change the words of Adam Smith. I omit some words, and change an occasional word.
When you see the words "the profits of stock" think: The profits of capital.

IF ALL ELSE FAILS, AND YOU DON'T HAVE A COPY OF THE BOOK, YOU CAN (1) CLICK THE POST TITLE TO GET THE POST ON A PAGE BY ITSELF, AND (2) PRINT THE THING OUT.

We live in a fast-paced world. I recommend reading Adam Smith slowly, and savoring his words. If it helps, remember that he lived at the peak of the cycle of civilization, and we live amid accelerating decline.

The Wealth of Nations

by Adam Smith
(1776)
Book One, Chapter VI

Of the Component Parts of the Price of Commodities

In that early and rude state of society which precedes both the accumulation of stock and the appropriation of land, the proportion between quantities of labor necessary for acquiring different objects seems to be the only circumstance which can afford any rule for exchanging them.

If among a nation of hunters, for example, it usually costs twice the labor to kill a beaver which it does to kill a deer, one beaver should naturally exchange for, or be worth two deer.

In this state of things, the whole produce of labor belongs to the laborer; and the quantity of labor commonly employed in acquiring or producing a commodity is the only circumstance which can regulate the quantity of labor which it ought commonly to exchange for.

As soon as stock has accumulated in the hands of particular persons, some of them will naturally employ it in setting to work industrious people, whom they will supply with materials and subsistence, in order to make a profit by the sale of their work, or by what their labor adds to the value of the materials.

In exchanging the complete manufacture, over and above what may be sufficient to pay the price of the materials, and the wages of the workmen, something must be given for the profits of the undertaker of the work who hazards his stock in this venture. The value which the workmen add to the materials, therefore, resolves itself in this case into two parts, one of which pays their wages, the other the profits of their employer...

In this state of things, the whole produce of labor does not always belong to the laborer. He must in most cases share it with the owner of the stock which employs him.

As soon as the land of any country has all become private property, the landlords, like all other men, love to reap where they never sowed, and demand a rent even for its natural produce. The wood of the forest, the grass of the field, and all the natural fruits of the earth, which, when land was in common, cost the laborer only the trouble of gathering them, come to have an additional price fixed upon them.

This portion, or the price of this portion, constitutes the rent of land, and in the price of the greater part of commodities makes a third component part.

In every society the price of every commodity finally resolves itself into some one or other, or all of these three parts; and in every improved society, all the three enter more or less, as component parts, into the price of the far greater part of commodities.

The revenue derived from from labor is called wages. That derived from stock, by the person who manages or employs it, is called profit. The revenue which proceeds altogether from land is called rent, and belongs to the landlord. All taxes, and all the revenue which is founded upon them, all salaries, pensions, and annuities of every kind, are ultimately derived from some one or other of those three original sources of revenue.


A brief summary of a very important concept. And a great pleasure to read.