Wednesday, February 21, 2007

Heinlein Ahead of His Times

For Halcyon Tempest

Heinlein’s “For Us, The Living” provides an interesting analysis of a number of different social quirks of the early 20th Century. His analysis of the economic institutions and structure is, naturally, of particular interest to me. Before I begin a discussion of the viability of the economic system proposed by Heinlein in the thin guise of science fiction, it is important to lay out a little bit about where he’s coming from.

The original manuscript was written in 1939. WWII was just beginning, and the US was far from entering the war. The US was still in the process of recovering from the single largest recorded economic disaster in its history. The Great Depression strongly informs Heinlein’s perspective on the structure of an economy. There are two key elements of the depression that Heinlein correctly identifies in his writing. First, the relatively large scale failure of the American banking system. During the Depression, deliberate efforts were made by both monetary authorities of the US and the private banks to maintain interest rates at relatively high levels. This was done by contracting the money supply. Contracting the money supply typically makes an economy contract - oops. Heinlein’s economist overstates the control of the American money supply on the part of the banks and completely ignores the role of interest rates, though his arguments are largely correct given his frame of reference. Second, Heinlein is correct in identifying weak aggregate demand for goods and services as a major part of the problem. It seems clear that Heinlein had either read or knew of John Maynard Keynes’ “General Theory of Employment, Interest, and Money” published in 1936. Most governments now automatically stimulate aggregate demand in a recession.

There appear to two be key elements to Heinlein’s proposed economic system. The first is the system of “heritage”. Under this system every individual in the society receives credit (effectively cash or purchasing power) to spend as they see fit. The individual is then able to work for extra funds if they so choose. Any extra funds are subject to some level of taxation. This is an idea that’s been around for a number of years under a variety of names. I’m most familiar with as either a negative income tax program or a guaranteed annual income program. The idea is almost exactly the same. All people receive a transfer of funds from some level of government. This transfer is not subject to taxation. The individual is free to work in the paid labour force for additional funds if they so choose. Any additional income earned is subject to taxation, commonly at a relatively low and constant rate. These proposals were really popular during the 1970. In Canada there was even a field trial of one; the Canadian Basic Annual Income Experiment, or Mincome Manitoba, conducted between 1975-78. The results found there was only a minuscule impact on work effort. So this part of Heinlein’s proposal would likely work on a national scale. The savings in terms of program delivery costs would be phenomenal. More money would actually reach people who needed it. These types of programs have generally been resisted political by conservatives due to the incentive to work effects – which Heinlein actually addresses. Other groups resist for more selfish reasons. Punch Line: economically feasible – politically...?

The second key element of the economic system described in “For Us, The Living” involves the funding of the “heritage” or negative income tax system. The process suggested by Heinlein is only workable under very specific circumstances. It requires that all individuals believe that prices will remain stable. Not a problem when Heinlein was writing, prices were stable and in some cases even dropping. It requires that there be significant unemployment already in the economy, as there was when he was writing. Excess productive capacity must already exist. If you consider Heinlein’s chess piece economy, the workers were unemployed until the arrival of Perry’s factory. If the workers were already employed, the result could only be inflation.

The easiest way to explain is with a small amount of economic theory. PY = MV. That’s it! It’s the quantity theory of money, currently out of favour in most economics texts – it’s too old and too simple to learn. Here’s the deal. P is the price level (CPI = 2 in Heinlein’s example), Y is the real output of the economy (63 Playing Cards), M is the money supply (100 poker chips), and V is the velocity of money (slightly more than 1). The velocity of money is the number of times a unit of currency changes hands in the purchase of goods – generally fixed by banking technology. Assume, as Heinlein’s economist does, that the price level is fixed at 2. Assume also that the velocity of money is fixed at just over 1 but less than 1.26, again as in the example in the book. It’s pretty clear now that the two sides of the equation don’t balance. The solution to this problem, if prices and velocity of money can’t change, is either to reduce production (throwing more people out of work) or increasing the money supply.

The supply of money must always increase if the economy is growing or else prices will have to fall. Deflation is almost never observed. Virtually all countries in the world have money supplies that grow at some pre-determined rate. Here’s the catch, if you’ve already balanced the PY = MV equation, adding more money can only lead to inflation. If we were to attempt to fund a cost of living “heritage” and other public goods solely out of money supply growth, we’d suffer from hyperinflation, like interwar Germany, or more recently Brazil, and a number of African nations. Hyper-inflation destroys economies.

That’s my two cents worth on Heinlein’s economic theory. He’s not entirely out to lunch. The monetary policy needs to be approached with a lot of caution, but the “heritage” system is totally workable.

Interesting Aside: The earliest reference I can find to a negative income tax plan is Juliet Rhys-Williams in the 1940’s. It seems Heinlein was once again a head of his times.

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So, this is something I've been thinking about.

1. Austrian school thinkers think there is nothing wrong with some kinds of deflation. All Keynesians assume that deflation is bad, and ones like Krugman actually say that we want inflation. (Boggles the mind, but..)

2. My thought is that if we assume that both deflation and inflation are bad, then the money supply needs to be proportional to the productive capacity of the society. Which means that money supply should grow as the product of population and productivity.

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Robert Pearson said...

"Negative income tax" may not have been mentioned until the '40s but Heinlein's system was based on C.H. Douglas "Social Credit" (1924).

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J said...

Actually, Robert Heinlein was coming from a totally different economic perspective.
If you read the afterword, Spider Robinson makes mention that Heinlein was in the Social Credit movement in the United States. I read the book a few years ago, and I got really interested: What was this "social credit" stuff? So I went and searched. Turns out, it was a whole economic movement that's simply been airbrushed out of history.
C. H. Douglas, the founder of the movement, spoke at halls (where tickets always sold out), made nationwide addresses over the radio in the U.S., Australia, and Britain, and in front of governments on financial inquiry committees. He held several public debates with professional economists (Douglas was trained as an engineer), and his works were studied widely during the 1920's-1930's. Yet practically no one has ever heard of the guy.
He came up with the idea that purchasing power was insufficient to distribute the goods of industry 17 years before Keynes wrote about it. He has an entirely different view of the economy. For instance, prices are not determined solely by supply and demand. The equilibrium of the two determines the /upper/ limit; but the lower limit is determined by cost plus a minimum profit. When a product must be sold below cost, the willing seller disappears.
He saw the economy, not as a series of interactions between the nebulous ideas of supply and demand, but in more concrete terms of prices against incomes. The main problem was to ensure that the flow of incomes over time were sufficient to liquidate the flow of prices over time. Prices fluctuate with income only secondarily; primarily, they fluctuated on the basis of the costs involved in their creation, according to the rules of industrial accountancy.
The crux of the argument is what he discovered while working as an engineer. He was called to the Royal Aircraft Factory at Farnsborough to sort out the accounting there; in doing this, he noticed that the total price value of the things the factory produced in a week exceeded the incomes paid out to workers by the factory in that week. He took up a study and found across over one hundred businesses, except for those headed for bankruptcy, the same scenario took place.
What it was, then, was that the consumer was being presented with prices which stemmed from costs generated in the past, and the income with which he had to pay them was derived from present production, which generated costs that became future prices. However, at any one moment, more costs were being generated - not prices, yet, but costs, always - than there were incomes distributed, so that prices kept rising, without incomes necessarily rising with them.
Keynes saw this, and proposed that incomes should be always kept rising with prices via investment. The very act of investment, however, creates an amount of costs at least equal to, if not greater than, the amount invested and paid out; so that, while incomes may rise now, costs, and eventually, prices, will rise by at least an equal if not greater amount. The welfare of the economy depends upon the constant expansion of production.
Douglas saw this, and thought that, instead of requiring people to work just to buy the things they have already made, to simply distribute sufficient purchasing power so that people can buy the things they've already made, and allow them to choose whether or not to engage in further production. This he proposed to do with the basic income and a price rebate. The price rebate was designed to be counter-inflationary; it was an agreement on the part of the retailer to lower all his prices by a certain standard percentage, and he would be reimbursed by a monetary authority for the trouble. One could have a profit-limiting agreement as part of the deal. The rebate would lower prices, and the income would raise incomes, so that the two would be equal. If incomes rose above prices, the rebate would be cancelled and a tax could be levied on all retail prices to soak up the extra money.

J said...

Douglas also saw the flow of money differently. The Circular Flow has us imagining that all transactions are between businesses and consumers; his conception took into account money creation. Banks create all our money, and all this money comes with an attached debt. Thus, businesses must charge over time enough to bring back all the money they paid out in respect of a loan, and then some (interest). Money flows, thus, generally like this: Banks->businesses->workers/consumers->businesses->banks. When money is repaid on a bank loan, it is simply destroyed. There might be bills left over, but the credit that existed in the economy is now gone.
The biggest problem that Douglas saw from this was the question of the ownership of the community's resources. Banks have the sole ability to initiate new production; a business might save up money to expand, but this requires that somewhere else a business is not able to sell all its goods. And by attaching a debt to every unit of money issued, they effectively lay a claim on all the things that are created in respect of that credit; so that what is properly the property of the community, held by individuals, is collectively under the threat of repossession by the banks, should they wish to recall the loans. Because of their position, banks wield tremendous power; they can decide which businesses should prosper, and which nations should prosper, and when, using the power of credit-issue, driven by the pursuit of profit, or perhaps for some, for the pursuit of power.
This monopoly of credit, in the context of a financial system that absolutely necessitates the constant, expanding growth of the economy, causes this position. Douglas thought that the State, or some democratically accountable organization, should also have the power to create credit in respect of the proposed basic income and price rebate. The mechanism of loan creation was fine in itself; although he thought that there should be no limit on credit creation, beyond the real productive capacity of the community- not a fractional reserve, as is ostensibly the case here.
So... yea. Perhaps you can tell I researched this. But that sort of thing was what Heinlein was coming from, not Keynesian economics.
I suppose one important aspect to note is that of leisure. Our way of living, our economy, does not, for just about everybody, offer the prospect of leisure as production becomes more automatic. But it ought to, and it ought to have been, according to this view. In 1930, the Technocracy group estimated that only 25% of the population's effort was required for a very high standard of living for all; now, the Venus Project says, with a properly built-up capital using current technology, only 2% (yes, that's two) would be required for what is a very high standard of living /now/. Individuals, collectively, should have been able to have the say in whether they should work more and have more, or work less and have more time, as production became automatic. But we haven't, because we have been forced to keep working to keep a radically defective economic system going- to keep expanding production, whether we really wanted it, based on its merits, or not. It's all just another job; a way to keep the bills paid; never mind whether what you're doing is useful or not, whether it interests you or not. What Douglas saw is that, as production became more automatic, the wage would decrease in importance as the basic income would increase. And in that way, they would become economically free.