New Deal = New Economy

The lessons from the period between roughly 1925 and 1945 are profoundly important to understand where we are today and what the “new deal” aspect of the “Green New Deal” must deliver.  To absorb these lessons, we must first “unlearn” the false narratives about what happened and what we did.  The real story is both more frightening and more encouraging than the tale most American’s believe.  The common wisdom goes something like this.  “We had the roaring 20’s which came to an end with the stock market collapse of 1929.  That triggered the Great Depression which we needed WWII to escape.  Meanwhile FDR passed the New Deal which created a safety net for most Americans.”  While almost every American would concur with that summary it’s deeply misleading and badly inaccurate.

The Green New Deal is obviously focused on the challenges of climate change.  However, the “new deal” reference is both important and a source of confusion.  We as a nation do indeed need a “new deal”, but just what does that mean?  What did the original New Deal actually include?  What was the context and what did it do for America?

In truth, the 1920’s were roaring for some but misery for most.  Agricultural productivity was skyrocketing, which is a good thing overall, but was disastrous for many.  There was simply far too much food being produced, prices were collapsing, and rural bankruptcies were ravaging whole communities across the nation.

Exactly the same thing has been happening in today’s industrial sector.  Globalization and the rise of China have accentuated the challenge, but the underlying driver of skyrocketing productivity is the same as what happened to agriculture in the 1920s.

The new core of the 1920s economy was the industrial sector which was producing lots of new jobs but they were awful jobs.  People worked 60-70 hours a week without being able to earn enough to feed a family.  Industrial productivity was booming but none of that was flowing into wages.  Instead, it accumulated as speculative capital leading to asset bubbles, many of which were in real estate.  Meanwhile monopolists used their market power to squeeze out competition choking off smaller businesses.

The exact same things are happening in today’s job and small business market.  There are lots of new jobs being created, but they’re awful jobs.  Once again people are working 60-70 hrs per week and still struggling to get by.  And, small businesses are collapsing throughout the country particularly in small towns.  Big business is thriving, but the overall level of economic dynamism has been in decline since the early 1980s.

The market crash of 1929 was indeed bad and magnified by poor government policies including the passage of the Smoot Hawley tariffs.  Those tariffs backfired badly sending the already unstable and imploding agricultural sector into a death spiral.  With rural bankruptcies exploding and poor and stagnant wages the entire demand side of the economy imploded.  If you had asked any commentator in 1928 whether the economy was healthy and robust or fragile and riddled with hidden fault lines they would have laughed at the seeming absurdity of the question.  And yet, it was fragile.  It was poised on the edge of a horrific abyss that was invisible to those who focused solely on their wealth, the stock market and GDP growth.

Once again, we face the same situation.  In fact, the underlying metrics that showed how fragile the economy actually was in 1928 have all reached the same levels today that they did back then.  Today’s superficial commentators focused solely on the success of the wealthy, the growth of the stock market and GDP and the simple level of unemployment are suffering from the same blindness that led the nation into the abyss almost 100 years ago.

When confronted with this disastrous situation FDR did not build a safety net.  He redesigned the economy.  That’s the core essence of the New Deal.  It began with a new set of regulations for banking and finance that were designed to both provide immediate stability improvements along with ensuring the sector would be able to reliably provide the kind of capital raising and management needed by our growing industrial sector.  That was followed by the direct intervention of the government to manage agricultural supply, to stabilize prices, and to establish subsidy programs so that the continued growth in productivity would no longer wreak the same destruction on families and communities that it had in the prior decades.  Once both of those were in place the tide of rural bankruptcies came to an end and private capital began flowing back into the banks.

The industrial sector was well on its way to becoming the backbone of the economy, so it was crucial that it become a sector where people could earn a living.  That formula was achieved by legislating a minimum wage, the 40-hour work week and enabling the formation and bargaining power of unions.  For the next 40 years that formula worked, with wages tracking productivity as is essential for a sustainable economy.

Meanwhile FDR tackled our infrastructure which was trapped somewhere between our agricultural legacy and our growing industrial sector.  He built the roads, bridges, tunnels, airports, and shipping hubs needed to support industrial logistics. He built dams providing water and electricity throughout the western states and the electrical systems needed to bring Appalachia into the 20th century.  Yes, those programs also provided much needed jobs, but the legacy of what was built endures to this day, long after the jobs have gone.

All that infrastructure was soon put to use as FDR, through the Reconstruction Finance Corporation (RFC), began capitalizing the build out and tooling of America’s industrial base.  The RFC was basically a government bank and it used many different tools to accomplish that build out including facilitating the establishment of industrial collectives to spread financial risks.  By the end of WWII over half the total capital stock of America’s private sector had been paid for through the RFC.  In most cases the plants and equipment were leased to their private “owners” for one dollar per year and given to them for free at the end of the war.

As the GI’s returned home the final pieces of FDR’s redesigned economy were put in place.  The GI bill enabled thousands to seek mortgages and the entree to the middle class through home ownership.  It also provided an enormous education boost to the national workforce.

That’s the core of the “new deal.”  It was not a safety net, it was a new economy.  We had a redesigned financial sector; an agricultural sector with enough government support to ensure its continued productivity explosion would no longer destroy families and communities; an industrial sector that was recapitalized through government support, that had a revamped set of labor laws to ensure wages matched real economic value and a retrained and motivated workforce; and, a fully built-out national infrastructure of roads, bridges, airports, electricity and water supplies.

The end result was the greatest period of sustained and shared economic growth anywhere in history.  Was it capitalist? Was it socialist? What do those questions even mean and why should anyone care what label to put on it?  The result was an America that captured the dreams and imaginations not only of our country but all over the world.  It was achieved by altering the rules and regulations that governed the economy and through active, direct coordination and investment through the federal government.  Every one of us and every private and public institution played their roles and we thrived as never before.

Note that that version of the story doesn’t even mention social security.  It’s very important to our society and a crucial element of FDR’s legacy but a separate topic.  Far and away the most important lesson from the New Deal is the opportunity and need for government leadership in redesigning a failed economy so that it works for the nation as a whole.  We did it before and we can do it again.

If we are to truly have a Green New Deal it must include a redesigned economy that sustains communities ravaged by growing industrial productivity and that ensures the jobs coming from the new core of the economy are good jobs.  We need a redesigned financial sector and set of corporate governance principles that build new economic value instead of draining it into speculative financial gambling games. It also needs reinvigorated government support for the healthcare, education and human capital development needed to ensure our economy and citizens thrive. And, it obviously needs to include a green infrastructure appropriate for the challenges and opportunities of the 21st century.  That’s the New Deal we need to demand and help build.

Stock Buybacks Destroy Wealth

In 2018 we as a nation took a trillion dollars out to the parking lot and set it on fire.  We will be doing the same if not more in 2019.  We could have used that to pay down student debt, begin converting to a fully renewable energy supply or just to repair our long neglected and crumbling infrastructure.  None of those alternatives were ever considered.  We just threw the money away.  The shovels and matches we used for our national wealth disposal project were share buybacks.

That’s not the official story, it’s just reality.  The official story is either we “returned the money to shareholders” or “we used it to enrich the compensation of corporate executives.”  Both of those are not just said, but strongly believed by large numbers of “informed” observers.  It’s nonsense.

The idea behind all this is that reducing the corporate share count while maintaining earnings will boost Earnings Per Share (EPS.)  As long as the Price/Earnings (PE) ratio stays constant that means the price per share will go up.  That’s the bet placed on the big roulette wheel in the great financial casino in the sky.  We put our money on “black” and then spin the wheel.  At its heart, it’s not a business strategy it’s a gambling strategy.

I spent 35 years in IBM and over 20 years as a senior executive most of which was as VP Corporate Strategy. Part of my job included briefing financial analysts on our strategies.  IBM was and remains a heavy user of stock buybacks and I fielded a lot of questions over the years on the topic.  For a time, I was also a direct and personal beneficiary of the practice. I’m quite knowledgeable on the topic and for those with a penchant towards blame I freely admit my complicity.

In the early days I would respond to questions with something like “at the current stock price we see this as a good investment.”  Later that would change to “we have two major tools to return money to shareholders, dividends and buybacks. Some investors prefer the former while some the latter and we serve both.”  I was not alone.  My counterparts both in IBM and across the market all echoed the exact same refrain.  Most of us believed it, at least at some level.  Investors did too and began expecting and then demanding the practice.  The gamblers all agreed this was a good gambling strategy.  Keep putting that money on the roulette wheel!

To meet these expectations, we established and published a clear EPS roadmap.  Initially that roadmap was built by first laying out our operational plans and then layering in a set of financial plans, including buybacks, to serve as contingencies if the operational plans fell short.  Over time those two flipped. The financial plans, specifically buybacks, came first and began squeezing out operational investments.  We reached the point where our CEO proclaimed internally that our financial manipulations WERE the operational strategy.  The gambling strategy became the corporate strategy.

None of those later stages were admitted publicly, but it was visible to careful observers.  Analysts began making noise about the “quality” of our earnings.  And, then that great roulette wheel in the sky began hitting double zeros and red on a regular basis.  Our PE ratio began compressing right in line with our buybacks.

That wasn’t bad luck. It’s the reality of what happens as the balance sheet gets steadily drained by a gambling addiction.  While the exact details differ, the same story has been unfolding across corporate America for decades.  There are many, many companies who are paying out more in dividends and buybacks than they make in earnings.  In a truly sad story of corporate gambling addiction the formerly great and financially sophisticated GE found itself taking out loans to support their gambling (buy back) addiction.  As every gambler eventually learns to their dismay, the house always ends up winning in the long run.

Most companies have maintained their “returning money to shareholders” story.  Some will add something along the lines of “we see no better use for the money.”  Since they’re just throwing the money away it means they have NO USE for the money, and that’s probably the most accurate description of what’s going on.  It’s not that they lack ideas.  I’ve spent countless hours working with corporations on their innovation programs and never encountered one that didn’t have good ideas.  Modern corporations are not lacking in either intellectual or financial capital.  The shortfalls come in the form of management bandwidth and other forms of human capital.  Those are real factors.  In many cases they reflect true organizational limits.  In others they might be addressed through human capital development policies, such as universal access to higher education.  In all cases, tax cuts are useless on these problems.

That’s the longer version of the story.  Here’s the short and simple one.  Imagine two people sitting across the table from each other.  One is holding one trillion dollars in stock, while the other is holding one trillion dollars in cash.  Together they have two trillion in wealth.  Now they trade.  One gets the trillion in cash.  The other gets the trillion in stock and proceeds to destroy it, to remove it from the table.  Afterwards, the person who originally held a trillion in cash is now sitting with nothing.  That trillion in cash came off their personal balance sheet and is simply gone.  Between the two of them they now hold only one trillion in wealth.  That’s what we’re doing as a nation every year and it’s getting worse.

Like any addict, corporate America is in need of an intervention.  Some family member or close friend needs to pull them aside and explain that putting money on the roulette wheel in the financial casino is no different than taking it out to the parking lot and setting in on fire.  And, since they truly have no idea what to do with all their money, we need to ask our conservative friends why they keep wanting to add to the bonfire rather than putting our country to work building all the things we need and have been neglecting.  There really, truly, are better things our nation can do with a trillion dollars every year.

Capitalism Vs Socialism is Gibberish

One of the Republican Party’s main strategies for 2020 is to campaign against “socialism” and for “capitalism.”  The reality in 2020 is that neither of those words has any semantic meaning.  They’ve become expletives to be hurled at enemies and gang colors to rally trolls.  The entire conceptual framework behind those words has become hopelessly encrusted with bad history, rhetorical abuse and the gradual decay of a set of imperfect ideas over the course of centuries.  Whatever useful relevance those terms had in the 18th and 19th centuries eroded steadily as the 20th century blurred the lines, winnowed out proven failures and blended mixtures of public and private sectors all over the world. In fact, the assumption that there’s a clear and stark distinction between public and private requires one to ignore the impossibly intertwined fabric of how our actual social governance functions.  The real world isn’t black and white, it’s all shades of grey.

 

Journalists now regularly ask politicians whether they’re capitalists or socialists a question that is utter gibberish.  No two people share the same definition of the words and for many people the words change meaning from one context or conversation to the next.  It’s becoming the topic of the day which unfortunately creates a useless framing designed by trolls to minimize our ability to have a constructive discussion about the nature of our society and what we want it to become.

 

And, that’s the real topic on the table.  What do we want to become in the 21st century?  Over the course of our history we’ve had four very distinct socioeconomic paradigms.  The first held sway from our founding to the end of the Civil War.  We were primarily an agrarian society with two models – family farms organized around small communities and plantations worked by slaves.  The abolition of slavery and the growth of industrial production fueled by the labors of immigrants arriving from Europe led to the second paradigm.  It was an era dominated by ruthless monopolies backed by government forces.  Efforts to improve working conditions or wages were met with military operations that often killed those who expected to be able to feed a family on the wages of a 60-70 hour work week.  That paradigm lasted until it collapsed in the early 1930s.  The New Deal redesigned the economy using government resources and laws to create a more sustainable economic growth environment.  That economic paradigm lasted until the early to mid 1970s when it was replaced with a paradigm that grew out of the Austrian School of economics and became known as neoliberalism.  The neoliberal paradigm has prevailed to this day and has dominated the beliefs and policies of both parties.

 

I defy anyone to use the words “socialism” or “capitalism” in a way that usefully describes the similarities and differences across those four paradigms.  They were enormously different and produced dramatically different economic patterns.  But, those words serve to obscure the important realities of those periods rather than elucidate them.

 

The real issue of the day is that essentially every material aspect of the neoliberal paradigm has proven false, socially harmful, or economically destructive.  Its days are coming to an end and the question is what will replace it.  That’s the real topic for 2020 – what’s our next socioeconomic paradigm?

 

It’s worth observing that all our prior transitions were born amidst crises.  The first paradigm was born from the revolution that founded our nation.  One can argue whether Madison, Hamilton or Jefferson is most associated with the establishment of our original framework, but government leadership was its very essence.  The second grew out of the Civil War and it was largely the leadership of Lincoln that set us on our new path.  The third arose from the Great Depression and WWII through the leadership of Franklin Delano Roosevelt.  The fourth was born out of Vietnam, Watergate and our failures to deal with oil shocks and stagflation.  The leader who cemented the fourth paradigm was unquestionably Ronald Reagan.  It’s no coincidence that the leaders who were able to shift the country from a failing paradigm to a new one are among our most revered.  Change on that scale isn’t easy.

 

One of the favorite phrases of consultants who help CEO’s implement large scale change is “a crisis is a terrible thing to waste.”  When Obama took office, he was confronted immediately with an economic collapse that brought with it the peril of another Great Depression.  In an odd way it was a gift.  It was the perfect crisis to use to put us on a path out of the failing neoliberal paradigm and into whatever name historians will eventually use for our fifth paradigm.

 

Obama avoided another Great Depression but completely failed the leadership challenge of putting us on that new path.  He was a believer in neoliberalism and was effectively blind to its many profound failings.  That set the stage for Trump who capitalized on the widespread resentment that inevitably spreads as a socioeconomic paradigm breaks down for most citizens.  Trump’s failure to see the real problems, let alone offer leadership out of the crisis, is far deeper and more cynical than Obama’s.  In fact, Trump seems to be doing everything in his power to make the situation far, far worse.

 

The crises of 2020 may not be as clear cut as the financial collapse Obama was handed, but if anything, it is far more pervasively felt.  What’s needed is the leadership to help everyone understand the real sources of our problems and then to begin guiding a process to redefine how our economy works.  That won’t come from “unifying” different factions, most of whom are hopelessly lost, and it certainly won’t come from babbling on about archaic 19th century “isms.”

 

This needs to be the real criteria for our next President.  Not whether he or she can “beat Trump,” but whether they have the vision, conviction and leadership skills to systematically address the failures of the neoliberal paradigm.  There are important lessons we can learn from the redesign of the economy in the 1930s, but we can’t simply go back to the same solutions.  The 21st century is a very, very different beast.  Today’s technology, socioeconomics, industry maturity and global context are all radically different and will need solutions relevant to the 21st century not the early to mid 20th century.  This is both our challenge, and, I believe, our enormous opportunity – to reshape our socioeconomic paradigm so our entire nation can thrive in the future not wallow in the past nor cringe in fear.  Anybody up for the task?