Matt Klein directs our attention to an exchange between Jason Furman and Dani Rodrik that took place at the “Rethinking Macroeconomic Policy” Conference. Both argued that, while economists tend to focus on efficiency gains or “growing the pie”, most policy proposals have a small or tiny efficiency effect and a much much larger distributional effect. Matt Klein points out that in a world like this political competition for resources can get ugly fast.
I would like to propose that one of the reasons we are in this situation is that we have rolled back too much of a centuries-old legal structure that used to promote fairness — and therefore efficiency — in the financial sector.
Adam Tooze discusses 19th century macro in follow up to Klein’s post:
Right the way back to the birth of modern macroeconomics in the late 19th century, the promise of productivist national economic policy was that one could suspend debate about distribution in favor of “growing the pie”.
In Britain where this approach had its origins, access to bank credit was extremely widespread (at least for those with Y chromosomes). While the debt was typically short-term, it was also the case that typically even as one bill was paid off, another was originated. Such debt wasn’t just generally available, it was usually available at rates of 5% per annum or less. No collateral was required to access the system of bank credit, though newcomers to the system typically had to have 1 or 2 people vouch for them.
I’ve just completed a paper that argues that this kind of bank credit is essential to the efficiency of the economy. While it’s true that in the US discrimination has long prevented certain groups from having equal access to financial services — and that the consequences of this discrimination show up in current wealth statistics, it seems to me that one of the disparities that has become more exaggerated across classes over the past few decades is access to lines of credit.
The facts are a harder to establish than they should be, because as far as I can tell the collection of business lending data in the bank call reports has never carefully distinguished between loans secured by collateral other than real estate and loans that are unsecured. (Please let me know if I’m wrong and there is somewhere to find this data.) In the early years of the 20th century, the “commercial and industrial loans” category would I believe have comprised mostly unsecured loans. Today not only has the C&I category shrunk as a fraction of total bank loans, but given current bank practices it seems likely that the fraction of unsecured loans within the category has also shrunk.
This is just a long form way of stating that it appears that the availability of cheap unsecured credit to small and medium sized business has declined significantly from what it was back when early economists were arguing that we could focus on efficiency and not distribution. Today small business credit is far more collateral-dependent than it was in the past — with the exception of course of credit card debt. Charge cards, however, charge more than 19% per annum for a three-month loan which is about a 300% markup on what would have been charged to an unsecured business borrower in the 19th century. To the degree that it is collateralized credit that is easily available today, it will obviously favor the wealthy and aggravate distributional issues.
In my paper the banking system makes it possible for allocative efficiency to be achieved, because everybody has access to credit on the same terms. As I explained in an earlier post, in an economy with monetary frictions there is no good substitute for credit. For this reason it seems obvious that an economy with unequal access to short term bank credit will result in allocations that are bounded away from an efficient allocation. In short, in the models with monetary frictions that I’m used to working with equal access to credit is a prerequisite for efficiency.
If we want to return to a world where economics is win-win, we need a thorough restructuring of the financial sector, so that access to credit is much more equal than it is today.