Index to inequality
How not to make the world flat
THE world’s most pressing economic problem is inequality. Yet no standard economics textbook has anything meaningful to say about inequality. The word doesn’t even make it to the pages of some of the leading economics texts. Because, save for a few, economists love to bury themselves in a sea of supply-and-demand curves, chasing the illusory equilibrium in the murky market they have inherited from 18th century Adam Smith, the father of modern economics. This is how unreal economics has become. But one economics text — The Economy — by CORE, a British charity, is getting real by beginning with the end in mind: understanding inequality and how to make the world more flat, economically speaking that is.
But what is happening in the financial world, beginning in the United States, will make this a great challenge for the flat-world bound CORE-trained young economists. When inequality mixes with financial instability, making the world flat becomes a Sysiphean task. We may not be there yet, but a fundamental change is happening in global finance, warn academics Jan Fichtner and Eelke Heemskerk in their November paper titled “The New Permanent Universal Owners: Index funds, patient capital, and the distinction between feeble and forceful stewardship”. Noting mass migration of money into index funds, they warn of far-reaching socio-economic consequences. And the funds are largely in the hands of America’s Big Three — BlackRock, Vanguard and State Street, the new permanent universal owners of Fichtner and Heemskerk. The triumvirate are more than American with fingers in indices in Britain, Europe and Japan. And many more. The academics list at least 29 countries. In the calculation of Fichtner and Heemskerk, by early 2019, BlackRock held ownership in well over 10,000 listed corporations around the world. Vanguard even more, holding positions in over 10,500 companies. The smallest of the three, State Street, held ownership in approximately 6,000 firms. Even Norway’s well-regarded sovereign wealth fund held shares in just over 8,500 listed firms globally. And that, too, with smaller holdings. According to The Guardian, the three manage US$19 trillion in assets, about a tenth of the world’s quoted securities. Why is this a problem? Well, money in many hands make market work, not in a few. The other is, as the newspaper points out, they “hold a company’s shares because an index they are tracking requires it, rather than to improve a firm’s performance”. Take its indicative example of Elon Musk’s Tesla shares. “Within a week of news that Tesla would be included in the S&P 500 index in December, its share price rose by 33 per cent, as passive funds were forced to buy more than US$70 billion of its stock. It made Elon Musk, briefly, the richest person in the world despite analysts saying his company was overvalued.” This is by no measure efficient allocation of capital by the market.
The market has been overrated by Adam Smith and the stream of economists who followed him down the centuries arguing that society’s interest is best served by competition between private buyers and sellers. And that government interference is generally harmful. Wrong on both counts. Economic inequality and financial instability tell us that what is needed is more government interference, not less. Many economists, especially the liberal free market type, will make us believe that economics is market. Not so. Economics is way bigger. Ha-Joo Chang, the Cambridge University economist, is right after all. Economics, often disguised as science, is really a political argument. No political argument can be sustained without a government.
Economics, often disguised as science, is really a political argument.