Value Creation vs Value Extraction in Today’s Economy
Mariana Mazzucato. The Value of Everything: Making and Taking in the Global Economy. Allen Lane. 2018.
The playwright Oscar Wilde quipped that a cynic is a person who “knows the price of everything and the value of nothing.” As Mariana Mazzucato argues in her important and stimulating new book, “The Value of Everything,” that adage could be applied to the vast majority of mainstream, neo-classical economists.
Mazzucato is the author of the previous bestseller, The Entrepreneurial State, which argued that governments have been absolutely pivotal to the innovation process in successful advanced industrial economies, often taking on big risks and opening the way for later private sector investment. Her new book broadens the argument, claiming that mainstream economics is systematically wrong about the value creation process and needs to be replaced by a new framework which distinguishes clearly between value creation and unproductive and destructive value extraction.
This argument is important in setting the stage for a social democratic economics and a genuinely mixed economy where governments would take an active economic leadership and investment role and tightly regulate the private sector in the public interest. Social democrats have too often conceded to the argument that private sector entrepreneurship is the driving force of wealth creation, and that governments should largely confine themselves to re-distribution of income and wealth through progressive taxes and welfare state programs.
Contemporary neo classical economics makes market prices the only measure of value, and sets aside the distinction made by the classical economists (Smith, Ricardo and Marx) between productive and unproductive economic activity and labour. In the neo classical world, profits reflect and are justified by the productive contribution of capital, and the fact that goods and services are sold on the market for a profit shows that they have value to consumers. In this light, the national economic accounts largely exclude or hugely undervalue production outside the market by households and by governments, and fail to register the fact that many significant private sector activities are parasitic on the productive economy and actually destroy value.
The dominant paradigm was actually overthrown at a highly theoretical level during the famous Cambridge capital controversy of the 1950s and 1960s, when Joan Robinson argued that profits could not be shown to reflect returns to capital, but rather reflected the balance of bargaining power between capital and labour. To be sure, investment in physical capital and research by the private sector make an important contribution to value creation, but wealth creation is above all a social process.
It is nonsense to argue that the wealth and income of hedge fund billionaires reflects their individual productive contribution, as opposed to their ability to extract profits from socially created value. Many progressive economists such as Nobel prize winner Joe Stiglitz argue that much of the modern economy consists of sectors in which rents or excess profits are extracted by dominant businesses due to limited competition and control of intellectual property rights among other factors. For example, big pharma and the tech giants like Google and Facebook earn profits well above normal rates of return due to their power to shape markets.
Mazzucato closely documents the value extraction role of the finance sector, whose share of total profits has grown rapidly since deregulation in the 1970s. While banks and other financial institutions do play a productive role in part by directing financial capital to productive uses, most real business investment is in fact financed by retained corporate earnings. Meanwhile, finance has directed resources to almost purely speculative and economically destabilizing activities such as hedge funds and creation of exotic financial instruments such as derivatives which merely transfer dollars between winners and losers, as in a casino where the dealer always wins.
As well, finance has had damaging impacts upon real economy highly productive businesses by inisting on maximizing shareholder value and demanding short term profits paid out through dividends and share re purchases as opposed to providing ‘patient’ capital for long term investment in equipment and innovation which boost real value added and productivity. Despite years of so-called financial innovation, it is hard for truly innovative new companies to attract capital since even venture capital funds are oriented to a quick turnover of capital and have very high “hurdle” rates of return In this context, very early start up capital often comes from governments which are prepared to take bigger risks for bigger long-term payoffs.
Mazzucato further argues at length that governments play a much more important role in value creation than is often appreciated. Much of government activity is treated in the national economic accounts as consumption, even through public services help create a great deal of value in the private sector. Public sector spending in areas such as education at all levels and basic research is very much part of the social process of production and value creation, and governments often create the markets served by the private sector. For example, the DARPA program in the United States created the internet and the basis for much of the digital information economy through basic research and support for private sector pioneers.
It has only been recently that government investment has been partially recognized as such in the economic accounts, and conventional accounting still judges the value of public services to be the costs of inputs, mainly labour. By this definition, more public spending cannot raise productivity and value-added in the economy.
As in her previous book, Mazzucato is very much an advocate of an expanded entrepreneurial role for government in supporting, not just research and high levels of public investment, but also in setting ambitious goals and missions, such as decarbonizing the economy. She argues that governments should take an ownership stake in the productive economy to collect a social return on public investment for citizens which could be used to fund social programs and public services as well as to create greater social equity. In the Canadian context, she would likely favour taking large equity stakes in innovative enterprises to provide long term capital for growth, while also seeking greater control of the economy and a fairer distribution of income and wealth.
The Value of Everything is a stimulating and informative overview of value creation and destruction in today’s economy. It is very much part of a wider project to develop a new progressive and social democratic economics oriented towards the creation of real value and social equity, as opposed to maximizing GDP.
Andrew Jackson is Adjunct Research Professor in the Institute of Political Economy at Carleton University, and senior policy adviser to the Broadbent Institute