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Fiscal and Monetary Policies Are Ineffective in an Economy Characterized by Monopolistic Competition
More than five years into Pres. Obama’s administration, the U.S. economic recovery has been slow and lethargic. Keynesian economists are at a loss to explain why the billions of dollars the federal government borrowed and spent and the billions of dollars created by the Federal Reserve System failed to stimulate the economy. The principle accomplishment was to increase the value of capital assets, especially corporate securities and real estate. The stock market experienced a boom as corporate earnings grew and the capitalized value of those increased earnings sky-rocketed. Why were economists like Profs. Summers, Bernanke, Romer, who were advising the president so wrong, not to speak of those like Prof. Krugman who believed the federal government should have spent more? They could not be more wrong.
As we have pointed out many times on this blog and in our newly published book, Balanced Trade, the failure to balance our foreign trade was a huge drag of the economy. But those foreign trade deficits were as great as or greater during the recovery after the 2001 recession than they have been since the recession of 2007-08.
The answer to the question, “Why were the Keynesians so wrong?” is, we believe, the fact that economists have ignored for eight decades the revolutionary insight of Harvard Prof. Edward Chamberlin’s that nearly all firms have some monopoly power, ranging from hardly any economic power in industries producing homogeneous products, natural resources and agriculture, for example, to pure monopolies protected by government policies, patents, for example. Counter-recession policies affect firms with different amounts of monopoly power differently.
Those characterized by monopoly or a high degree of monopoly did especially well. Pharmaceuticals, digital pads and tablets, and new digital apps did well as innovators always do regardless of depressed economic conditions. The corporations whose securities are listed on the New York and stock exchanges fall into the category of firms with significant monopoly power. Their revenues rose in spite of the absence of a significant increase in total demand.
The administration’s Keynesian policies and the Fed’s monetary easing affected firms with different amounts of monopoly power differently. Those with monopoly power can raise their prices and although demand has shifted adversely can maintain the level of their earnings. In oligopolistic industries, when the leading firm raises its prices, the others are enabled to do likewise. So it is in all industries characterized by some degree of monopoly power. But it makes a difference when the competition is between firms producing products distinguished by real differentiation, like automobiles, and those with so-called “illusory” differences. In the formers, all firms will suffer the effects of reduced demand. In those industries characterized by illusory differentiation, the ability of the largest firms to increase advertising expenditures gives them an advantage.
Thus, the principal beneficiaries of the administration’s policies were the corporations with the largest degree of monopoly power. Since total demand was affected very little, relatively few of the unemployed gained new jobs. Since the administration’s policies increased the prices while wages and employment stagnated, the principal beneficiaries were the wealthy shareholders of corporate securities. Large amounts of realized capital gains, taxed at lower rates of tax than wage and other normal income, were realized and consumed by owners of assets that appreciated. Corporate dividends were likewise taxed under the personal income tax at reduced rates.
We believe this explains why sellers of luxury goods who cater to the wealthy classes have done well in the recovery. Retailers catering to luxury consumers have done well; while those catering to the working class have done poorly. As a result of the boom in asset prices, the wealthy have done very well indeed but the working class, except for government employees have done poorly.
Monopolistic competition does not nullify the forces of supply and demand. Diminished total demand for goods and services results in reduced output and extensive unemployment. The two leading growth sectors of the U.S. economy, investment and housing have shown hardly any growth at all.
The recovery is characterized by a worsening in the distribution of income, by millions of long-term unemployed, by a large percentage of college graduates unable to find jobs, by millions leaving the labor force.
Keynesian policies and expansionary monetary policies are inappropriate in the modern economy dominated by a high degrees of monopoly and real and illusory product differentiation.
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