Social fabric of economy

If in previous assays i wrote about money and its connection to debt, here i would like to write about the more fundamental issue, that lays under the mechanism of exchange of goods and services, seemingly the substance of everything the economy stands on. This more fundamental issue i would call, the “social fabric”, of every element in the network, teemed together in the economic network, where each individual decision maker and provider, knows his task, his place and his authority in relation to his adjacent co-players and colleagues. The phenomenon of economic networking is based on relation between entrepreneurs, investors, producers, sellers, intermediators, employees and employers and final consumers. The exchange of goods and services needs an intermediary agent, that scales the relative value of the products, and gives it its price. This agent is money. Other emerging property of money is its function as value keeper on  timeline, without propensity to lose it’s value, and as such it brings with it unlimited demand for it. This also means money is an asset, held by people and institutions, in purpose either to generate income in form of interest, or as a value holding asset, that can be easily exchanged against any item or service, without a need to give up the money at discount price. 

The major difference between money compared to other kinds of assets is its relative liquidity, and its value stability. The phenomenon of unlimited demand for money causes accumulation of it, and adds to the  unequal distribution of wealth between people. 

The above described function of money creates a whole monetary system, with agents, who are safekeepers of money deposits, intermediators between borrowers and lenders, trustful payment providers. This whole monetary system is securing smooth flow of exchange between purchaser and seller of goods and services, activities in the real economy.

The real economy is about production and distribution of goods and services. Production itself is about capital invested in production facilities, row material exploited from nature or processed, and labour invested into the production. 

Distribution is about transportation, selling spots, brands, marketing services, etc. 

Above all this stands money, the major tool enabling flow of products in the production process, until finally reaching the customer, who is willing to pay the product its price. 

This simplified description of the economic system leaves one question, what kind of money distribution will secure to most people to get the most value, while limited resources is the axiomatic fact that underlies the whole economic system.

Assuming everyone’s needs are the same, seemingly the solution, to pay to anyone the same amount, seems intuitively right. The problem is, such an approach proved to be very inefficient. The Soviet experiment proved to fail. Someone may claim, this experiment was not handled correctly. It was kidnapped by the most unscrupulous politicians, as Stalin, Khrushchev and Brezhnev. But even more successful experiments, under entirely different circumstances, like Kibutz in Israel, failed to survive beyond the first and second generation of founder fathers. The demand for individual expression and creativity, as fulfillment of desire for freedom, won over the ideology of cooperation and social harmony. 

The economic efficiency of the market-capital economy, based on its capacity to recruit one of the most common human attributes: greed, envy, competitiveness, and infinite whish to stockpile possessions of value holding assets. These seemingly socially negative attributes succeeded to create harmonious social economic cooperation, out of rather chaotic competition between each individual and different parts of social structure. Whereas the alternative system, based on cooperation and mutual guarantee out of altruism and ungrudging acts of readiness to share, seemingly socially positive attributes, failed. 

I thought what experience could be relevant to the expected economic breakdown that will emerge from the Covid-19 pandemic. The only comparable event that came up to my mind was the collapse of the centrally managed communistic economic block. 

About 30 years ago, the communistic economic system collapsed. New leaders of more than half of the world population, introduced revolutionary change in the previous economic system, from bureaucratic, centrally managed-planned economy to capitalist-market oriented economy. The crises following the collapse of the previously centrally managed network was huge. Everything that seemed valuable in the past lost its value. Huge investments in production facilities, and economic infrastructure lost their relevance, and whole cities of industrial sites stood empty, without use. Public transportation, that used to bring workers to these factories became useless. Even worse, lots of the knowledge taught, learned, became irrelevant. The social network, that enabled functioning of the previous system disappeared overnight,  and many major players needed to disconnect their ties with their previous colleagues, denying their identities.

Already before its collapse, significant parts of the leaders in the so called socialistic countries, understood the failure of the socalled “socialist economic system”. But only very few had the freedom to learn about the alternative market economy. The previous leaders, who participated in the leading positions in the communist regime, lost their possessions and position from one day to other. New leaders, relatively young, in their twenties and thirties, with capacity to learn and adopt new ways of action and thinking became relevant. They took the leadership positions, and erased whole level of nomenklatura, mostly opportunists and very few ideologically oriented leaders, were erased from the economic scenery.

The capitalistic-market economies were just happy to fulfill the economic void that had been opened in the post communist countries. They took over the leftovers of collapsed production and distribution facilities, replaced it, remodelled it, rebuilt it. New markets, with hundreds of millions of well educated, very adaptable people, hungry for knowledge, with entrepreneur spirit, opened for risk taking, since they had very little to lose, opened to the unscrupulous, well established, western economic entities. The capitalistic system based on competitiveness, used their advantage in knowledge and available capital, transformed the previously, “socialistic” economy to capital-market economy within less than 20 years. If the GDP per capita with the collapse of the “socialistic system” of the East European countries was about 15% of the major western European economies, at 2019 it was already about 70%. 

But the winners of the bipolar cold war, due to their unscrupulous drive to victory, releasing all the forces of greed and envy, giving up the blush. The had neglected the fact, that there are two sides of the capitalistic-market economy, the financial monetary side and the real economy side.Theyir focusing mostly on the financial side of the economy, leaving the real economy side to the economies, emerging from the socialistic nightmare, mainly China. Most of the industrial production moved to these countries, and most of the western economies focused on services, market developments, global corporate management, and above all financial services. This eventually brought the economic collapse of 2008, when USA needed to recycle debt, accumulated by growing foreign trade deficit, by selling financial assets to the exporting countries, among them, the main exporter to the US, China. 

This policy meant, most developed countries were also the most indebted countries. On the other hand, the developing countries, mainly from the previous communistic block, to secure currency stability, needed to accumulate huge reserves of foreign currency, mainly US dollars, to secure their solvency in international transactions, mostly at times of financial crisis, became the borrowers.

Since 2008 financial crisis, the leading Western economies tried to reload their economies by nationalising the private debt, and continue to increase the volume of government deficit. 

This process continued until 2020, when sudden outbreak of Covid-19 pandemic freezed the economic activity in most of the world, and caused in one hand decrease in the GDP,  that means decrease in debt repayment capacity of economies deeply in depted, while in parallel to it, the governments increased substantially their deficit, that added additional increase in their debts. 

How risky is this debt? The claim is, that Japan has much higher public debt, and it started to accumulate this debt many years before the 2008 financial crisis. But the US debt is very different from the Japanese or European debt, because large parts of it, (about one third), is external to foreign countries, mainly Japan and China, while the Japanese debt is internal debt. This means that the public debt, a financial monetary phenomenon by itself, has deep consequences as to the structure of the real economy. The default of many industries in US, the most famous, the bankruptcy of GM, few decades ago, the biggest company in the world just few dacades before, is direct result of monetary system of overvalued currency, that causes debt to foreigners.

—————-

Modern economy is based on social structure, where each individual, using money is an economically active human being. The very act of using money, is an economic act of participation in creating the fabric of economic network. This can be an entrepreneur, employee or employed, but also an unemployed or a pensioner, whose economic function is to be a consumer using savings, as participant in creating the aggregate demand.

The economy in local or global level includes, decision makers, each of them knows his  unique function, his space to act, his institutive relationships to the other in cooperative network of division of labour. Everyone has his authority as to his adjacent co-players and colleagues, and who has the authority to manage and decide for him his tasks in the social-economic fabric. There are those, who’s knowledge and understanding of realities is limited to their adjacent co-players, then are those with knowledge reaching far related co-players. The final level of decision makers are those, with global picture of the whole social-political-economic structure, and are in the position of global leadership. 

If to try to predict the expected economic recovery from the post Covid-19 world, the closest comparable event will be the post world war, or post revolution world. 

If we compare the post WWII economic recovering from destructed physical infrastructure by war, we find, that while West Germany and Japan miraculously recovered and within 10-15 years newly established a prosperous economy, the East block “socialistic” countries with the same, many cases even better starting point had failed. The major difference between these two competing economic systems was their very different economic networking structure. While in the West the networking was voluntarily based, self organised from the most local to the most corporate level, in the East it was planned and pre-decided by hierarchically organized bureaucratic structure, where networking was strictly imposed on each individual economic unit from the individual to corporate structure. When the so called “socialistic economic system” collapsed, very little useful economic networking remained in function, and all had to be newly build from scratch. 

With the help of western investors and entrepreneurs, the introduction of market economy was relatively fast and successful. Yet, in Czechia as example, even 30 years later, many parts of the economy based on economic networking is in hands of foreign entities. The best example is the food retail distribution, that is all in hands of international food market chains, or small retail grocery shops on local level, entirely in hands of Vietnamese retailers, with their own supply chains, with their own capital investments, with labour force recruited among members of their own community. 

Out of above, the question is, will the standstill of the economy, cause major disruption in the economic networking, or not. The answer to this question is partly in the preconditions that prevailed in global economy before the appearance of pandemics. 

As explained above, the huge indebtedness of the most developed countries, mainly USA and Euro zone, are the basis of the reserve currency, that is fundamental for enabling international commerce and division of labour on global level. Disruptions in this monetary system can endanger the existing global economic networking. 

The US economic policy,  coordinated by president Trump, even before the outbreak of the pandemics, caused several disruptions to the system in the last years. Still the system continued to function without too big upheaval, until the outbreak of Corona virus. To secure the continuous functioning of the system needs international cooperation between the major economic powerhouses, as USA, China and Euro zone. The sustainability of monetary system, based on reserve currency depends on the trust in this monetary system. Trust is a subjective phenomenon and dependent on faith in actions of major political leaders, mainly USA. Major failure of political representatives, or any other disruption in the existing system, as withdraw from international agreements, sudden change of rules of the game, or even verbal expression of to make such a plans, can cause lose of trust among enough people, that panic will take over the system, and then the collapse will follow.