Known Unknowns


Welcome to Known Unknowns, a newsletter that can still be counted on to be critical of post-pandemic policy, even in an uncertain world.

If the past is any indication of what might happen in the future, we can expect many big policy changes in the coming years. Historically, at least in the industrial era, a big negative economic shock has always been followed by a large expansion of government in order to remove some risk from the economy. Actually, “remove” is the wrong word. I really mean “transfer,” because risk does not go away—it can only be shifted to someone else.

Before the Great Depression, many people were under-insured. There was no unemployment insurance at the time and pensions were rare. Self-insurance, or saving for the unexpected, is very expensive and not realistic for many families. So, there was certainly scope for some of the New Deal programs, which did reduce some risk by diversifying across households, and created a more efficient safety net. We can quibble with how some of the programs were constructed, as well as the proper role of federalism, but there certainly was some low-hanging fruit back then in terms of the value of risk reduction.

But how much low-hanging fruit is left? Not much, I suppose, because when both the left and right talk about remaking the economy (note: no one wants to improve or adjust to structural changes—instead, everyone talks about doing something dramatic), it seems that it’s less about risk reduction and more about total risk elimination. Everything needs to be risk-free, but how we’ll achieve that, and whether or not it’s wise to do so, remains unclear.

Shareholder value

The Great Depression and the Great Recession both produced new financial regulation. Both also aimed to eliminate risk from reckless or dishonest financial firms or actors. Again, we can quibble about how effective the regulations were, as well as whether they did more harm than good. But transparency and accounting for negative externalities are laudable goals.

Since the financial sector is not at the center of this crisis, there aren’t many calls for financial regulation. But there is a big push for what right-thinking people call “stakeholder value,” or the idea that corporations need to be accountable to everyone, not just to heir shareholders. Take this collection of thoughts from Dealbook, reflecting on the 50-year anniversary of Milton Friedman’s essay that argued for shareholder value. Almost everyone called the essay outdated, wrong, or immoral. But I’m not convinced that all the contributors even read the essay, or understood it. Or maybe they did, and they are now maximizing their own value because saying that corporations must put society before profits sounds noble and enlightened.

I suggest that you reread Friedman article. As I read it, I thought that nothing has ever felt more timely. Maybe this is because it was written during a recession, and followed a time of extreme social upheaval—just like we have now. Friedman talks about accountability and externalities, as well as the danger of pursuing politically expedient but poorly defined goals. I’ve written before in defense of the concept of shareholder value. People often confuse it with short-termism, but if you are maximizing profits, you also need to worry about the long-term. In fact, shareholders often care about the long-term (as it is baked into the stock price) more than many other stakeholders do. And a careful read of Friedman argues for the long-term, too. What’s more long-term-oriented than good, consistent incentives, along with accountability?

I also enjoyed this essay from Alex Edmans, as he has some good arguments for a stakeholder model that are worth considering. He also argues that shareholder primacy would demand that corporations do more to develop, promote, and nurture minority talent. The stakeholder model results in giving money to particular causes and making statements on corporate websites about commitments to racial justice. What sounds better for society, and what sounds more long-term-focused to you?

Still, the uniform enthusiasm for stakeholder capitalism means that it’s probably inevitable. The aftermath of a crisis usually features big reforms like this. Society feels broken and uncertain, and putting the blame on corporations will be a seen as a quick and easy fix.

Rethinking the safety net

Other policy updates that we can expect will be changes to the safety net. What actually happens, however, depends on who wins the election. But I see many calls for guaranteed jobs and universal basic income. I’m not sure how a big, uninsurable event means that we need budget busting programs that pay no matter what state the world is in. It actually seems that we need the opposite. We need to preserve fiscal space to spend when we need to. We also just learned how important meaningful work is. Taking people out of their jobs and just giving them a check instead did not go so well. I’m baffled by people who want to make permanent the worst aspects of the pandemic.

We also need to encourage more risk-taking on the part of individuals if we want to grow our way out of this, and increasing returns on risk-free labor actually discourages risk.

Instead, we need to understand the holes in the safety net that this virus has exposed. I think we can do more to offer more insurance to contingent workers. After the Depression, lots of the risk reduction practices fell on employers, that made a lot of sense which in an industrial economy. But it no longer makes in a modern, tech-driven economy. Rather than offer everyone guarantees, we must foster healthy risk-taking and have a safety net that compliments the modern worker.

I’ll be writing more on this subject in the coming months.

Until then, Pension Geeks!