Is Martin Wolf turning into a social democrat?

Well probably not, but he is certainly distancing himself clearly from the market fundamentalists who view recent trends in wealth and income inequality through pink eye glasses. Following on other recent columns in the same vein (see this and this), he is making a lot more sense than much of the economics commentariat these days. 

But I will give him a hard time on another matter. Wolf writes: 

Estimated at $59bn, Mr Slim’s fortune is equal to 6.6 per cent of Mexico’s gross domestic product. Bill Gates, in contrast, at about $56bn, is worth a mere 0.4 per cent of US GDP. Even at its peak John D. Rockefeller’s wealth was less than 2 per cent of US GDP. The richest person in the US would need $900bn to possess the same wealth, relative to US GDP, as Mr Slim does relative to Mexico’s.

Now Martin knows as well as any economist that dividing a stock (wealth) by a flow (GDP) is a no-no, and immediately classifies you as economically illiterate, along with those others who divide, say, stock-market valuations of multinational enterprises with country GDPs to say things like "these companies are bigger than whole economies..."

UPDATE:  OK, I was just checking to see how many people are awake and reading beyond the first paragraph...  Apparently many are!

Comments

[Nicholas Gruen]

I think that's silly Dani.

The comparison is easier than the net assets of the two countries, and had he chosen that comparison it would have made his point stronger, not weaker. It was a quick way of bringing in something with which to aid our understanding of relativities between countries and across time. Net worth might have been better but the basic comparisons he was after were made in a reasonable way with the data he used.

[Linkt]

Are Victoria Falls bigger than Lake Michigan?

[Graeme Pietersz]

For most of us, the best way of measuring our wealth is our income.

For the rich it is their assets (given the problems involved in accurately measuring their income).

He is also comparing two ratios with the same numerator and denominator, (Gates and Slim's assets to GDP), so the quantities are comparable.

I do not see that this is any worse than, for example, using a PE ratio.

[alex]

Linkt: "Are Victoria Falls bigger than Lake Michigan?"

But it's perfectly reasonable to compare how long it would take the White Nile to drain Lake Victoria to how long it would take the St. Lawrence River to drain the Great Lakes.

Comparing wealth to GDP is verboten because it uses an inconsistent set of units, but comparing two ratios of wealth to GDP is consistent.

[Selfreferencing]

Of course Wolf isn't turning into a social democrat. He only makes two claims:

(1) that extraordinary inequalities have to be justified, NOT that they cannot be.

(2) that many people are rich because of government intervention, and that's unfair. But his complaint is about restrictions on the market.

If anything, his complaint is coming from the libertarian right. I think you're misinterpreting him. Classical liberals complained about inequality due to government privilege centuries before there WERE any social democrats.

Social democrats aren't the only people who can complain about the rich having unfair advantages. Libertarians/classical liberals have cared about these matters for a long time. We only have the impression that they don't anymore because libertarians aligned themselves with big business conservatives over the last several decades because they thought social democrats were worse.

[Joe S.]

I'll join the high-tech lynching party.

There's no reason you can't divide a pair of stocks by a pair of flows, and get a fairly reasonable number. It just depends on your purpose.

Stocks convert to flows by discount rates. All relevant discount rates (for this purpose, at least) are in the same order of magnitude. All Wolf is trying to do is come up with an order of magnitude comparison. Conversion factors aren't very important, if your result is significant within an order of magnitude.

[Joe S.]

And I forgot to add to my previous post:

"Are Victoria Falls bigger than Lake Michigan?" is an impossible question. But the question Martin Wolf is posing is a bit different: "Is a boy taking a leak bigger than Lake Michigan?" Notwithstanding the formal incommensurability issue, the second question is an easy one. Incommensurability doesn't matter when you are discussing big enough differences.

[Matt Nolan]

"For most of us, the best way of measuring our wealth is our income."

I don't buy that. I think people do take into account their wealth position as well as their income position.

That is why house price growth (generally - I'm guessing it is a relationship that will eventually reappear in the US :) ) relates strongly to domestic consumption growth.

[Per Kurowski]

I would also agree that Martin Wolf’s ratios are illustrative and not by far so outrageous so as to justify deviating attention from the main subject… which by the way is not that Wolf is turning into a social democrat but that he as a believer in the market reaffirms that being able to buy political influence to hinder the market from working, has really nothing to do with capitalism.

By the way in the world of finance there are hundreds of ratios that compare flows to stocks… like for instance inventory turn around, asset turn around and others, and that on their own might not mean a lot but when used to explain differences between companies are in fact quite useful.

[paine]

i'm not kissing ass

but dani is
right
stock to stock

in this case
slim's share of mexico's net worth
and bill's share
of USA net worth

in fact throwing around estimates of usa net worth
in the mass press
would be a good thing
not just for trump tax calcs
which require a distributional function
of net worth too
but on its own
as a revenue base for
foreign exactions
once the 3-10%
trade gap
has run thru
another 10 years or so and piled up our net debt high enough
to worry about

after all
it would help put our
net external debt
in proportion
to know
what we're worth
on the market

[paine]

"inventory turn around, asset turn around"

that means the ratio
here is about how long it would take the mexican economy to produce
value equal
to slims net worth
25 days
hey make it a month

[paine]

btw

wolf
like lenin
and that old dead fool walt Bagehot
IS A JOURNALIST NOT AN ECONOMIST

PLEASE DANI
UNSULLY OUR RANKS

[corvad]

so ... anyone have estimates on US & Mexico net worth? what does the comparison look like if it's done that way?

[Frank]

I am surprised everyone is talking about ratios of stocks and flows - we know it ain't correct but most people do it (debt to GDP, E/P ratios, etc..)

The more interesting issue is to what extent is wealth the problem as opposed to regulation.

Confusing effects and causes, symptoms and diseases, is a no no Danni, and you ought to know it.

[Chris Jeffords]

I would think that the line between stock and flow for people as rich as Gates and Rockefeller is fairly blurred.

Plus, there is no shortage of confusion when economists try to be journalists and vice versa.

[puzzled]

Well as it happens, Ken Rogoff was talking about the same subject and made sure to divide flows by flows. Not that changes the story:

"..The latest Forbes list of America's wealthiest individuals showed that last year's highest nine earners, whose ranks include New York City's mayor, Michael Bloomberg, managed to increase their wealth by $5-9 billion last year. Yes, that is just the annual increase in their wealth. Collectively, their $55 billion in earnings outstripped the entire national income of more than 100 countries.

... to be among the top nine earners in the United States, you had to pull in at least $150 per second, including time spent eating and sleeping. That is $9,000 per minute, or $540,000 per hour. "

http://economistsview.typepad.com/economistsview/2007/11/rogoff-the-gold.html

[pat toche]

It would be silly to divide the stock of x by the flow of x. Example: divide speed by acceleration, you will get infinity when you reach a constant speed.

Is it necessarily wrong to divide the stock of x by the flow of y? It's fine is some cases: if y is a steady flow, then the ratio could capture an order of magnitude, and that may be informative. (assuming the stock x is quite steady, i.e. its rate of change not too huge)

At any rate (no pun intended), a country's annual GDP is the stock of the monthly GDPs, themselves the stock of the daily GDPs, etc. so if we are willing to take the extreme view that time is continuous, Wolf (rightly or wrongly) is dividing stocks by stocks.

Come to think of it, dividing by GDP per person would make more sense, and that can be thought of as an average flow, and in this view, then, Wolf (rightly or wrongly) is dividing flows by flows.

The plot thickens.

Note. Speed is a "stock" relative to "acceleration".

[pat toche]

Oh, and I forgot: that obviously makes Wolf a social democrat, for who else would divide stocks by flows!?!

[james c]

'Now Martin knows as well as any economist that dividing a stock (wealth) by a flow (GDP) is a no-no'

Your assertion is nonsense.

Perhaps you are misremembering your O level physics that is wrong to add or subtract quantities with different dimensions.

It is perfectly sensible to have a ratio of a stock (bank debt, national stockmarket capitalization) to a flow (GDP).

[Andrew John]

I'm also reluctant to criticize, because I think this is an excellent blog. But if Dani thinks that anyone who has ever used the term "capital-output ratio" is economically illiterate, then he is casting out a pretty large chunk of the profession, including several Nobel prizewinners. It is not at all the same thing as pretending a stock and a flow are directly comparable, as when people compare GDP to market capitalization.

[Ercan E.]

That it is wrong to divide stocks to flows is a point which I also keep making [at least to students] -- but with the proviso that you could do this if you are using the flow as a "scaling factor".

What Martin Wolf does is exactly this. How to compare the wealth of two persons [presumably earned] in two different economies? If you have an estimate of wealth accumulated by [say] businessmen [or by the whole population] in these economies, you may divide stock by stock. [Actually, as pointed out by others, you should compare net worths -- otherwise, as assets of some person will be liabilities of another, you will fall into the "consolidation" problem.] In the absence of such measures, you may use the "size" of the economy (GDP) as a "scaling" factor.

More generally, stocks may serve as "proxies" for flows. If you can't measure the "capital services" a given stock of capital provides in a certain period, you may use the stock as a proxy for the flow. I don't want to return back to old Cambridge controversies but this is exactly what "capital-output ratio" does.

It is good to nail the stock/flow distinction into the heads of both economists and non-economists (especially the journalists) -- but the economists should also recognize that more precise definitions of stocks, flows, conversion and scaling factors are needed. The comments above [not excluding this one] are good indicators of the level of confusion about these "concepts" in the economics profession.

I thank Dani Rodrik for starting this discussion [taking a considerable professional risk]. All the remarks, including beautiful examples of "poetic license", may serve as excellent "courseware" in training future economists and non-economists.

[Martin Wolf]

I am glad that some of the posters understood the point of my comparison between Mr Slim's wealth and Mexican GDP, against Bill Gates' wealth and US GDP. Dani did, too, of course. My aim was to make it easier to understand its magnitude, in the context of the economy of his own country. I could have tried to guess the present value of Mexico's wealth. But it would be hard to be convincing. I did compare a rough estimate of Mr Slim's permanent income with that of Mexico's poor.

One poster denied that I, as a journalist, could also be an economist. Well, I suppose it depends on how one defines an economist. I have a Master of Philosophy degree in economics (that is, a post-graduate degree) from Oxford University and was a senior economist at the World Bank in the 1970s. So I regard myself as a professional economist. But I did not do a doctorate, because I never wished to be an academic. If a necessary condition for being an economist is holding an academic position, then I am (happily) no economist.

As some posters also noticed, a classical liberal (like me) should be as opposed to wealth obtained through political manipulation as any social democrat, if not more so. It destroys the legitimacy and effectiveness of the market economy.

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