By William Darity Jr.
A key event in the development of the modern, market-based economy was the creation and expanded development of joint-stock companies, companies that are owned by shareholders who receive payments based upon the proportion of shares each of them holds. Shares of stock constitute claims on the future profits of the business for the lifetime of the enterprise. The payout of profits typically takes the form of dividends assigned per share by the company’s leadership. All profits need not be paid out to shareholders; the company may hold some portion of the profits as retained earnings to support growth and expansion or the acquisition of other businesses. When the business goes into the red or even fails, shareholders typically will receive small or zero dividend payments.
In principle, the total value of shares of an enterprise should represent the market’s beliefs about the long term peformance of the company in question. The price of each share multiplied by the total number of shares should amount to the market’s collective expected present value calculation of the enterprise’s worth. And, indeed, this would be the case if individuals bought shares of stock in a business to hold onto indefinitely. But that simply is not the case.
The stock market — the market where shares of stock are traded — is a site that typically is dominated by speculation. Many shareholders, rather than buying shares for life, just buy them in anticipation of reselling them at a higher price. The ancient adage “Buy low, sell high” as the guide to strategies of exchange applies just as forcefully to the high financiers of Wall Street traders as it does to street corner vendors. Indeed, the key objective is to get rid of your shares of stock before their price drops. When speculation dominates stock market activity the economy can be flush with prosperity as long as share prices are on the rise. Business cycle upswings in the condition of the macroeconomy — low unemployment, rising productivity, rapid economic growth –generally are associated with sustained periods of rising share prices on the stock market. And the value of businesses reflected in share prices increasingly becomes contingent upon the traders’ beliefs about what other traders believe about what other traders believe ad infinitum about where share prices are headed — not a sober estimation of what the future performance of the business will be in actuality.
And things go badly wrong when share prices start to fall, particularly if the precise turning point from upward to downward movement of share prices cannot be predicted. Everyone of our major economic downturns — depression or recession –began with a huge collapse in the prices of shares of businesses trade on the stock exchange: 1929, 1974, 1987, 2002, and, most recently, the crash of 2008. National policymakers may try to stimulate the economy by pursuing expansionary monetary (lowering interest rates to encourage more investment activity) or fiscal policy (raise government expenditures) to support overall spending in the economy, but this generally is a response only undertaken after the recession is underway. Unfortunately, current efforts to tackle our monumental current economic crisis using these methods have not led to a marked recovery in wages or employment.
The very existence of a stock exchange is an invitation for speculation to dominate financial activity and plants the seeds for things to go badly wrong. The economist John Maynard Keynes, reflecting on the stock market crash of 1929 that signaled the start of the Great Depression in the United States, wrote the following:
“Speculators may do no harm on as bubbles on a steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation. When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done.”
By 2007 fraud, greed, and speculation had transformed one of the more stable and mundane markets — the market for home mortgages — into a casino. The effects of the sharp drop in home prices spread like an infection to the stock exchange, precipitating an across the board crash of share prices.
The conventional response to the fragility of stock exchanges is to regulate trading activity — to curb the space for speculation to become dangerous by monitoring and supervision. But financial traders are very astute and ingenious practitioners and, invariably, find creative ways to circumvent the regulations. What really is needed is a system that protects the overwhelming majority of the nation (literally the 99 percent) from the effects of the bad behavior of the financial investors. This is why a number of us have been recommending Congressional adoption of a federal job guarantee, a guarantee for all Americans that they always can obtain employment at non-poverty wages through the public sector. Congressman John Conyers is developing legislation to establish just such a program. With a job guarantee in place, if the economy goes into the tank because “the capital development of [the] country becomes a by-product of the activities of a casino”, all Americans would be assured of having a job and a decent income. Little harm would be done even if “enterprise becomes the bubble on a whirlpool of speculation.”