By James H. Nolt
Interests in a credit-driven system are polarized because leverage is an almost irresistible temptation for bulls, but also creates great vulnerabilities that bears can exploit. Which side succeeds in any concrete situation depends on the balance of power and superior strategy. It is not economists’ dull gray averages that determine the dynamic trends of economies, but rather the leveraged power of polarized extremes. These strategic extremities of economic power are similar to the extraordinary force in the strategic theory of Sun Tzu, the ancient Chinese author of The Art of War.
My approach does not deny that much of economic life is mundane and ordinary, though it is shaped more by private power than by the perfect markets of textbook fantasy. Sun Tzu argues that ordinary and extraordinary force are both necessary. I like to refer to ordinary economic forces as inertial, borrowing a term from physics that is to me the opposite of strategic. Production and consumption are vitally important and well-studied routines of economic life, but they are characteristically inertial, not strategic.
Ordinary consumers, like most voters, act emotionally in ways well researched by marketers. Popular fears and desires can be manipulated by clever marketing campaigns to get consumers to buy what may in fact not satisfy them at all. The emotionalism of consumers en masse is ignored by textbook economics and replaced by the myth of the rational actor. The burgeoning field of economic psychology has filled in some missing details, but it has also largely ignored strategic action thus far.
Real-world production is rarely studied by economists either. Textbooks typically assume production and cost functions based on desirable mathematical and ideological properties, rather than studying how production is actually organized and financed. Reality drastically contradicts their accounts, although a few excellent critical books, such as Economists and the Powerful (which I mentioned in last week’s column), frame production issues more adequately. Furthermore, although my method is strategic and textbook economics consider only inertial forces within economies, they don’t model these correctly either. Textbooks manage to illuminate neither ordinary (inertial) nor extraordinary (strategic) forces in capitalist economies.
Consider an extreme but instructive example of strategic forces at work in Russia, where private power concentrated rapidly after the demise of communism a quarter-century ago. There are many accounts of how this happened, but one of my favorites is a memoir, Red Notice, by Bill Browder, one of the leading foreign investors who was deeply involved. Browder’s account is rich in detail of how the world looks from the view of a strategic player. It is perhaps ironic that Browder, one of the capitalists who feasted on the vastly underpriced assets of post-communist Russia, is himself the grandson of one of the former leaders of the American Communist Party. Browder well illustrates the maxim that “corruption is a constant, but scandal is a variable.” He personally orchestrated strategic attacks, including media leaks, against the Russian oligarchs obstructing his firm’s profits. He illustrates, as I have argued–contrary to the efficient market hypothesis of textbook finance theory–that the arrival of news is not random, but often orchestrated by rival forces.
Browder shows what a vital role strategic intuition plays in investing, including admitting his own enormous mistake in ignoring his chief partner’s prudent advice to liquidate their enormously successful Russian assets in early 1998. This would have locked in enormous gains. Instead, Browder’s hubris drove him to suffer 90 percent losses during the Russian crash of that year. However, he was able to stay in the game, and was even more successful during the boom in the opening years of the new century. Browder’s imagination regarding the tactics private oligarchs dared to use expanded as he realized how the ruthless exercise of private power in Russia made a mockery of the promises of free market capitalism. In a future blog, I will examine how the savage struggles of Russian capitalism have spilled over into American politics with the candidacy of Donald Trump.
Browder eventually left finance to become a full-time champion of human rights after the brutal murder of his friend and Russian lawyer Sergei Magnitsky. In that capacity, he has managed to influence legislation in both the U.S. and Europe to sanction some of the Russians he blames for the murders of people like Magnitsky. Whereas typical human rights narratives in the U.S. emphasize governmental repression, it is clear from Browder’s account that in Russia, and indeed, much of the rest of the world, wealthy private interests are equally capable of suppressing human rights and even committing murder with impunity. As long as their governments are at least inept, if not corrupt or complicit, there are strong temptations for private oligarchs to take the law into their own hands to enhance their profits.
Yet as uplifting as Browder’s personal trajectory is, he criticizes the radical extremes of Russian capitalism without noting that he played a similar game, extracting profits from the Russian economy while contributing little or nothing to increased production. Such unproductive capital only earns high returns, as he did, because real purchasing power is squeezed out of the hands of others–often by the same bullish inflation that drives up asset prices to the profit of investors. Changing the ownership of stock certificates is not in itself a productive activity. It does not generate new production, which alone can give real substance to the enhanced buying power of enriched owners. During the devastating 1998 economic catastrophe in Russia, for example, a 75 percent devaluation of Russian currency plus domestic price inflation eroded the living standard of the vast majority of Russians so much that even with a fall in total output, there was still plenty more to distribute to the richest of the rich.
Although Russia in recent years has been an extreme case of the concentration and corruption of private power, it is hardly unique. This corruption is a feature of the centuries-old capitalist system. The power of free and democratic movements and institutions is sometimes sufficient to reign in the worst abuses–but constant vigilance is necessary, because the temptations of great wealth toward augmentation by illegal means reassert themselves wherever popular and democratic institutions are weak.
James H. Nolt is a senior fellow at World Policy Institute and an adjunct associate professor at New York University.
[Photo courtesy of See-Ming Lee]