[This is a rewrite of two earlier posts which have been pulled together into one. The originals are still here but I think this is more cohesive.]
Economists, pundits and policy makers like to pontificate about the state of the economy. They often toss terms like ‘invisible hand of the market’, ‘free market’ and ‘market forces’ as if they are self-explanatory or common knowledge. They are not. These terms don’t explain why wages have not gone up when consumer prices have. They don’t explain the housing bubble or the banking crisis. They don’t justify factory closures or layoffs when their products are selling well. Economies and markets affect every aspect of our lives and yet there isn’t a cogent explanation of how or why this is so. That is the goal of this series of essays - to offer a cogent explanation of economies and markets. An informed public is an empowered public.
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[This the most recent addition of a series describing a new way to look at the economy. It is not necessary to read Parts 1a and 1b to but they place this discussion in context:
Part 1a: It's not the economy, Stupid; it's economics
Part 1b:The depth and breadth of economies]
All economies have elements in common. They can all be divided into two parts, a system of production (economic systems are different systems of production) and a market (mechanisms by which producers compete to exchanged their goods and services). And all systems of production have some degree of inequality as a consequence of specialization. Differences in skills can be readily depicted with a pyramid diagram where the bulk of lower skilled workers form the base and the remainder of the pyramid by progressively fewer, more specialized workers until until terminating (Figure 1).
A pyramid representing an economy is actually a pyramid of pyramids: economies contain all the pyramids of all the organizations within its purview. The smaller organizational pyramids, in turn, contain the households of their workers (Figure 2A). Organizations are classified by their ownership model. Sole proprietorships have one owner while those with more than one owner can be further split into two classes, capitalist enterprises (by definition, for-profit commercial enterprises) and non-capitalist enterprises (all non-profit and some for-profit organizations) (Figure 2B).
The majority of workers, the ‘makers’ at the base of the pyramid (Figure 2A) make the marketable output (goods and services) produced by any specific commercial entity (for example, schools provide education; factories produce widgets; hospitals provide health care services; think tank produce analysis, etc.). The upper portions of the pyramid are, broadly speaking, inhabited by specialized ‘organizers’ (Figure 2A). They do not directly produce the marketable output but instead, plan and implement strategies to increase the productivity of workers and maximize the market return on worker productivity. Amongst their responsibilities is to direct the flow of capital; organize advertising strategy (marketing) and organize other organizers (executives).
[Note: Capital means all goods and services which can be exchanged for currency. This includes labor, wages, materials, consumer products, land, structures, equipment and currency.]
A universal truth of productivity and capital flow in all organizations and ultimately, any economy, is that the goods and services produced by makers are new capital (Figure 3), thus makers are the primary source of capital. The objects of economic exchange are all products of worker labor and their value is a function of the amount of labor inputted. For instance, dirt and water are essentially free for owners of land with dirt and water and have little market value. Bricks made out of dirt and water have market value and structures built of bricks have an even higher value. The difference between dirt and soil from bricks is the worker labor stored in bricks. Brick structures have an even greater input of worker labor which significantly increases their value over bricks alone. The value of services tend to reflect the extent of education and training necessary to learn specific skills. Skills which can be learned in a matter of hours (using a cash register) are less valuable than those needing extensive education (medicine or law). In return for their labor, workers are compensated a portion of the value of the goods and services they produce. By a similar process, the organizers ensure the productivity of workers or lower level organizers and are compensated a portion of the value of the goods and services made by workers. In other words, workers make stuff; organizers make workers make stuff.
The structure of production and direction of capital flow applies to all enterprises, both sole proprietorships and multiple owner enterprises. For single owner enterprises, the authority to make decisions lies completely in the owner. In multiple owner enterprises, the power to determine the distribution of worker produced capital is highly variable. On one end of the spectrum are capitalist enterprises where capitalist owners of the equipment and materials transformed by worker makers, hold ultimate power (Figure 4). They authorize lower level organizers to carry out their decisions. And because the raison d’etre of capitalist enterprises is to maximize profit (i.e., workers pushed to produce as much as possible and owners retain as much worker produced capital as they can), it is the fiduciary duty of executives/owners to minimize wages paid to workers and non-executive organizers so larger and larger portions of worker made capital is distributed to the owners.
There is greater diversity in the power structure of non-capitalist enterprises (Figure 2B). Some follow the strict top down model of capitalist organizations. At the other extreme, power is equally divided amongst all members - each has equal say (for this essay, socialism refers to this model). In a fully socialist system, worker owners use equipment they collectively own to transform materials they collectively purchase into finished goods. Communication occurs across all strata of workers and organizers (Figure 5) resulting in an equitable distribution of worker produced capital (Figure 6).
To recap… (I) Pyramid shape reflects the unequal distribution of skills and/or wages of working people. (II) The least skilled workers produce the majority of goods and services (capital). (III) In any given institution, power can either be concentrated in a limited number of owners (capitalists) or diffused among the large aggregate pool of worker owners. (IV) Distribution of worker made capital is determined by wielders of power.
As it turns out, economies aren’t the only entities with these four elements. Natural terrestrial (land) communities form ecological pyramids with similar traits (Figure 7): (I) The biomass at each tier, or trophic layer, reflects the relative population at each tier. (II) The organisms at the base the pyramid produces the calories (biological capital) which support all the higher strata (Figure 8).
In natural ecosystems, plants are the makers/primary producers - they make more plants (vegetative calories) from simple inorganic carbon and water with sunlight. Herbivores (secondary producers) consume vegetation (vegetative calories) to grow and reproduce (make more herbivorous calories). Carnivores consume herbivores (herbivorous calories) to grow and reproduce (make more carnivorous calories). This pattern, the products of each trophic (ecological production) layer consumed by those above, continues along the trophic pyramid to peak with apex predators. Only primary producers (autotrophs) are capable of transforming simple inorganic carbon into organic carbon (like turning mud into bricks); all other subsequent trophic levels are comprised of heterotrophs which cannot make use of inorganic carbon; they consume organic carbon (cannot turn mud into bricks, can reshape and stack bricks). Directly or indirectly, the existence and maintenance of all the plants and animals in a food web depends on plant productivity (Figure 8).
Then there is the higher order similarity between ecological food pyramids and economic production pyramids. They encompass the individual biological entities and food chains within an ecosystem (Figure 9A) like an economic pyramids contain the collective households and enterprises of an economy (Figure 2A). Additionally, individual food chains can be differentiated by the biological interactions they use to collect the calories necessary to sustain life (Figure 9B), much like business structures in economies (Figure 2B).
Carnivorous predation, for one, is an antagonistic biological relationship; essentially the calorie transfer described above. In a food chain with a predator at its apex (Figure 10), food calories move up the food chain and power is effected downwards in that predators determine if prey will be able to continue producing - eating prey destroys their capacity to produce; power over life and death… A lot like capitalism. Biomass (calories) produced by prey is consumed (taken in) by predators. Predators exert ultimate control over prey (see traits III & IV of economic pyramids).
Mutualism, an example of facilitative interactions where no participant is harmed and some participants benefit (Figure 9B) is common in social insects where the activity of each member of a community benefits the community in total (see traits III & IV of economic pyramids). Take for example, a honey bee community (Figure 11)...
In the case of honey bees, flowering plants (primary producers) and bees have a mutually beneficial relationship; the plants provide nectar and pollen in exchange for the pollination services of bees. The bees within a beehive community also have a mutually beneficial relationship. Bees at each strata carry out duties which contribute to the survival of the community as a whole. And while it may not be known how bees communicate or if there are strict lines of power, coordinated bee behavior suggests communication occurs. These include mating flights (queen and drones act in concert); egg and larvae care (feed needs to be appropriate to developmental needs of larvae); locating nectar sources (scout bees communicate direction and perhaps abundance to other bees); processing nectar (pooling of nectar and its concentration into honey requires coordinated effort by workers). The honey produced and stored by worker bees is thought to be available to all members of the colony… A lot like socialism. Production is a collective effort and seemingly no single authority regulates the distribution of goods (see traits III & IV of economic pyramids).
Capitalism and socialism have ecological equivalents. What about other economic systems? As it happens, sole proprietorships behave like autotrophs, organisms capable of generating their own calories; thievery is a form of parasitism; feudalism is capitalism constrained by mobility (predation in habitats where limits on nutrient availability restricts mobility of inhabitants - oases; deep sea vents; caves; whale falls); various forms of slavery are variants of capitalism (predation) or ‘zombie’ parasitism where parasites alter the behavior of hosts (Table 1). Given the diversity of biological interactions in the natural world, it is more difficult to identify an economic system without an ecological analog than a biological interaction without an economic analog.
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Having established that economic modes of production are analogous to ecological modes of production, perhaps the ecological market might shed light on what economic markets are and their role in the economy.
But what is the ecological market? Economic market activity can be tracked by following the movement of capital but ecological capital (organic calories) don’t exit the production pyramid; they are created and consumed within food webs. Fortunately, there are two nutrients which traverse food webs much like capital moves in economic production, carbon and water. And as it turns out, water and economic capital (money) share some unusual features (Table 2): (1) Like currency, water is fungible (to a living organism, there is no difference between water sipped from a puddle or water in hay). (2) Money figuratively transforms into goods and services through market exchange, analogous to the literal transformation of water as it traverses the water cycle. (3) The supply of money limits economic growth and activity much like the water supply limits ecological productivity (the abundance of water is likely the single most significant factor in determining total ecosystem biomass and diversity).
Figure 12 shows how food webs makes use of the geochemical water cycle to capture the water necessary to sustain and grow itself.
As plants are sessile and cannot seek water, it must be delivered to them by rainfall. Water taken up by plants is incorporated (or biochemically transformed) into more plant mass. At this point, the water either stays in the form of plants (plants grow/propagate) or is eaten by something else or is metabolized to meet the energy needs of the plant (transpiration). In the first two, the water stays in the food web (Figure 12A, B); in the last, water is released into the air as water vapor (Figure 12E). A similar process happens in plant predators, the herbivores (Figure 12B). They eat water containing plants and transform the plant (and water within) into herbivore mass; the water, now in the form of herbivores either stays herbivore, is preyed on by a predator (Figure 12C) or gets metabolized (respiration) for energy (Figure 12E). This pattern continues through the food chain until it reaches the apex (Figure 12D) where water is seldom loss to predation.
Water vapor lost from the food pyramid by transpiration, respiration and evaporation (Figure 12E) merges with water vapor in the atmosphere [evaporated from soil/bodies of water (Figure 12I)] to coalesce into clouds (Figure 12G). Water holding clouds are buffeted by winds until meteorological conditions triggers a precipitation event. Rain water is released back into the environment to re-enter the ecological pyramid and recharge natural reservoirs. The bulk of the water on the planet is not locked into food webs but contained in natural reservoirs (Figure 12I). Flora and fauna rely on these reservoirs to survive periods of drought. Natural reservoirs also store untapped capital to support growth in times of expansion.
Capital plays the same role in economies (Figure 13) as water does in ecosystems…
[Notes: ‘Economic cycle’ refers to the cycling of capital through economic production and markets as depicted in Figure 13, not cycles of expansion and contraction. The latter will be referred to explicitly or as the ‘business cycle’.]
Figure 13 depicts movement of capital from its raw form entering the production stream (Figure 13, arrow H to A) where it is transformed into marketable capital (goods and services) by primary producers (Figure 13A). Marketable capital can either stay with the primary producers (Figure 13A, B) - as savings; be taken up by the next tier of workers (Figure 13B, C); or spent by workers (Figure 13E) on their own behalf. The amount taken up by the next tier of workers (Figure 13B, C) is decided by the power brokers within organizations. The spending and saving patterns of workers (Figure 13A, B and E) reflect how workers dispose of their incomes to meet their needs. The next tier of workers (Figure 13B, C) retains a portion of the marketable capital as income for their contribution to the production of marketable capital (an example of secondary production might be an inventory of primary production). These wages also undergo the three way split: retention by secondary producers (Figure 13C, D); lost to the next tier of workers (Figure 13C, D); or spent to support their well-being (Figure 3E). Capitalists and owners at the apex of the production pyramid either retain (Figure 13D) or spend (Figure 13E) their takings; there is no other loss.
Spending in the marketplace (Figure 13F) is where the capital exchange occurs (goods and services exchanged for money and vice versa). Central banks (Figure 13G) control the value of currency and commercial banks (Figure 13G) track and transfer capital (Figure 13H). Purchased capital (Figure 13H) always traverses the production pyramid to reach its buyer because the purchasing capital is produced by the workers at the lower production tiers. Capitalists (Figure 13D) purchase goods with the cumulative capital produced by all other producers in the pyramid (Figure 13A, B, C & D).
Central and commercial banks (Figure 13G) are the 'clouds' (Figure 12G) of economies: they determine the availability of capital (thus its value) through interest rates; they concentrate capital; they mediate transformation of capital (currency into stocks/bonds); and they facilitate the transfer of capital between and amongst institutions and economies. Likewise, governments (Figure 13I) mimic natural reservoirs (Figure 12I) in that they buffer capital flow during cycles of expansion and contraction and they are stewards of the capital reserves that fuel future growth.
[In a cyclical system, the precise start and end points are arbitrary because, in the end, they meet at the same place. An equally legitimate read of the cycle would have workers making widgets (Figure 13A, B, C). Executives sell widgets in marketplace for money (Figure 13E, F, G). Taxes are paid to the government (Figure 13H -> I) before wages are paid to workers (Figure 13H -> A, B, C, D).]
Tables 3 and 4 summarize the similarities between economies and ecosystems.
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Part 3 will delve into the lessons the water cycle teaches about economies.
Econology Part 3: Eleven economics lessons from ecosystems.
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