Markets need Marxism

Trading in house price futures would stabilize house prices and increase households' welfare, according to new Bank of England research. This poses the question: why isn't there an active market in such instruments?

It's certainly not because their virtues are not known. Robert Shiller pointed out over 20 years ago that macro markets - assets whose prices were linked to GDP, house prices or industry or occupational incomes - could spread risk. And yet these markets barely exist at all. Why not?

One reason is bad incentives. The financial "services" industry has more incentive to sell overpriced rubbish such as complex credit derivatives, structured products and actively managed funds rather than good assets. As Akerlof and Shiller say: "competitive markets by their very nature spawn deception and trickery (p165)."

Also, there is a collective action problem in establishing new markets. A good market needs liquidity. But if people fear that liquidity will be weak or absent, they'll not participate in the market, so it will indeed fail to develop.

In his excellent book, An Engine Not A Camera (pdf) Donald MacKenzie describes how Leo Melamed, boss of the CME, overcame this problem in the early days of index futures by cajoling traders into trading them, thus creating the necessary liquidity:

A market, says Melamed, “is more than a bright idea. It takes planning, calculation, arm-twisting, and tenacity to get a market up and going. Even when it’s chugging along, it has to be cranked and pushed.” (p173)

Sadly, though, we often lack Melameds. When we do, we might need state intervention to solve the collective action problem. For example, the Bank of England could encourage the development of house price futures by giving them to households as part of its next quantitative easing policy - or, at least, it could provide easy credit facilities with which to buy them*.

You might find it odd that state intervention is necessary for the development of free, well-functioning markets. You shouldn't. As Karl Polanyi pointed out (ch 5 of this pdf), it was state intervention which drove the development of markets in the 15th and 16th centuries. David Graeber writes:

Despite the dogged liberal assumption...that the existence of states and markets are somehow opposed, the historical record implies that the exact opposite is the case. Stateless societies tend also to be without markets (Debt: the first 5000 years, p50)

All this poses the question. Why, then, haven't we seen state help to create what Robert Shiller has called financial democracy?

It's certainly not because of a commitment to laissez-faire: the massive implicit subsidy to banks tells us that the state is very happy to intervene in the financial system.

Instead, the answer was pointed out by Marx: the state serves the interests of capitalists, not the people. And financial capital would rather financial markets consisted of rent-seeking than of enhancing aggregate welfare. Crony capitalism has encouraged  financialization (pdf), not financial democracy.

In this sense, a well-functioning market economy requires that the state be freed from the grip of capitalists. In some respects it is capitalism that is the enemy of a market economy, and Marxism that is its friend.

* This is just a variant on Andrew McNally's proposal to extend equity ownership.

Comments

[Mark Scott]

Apologies for a naive question, but what would a housing futures market deal in? I guess sellers would have to be prepared to commit to sell their houses at a future date for a price agreed now, in return for some payment now?

Anyone want to give me 10% of my house's value today, for the right to buy it at 200% of its present value in 10 years' time?

[JP Koning]

Interesting post.

Just an observation. The Federal Reserve and the Bank of Canada were instrumental in developing the bankers' acceptance markets in their respective countries, BAs being short term credit instruments. They did so by offering to conduct open market operations in bankers' acceptances and accepting them as collateral for central bank lending.

In fact, Barry Eichengreen attributes some of the the dollar's displacement of the pound as international reserve currency to the Fed's decision to deal in acceptances.

[Luis Enrique]

in my dreams, Labour would set up a commission not only to investigate possible state run or sponsored financial markets such as these, but while they are at it look at where the sources of pricing power are in the financial services industry and see if they could create any public platforms to take some of that power away (i.e. a state run ebay for IPOs - might be utterly daft, but worth investing a bit of thinking in IMO)

[Enquiring Mind]

Akerlof and Shiller notably address markets dealing in what is profitable and legal.

What happens, and has likely happened, when producers and consumers traffic in borderline legal or illegal activities? Examples abound, with seeming measurements from a cynical calculus of fines/opprobrium weighed against perceived benefits.

As seen in recent news such as the VW diesel emission crimes, the bar seems to need to be pretty darn high to trigger the opprobrium reaction. How much of that is due to a declining awareness and morality on the consumption side to supplement or compound the ethical shortcomings on the production side?

If the mantra is based on MRS = MRT, then defining out externalities from either side, or otherwise manipulating factors will result in more defining deviancy down.

[Matt Moore]

"In some respects it is capitalism that is the enemy of a market economy, and Marxism that is its friend."

One of the the best and most interesting sentences I have ever read.

Do you see it as more important to persuade Marxists of the virtues of markets, or persuade marketeers of the merits of Marx?

[chris]

@ Mark - as I see it, housing futures would be based on the Halifax or Nationwide national indices just as there are FTSE 100 futures indices. I'd expect and hope, though, a more active market in longer-dated contracts.
@ Matt - thanks. I think both jobs are necessary. One virtue of the analytical Marxists was that they tried to do both.

[Bob]

Land is a monopoly. So this is like extending ownership of a monopoly water company's shares.
That's not the solution.

[Martin]

I would say that the place to look for an explanation isn't so much Marx as public choice theory. I realise that it isn't as much of an ideological fit, but saying that "the state serves the interests of capitalists, not the people" isn't very interesting without an explanation of how, why and how to fix this. "Yes", "because I say so", and "the Revolution" isn't much of an answer.

[Rick McGahey]

There is a market in the Case-Shiller house price index for the US. Here's a link to the market. http://www.homepricefutures.com/

[Metatone]

@Martin - unfortunately Public Choice Theory got hijacked into a dead end where the only comment on "how to fix this" is "have the state do less." But this is largely nonsensical in a modern economy.