Economic Inequality (2016)
paulgraham.com
paulgraham.com
A free trade is where not only equal value is exchanged (according to the values assigned by the traders), but both parties benefit from the trade. Otherwise they wouldn't trade.
Whether a trade is flipped a short time or a long time later makes no difference.
For example, if I buy MSFT for $100 and later sold it for $110, who "lost" $10?
This is only true under the perfect information about future utilities assumption, which is false generally and strikingly false when it comes to financial markets.
Financial trades often reflect imperfect information and either different risk tolerance or simple information asymmetry what one party has a more accurate estimate of future performance than the other. Neither of these situations involves actual realized mutual benefit.
There is no such thing as perfect information, and you're not going to get it via government regulation or values fixed by government fiat, either.
Free markets do not rely on perfect information at all. They rely on the participants making their own decisions on what the value is to themselves. Even if you are sure they are wrong.
> actual realized mutual benefit
You also cannot decide for others what is of benefit to them. They may (and surely do) value different factors entirely differently than you do.
Exactly, which is why the microeconomics 101 “free trades have mutual benefit or they wouldn't happen” idea is generally wrong, though it may tolerably approximate reality under the best possible conditions in certain markets.
"Free trades have mutual perceived benefit or they wouldn't happen."
What makes a free trade free is the absence of force or fraud, not perfect information.
By the way, imperfect information is also called "risk", and risk affects the price of the trade. It's why responsible people can borrow money at lower rates than irresponsible ones. Or why a car that won't start will sell at a far lower price than one that does, even if the repair is reconnecting a loose wire. Or why you'll be willing to pay more for an item from a reputable dealer than an unknown one.
You have provided zero evidence to support your claim that this is “generally wrong”.
No, perfect information is not necessary.
The act of trading stocks offers no utility to the world and therefore a huge portion of the stock market also offers zero utility to the world.
Here's a picture of a country that has no stock market that prospers:
https://upload.wikimedia.org/wikipedia/commons/thumb/4/48/Vi...
Try to think a little about what you’re saying. Suppose you were to shut down all stock markets worldwide. What do you think would happen? Do you not realize you’ve made the world a poorer place by forbidding people from trading equity?
So the entire stock market consists of people trading paper. It is a game of people trying to buy paper at a low price and sell it at a higher price. HFT is people taking computers into this game.
Now lets look at a market that produces true utility. I am a farmer and I grow apples. You are a farmer who grows oranges. I want oranges you want apples, so we exchange products with genuine utility as we both can eat the products and both enjoy and sustain ourselves.
The only time where utility is created in a stock market is during an IPO when stocks are issued. All other transactions after that are typically a waste of energy and resources. If I could redirect all that compute capacity used for HFT towards protein folding we'd actually be creating utility rather than tossing it into the void.
You can borrow against it (it's called "margin"). People do it all the time.
The utility of a stock market is providing a nearly frictionless method of moving capital to its most efficient use.
It's as great an invention as money is - suppose you want a toaster, but the toaster company doesn't want apples. Good luck setting up an n-way barter with the orange farmer and several other people to try and get a toaster.
A simpler answer is if the stock market had no utility nobody would trade stocks. But they do, millions do. Are they all fools, or have you made a mistake?
>You can borrow against it (it's called "margin"). People do it all the time.
You can borrow against cash as well. Though usually when you borrow against cash you're buying a house to live in rather than borrowing more useless paper stocks to sell at higher prices. Basically you are borrowing money to use at a casino when you use margins. Imagine an entire economy built around casinos. Would that economy be productive? No. The exchange of money in casinos intrinsically does not involve the creation or exchange of goods. Where would all of our GDP go if an economy consisted of only casinos? It would go to shit. Same if the economy consisted of only stock markets. But if the economy consisted of only farms...? well, food has utility.
The infrastructure surrounding casinos is similar to the server farms mining bitcoin and polluting the air. It's a questionable use of capital.
>A simpler answer is if the stock market had no utility nobody would trade stocks. But they do, millions do. Are they all fools, or have you made a mistake?
Do not underestimate the power of human stupidity. Let's say I have an scheme for making money. I'm going to print out a bunch of useless paper and start selling that paper for 100x what its worth. Then I have another idea... as little as it is, paper actually has some value so I can optimize this scheme by making a digital platform for selling these pieces of paper as pieces of encrypted information. I call the first piece the genesis block.... aka bitcoin.
Make no mistake, the utility of a bitcoin is equivalent to the utility of a counterfeit dollar and their origins are identical: both were created out of thin air. You have to be pretty dumb to buy a piece of paper at 100x the price let alone an abstract digital representation of that paper (bitcoin). Yet people do buy bitcoin and they do make money off of it. It's collective stupidity that allows an individual to profit... from a broader perspective, however, no actual utility is generated off of the mining of bitcoin just like how no utility is generated over the exchange of stocks.
I know that's what you're saying. And you are utterly wrong.
> Do not underestimate the power of human stupidity.
I.e. you're smarter than everyone in the financial markets. If you're right, you'd get a Nobel Prize in economics. But I suppose the Nobel committee is too stupid to do that, too :-)
> I'm going to print out a bunch of useless paper and start selling that paper for 100x what its worth.
Go right ahead and do that. There's no law against it. Please post back how that works out.
It's quite clear you don't understand finance from that comment alone. Buying and selling stocks allows you to allocate your capital as you see fit. Capital markets provide companies with liquidity and allow investors to partake in the upside. They reward well-run companies and punished mismanagement. They are a net positive for society.
There is an intrinsic difference between the normal flow of money in a basic economy vs. the stock market. Namely it is the: allocation of capital for the sole purpose of selling it at a higher cost and buying at a lower cost. This is entirely different from allocating capital to create a factory, or buy food, etc.. etc.. The net effect of a market that trades stocks like this is negative due to the infrastructure required to maintain it. It's similar to how a casino can be viewed as a net negative to society.
HFT is the perfect example of this. Trades made in nanoseconds with no physical meaning other than trying to outplay another automated gambler.
> They reward well-run companies and punished mismanagement.
Wouldn't it be better for the workers who produce the actual GDP to participate in the upside rather than some rich dude who contributes none of the work? This is the primary driver behind wealth inequality. You would know that if you understood economics.
>hey reward well-run companies and punished mismanagement.
Any business owner will be rewarded regardless of whether it was owned by a billion shareholders or by a few. Incentive, punishment and rewards are not the result of "capital markets" it exists regardless of whether or not a company IPO'd.
"Please don't post shallow dismissals, especially of other people's work. A good critical comment teaches us something." -https://news.ycombinator.com/newsguidelines.html
You will need to explain which part of my comment is factually incorrect and why to keep within the guidelines. Thank you.
According to your logic every time a transaction happens both parties benefit and the economy grows! Thus we can continuously grow an economy just by trading paper! Obviously this doesn't make sense....
Utility and value is not a concept that is solely tied to human opinion or imagination. It is not just your opinion that shapes the value of something... your opinion does not change the fact that you need food to survive, try as hard as you might to change your opinion on the value of food, you cannot reduce the utility of food to zero, you cannot change the fact that it is required sustenance for us to survive...
Value and utility are intrinsically tied to physical matter and physical energy, it is less abstract than you think. All things of value and all things that have utility are actually things with reduced entropy. I can't say that all things of reduced entropy have value, but all things of value absolutely have reduced entropy.
Reduced entropy can be exchanged, moved and created when you input more energy into the system. It is also constantly running out. Because of this it is by far better to think of value and utility from a natural resource perspective, the same way we view energy oil and mined products.
That's actually correct. The stock market is a mechanism for investment to be transferred from less productive uses to more productive uses.
> Get rid of farmers, factories and other products.
That doesn't follow. Just because wheels are very useful, doesn't mean wheels are the only thing that need be produced.
> Value and utility are intrinsically tied to physical matter and physical energy,
No, they are not. Ideas and execution have value, too. That's why, for example, libraries have value - in the form of the information in the books, not the physical manifestation of the books.
No it is not. Imagine a stock market consisting of two people and a single certificate representing a corporation. Now imagine both people constantly trying to sell to each other that certificate at a higher price and buy the certificate at a lower price. This is essentially a scaled down version of the stock market. Nothing of value is created, only a game is played similar to gambling.
You can scale this example up to thousands of companies each divided up into shares with thousands of people making transactions, the principle is the same. The act of a transaction is just paper and money being traded. Without farms, food and factories no utility producing action is happening. Issuing stocks can generate utility, but trading stocks generates nothing because you are trading paper.
>That doesn't follow. Just because wheels are very useful, doesn't mean wheels are the only thing that need be produced.
It does follow. You can have an economy of farmers, factories and other products WITHOUT stocks. Because these things are the primary drivers of an economy.
You cannot have an economy of just a stock market without physical goods because the stock market is just an abstraction on top of what is essentially the true nature of an economy: the exchanging of products with utility. A stock certificate only represents utility.
>No, they are not. Ideas and execution have value, too. That's why, for example, libraries have value - in the form of the information in the books, not the physical manifestation of the books.
What does it take to form an idea? You need to feed yourself food to sustain yourself, you need energy from the physical world to formulate the idea.
And it doesn't stop there, an idea by itself has no utility until it is deployed into the physical realm as a physical product or service.
The formation of an idea up to it's crystallization into the physical world involve the injection of energy. THe process from beginning to end involves the reversal of entropy.
The ideas in a library took energy to form. Additionally even the storage of those ideas require physical tomes in order to be set in stone. An idea, like utility is not as ephemeral as you think. All ideas take physical space to store whether it be on a hard drive, your brain, or the pages of a book.
If it's a school or a book, can you please point them out?
"In the beginning, there was the word." If you study this, the Greek word for word -- logos -- has a rich history and meaning. It roughly agrees, I think, with the ideas above.
Edgar Caycee:
"Thoughts are things."
The stock market stuff sounds essentially correct to me. What part are you wanting sources for?
Maybe the initial sale was, when the company gained new money in order to put it to productive use. After that, it's just people swapping that stock amongst themselves. No money going into productive use.
1. Much employee compensation is in the form of stock, not cash. This essentially puts that cash in the corporation's pocket.
2. Corporations often issue more shares, which brings cash onto the books.
3. Corporations buy other corporations using their stock. The value of the stock sets the price.
4. Corporations own stock in themselves, and this stock can be used as collateral for loans.
5. A rising stock price creates a lot of intangible value, such as the ability to attract top talent. Everyone wants to be associated with a winner, not a loser.
6. Etc.
That's just transfer of stock from the company again.
Corporations often issue more shares, which brings cash onto the books.
That's just transfer of stock from the company again.
Corporations buy other corporations using their stock.
That's just transfer of stock from the company again.
Etc.
If the company can give someone stock and get money (or by doing so not lose money), that's money going into more productive use. The rest is people swapping it around themselves; not fresh money going into more productive use.
It seems from your arguments that companies care about their stock price going up because they have stock. They have stock and they want the initial influx of cash, when they offload it, to be as high as possible. Your arguments seem to support mine.
BTW, if you know of an econ book that espouses your theories, I'd like to read it.
No, you did not.
Your arguments rely on the company selling (or otherwise exchanging) their stock. The rising price doesn't put money in the company's pocket; selling (or otherwise exchanging or collateralising) their stock is what gives the company money. If the stock is worth more, the company gets more at that point, but a simple rise in stock price doesn't give them more money. The company gets more money when they offload their stock. After that, it's just other people swapping the stock around.
As for your passive-aggressive appeal to authority...
a rising stock price puts cash in the pockets of a corporation
Well, you've asserted that when some private individuals trade a company's stock amongst themselves at a higher price than they did yesterday, someone gives that company some cash. That's your assertion; that if I sell some Servicemaster Global Holdings Inc stock today for more than it was traded at yesterday, somebody will give ServiceMaster some cash. Who's that somebody? Why would they give ServiceMaster some money?
Your list describes the beneficial side effects of a stock market. Opening a casino has beneficial side effects as well. Casinos can revitalize economies and support an entire city. Casinos have benefited Las Vegas and drives the growth of the city. But this is a side effect to what gambling essentially is: a game where money is exchanged and no production of goods takes place.
People who study finance study it from a very capitalistic point of view. They worship freedom of choice to sell and buy anything while ignoring the consequences of wealth inequality. Finance is a biased lens. Stop telling me that this isn't finance. Finance doesn't tell you how to examine the stock market with a critical eye, it just tells you how to invest in the stock market, how to manage risk. Almost every guy in finance worships capitalism.
I study economics. I don't worship capitalism, nor do I worship the alternatives. I look at it with a critical eye to see what it is from a theoretical perspective.
To address your request of whether I "made up" (highly offensive I might add) my theories or got them from a book/class room... I have learned a lot from a man named César A. Hidalgo. He is a Chilean physicist, writer, and entrepreneur. He is an Associate Professor at MIT and the director of the Collective Learning group at The MIT Media Lab. He is mainly responsible for forming my views about the relationship between economics and entropy. He wrote a book on economics.
(That's not true, I'm sarcastic; lots of books are utter nonsense and this conversation was simple enough that we can point at direct evidence and first principles - passive-aggressive appeals to authority not needed)
So first principles... do you mean Adam Smith? Keynes? Kuznet? Obviously not Marx or the recent work by Picketty. I'm pretty sure you'll name some book on investing or some other book that teaches you how to get rich while producing zero utility yourself.
It is hard to answer at micro level--that is, it is hard to answer who gained or lost. However, at macro level, this question has been tackled from the sectoral balances framework introduced by Wynne Godley.
On the aggregate, households spend less than they earn/receive. So, households accumulate net financial assets and tangible/real assets. During a stock boom, the net wealth of households increase. During a crash, the net wealth could become negative.
I would add that what enables such growth is the internet and the easy, instant access it gives to world markets, rather than just your local area.