Why the Bezzle Matters to the Economy
Please consider Why the Bezzle Matters to the Economy by Michael Pettis.
The bezzle, a word coined in the 1950s by a Canadian-American economist, is the temporary gap between the perceived value of a portfolio of assets and its long-term economic value. Economies at times systematically create bezzle, unleashing substantial economic consequences that economists have rarely understood or discussed.
In a famous passage from his book The Great Crash 1929, John Kenneth Galbraith introduced the term bezzle, an important concept that should be far better known among economists than it is. The word is derived from embezzlement, which Galbraith called “the most interesting of crimes.” As he observed: “Alone among the various forms of larceny [embezzlement] has a time parameter. Weeks, months or years may elapse between the commission of the crime and its discovery. (This is a period, incidentally, when the embezzler has his gain and the man who has been embezzled, oddly enough, feels no loss. There is a net increase in psychic wealth.)”
In this sense, the bezzle is created not just by Ponzi schemers, like Madoff, but also in the form of companies—like Enron, for example, or WorldCom—whose accounting frauds result in overvalued assets and excessively high stock valuations. Until the accounting frauds are uncovered, there is a collective increase in psychic wealth as the value of the bezzle rises.
The effect of the bezzle, then, is to push total recorded wealth up temporarily before knocking it down to or below its original level. The bezzle collectively feels great at first and can set off higher-than-usual spending until reality sets in, after which it feels terrible and can cause spending to crash.
When asset prices increase for reasons other than real increases in their productive capacity, something very different happens. The overall economy is no better off because there will be no corresponding increase in the productive capacity of that economy.
The owner of such assets, however, feels richer—although only temporarily—because over the long term, asset prices eventually converge to a value that represents their real contribution to the production of goods and services.
More importantly, they find it difficult to accept the implications the bezzle has on the way economic activity is measured and GDP is calculated, with the bezzle distorting the relationship between economic activity and economic growth, mainly because—while the bezzle is being created—there is no way to distinguish between real income and/or profits and bezzle-boosted income and/or profits.
There are other ways the bezzle can affect GDP calculations. One way is through the commingling of real and speculative profits in business sectors in which buying and selling assets (such as land, commodities, and inventory) is part of normal business operations.
Another way the bezzle can slip into GDP calculations is by raising the market price of assets that in turn enable greater asset-based borrowing.
But as Minsky explained, “over periods of prolonged prosperity, the economy transits from financial relations that make for a stable system to financial relations that make for an unstable system.” Because the bezzle is, by definition, temporary (though it may last for a few years or even a decade or two), at some point the bezzle will be eliminated, and its elimination will reverse the earlier boost to the economy. When that happens, what appeared to be a virtuous cycle becomes a vicious cycle.
Unfortunately, the history of bezzle suggests that, while ordinary households and workers absorb few of the benefits from the creation of bezzle, they tend to absorb most of the costs of its reversal: it is probably not just a coincidence that periods in which large amounts of bezzle are created and then destroyed seem almost always to experience rising income inequality.
The cost of amortizing the bezzle is proportionate to the degree of psychic wealth the bezzle had previously created: the more bezzle that is created, the more painful the adjustment. Notice, too, how self-reinforcing the processes of bezzle creation and bezzle amortization are. This, I would argue, is why investment and asset booms are almost inevitably followed by busts or lost decades.
Key Points
- The bezzle collectively feels great at first and can set off higher-than-usual spending until reality sets in, after which it feels terrible and can cause spending to crash.
- When asset prices increase for reasons other than real increases in their productive capacity, the overall economy is no better off because there will be no corresponding increase in the productive capacity of that economy.
- The Bezzle always reverses
- The cost of amortizing the bezzle is proportionate to the degree of psychic wealth the bezzle had previously created: the more bezzle that is created, the more painful the adjustment.
Bitcoin Bezzle
The more bezzle that is created, the more painful the adjustment. That applies to housing, the stock market, Bitcoin, and assets in general.
Until recently, the only life that Bitcoin has seen has been in an speculative mania environment of endless QE and cheap money.
From pennies to over $60,000 and now about $21,000.
How much of the current price is speculative Bezzle? 10%, 25%, 50%, 90%, or 100%?
Housing Bezzle
Did the productive capacity of the US go up with soaring housing prices, or did the Fed artificially inflate prices?
China’s property bubble is even bigger. It’s imploding now. For discussion, please see Property Bailouts in China Are Coming, But They Will Fail, What About the US?
Finally, Bezzle is another very good reason to Expect a Long Period of Weak Growth, Whether or Not It’s Labeled Recession
This post originated at MishTalk.Com
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Mish
The lone thing that has saved housing is hoarded foreign wealth in international banks. The regulation in China on accounts over $50k being seized at a tax rate of 100% on amounts over $50k caused a tsunami of money to leave Chinese banks and flood real estate in North America. How much cash is truly out there we will never know but it continues to buy up housing in North America and Europe. Have to wonder if it really belongs to the politburo in China and Russian oligarchs I believe much of the housing boom since 2013 has nothing to do with lending and more do with sheer money being laundered.
BLS: “From July 2021 to July 2022, real average hourly earnings decreased 2.7 percent, seasonally adjusted. The change in real average hourly earnings combined with a decrease of 0.9 percent in the average workweek resulted in a 3.5-percent decrease in real average weekly earnings over this period.”
Just like in the Great Depression, payrolls must be sufficient to buy the goods and services produced – at the asked prices.
politicians is to find new names for institutions which under old names have
become odious to the public.” It is amazing how well that works.
There are 6 seasonal, endogenous, economic inflection points
each year.
(they may vary a little from year to year):
low”. See: “The Great Demographic Reversal” by Charles Goodhart and Manoj
Pradhan.
(upside down/underwater).
In Fisher’s formulation of debt deflation, when the debt bubble bursts the following sequence of events occurs:
financial investment, or impounded in idle savings, or as leakages in transfer
payments, are stoppages in the flow of funds derived from the main income
stream and have ultimately, a direct and immediate dampening impact on the economy.”
Exactly. Its a dead asset. It never changes. It just sits there; useless.
Medium of exchange; yes. But who uses gold to buy a cup of coffee?
market price of assets that in turn enable greater asset-based
borrowing.”