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What Is Value?
Mon, 04/20/2009 - 00:00
All economies require social trust to work. While there are many reasons for the lack of confidence in the marketplace today, surely one of the most important is the unreliability of price as an indicator of value. A lot of people just don’t trust prices as reflecting the actual worth of a house or corporation, let alone the intangibles of social life or nature that we also value.
This is symptomatic of the crisis of neoliberal economics and public policy. As I see it, there are a number of mutually reinforcing reasons for the waning confidence in the price system:
1. The market is too volatile so it’s hard to know if today’s price will be radically different tomorrow. In the face of great uncertainty about the future, a price seems arbitrary and unreliable, and not a well-vetted measure of long-term value.
Price volatility is likely to persist for some time because -- well, that’s a longer story that can’t be fully unpacked here. Suffice it to say that it will take a long time for countless companies, institutions and households to "de-leverage" their debt fueled by the bubble, and get prices back into a more realistic alignment with actual value.
2. Banks and big corporations can manipulate accounting practices so that prices will suit their needs. With massive bailouts now propping up entire sectors of the economy, it is no wonder that investors and taxpayers often don’t trust the stated market valuations of companies. When so many companies are being kept afloat, directly or indirectly, by taxpayers, it is hard to tell if stock prices truly reflect the honest verdict of a decentralized, transparent "free market." And years of scams by Enron, Arthur Andersen, Worldcom and Bernie Madoff raise legitimate questions about the reliability of financial statements.
It is a central tenet of market economics that price reflects the verdict of a marketplace that has assiduously considered all information and truck-and-bartered to determine a fair price. So why is the banking sector rejecting the sacred verdict of the marketplace?
Historically, auditors have used a system called "mark-to-market" accounting to assign a price to financial instruments like mortgage-backed securities. The "fair value" is based upon current market prices or the prices of similar financial instruments, and provides investors with a credible way to make more informed decisions. Mark-to-market accounting has been part of the U.S. Generally Accepted Accounting Principles (GAAP) since the early 1990s, a set of protocols adopted by the Federal Accounting Standards Board (FASB), a private organization. (For more on mark-to-market valuation, see Wikipedia’s entry on the topic.
A few weeks ago, however, the FASB changed its rules for mark-to-market accounting. While financial institutions will still have to mark transactions to market prices, they won’t have to use current market prices because of the presumed errors in today’s market. Instead, banks and other financial institutions will be able to make their own determinations of what they deem the value of the asset "really" is, according to the standards of an imagined, more stable future marketplace.
So what happened to the sanctity of price as an arbiter of value and driver of markets? Whenever city governments "intervene" in the market to achieve social objectives or fairness, the Wall Street Journal howls about how "imposed" prices produce "market distortions" that discourage investment.
But now, to achieve the social goal of "reassuring investors," it’s okay for banks and other companies to override the market’s verdict on price! They are authorized to re-state (low) market valuations to reflect their own interests in a more attractive financial statement. Prices are chosen to reflect a bank’s self-serving notion of where the market "should be," were markets operating "correctly."
Mind you, this sort of accounting legerdemain is supposed to reassure us and make us more willing to buy stocks. As one analyst put it, “The net impact [of the new FASB rules] could help boost bank earnings, reduce the need for capital injections (into banks by the government) and may help encourage participation” by private investors in government programs for selling toxic assets.
In other words: let’s all acquiesce in this financial charade because it might help boost the economy. The chief U.S. economist at another investment firm, who obviously thinks that price ought to stand for something real, said that the FASB decision "allows financial institutions to use fictional valuations on many of their toxic assets" and further obscures their "true position."
All of this is of a piece with an April 16 column by economist Paul Krugman, who noted that the glowing quarterly profit statements that many banks and companies are announcing are fraught with dubious accounting methods. Not surprisingly, major stock-market investors are skeptical about the trustworthiness of reported quarterly earnings by banks.
3. There is another reason for flagging confidence in the price system: people are starting to realize that price is instrinsically unable to convey the full dimensions of value and risk. Once the government has to step in to guarantee a bank’s contractual obligations (lest it spiral out of control and bring down the entire economy), how do you incorporate that actual cost (borne by taxpayers) into the prices charged by banks? As things current stand, that cost has been a freebie — an off-the-books subsidy that is not reflected in prices.
But this subterfuge only brings to mind the price system’s insistence that countless intangibles of social life and nature be treated as money. Historically, corporate America has been a big cheerleader for cost-benefit analysis as a key tool in regulation. All aspects of life are assigned a price tag so that we can determine if it is "worth it" to prevent workplace mutilations, fatal car crashes and carcinogenic exposures to babies. Before regulators can impose rules to prevent bodily harm or pollution, they are forced to assign a price tag to the cost of amputated limbs and clean air in the Grand Canyon.
Despite the flim-flam methodologies for determining these prices, regulators are forced to treat these prices as meaningful indicators of value. Compliant economists have devised such analytic tools as "willingness to pay" as a proxy for a market price ("How much would you be willing to pay to avoid exposure to a carcinogen at work?") -- even though rich people have far greater willingness to pay than working stiffs who can barely pay their monthly bills. Economists have even developed such bogus disciplines as "hedonics" to assign prices to various aspects of human existence — so that a price could be plugged into a market calculus.
Health and safety advocates have long known that the monetary sums used in cost-benefit analyses are intellectually indefensible. But the fiction proceeded apace because the neoliberal policy consensus was at its zenith. Now it is becoming abundantly clear that "price" is a highly malleable notion that can be crafted to suit the needs of powerful corporations. Don’t like the market valuation of your assets? Change the FASB mark-to-market guidelines. Don’t like the new EPA regs for your industry? Jigger the cost-benefit analysis to show that it isn’t "worth it" to curb toxic dumping.
In short, the moral justification and practical machinery for setting trustworthy prices are in tatters. Value is a many-splendored thing that price can only express crudely and often not at all.
4. Finally, here’s the latest reason for flagging confidence in prices: The non-monetary "sharing economy" of the Internet -- think open source software, Wikipedia, Flickr and social networking -- is generating entirely new sorts of value that can never be accurately assigned a price. When people come together to collaborate online, they are producing huge pools of value that have nothing to do with cash or market exchange, and everything to do with collective value.
Remarkably, this new arena of value-creation is frequently out-competing the market economy. Craigslist is out-competing newspapers and their classified ad sections. Wikipedia has out-performed Encyclopedia Britannica. People who share information through blogs or wikis or social networking sites are satisfying important needs without having to "consume" in the marketplace. Who needs a market when you can turn to an open access platform (Facebook) or a commons of shared interests (Wikitravel)?
Here’s the bizarre thing: Even though the sharing economy is frequently out-competing the market economy, its workings generally remain inscrutable to market traditionalists. That’s because conventional economic metrics, especially price, are ontologically incapable of measuring socially created value. Can you express the value of your closest friendship in dollars? How do you assign value to collaborative, indivisible enterprises like Linux, the open-source operating system? (One analyst has estimated that the “Linux economy” generates some $36 billion in value each year, but this sum is probably as conjectural as the record industry’s estimates of the market value of pirated music — the point being that there IS NO ACTUAL MARKET in either case, so how can a realistic price be assigned?)
Incidentally, the rising power of the sharing economy receives fascinating treatment in an essay by Adam Arvidsson, Crisis of Value and the Ethical Economy, on the P2P Foundation website. Highly recommended.
Please don’t get me wrong: the price system is not going to go away any time soon. It often provides reasonably accurate signals about supply and demand. But the past seven months have illuminated a dirty little secret of the economics biz -- that there are LOTS of things of great value that can never be reduced to a price, and that even the market system regularly fails to incorporate into prices the value of "exogenous variables" and long-term resources, such as the policies and institutions of government, the sustainability of the Earth’s atmosphere and other natural resources and the ethical norms that allow for trustworthy market activity.
Market triumphalists have long acted as if the entire universe could be understood as a known or knowable system that need only concern itself with individual property rights, monetary valuations and markets. "There is no such thing as society," Margaret Thatcher famously declared.
Well, the real lesson of the moment is that price is just one tool among many other necessary ones; that the credibility of prices depends directly upon the social institutions and norms that support them; and that we must respect the intrinsic value and character of the commons. The market system is likely to remain volatile and unreliable so long as it fails to come to terms with its dependence upon these other realms of value.
First step: the economics discipline must move beyond its fundamentalist creed and re-invent itself as a broader, more empirically based, socially sensitive field of inquiry. Is it that difficult to understand that value is not just about money, as represented by price, but about all sorts of ethical, humanistic, social and natural forms of wealth?
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