Time to grasp how the global economy ticks

The racket in Cyprus is a milestone in the financial and economic crisis.

But neither formal training in economics nor comments in mainstream media offer real clues to understand the crux of what is happening.

Not surprising.

“They” do not wish the “plebs” to have any clarity of mind about what is going on.

They are the few super rich at the top and their close servants, while the plebs include lots of people who regard themselves as reasonably prosperous middle class.

“Macro” economics as taught in universities and discussed by politicians and the controlled press focuses on the national level. It is centred on national statistics, on such concepts as Gross Domestic Product (GDP), national debt, balance of trade, etc.

This national obsession prevents a complete vision of the situation, because international flows of materials, products, services, people and money have become so significant in relation to domestic activities that only the global level makes sense.

Think of the world economy as one autarchic system with two sides. On one side you have all ultimate buyers of goods and services; on the other side you have all producers of these goods and services.

Buyers are private individuals and governments (local, national, regional, supranational).

Producers include all private firms (from the self employed to multinationals) and governments.

Governments appear on both sides. For instance, a ministry of defence uses public funds to buy military “services”. These services are provided by the army which is supervised by the ministry of defence staff who provide a coordination service to the government buying military services.

Similar reasoning can be applied to health, education, justice, arts and culture, etc.

What is the money value of the global flow of goods and services from producers to buyers?

When national statistics of all countries are consolidated into one entity, a global GDP can be computed. Currently global GDP is estimated at some $ 70 trillion, which represents the market value of all goods and services produced annually in the world.

Not all these goods and services are sold within the accounting year in which they are produced. As for an individual business, sales do not exactly match production. They differ by the amount of stock variation and, in the case of the global economy, by the amount of investments (i.e. new buildings, machines, software…) which will be used up (“depreciated” or “amortised” in accounting parlance) over several years.

Over the last few years global GDP has consisted of around 25% investments and 75% goods and services produced and sold. Stock variation has been positive in some years and negative in the years after, so can be taken at around zero on average.

Therefore if we regard the producing side of the global economy as one mega business entity, the (consolidated) sales of that business are currently around 75% of $ 70 trillion, i.e. $ 52.5 trillion.

This mega business employs people, consumes natural resources and generates collateral impacts on people and nature.

Employing people has a financial cost for the mega business. A rough estimate is in the order of $ 25 trillion.

As far as natural resources are concerned, these entail financial payments by the mega business only if the resources are controlled by someone. In fact many natural resources are free from such control.

For instance when a fish is caught at sea, it is totally free. What you pay to buy the fish are the labour, fuel and boat depreciation costs of the fisherman, the labour, energy and depreciation costs of the various intermediaries along the chain between fisherman and final customer and the profit margins of all actors in that chain.

When you buy a gallon of petrol, what you pay are the labour, energy, depreciation …and profit margins of the distributor, refiner and oil explorer and the royalties paid to the people who have control over the petroleum in the ground (for instance ruling families in producing countries).

The amount of royalties paid by the mega business to individuals controlling natural resources can be estimated very roughly around $ 2 trillion.

Collateral impacts on people and nature usually do not entail any financial payment by the mega business. In rare cases of highly visible dramatic events (such as the Gulf of Mexico BP oil leak) significant payments can be involved. But their weight is very limited in the global picture. A total of around $ 70 billion pa for such payments is almost certainly overestimated.

In sum, for a level of sales of $ 52.5 trillion the mega business pays around 25 trillion (48% of sales) for labour, around 2 trillion (4% of sales) for royalties in respect of natural resources and less than 0.1 trillion (0% of sales) for compensation in respect of societal and natural impacts. In all some 27 trillion (52% of sales).

The business also has to pay taxes, mainly VAT, other sales taxes and corporation tax. Taken all together these taxes can be estimated at roughly 10% of sales.

The final balance (38% of sales) is remuneration of financial investors in the form of interests and profits (either distributed as dividends or retained in the business on behalf of shareholders).

It should be noted that the banks and other institutions which finance the mega business are only intermediaries between the latter and the ultimate owners of bank accounts, shares, pension funds… Financial wealth of ultimate owners is mostly concentrated in the hands of a tiny minority, around 70 million people or so (i.e.  1% of world population).

For sake of approximate quantification let us say that out of 38% for financial interests and profits about 35% benefit 1% of the population.

But of course the same group of people also picks up the largest salaries and practically all royalties for control of natural resources. So to the 35% for financial interests and profits we have to add say 10% for their (disproportionate) share in  payments to employees of the mega entity and 3-4% for natural resources.

In other words the financially privileged 1% of the population receives in one form or another the equivalent of some 45-50% of consolidated sales in the whole economy (whereas the bottom 70% get around 5%).

Two other striking features of the Profit & Loss account structure at global level are the comparatively moderate cost of natural resources and negligible cost of impacts.

In their light it is easy to understand why business as a whole cares little about natural resources, prefers to use machines than people, and simply doesn’t give a damn about societal, health and environmental impacts.

But let’s now look at the crucial role of finance in the whole game.

Payments made by the mega entity are covered by a money flow arising from sales and by another money flow provided by investors.

In both cases, banks (and other financial institutions) are intervening not only as intermediaries to move existing money between parties but also as creators of new money which can be added to the flows. Such creation of new money (mirroring the creation of new debt) provides an on-going stimulus to the whole cycle, as long as people involved in the cycle have full confidence in the system.

And that is where things have changed radically since the financial crisis of 2007-2008 and are going to evolve even more dramatically as a result of the racket in Cyprus, which is going to precipitate the fall of the formal economy.

It is crystal clear that the global crisis, with its intertwined financial, societal and environmental dimensions, simply cannot be resolved in the dominant materialist mode of thinking.

But, looking through spiritual lenses, all this, worrying as it may seem, is only an episode in the 3D video we see on the internal screens of our minds (and each of us sees a different version). Only an episode in the illusory show many take for reality.

Fear not, take your money out of banks and radiate gratitude and kindness.

Love,

Leo

Copyright © Leo Foresta 2013

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