by From Joseph Huber Since the dotcom crisis (2000), subprime and banking crisis (2008) and the euro sovereign debt crisis (2010–12) the public is critical of the financial industry. Bubble economies should be prevented, money ought to serve the real economy rather than questionable financial dealings. However, putting it this way is not yet appropriate. One cannot separate the economy from its financing. The modern economy is a credit economy. Most investments are paid only to a lesser extent out of current earnings and provisions made, while the bigger part is pre-financed by credit. Nevertheless, opposing the real economy to the financial sector has a point often disregarded by orthodox economics, which is, that wide areas of the financial economy no longer have anything to do with
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from Joseph Huber
Since the dotcom crisis (2000), subprime and banking crisis (2008) and the euro sovereign debt crisis (2010–12) the public is critical of the financial industry. Bubble economies should be prevented, money ought to serve the real economy rather than questionable financial dealings. However, putting it this way is not yet appropriate. One cannot separate the economy from its financing. The modern economy is a credit economy. Most investments are paid only to a lesser extent out of current earnings and provisions made, while the bigger part is pre-financed by credit. Nevertheless, opposing the real economy to the financial sector has a point often disregarded by orthodox economics, which is, that wide areas of the financial economy no longer have anything to do with financing the real economy.
The relevant dividing line does not run between the real economy and the financial economy, rather between the two hemispheres of the financial economy: on the one hand those areas that contribute to financing the real economy, on the other hand those areas that do not contribute to financing economic output. In short, the dividing line runs between GDP finance and non-GDP finance.
Typical examples of non-GDP finance include secondary trading in bonds, shares and other securities (i.e. after their initial issue), forex trading without a background of actually making use of a respective foreign currency, derivatives trading beyond the hedging of existing risk positions, trading in real estate as a financial investment without significant change in a property’s use value, as well as leveraged financial trading of any kind. Further clarification of the terms real economy, GDP finance and non-GDP finance is provided in the Annex.
Non-GDP finances are largely independent of GDP finances, but are ultimately dependent on the real economy. Real-economic business cycles and structural change affect the financial cycles in bonds, equity, commodities, real estate and other financial investments, as these in turn affect real-economic cycles.
Money that does not flow into the real economy has no effect on real-economic quantities and prices, and therefore has no direct impact on producer and consumer price inflation. Money that flows into the financial economy, whether in GDP finances or non-GDP finances, influences asset prices (asset inflation) as well as the quantitative expansion of financial-market supply.