The Algorithm of Productio
The Purpose of Production
Production is creation.
The purpose of production is to produce or procure the goods necessary for the people to live. The purpose of production is to create useful goods for society.
The ultimate purpose of production is determined by how many people need how many goods and to what extent. It is not about how much profit can be made. The production volume is constrained by the market size. Therefore, in any economic system and any industry, the basis is the demand forecast, which determines how much demand there is.
Production in the economy refers to the series of activities that involve utilizing people, materials, and money to build production means, manufacturing and selling products using the built production means, and generating revenue and profit. Production starts with procuring people, materials, and money. In a market economy, it begins with raising funds, that is, procuring “money.” Then, with the function of “money,” people and materials are procured.
It is possible to produce harmful goods for society. However, a market that officially allows the trade of harmful goods is not recognized. The purpose of production is to produce useful goods for society.
Moreover, limiting production to only the production entities poses the risk of deviating from the economic reality. Production activities are not simply limited to corporate entities. There are also production activities in finance and households.
The algorithm of production is to produce the goods necessary for economic activities and supply them to the market. Goods are recognized for their market value only when a market transaction is established, that is, when they are sold. If market value is not recognized, the goods are not officially recognized for their economic value. In other words, production in the market refers to sales. Sales are revenue. Revenue means expenditure. No matter how much is produced, if it is not sold in the market, it is economically worthless in a market economy.
Gross production, in the national economic accounts, means added value. Added value is the economic utility created within a unit period.
In profit and loss calculations, added value corresponds to the gross profit excluding intermediate consumption, that is, the cost. The part corresponding to sales in the national economic accounts is output. The cost of sales is the sum of intermediate inputs, employee compensation, fixed asset depreciation, and taxes on production and imports directly related to the manufacturing sector. (From “Understanding GDP Statistics” by Yoichi Nakamura, Japan Statistical Association) The part corresponding to operating profit is the part corresponding to operating surplus.
Produced goods are recognized as economic transactions when they are recorded as sales. Sales correspond to total output in the national economic accounts. The reason why the national economic accounts are difficult to understand is that they are generally biased towards gross production, which corresponds to gross profit, and total output is neglected. Usually, in profit and loss, sales are emphasized.
In the national economic accounts, revenue corresponds to output, and output is the sum of added value and intermediate consumption (intermediate inputs).
Produced goods are partly sold and converted into cash. The rest becomes inventory. That becomes total output and forms revenue. Also, “money” is distributed to households as income in exchange for production means (labor, ownership). From the income, “money” is paid (expenditure) to procure the goods necessary for living. Expenditure becomes the basis of costs. The aggregated value of income is total income.
If productive activities and “money” making are confused, the economy becomes invisible. The economy is an activity for living, and the original purpose of production is to produce the goods necessary to sustain people. The means to promote the original purpose of production is “money.” The costs associated with production activities also play an important role.
What is the purpose of production? The purpose of production defines the economic function of production. The economy is an activity for living. Therefore, the economic purpose of production is to create the resources necessary for people to live. If “money” becomes the main focus, the original purpose of production is lost. Production becomes profit-oriented. For profit, even necessity is fabricated. Eventually, the necessity itself is no longer questioned. As long as it sells, it is fine. In other words, profit takes precedence over everything. Why the goods are needed is no longer questioned. For example, even if it is clear that drugs harm people’s minds and bodies, or if it is something unethical like prostitution or gambling, it is considered good if it makes a profit. A movie that was considered problematic for public order and morals was hit, or the fact that it became a problem itself was considered publicity, and it was eventually overlooked. Whether it is against public order and morals or not is debatable, but the fact that moral issues were overlooked just because it was commercially successful is problematic. The purpose of production must always be questioned about what is necessary for people to live. It is not acceptable to say that it is fine as long as it makes a profit. Just because a diabetic patient wants something sweet does not mean that sugar should be given without limit. Poison is poison. Medicine also has side effects. However, it is administered to overcome illness with that understanding. Administering drugs to make someone addicted for “money” is a crime. Crime distorts the foundation of the economy like a plague. Production must be considered based on necessity.
Why and for what purpose do people need the goods? And what kind of utility do the goods have for people? When producing goods, these questions must always be asked. Production is directly linked to human ethics.
If economic value is formed based on necessity, economic value varies among individuals and regions. This is because there are physical and bodily differences in the environment and abilities. The economy must be premised on such individual and regional differences.
The function of goods has three levels of necessity according to the purpose. The first level is whether the minimum necessary resources for living are sufficiently allocated. Once the minimum necessary resources for living are secured, the second level is the resources that enrich people’s lives. Finally, when people feel that their lives are somewhat fulfilled, the third level is the resources necessary for self-realization.
Prerequisites for Production
Production is a purposeful act. Goods are produced with a purpose. There are human purposes, material purposes, and monetary purposes. For example, the purpose of selling a house is to live in it (human purpose), to provide housing (material purpose), and to make a profit (monetary purpose). The purpose of selling is the flip side of the purpose of buying. Both the seller and the buyer have their own purposes, and a transaction is established when their interests align.
First, it is assumed that there are people who want to live in a house. In other words, the existence of buyers or customers. Next, a house cannot be built without the materials to build it. Then, it is about whether the buyer has the financial capacity to buy the house. If the buyer does not have purchasing power, the transaction will not be established. And the seller must be able to build the house at a cost that the buyer desires. This is reflected in the housing price.
The purposes of the seller and the buyer are asymmetrical. Simply put, the seller’s purpose is to make money, while the buyer’s purpose is to use the house. The seller’s goal is to sell the house and make a profit, while the buyer’s goal is to live in the house. In the market, even if customer-first principles are emphasized, in reality, the seller’s logic and purpose tend to be emphasized, and the buyer’s logic and purpose tend to be neglected. However, the essence of the economy lies in the buyer’s purpose and logic.
The prerequisite for production is whether the produced goods are needed. In other words, the existence of a market. Without a market, even if goods are produced, revenue cannot be obtained. In other words, it is about whether sales prospects and forecasts can be made. The market is established only when there are customers. The existence of customers is the premise of the market. Customers are buyers. Without customers, sales cannot be established.
Production in the market assumes the existence of five elements: sellers, buyers, goods, money, and the market.
Production is a material economic activity. In terms of people, materials, and money, production is positioned as materials. The center of production is materials.
Besides the existence of the market, the prerequisite for production is the existence of production entities. From an economic perspective, production entities produce goods and sell them in the market. The market consists of sellers, buyers, goods, and money.
Buyers form demand. Production is based on demand. Demand is based on consumption. Sellers establish supply. Supply is based on production means. Production is established by demand and supply.
Production entities include non-financial corporations, financial institutions, general government, non-profit institutions serving households, and households themselves.
The center of production entities is non-financial corporations, that is, private companies. Non-financial corporations follow accounting systems.
Production entities are classified into two types: market producers and non-market producers. The output of market producers is determined by market transactions. In other words, the value of goods is based on market prices. Market producers are profit organizations and generate operating surplus. Mainly, production entities create added value. Market producers refer to non-financial corporations and financial institutions. The output of financial institutions refers to the interest margin generated when funds are lent, which differs in nature from the output of non-financial corporations. Strictly speaking, it is excluded when referring to substantial output. Non-market producers do not rely on market transaction price determination. Therefore, market prices do not exist. Naturally, they do not generate operating surplus or added value excluding labor costs.
The produced goods are ultimately consumed or become fixed capital formation.
The general government is also a production entity, but as a non-profit organization, it does not generate revenue. In other words, it only results in the transfer of income. Therefore, it does not create added value.
In the national economic accounts, rewards for land and financial assets are considered transfer transactions, not added value or factor income. Rewards for land and financial assets refer to rents, interest, dividends, etc. Even during the bubble period when land prices soared, it was not reflected in the gross national income because land transactions are considered transfer transactions.
It should be noted that the nature and function of costs and liabilities change depending on the growth stage and process. Therefore, the meaning of the prerequisites themselves changes. In the growth phase and maturity phase, the function of costs and liabilities changes. Changes in causal relationships alter the nature of costs and liabilities. The prerequisites need to be changed in the growth phase and maturity phase. In the growth stage, market expansion leads to an increase in revenue and costs, and liabilities also increase accordingly. However, when the market matures and market expansion slows down or begins to shrink, the causal relationship between revenue, costs, and liabilities is lost. Costs are ultimately returned to total income. Growth is not necessarily a prerequisite for profit. Profit is deeply related to the growth rate. This is because the rate of increase in revenue due to growth does not match the rate of increase in expenditure. Also, costs are the basis for expenditure, but costs and expenditure are not the same. There are costs without accompanying expenditure and expenditure not accounted for as costs. Misjudging this can lead to cash flow failures and the risk of bankruptcy despite being profitable. This applies to the entire economy of a country as well.
Fiscal policy also needs to change its premises during economic growth and maturity phases. The function of public investment differs in the growth phase and maturity phase.
Another point to be careful about is that the function of “money” in accounting and the flow of “money” are separate. The economic system is driven by the flow of “money.” However, the utility of “money” exerted by the flow of “money” and the flow of “money” are separate. Therefore, the values recorded in the flow of “money” and profit and loss do not match. How to maintain consistency between the flow of “money” and profit and loss is the key to controlling the economy. Economic entities can survive if “money” circulates. However, the function of economic entities is based on settlement. Borrowing aims to supplement the shortage of funds necessary for settlement. Borrowing cannot replace settlement. Excessive reliance on borrowing due to a lack of funds for payment hinders the original function of economic entities. This is the same for the economy of a country.
The Role of Production Entities
Production entities are purposeful entities. They are based on the premise of continuity.
Production entities consist of mechanisms for production and mechanisms for distribution. The mechanism for production manufactures goods, while the mechanism for distribution generates revenue and income. Production entities are central to the distribution of production. The mechanism for production is positioned at the entrance, and the mechanism for distribution is positioned at the exit. “Money” enters from the entrance and exits from the exit. The entrance forms liabilities on the credit side, and the exit constitutes the debit side. The entrance is created by raising funds, and the exit is created by the operation of funds. The production of goods involves investing in equipment, purchasing raw materials, hiring people, and combining people and materials to manufacture goods. Claims initially take the form of current assets, which then turn into fixed assets and expenses. Revenue arises from expenses. However, revenue and expenses are the function of “money” and not the flow of “money.” What actually drives production entities is the flow of “money.” Revenue captures “money” from the market, and expenses distribute “money.” This flow forms the basis of the production algorithm.
It combines sequential structures, selection structures, and iterative structures.
Incidentally, the entrance to the distribution stage is added value, and the exit is the market. Added value, in the national economic accounts, includes operating surplus (profit), mixed income, employee compensation (expenses), taxes on production and imports (indirect taxes), subsidies (deductions), and property income. In other words, it is the distribution among sectors. The entrance to the consumption stage is income, and the exit is expenditure.
The market economy is based on production entities generating revenue, covering expenses, and making a profit. Do not forget that the key to the market economy is revenue and personal income. Currently, this is becoming questionable. Due to excessive competition, companies that need to generate solid revenue are unable to do so, and labor costs are being cut to the point where livelihoods are unsustainable. Moreover, the government is supporting discount sales in the name of customer-first principles. No matter how cheap it is, without income, one cannot become a customer. Today, what is distorting the economy is the decline in revenue-generating power.
Companies that are deeply in the red and have no future revenue prospects are achieving extraordinary market capitalizations. This can no longer be called proper investment; it is mere gambling.
Revenue, expenses, profit, assets, liabilities, and capital each have their own meaning and function.
Production entities are places where goods are produced. In other words, production entities invest in production means, produce goods, sell them, recover the invested “money,” and generate added value in the process from production to sales. The generated added value is distributed as “money” to households, the general government, and financial institutions according to their roles.
The role of production entities is determined by what they primarily produce and the nature and function of the produced goods. For example, the general government produces public goods and is not profit-oriented.
Production entities not only produce goods but also play a role in the distribution of “money.” They are also distribution entities, linking production and distribution by combining the roles of production and distribution entities. Production entities systematically distribute “money” to workers according to certain standards based on their roles.
How “money” is distributed determines the economic system.
Production entities also play a role in the distribution of income. In other words, they share the organization. This directly links production and distribution.
Distribution begins with production entities distributing revenue and income in the process of producing goods, and it is completed when consumption entities purchase goods from the market. Individuals link the market and consumption entities. Production entities play a role in widely circulating “money” in the market. Because there is work, “money” can be distributed. Therefore, the unemployment rate is one of the important economic indicators.
Production entities earn revenue by selling the produced goods in the market. By spending the “money” obtained from sales as expenses, they distribute “money” to other economic entities. Households, as consumption entities, earn “money” by supplying labor to production entities.
By supplying “money” and goods to the market, production entities create a flow of goods and “money” in the market economy. Goods are consumed, but “money” is not consumed and is recirculated in the market.
Revenue and expenses link production and distribution. Revenue and expenses arise in the production process and convert the function of production into the function of distribution. Production entities are responsible for this.
Production entities also serve as distribution entities. However, the mechanisms of production and distribution are different. The principle is that the distribution mechanism is based on the contribution to production, but it is largely arbitrary. Therefore, it is necessary to consider the production process and the distribution process separately. However, by sharing the mechanism for production with the distribution mechanism, production and distribution are directly linked, but improving production efficiency can sometimes result in reduced distribution efficiency. Therefore, the economy needs to be regulated to maintain the consistency of production and distribution. If left to its own devices, production and distribution will not coexist.
Therefore, labor conditions and minimum wages are regulated. However, if this remains a domestic issue, it becomes an obstacle to establishing fair competitiveness between nations. Therefore, market distortions need to be corrected through regulation. Creating barriers in the market through tariffs not only hinders free trade but also distorts the flow of funds.
Market unfairness is caused by distortions in competitive conditions. Just as fair sports require common rules, fair trade requires common rules.
Production entities are generally said to have a life cycle. They go through stages of startup, growth, maturity, decline, and liquidation. If regeneration is possible during the liquidation stage, the cycle repeats from the beginning. And at each stage, the structure of borrowing and lending, profit and loss, and cash flow changes. It is said that if industrial and corporate structures can be transformed according to changes in stages, business can continue without losing momentum.
The Logic of Capital
Capitalism is based on the logic of capital. Capitalism has been formed through the process of separating capital from management. Without understanding this point correctly, the meaning of capitalism cannot be clarified. Capital constitutes the foundation of production entities, while management signifies the operation of production entities. Capital is static, while management is dynamic.
Production entities fundamentally rely on capital. Capital stock symbolizes capital. Capital stock means seed money or initial funds. In other words, capital is the seed of production entities. The significance lies not in the amount but in the establishment of capital. There was a time when even one yen could be considered capital. The establishment of capital is an accounting initiation operation and a symbolic act. It begins with the establishment of capital and assets, not revenue. Capital is composed of a pair of claims and debts. It starts with lending and borrowing transactions. The law of balance in lending and borrowing is established at the initial setting stage. Production entities are established starting from the setting of capital and assets. The beginning is claims and debts, not revenue or expenses. Even with revenue and expenses, expenses precede revenue. In other words, expenditure comes first.
The utility of “money” is not exerted from lending and borrowing relationships. Lending and borrowing transactions, capital transactions, and profit and loss transactions need to be clearly separated. The separation of these lending and borrowing relationships and profit and loss relationships, and the establishment of accounts for assets, liabilities, capital, revenue, and expenses, are the origins of double-entry bookkeeping.
The difference in the function of long-term and short-term funds arises from the difference in the function of lending and borrowing and profit and loss. This forms the difference between stock and flow. Flow arises from stock, that is, from lending and borrowing. Stock prepares for payment. Stock is generated by lending and borrowing and capital. Capital is the origin, the seed of lending and borrowing. The reason why capital becomes seed money is that once assets are established by a pair of claims and debts, it becomes possible to amplify claims and debts by borrowing against those assets. This is commonly known as the principle of leverage. Therefore, capital becomes the seed. The starting point of production entities is sought in capital, and there is significance in establishing capital there. What is generated by claims and debts? It is cash. Therefore, the essence of capital is cash.
Funds accumulated in stock exert utility by being lent to economic entities other than financial institutions. Economic entities that borrow funds from financial institutions spend “money” on investment and consumption. This becomes income for the recipient of the expenditure, and “money” circulates in the market. The motive for moving “money,” that is, the motive for financial institutions to lend “money” to economic entities, lies in interest. This is because interest is revenue for financial institutions. In other words, the motives for moving “money” are interest, profit, dividends, income, and capital gains. These are fundamentally differential accounts, and the ratio to stock is important. If profit is expected more than interest, funds flow to the market side, and if interest or dividends are more than profit, funds flow to the financial market or capital market.
When the ratio of stock to flow becomes abnormally high, “money” does not flow into the real market. A good example is real estate during the bubble period, where the abnormal rise in land prices dried up actual demand. The capital market sucked up the funds. If interest, dividends, and trading profits of stocks and land exceed the profits from real investment, funds flow to financial and capital investments rather than real investments. This certainly dries up the real market. Moreover, if market discipline is lost and only price competition is encouraged, it leads to a decline in revenue-generating power, causing fatal damage to real business and finance. Originally, stock must be clearly separated from profit and loss. “Money” once accumulated in lending and borrowing or capital is not allowed to flow directly into the market. Lending and borrowing or capital is supplied to the market by being lent to economic entities other than financial institutions. If this boundary becomes ambiguous and “money” is supplied directly to the market from financial institutions, it becomes impossible to control “money,” and at the same time, the function of “money” as a means of distribution falls into dysfunction.
The production and establishment of “money” are also based on the setting of claims and debts, that is, lending and borrowing relationships. “Money” itself can be considered capital. The government issues government bonds (debts) and borrows funds (assets, claims) from financial institutions. Financial institutions receive government bonds and lend funds to the government. Financial institutions borrow funds from the central bank using government bonds as collateral. The central bank can also supply funds to the market by purchasing government bonds from financial institutions. In this way, the government, financial institutions, and the central bank form assets and liabilities by exchanging an equal amount of claims and debts, issuing banknotes, and supplying them to the market. When actually supplying to the market, it is lent to economic entities excluding financial institutions, that is, corporate enterprises excluding financial institutions, the general government, households, private non-profit institutions serving households, and the overseas sector. The essence of “money” is claims and debts. And capital lies on the extension of banknotes.
The root of capital is cash. Capital is established by a pair of claims and debts. Claims and debts increase or decrease depending on the direction of the flow of “money.” Capital is what initially generates claims and debts. The flow of “money” generated by registering capital sets the initial claims and debts. The initial flow of “money” and claims and debts constitute capital.
Capital, as seed money, exerts utility by being lent to economic entities other than financial institutions, securing credit. Credit is amplified by the multiplier effect. The multiplier effect is formed by the rotation of funds. Therefore, capital increases or decreases depending on the relationship between the base and rotation. Economic entities other than financial institutions generate the utility of “money” through buying and selling transactions. This generates profit and loss, that is, revenue and expenses. Profit and loss are internal transactions, and internal transactions are asymmetrical.
When we try to purchase a house, we generally prepare a down payment. This corresponds to capital. Then, we take out a mortgage to borrow the remaining amount from a financial institution. The house to be purchased and future income are used as collateral when borrowing. The utility of “money” is exerted when the homebuyer pays the price to the home seller. Borrowing from a financial institution is merely a transfer of funds. Borrowed money is income but not revenue. At this stage, financial institutions do not generate revenue either. Financial institutions generate revenue when interest is paid to them. Lending “money,” whether it is hundreds of millions or trillions of yen, is a transfer of funds. Financial institutions are not allowed to use that “money” directly. And for financial institutions, it is a deposit. Deposits are debts for financial institutions. This is the meaning of zero interest rates. The key is whether the homebuyer has personal income and a stable job with a steady income. In other words, it is about whether they can earn a stable income over a long period. If they become unemployed, this credit relationship collapses from the foundation. In other words, the criterion for determining whether an economic entity, whether a corporate enterprise, household, or general entity, is a good borrower is whether they have revenue or income to repay the debt. And it is the asset that corresponds to the loan. Without good borrowers, financial institutions’ profits are compressed to the limit with zero interest rates. And good borrowers are economic entities that can expect stable income. In other words, the cornerstone of the market economy is revenue, personal income, and taxes.
The problem is that there are production goods with marketability and those without. Production goods without marketability generally refer to public goods. Revenue is expected because production goods have marketability. Production goods without marketability are not profitable. Revenue cannot be expected. Such goods are recovered through taxes because the recovery of investment funds cannot be expected. No matter how much public investment is made, it is only a transfer of funds. Public investment may aim for income redistribution but does not contribute to economic growth. Using public investment without expanded reproduction as an economic stimulus cannot expect more than income redistribution. If it becomes chronic, the effect of income redistribution diminishes, and there is a risk of becoming vested interests. The purpose of income redistribution is to correct the bias in income distribution, so if it is biased towards specific industries, it is counterproductive.
Capital generates a pair of claims and debts. Debts mean raising funds, and claims mean operating funds. Claims are converted into assets, creating production means. Assets refer to production means. In modern economics, production is said to consist of three elements: land, labor, and capital. Production elements are production resources. Production resources are said to include human capital, physical capital, and financial capital.
Claims and debts not linked to revenue are surplus. Surplus claims and debts amplify costs and squeeze profits. The relationship between claims and debts becomes unstable, and the creditworthiness of capital declines. Profit is an indicator for measuring and controlling the balance of claims, debts, revenue, and expenses. Profit is also an indicator to prevent abnormal discounting. If left unchecked, profit entropy increases and is compressed indefinitely. The total volume of market transactions balances at zero-sum.
Capital also has the function of net assets. Net assets are differential accounts. Besides net assets, profit is also a differential account. The nature of net assets and profit is hidden in being differential accounts. Net assets are the difference between total assets and total liabilities, and profit is the difference between revenue and expenses. This difference is integrated to form the basis of the existence of capital. If losses accumulate and net assets are depleted, corporate enterprises lose their reason for existence.
The nature of capital forms the platform and foundation of the economic system under not only capitalism but also the monetary economy. This economic system and political system influence each other but are not one. The political system and economic system are not one but independent. They only have a deep relationship with each other. Some countries adopt a capitalist economic system even under a dictatorship, while others adopt a socialist economic system even under a democratic system. There is only compatibility between the political system and the economic system. The capitalist system is based on private property rights. The socialist system tends to restrict some private property rights, so the liberal system is more compatible with capitalism.
Politics and the economy are not one.
Capitalism is a system where capitalists and workers are differentiated. The economic system varies depending on the nature of the capitalists. Capitalists include individuals, corporate enterprises, non-corporate enterprises, public institutions, states, and users. Capitalism refers to a system based on individual investors. Even if it is based on individual investors, capital may be concentrated in specific individuals or forces, and what is generally referred to as the capitalist system often means a system where capital is extremely concentrated. However, the original primitive capitalism is the idea of realizing economic democracy by having capitalists widely and shallowly exist. The purpose is to realize economic democracy by having the people hold capital. Therefore, even if it is called capitalism, the ideology is not uniform. Democratic capitalism has significance in monitoring companies by widely raising small funds from the public. It dislikes the monopoly of production means by specific forces such as state power or financial capital. Capitalism hides the struggle between monopoly capitalism and democratic capitalism. This is also the essence of antitrust laws. Without understanding this point, the spirit of antitrust laws cannot be conveyed.
The significance of systems that bind corporate enterprises, such as shareholders’ meetings and securities laws, is born from the spirit of democratic capitalism. It also affects accounting principles.
Conveniently dividing, private enterprises bearing capital is the liberal economy, the state bearing capital is communism, and public institutions other than the state bearing capital is socialism. However, even in a liberal system, if income redistribution is strengthened, it can be considered to become socialist.
The state where capitalists and workers are class-separated is pure capitalism. Generally, even if it is called capitalism, pure capitalism does not exist. Today’s liberal economy is mixed capitalism, even if it is called capitalism. It includes some socialist capital systems.
The principle of capitalism is to set capital, that is, production means, through investment. It raises revenue using the invested funds and recovers the invested funds from that revenue. In other words, it is a system based on revenue. As the market matures, a shift from quantity to quality must be achieved. This is because the quality of revenue changes as the market matures. As the market becomes saturated and shifts from new demand to replacement demand, quantitative expansion becomes unattainable, and there is a high possibility of turning to quantitative contraction. There is a limit to continuously developing the capital market. If the quality of production goods is not improved to maintain prices, a decline in revenue becomes unavoidable. The real estate industry is a good example. It is necessary to improve the living environment in preparation for the aging era. For that, the quality of housing must be improved. However, the reality is the opposite. Funds are being directed only to the development of unnecessary luxury apartments to dispose of surplus funds. As a result, vacant houses and rooms are increasing. Moreover, financial institutions are lending for the construction of rental apartments in a manner close to fraud, eventually leading to a situation where the invested funds cannot be recovered. This is evidence that finance can no longer reflect the reality of the market. As seen in the example of the housing market, if the shift from quantity to quality fails, a huge surplus of funds occurs. The market cannot absorb the funds. Even though quantitative contraction continues, the balance of cost-effectiveness is broken, liabilities proliferate, and surplus funds occur. Flow is contracting, but stock is expanding. This is the true nature of zero interest rates. Huge surplus funds cause disasters like tsunamis or floods in the market. This is the bubble and hyperinflation. Moreover, if funds stagnate, it also causes situations like Japan’s deflation after the bubble burst. Market discipline is no longer maintained. Therefore, the market is starting to collapse from the foundation.
Many emerging companies represented by GAFA are supported by abnormal stock prices. Moreover, some companies have huge accumulated deficits without generating operating profits. Even though they have huge accumulated deficits with no future profit expectations, stock prices are rising. Fundamentally, there are surplus funds, but promising investment destinations cannot be found. This itself is unhealthy. The corporate purpose of emerging companies is not to generate profits from business but to aim for IPOs (initial public offerings) or M&As. It is capital speculation, not business. This is also the work of surplus funds. Originally, companies are based on revenue, paying expenses and repaying debts from that revenue. Speculative funds are running rampant in places unrelated to revenue. Normal capitalism can no longer be maintained. It is the limit of capitalism. Modern capitalism is sick. It has lost sight of its original purpose.
Claims and Debts
When capital is established, claims and debts are derived. When cash flows from the financial side to the market side, claims and debts of the same amount as the cash flow are generated. Claims and debts are formed when “money” flows to the market side. Once claims and debts are established, there is a constant repayment pressure from claims to debts. The flow of “money” originating from capital generates claims and debts. When claims and debts are established, claims form substantial value, and debts form nominal value. Substantial value constitutes assets and expenses, while nominal value constitutes liabilities, net assets, and revenue. Substantial value is linked to material value, while nominal value is based on monetary value. Substantial accounts mean the operation of materials, while nominal accounts represent the movement of “money.” Substantial value moves with the market, while nominal value is constrained by transaction records. Therefore, substantial value and nominal value are asymmetrical. Debts derive interest and dividends as added value. Interest forms time value. Added value forms flow based on stock. Stock and flow are inseparable. Added value arises from stock. Interest arises from debts. Profit arises from revenue. Dividends arise from capital. Rent arises from asset value. If you only look at the flow, you cannot see the reality of the economy. The relationship between flow and stock is relative.
The economic system moves with the energy of “money.” The flow of “money” becomes kinetic energy. The momentum of “money” is measured by the circulation volume, speed, and rotation number. Claims and debts have potential energy. This potential energy becomes the source of the kinetic energy of “money.” The basics of market transactions are buying and selling and lending and borrowing. There is also the means of transfer, but it is basically included in buying and selling transactions. Capital transactions can also be seen as an extension of lending and borrowing transactions. Buying and selling transactions realize market transactions, and lending and borrowing transactions prepare for market transactions. Claims and debts arise from lending and borrowing, and revenue and expenses are realized through buying and selling.
The function of the flow of “money” includes transfer and settlement. Transfer derives claims and debts, and settlement completes transactions and confirms the transfer of ownership of goods. Transfer constitutes stock, and settlement constitutes flow. Transfer means lending and borrowing, and settlement means buying and selling.
Claims and debts are traces, records, and evidence of the flow of “money.” Claims and debts have potential energy. It is important to note that although claims and debts are displayed in amounts, they do not mean the existence of cash. Some people say that cash should be returned to employees or shareholders because there is capital stock or internal reserves, but capital stock does not have cash backing. Claims and debts are traces, records, and evidence of the flow of “money,” which is why certificates and vouchers have important meanings and functions in the market economy. Banknotes and stock certificates are representative items. Banknotes are an extension of promissory notes. The fact that they are an extension of promissory notes also represents the nature of banknotes. Because they are an extension of promissory notes, banknotes generate debts and claims. Even if “money” is borrowed, it is not stored as cash. The borrowed money is invested in equipment and converted into fixed assets. In that case, it only leaves a record in the liability account, indicating that there is a debt. The reason for recording claims and debts is that obligations and rights are derived from the flow of “money.” It should be noted that claims and debts change asymmetrically. The market value of fixed assets begins to change from the stage they are recorded. That is the substantial account. In contrast, borrowed money is fixed by agreement. That is the nominal account. Claims fluctuate with market value, and debts are fixed by agreement. This creates an imbalance between claims and debts. The asymmetry of claims and debts determines the direction of the flow of “money.”
Claims and debts are interrelated. Even if bad debts are processed, it does not mean that debts are resolved. It should not be forgotten that there are bad debts on the opposite side of bad debts. It should not be forgotten that processing claims leaves only debts behind.
Production entities consist of mechanisms for production and mechanisms for distribution. The mechanism for production is positioned at the entrance, and the mechanism for distribution is positioned at the exit. “Money” enters from the entrance and exits from the exit. The entrance forms liabilities on the credit side, and the exit constitutes the debit side. The entrance is created by raising funds, and the exit is created by the operation of funds.
Debts mean raising funds, and debts represent the function of operating funds. The raised funds are recorded as debts and debts. Debts are initially considered seed money, capital, and claims are considered cash, current assets. Current assets are converted into fixed assets and expenses. Revenue arises from expenses. If capital is insufficient, funds are borrowed. Borrowed money is recorded as liabilities. Raising funds is done through lending and borrowing transactions, capital transactions, and revenue. Funds are also distributed through expenditure. The key to distribution is expenses. Liabilities store “money” as payment preparation and distribute “money” to expenses. Liabilities and expenses are not unnecessary. Rather, they play a key role in the market economy.
The increase and decrease movements of claims and debts create a surplus or shortage of funds, and the surplus or shortage of funds creates the flow of “money,” circulating “money” in the market. There is a tendency to see liabilities as bad, but it should not be forgotten that liabilities adjust the surplus and shortage of funds and circulate funds in the market.
The monetary economy is fundamentally based on balance, meaning that it cannot continue if the balance is lost. The basics of the economy are natural numbers, discrete numbers. In other words, negative values are not recognized. If “money” runs out, it must be arranged from somewhere.
Claims and debts are set to zero-sum by double-entry bookkeeping. Because they are set to zero-sum, economic quantities move towards balance and harmony.
What circulates “money” in the market is the periodic increase and decrease movements of claims and debts, and the width of the periodic waves restricts the circulation volume of “money.”
External transactions are established by opposing transactions such as buying and selling and lending and borrowing, and symmetry is the premise. The total of external transactions is zero. In contrast, internal transactions involve the asymmetry of revenue and expenses, claims and debts. This asymmetry generates profit and capital. Profit and capital are differential accounts. The imbalance of revenue and expenses appears in profit and loss, but the imbalance of claims and debts does not appear on the surface.
The function of funds has long-term and short-term functions. Long-term functions derive from investment, and short-term functions arise from regular activities.
Long-term fund functions are recorded in lending and borrowing, and short-term fund functions are recorded in profit and loss. That is the accounting convention. There are parts of the flow of funds that appear on the surface and parts that do not. The surplus or shortage of funds arising from profit and loss transactions is recorded in profit and loss, but the surplus or shortage and movement of funds arising from lending and borrowing and capital transactions are not recorded in accounting. However, it should not be forgotten that what stops the breath of production entities is the failure of cash flow, that is, lending and borrowing transactions. Financial institutions adjust the surplus and shortage of funds and maintain the continuity of production entities.
Claims and debts arise from investment and from the process of regular transactions. Investment consists of raising funds for production means and investment expenditure. Claims and debts arising from investment represent the function of long-term funds. Claims and debts also arise from regular transactions other than investment. Such claims and debts function as short-term funds.
The movement of claims and debts creates a surplus or shortage of funds and generates the flow of “money.” When the imbalance of claims and debts expands, “money” flows excessively or, conversely, “money” stops flowing. The bubble and post-bubble economic stagnation are thought to be caused by the imbalance of claims and debts.
The power relationship between claims and debts determines the direction of the flow of “money.” If the power to expand claims is stronger than the power to expand debts, “money” flows to the side of claims, that is, the operation side. Conversely, if the power of debts is stronger, “money” flows to the collection side. Also, if the power to shrink claims works, the power of debts becomes relatively stronger, and “money” flows to the collection side, that is, the side of financial institutions. When debts shrink, the power of claims becomes relatively stronger, and “money” flows to the side of claims.
Some IT companies have market capitalizations equivalent to the national budgets of small countries. Some IT company owners hold trillions of yen worth of their own company’s stock. However, such stocks can maintain their market value because they are held. If sold in large quantities, the stock price would crash. In short, they are unsellable stocks. They are unsellable stocks but have asset value. Therefore, if “money” is needed, funds are raised by using the stock as collateral. Of course, small amounts can be sold. However, fundamentally, they are unsellable stocks. Even if they are unsellable stocks, some countries impose asset taxes or inheritance taxes. If the stock crashes, only the debt borrowed using the stock as collateral remains. That becomes a bad debt.
The bad debt problem is also a bad debt problem.
The Fear of Bad Debts
The fear of bad debts is that they can suddenly appear one day. Good debts can turn into bad debts overnight, causing a reverse flow of “money.” Bad debts are not bad from the start; they become bad debts when asset values decline. When the overall asset value of land decreases, the relative value of the land held also decreases. This is not intentional; assets deteriorate due to the decline in asset value. Moreover, bubbles and bubble bursts are not individual cases but involve the decline in asset levels across a region or an entire country.
Handling bad debts is not just about getting rid of the debts. It is crucial to manage the opposing debts and the various expenses incurred up to that point. The fundamental problem with bad debts is the loss of the added value that the debts generate. When private company debts deteriorate, financial institutions stop lending “money.” This is because if the expected revenue is not higher than the deposit interest rate, it results in a negative spread.
For example, interest rates are compared to rent. If the expected revenue is not higher than the interest rate, investors refrain from investing because it is more profitable to deposit “money” in the bank. Financial institutions do not invest in businesses that cannot generate revenue higher than the interest rate. If bad debts increase, the flow of “money” stops. Selling bad debts all at once further lowers asset values and expands bad debts. When debts turn bad, financial institutions stop lending “money” and start collecting it. As a result, “money” stops flowing into the market, leading to a liquidity shortage.
Claims and debts are paired phenomena. Focusing only on bad debts without addressing the underlying issues of claims and debts will only worsen the situation by expanding the imbalance between claims and debts.
After the bubble burst, handling bad debts became an urgent issue. However, it is essential to remember that the problem of bad debts also involves the issue of bad liabilities. After the bubble burst, the focus on handling bad debts neglected the issue of bad liabilities, creating a void post-bubble burst. Bad liabilities self-propagate if left unattended. The economic stagnation after the bubble burst was caused by the decline in asset values and the relative increase in liabilities against assets.
What exactly are bad debts? While the definition seems clear, it is actually ambiguous. Generally, bad debts refer to uncollectible principal and interest or overdue loans. The Financial Services Agency defines risk management claims as bankrupt claims, overdue claims, claims overdue for more than three months, and restructured loans (from “Chiezo”).
Loans are debts from the borrower’s perspective and claims from the lender’s perspective. Borrowed money is used and converted into assets. Bad debts occur when the relationship between borrowed money and the resulting assets becomes imbalanced, with liabilities exceeding asset values. Assets refer to production means, which are means to raise funds. Assets whose funding capacity does not match the amount of borrowed money are considered bad debts. It is important to note that this does not refer to assets whose market value is below their book value. Just because the market value of assets is below the book value does not mean that funds cannot be recovered.
Funding capacity includes not only the latent gains of assets but also future revenue. It is simplistic to label assets as bad debts just because their market value is below the book value. The purpose of handling bad debts is to eliminate latent losses by liquidating assets with latent losses, as latent losses reduce funding capacity. Forcing the disposal of such assets lowers future revenue expectations and the overall asset level in the market.
Bad debts are problematic because they involve uncollectible principal and interest or overdue loans. This is more of a debt issue than a claim issue. Even if asset values decline, loans are not considered bad debts if repayments are not overdue. The repayment of principal and interest is not directly related to the decline in asset values. Unless the business goes bankrupt and needs liquidation, there is no problem if sufficient revenue is generated despite the decline in asset values. In other words, bad debts are an issue of cost-effectiveness and repayment capacity.
However, without the ability to assess future revenue capacity, there is a tendency to assess collateral capacity based on the book value and market value of assets, labeling assets with insufficient collateral capacity as bad debts. This is essentially a collateral-based approach. The problem with the bubble burst was not just that individual companies faced collateral shortages, but that the entire industry of a country faced collateral shortages. Forcing the disposal of assets with insufficient collateral capacity further lowers asset values and expands collateral shortages. Such bad debts are artificially created. Companies with insufficient collateral capacity lose funding capacity and refrain from investing, leading to a decline in revenue capacity.
Even if collateral capacity is insufficient, it does not immediately mean bad debts. The issue is what is used for loan repayment. Expenditures related to revenue should be recorded as expenses. However, expenditures on lending and borrowing are not recorded in profit and loss. Depreciable assets can be recorded as expenses, but repayment funds for land cannot. Such assets can only be refinanced using collateral. The direct impact of the decline in asset values was on this part. In other words, there was a shortage of refinancing funds, which is the true nature of bad debts. Moreover, even if bad debts are handled when asset values decline, the opposing liabilities are not resolved and remain as latent losses within the company.
Selling a house when land prices fall is similar to handling bad debts when asset values decline abnormally. Bad debts should not be handled carelessly when asset values are abnormally low, as it only leaves bad liabilities. Handling should be done after asset values recover to some extent. When asset values decline, the focus should be on resolving bad liabilities. Reassigning liabilities is the most dangerous act, as it does not resolve the liabilities themselves. This principle applies to fiscal policy as well.
During the bubble burst, this principle was not followed, and bad debts were forcibly handled, resulting in missed opportunities for companies to handle bad debts. Even 30 years after the bubble burst, the relationship between stock and flow remains imbalanced.
In such a market, efforts should be made to maintain revenue capacity to prevent claims with insufficient collateral capacity from turning into bad debts. This means regulating to prevent excessive competition and ensuring that companies can repay debts with revenue. In other words, it is about nurturing a devastated market.
However, the policies taken were the opposite, leading to the expansion of bad debts and the collapse of the market, which has yet to recover.
The term “bad debts” is misleading. Bad debts are a problem of bad liabilities, arising from overdue debt repayments. If revenue is solid, the decline in asset values is not an issue. A good example is a mortgage. Mortgages generally turn bad due to income issues, not land price fluctuations. If there is income despite falling land prices, it is not a problem. However, if income is lost due to unemployment, repayments are delayed, turning the mortgage into a bad debt. Selling the house to repay the loan can at least settle the debt, but if the loan cannot be repaid, only the debt remains. This is because Japan follows a debtor-oriented system.
The most significant factor that exacerbates bad debts is the movement of funds that does not appear in profit and loss. Fund movements unrelated to profit and loss cause fund shortages, destabilizing the management state. The problem is not expenses but expenditures that are not recorded as expenses. The biggest cause is that loan repayments are not recorded in any accounting accounts, making movements uncontrollable. This can lead to situations where companies with stable revenue suddenly face cash flow problems and go bankrupt. The fear is that such sudden deaths can occur in a chain reaction. The biggest factor causing such situations is the weakening of financial functions, leading to poor circulation of “money.”
The background of the bubble includes the end of high economic growth, rising energy prices due to two oil crises, and the yen’s appreciation due to the Plaza Accord. The end of high economic growth and the oil crises reduced core business revenue capacity, while the yen’s appreciation created surplus funds, leading to a relative increase in asset values. Relative means that asset values increased relative to GDP. The increase in asset values was accompanied by an expansion of nominal liabilities. The decline in asset values reduced substantial claims, leaving only liabilities. The market fell into a state of excessive debt. Since then, private companies have focused on repaying excessive debt. Although the financial condition of private companies appears to have improved, they have lost the backing of claims, lacking substance.
The increase in claims is driven by rising asset values. During the bubble, the rise in asset values caused a massive flow of “money” into the market. After the bubble burst, this flow reversed, and “money” stopped flowing into the real market, suppressing investment and production activities. No matter how much “money” was issued, it did not flow into the market but stagnated in the financial market. This is one of the reasons for the economic stagnation after the bubble burst. The fiscal burden increased as the government compensated for the lack of funding demand. The bubble burst also eroded fiscal health.
Another reason for the increase in liabilities against claims is the decline in revenue capacity. If expenses exceed revenue, fund shortages occur, increasing liabilities. If expenditures based on expenses exceed income based on revenue, fund shortages occur, increasing liabilities. Conversely, if income exceeds expenditures, surplus funds occur, increasing claims. It is important to note that revenue and income, expenses and expenditures do not always match. Therefore, having a profit does not necessarily mean balanced finances.
The end of high economic growth led to market saturation. The halt in market expansion caused surplus production goods to flood the market, and excessive equipment became an issue. Surplus production goods lowered market prices and relative revenue capacity. Additionally, the yen’s appreciation increased imports from emerging countries, exerting downward pressure on prices. The decline in private company revenue capacity led to a revenue shortfall against expenditures, pressuring fiscal health. This is the structure that creates fiscal deficits. The decline in non-financial corporate revenue may also mean increased household expenditures, relatively increasing household financial assets. If the total volume does not change, an increase in one sector results in a decrease in another. The market always moves towards balance.
The market environment changed after the bubble burst. The yen’s appreciation due to the Nixon Shock and the Plaza Accord prepared the post-bubble market environment.
At the root of the national flow of “money” is national debt. Government bonds are the nation’s promissory notes, and banknotes are the promissory notes of the issuing bank, the central bank in Japan, the Bank of Japan. The motive for issuing banknotes is national fiscal collapse and fiscal crisis, primarily caused by wars and disasters. Fiscal policy and “money” are inseparable. Without understanding this, it is impossible to control the function of “money.”
The biggest problem in the modern economy is the reverse flow of “money” that flowed from liabilities to claims during the high economic growth period. When “money” flows from liabilities to claims, it exerts upward pressure on the market as the circulation volume of “money” increases. Conversely, if the flow reverses, it exerts downward pressure on the market as the market contracts. The reverse flow of “money” exerts downward pressure on added value and time value, such as interest rates, prices, and income. The impact on added value and time value affects the relative power relationship between flow and stock.
Changes in the relationship between claims and debts of production entities alter the power relationship between sectors to balance the overall system. The decline in non-financial corporate revenue capacity qualitatively affects fiscal functions if the relationship with households remains unchanged.
Comparing household assets in 1994 and 2012, immediately after the bubble burst, shows that while the composition of liabilities has not changed much, the proportion of financial assets has increased, indicating that funds have accumulated in households. Consumer potential demand is the product of household purchasing power and purchasing intent. No matter how much “money” there is, potential demand does not increase if there is nothing desirable. The decline in purchasing intent is more serious. The potential demand of production entities is the product of investment intent and funding capacity. For production entities, funding capacity is more of an issue than investment intent. Funding capacity is obtained by securing asset values and future revenue. After the bubble burst, the funding capacity of production entities dried up due to the decline in asset values and revenue capacity.
It is simplistic to think that having more is better than having less. Excess leads to unnecessary actions. The fundamental issue is what is needed. Excessive equipment leads to excessive production. Disposing of excess equipment to benefit competitors is not an option. The market ends up flooded with excess, causing price drops. Mass production leads to mass sales. Meaningless price competition and excessive competition devastate the market. Producers become exhausted and collapse together.
Producing more than needed or more than necessary supplies surplus goods to the market, exerting downward pressure on prices. Mass production and mass sales do not necessarily lead to mass consumption. It is wasteful. When life stabilizes and there is nothing needed, households refrain from buying. Naturally, expenditures decrease, and surplus funds are deposited in financial institutions, creating a “money surplus.” Deposits are liabilities for financial institutions. Without suitable borrowers, financial institutions face excessive liabilities, endangering their management. Seeking an outlet in government bonds leads to excessive national debt. Without increased income or revenue, tax revenue based on income decreases, shifting the focus to indirect taxes based on transactions.
If this continues, the balance between households, non-financial corporations, financial institutions, and fiscal policy cannot be maintained, disrupting the relationship between flow and stock.
To improve the economy, the direction of the flow of “money” needs to be changed.
To change the direction of the flow of “money,” it is necessary to understand what caused and why the direction of the flow of “money” reversed. This also involves understanding why the bubble occurred and why it burst.
The direction of the flow of “money” is determined by the power relationship between claims and debts. Since debts are fixed in nominal value, the power relationship between claims and debts largely depends on the function of claims.
The relative burden of debts increased due to the decline in asset values. Exchange rate fluctuations and the appreciation of the yen widened the domestic and international price gap. The decline in revenue capacity has skewed funding towards debts.
The prelude to the bubble was during the recession caused by the appreciation of the yen. The appreciation of the yen lowers export power while reducing import prices. The issue is where to balance it.
What to consider as explanatory variables (independent variables) and objective variables (dependent variables, external variables) is crucial. Ultimately, what to use as the standard is the issue. Why did the bubble occur? It is superficial to think that it was because the appreciation of the yen made it unprofitable to do business, leading to a rush into financial engineering. Before that, there was a decline in revenue capacity due to the end of high economic growth. There was also pressure from overseas against Japan’s export offensive, a sharp appreciation of the yen, rising oil prices, changes in the post-war system, financial policies (interest rate policies), and the impact of stock market events like Black Monday. The bubble occurred due to a complex interplay of many factors. However, behind these factors are the movements of claims, debts, revenue, and expenses. It is necessary to look beyond the surface phenomena and understand the movements of debts, revenue, and expenses.
There is a tendency to unilaterally condemn the convoy system, but at least the convoy system protected the financial market. When the convoy system was reformed, financial institutions became more oligopolistic. However, the issue is that even in an oligopolistic state, profit margins cannot be maintained. Many people have an all-or-nothing mindset, viewing the convoy system, cross-shareholding, seniority-based promotion, and lifetime employment as either entirely good or bad. Anti-establishment and anti-authoritarian individuals tend to see power as inherently evil. Competition fundamentalists tend to deny regulation itself. Absolute denial of power is anarchism, which invites absolute violence. Democratic systems advocate the dispersion of power to prevent the unchecked exercise of dictatorial power, not to deny power itself. Laws are protected by power structures. Removing all regulations would lead to the loss of discipline and order in the market, making it uncontrollable. It is crucial to understand what supports the functioning of the market. When the market is in chaos, strong leadership is needed to restore market discipline. The longer the chaos lasts, the further the solution becomes.
Debts determine the circulation volume of “money.” If banknotes are seen as an extension of promissory notes, modern society is built on debt. In this sense, debt should not be condemned as inherently bad. Instead, debt should be positively acknowledged, and the harms and obstacles it causes should be correctly recognized to control debt effectively.
Debt has both utility and harm. It is foolish to become materialistic without understanding this point correctly, and it is equally foolish to be constantly afraid of debt. Economic entities do not go bankrupt without debt, but without “money,” they cannot obtain necessary goods. To obtain necessary goods, it is necessary to borrow “money.” The problem is borrowing beyond repayment capacity. The issue arises when the conditions for repayment change, making repayment impossible. In post-bubble Japan, managing debt on a national scale has become difficult.
The function of long-term funds is based on the relationship between claims and debts. Debt settlement takes a long time and involves fund movements not reflected in profit and loss. Although not reflected in profit and loss, it certainly affects income and expenditure. Failure in long-term fund management is a direct cause of the collapse of production entities. This applies not only to private companies but also to fiscal policy and households.
If bad debts are a concern, it is necessary to clarify why and how claims deteriorate and what makes those claims bad. The biggest issue with handling bad debts after the bubble burst was the lack of clarity on what constituted the problem of bad debts. Bad debts were condemned without clarifying what they were and what was wrong with them, leading to rigid and arbitrary handling.
The problem with bad debts is, first, the decline in funding capacity. Second, the deterioration of asset liquidity. Third, the realization of latent losses during liquidation. Assets with latent losses do not immediately become bad debts. Even if liabilities exceed assets, it is not an issue if repayments are not overdue. The key factor causing bad debts is the inability to repay, which is due to a decline in revenue capacity. Additionally, weakened collateral capacity reduces funding capacity, making it difficult to secure working capital. Handling bad debts must consider these two points. Simple cash flow measures do not contribute to revenue as they are not recorded in profit and loss.
The most significant factor exacerbating bad debts is the deterioration of asset liquidity, such as land. Many companies tend to hold onto land with latent losses until the losses are eliminated, worsening asset liquidity. Forcing the disposal of assets with latent losses further lowers land prices and expands the scope of bad debts. This caused the long-term void after the bubble burst. Assets purchased at the peak of the bubble are not bad debts unless there is a further decline in asset levels. Assets with latent losses are not an issue if they are profitable. Claims without profitability are problematic even if they appear healthy at the time.
Bad debts are claims that reduce funding capacity, worsen asset liquidity, and incur significant losses during liquidation. Conversely, handling bad debts involves preventing the decline in funding capacity, maintaining asset liquidity, and avoiding significant losses during liquidation. The policies taken after the bubble burst were the opposite, leading to prolonged economic stagnation.
Some people mistakenly view handling bad debts as an absolute necessity. However, claims and debts are relative and fluctuate significantly depending on market conditions, environment, and policies. Rigidly eliminating bad debts can infinitely increase them. It is essential to remember that claims and debts are virtual concepts. “Money” is a human-created illusion.
Revenue and Expenses
The economic activities of a production entity within a unit period are measured by revenue and expenses. The difference between revenue and expenses represents profit and loss. Essentially, the market economy operates by controlling economic activities within a unit period, meaning that production entities are sustained by the relationship between revenue and expenses. As long as “money” circulates, a production entity can continue its operations. Profit is the indicator of whether “money” is being circulated effectively. Revenue and expenses constitute the flow.
Gross production is the aggregated value of revenue, gross income is the aggregated value of income, and total expenditure is the aggregated value of expenses. Revenue, income, and expenses are interrelated. The national economic accounts (GDP) are based on these premises.
The cornerstone of the economy is revenue, not profit. Profit is an indicator for measuring the balance between revenue and expenses.
The financial statements reflect the shadow of economic activities mapped onto the monetary space. The actual economic activities are separate. Confusing the shadow with the reality obscures the true nature of the economy. “Money” represents the shadow.
Revenue is output and signifies sales, not production. Sales are the product of sales volume and unit price. Unsold products are either discarded or become inventory. Intermediate input, gross production, gross income, and total expenditure represent cost, production, distribution, and expenditure, respectively. These elements are interconnected through the circulation of “money,” functionally representing the cross-section of “money” flow. Therefore, the three-way equivalence holds. The functions of intermediate input, gross production, gross income, and total expenditure control the entire market. By sequentially transitioning through input, production, income, and expenditure, the economic system becomes structurally integrated. Separating input, production, income, and expenditure disrupts the unified control of the economic system. The three-way equivalence is not a result but a structural factor and foundation.
Revenue is the total currency circulation volume recorded from sales activities within a certain period. Sales activities include transactions without settlement. In other words, it is the shadow of sales activities mapped onto the monetary space within a unit period. The total volume of “money” within a unit period is the product of quantity, unit price, and turnover. The basis is circulation volume, not supply volume. No matter how much supply increases, economic activities do not activate if circulation volume does not increase. No matter how much funds are supplied, the economy does not expand if revenue and income do not increase. In other words, gross income does not increase. To expand the economy, the focus should be on increasing revenue and income, not supply volume. Public investment is a transfer of funds. Without expanding market transactions, public investment does not increase gross income.
The functions of revenue and expenses are asymmetrical. Revenue primarily adjusts market supply and demand, while expenses distribute “money” through the production process, making their functions inherently asymmetrical. This creates a time lag between occurrence and realization. Revenue is based on social utility, while expenses realize distribution. Revenue determines the social necessity of goods, and expenses secure the resources needed for production. Revenue emphasizes sales, while expenses focus on the production process. Prices are determined by the power relationship between revenue and expenses. Revenue and expenses are not unified; their roles differ. Profit harmonizes revenue and expenses.
Revenue is the aggregated value of goods recognized as necessary through transactions. Necessity is recognized through sales, making revenue synonymous with sales. Expenses are the total amount of “money” spent to acquire the resources needed for production. Revenue is established with both sellers and buyers. Revenue is measured against expenses and evaluated by profit. The revenue structure is based on the expense structure. Revenue is based on expenses, forming the basis for income, while expenses form the basis for expenditure. The occurrence of revenue and expenses is not simultaneous; there is a time lag. This time lag between revenue and expenses significantly impacts profit. Revenue and expenses are matters of recognition, not necessarily aligned with the timing of goods exchange or “money” settlement. The time lag between goods exchange and settlement forms working capital and generates claims and debts. Working capital functions as short-term funds. Differences arise based on what realized or caused the transaction and when it was recognized. This difference affects cash flow.
Production begins with the procurement of materials and “money.” Material procurement includes capital investment, products, or raw materials. Products and raw materials reflect inventory investment.
In the production stage, “money” does not become revenue initially; expenses precede. Initial expenses arise from initial investment, forming fixed costs. In contrast, expenses proportional to sales, like raw materials, are variable costs.
The sales volume is uncertain until sales occur. Production is planned based on sales forecasts. Revenue is uncertain, and production plans are based on this uncertainty. However, production costs are certain once incurred. Revenue is uncertain, but expenses are definite. Initial investment costs become fixed costs, including capital investment and labor costs. Capital investment expenses are recorded as depreciation costs, but these costs do not align with actual “money” movements. Investment expenditures come from either equity or borrowed funds. Investment fund flows are not recorded in profit and loss but as differential accounts in lending and borrowing. The actual movement must be calculated independently. Therefore, they are not recorded as accounts, not directly affecting net assets or profit. Loan repayment funds come from internal reserves or retained earnings. If all profits are distributed as dividends, repayment funds disappear. Releasing internal reserves or imposing taxes immediately strains cash flow, necessitating borrowing for repayment. This paradoxical situation arises because liabilities are nominal accounts. Capital investments include depreciable and non-depreciable assets, with land investment costs not depreciated. Gains or losses from land are recorded upon sale or liquidation. Therefore, land acquisition expenditures require substantial net assets for repayment. Dividends flowing out prevent using profit disposal as a funding source. Many unlisted companies avoid dividends to retain loan repayment funds. Loan repayment transfers are not considered expenditures but circulate funds in the market. Liabilities enable fund circulation. Reduced liabilities lower market “money” liquidity, as liabilities supply funds to the market.
Recovering invested funds takes time, a premise in accounting and financial planning. Fund recovery is based on revenue in both accounting and finance. Temporary high revenue does not recover invested funds due to taxes. Sustained revenue is necessary for fund recovery.
Expenses directly related to production are proportional to production. Such expenses are variable costs, proportional to sales but inherently proportional to production. Not all produced goods are sold, leaving unsold resources as inventory. Inventory is based on cost, not sales price. Inventory becomes current assets, indicating economic fluctuations. Inventory is stock, forming capital formation in national economic accounts.
Fixed and variable costs represent the relationship between investment and revenue, reflecting the economic state of industries. The economic state of production entities and industries is expressed by the relationship between revenue and profit. Economic states include increased revenue and profit, increased revenue and decreased profit, decreased revenue and increased profit, and decreased revenue and profit, reflecting the relationship between expenses and revenue. However, this alone does not fully capture economic utility. Inventory conditions and revenue sources also matter, as does expense appropriateness. Understanding the substance of revenue and expenses through cash flow is essential. The most crucial relationship is between revenue, expenses, claims, and debts, as claims and debts form the basis of revenue and expenses.
Short-term profit is derived from revenue and expenses, while long-term financial balance comes from claims and debts. Judging economic conditions solely by excess debt or losses is incorrect. The fundamental question is where to seek economic utility.
Production entities are based on the balance of revenue and expenses, also responsible for distribution. This implicit agreement is transaction-based, not naturally formed.
Liabilities and capital arise from debts, while assets arise from claims. Claims initially appear as current assets, converting to fixed assets and expenses. Revenue arises from expenses.
Revenue and expenses do not represent income and expenditure, as some accounts do not involve income or expenditure. Profit and loss do not directly reflect cash flow. Revenue and expenses represent the function of “money.”
Production entities are controlled by revenue and expenses, which are converted into profit. Revenue and expenses create the flow of “money.”
Profit is an indicator derived from the state of revenue and expenses. The issue is not whether there is a profit or loss but the causes of profit or loss. Simplistically viewing profit as good and loss as bad obscures the economic reality. The content of revenue and expenses is crucial. Temporary revenue spikes from unexpected events do not guarantee future demand, and excessive capital investment during profit periods is not always beneficial. During growth stages, revenue may not match investment, and withdrawing funds due to losses can destroy growing companies. The importance lies not in the presence of profit but in its meaning. Assessing whether profit arises from appropriate revenue and expenses is essential.
Profit has a similar effect to reinforcement learning in machine learning. Production entities learn from profit but tend to overvalue it. It is necessary to look beyond immediate profit to future profit potential.
Determining explanatory and objective variables and the basis is crucial. Should expenses match revenue, or should revenue match expenses? Should profit be the objective function? Profit is a differential account between revenue and expenses, varying with the state of production entities. It is essential to confirm the premises, not just focus on profit.
Economic value is fundamentally the product of quantity and amount. Quantity is finite, while “money” is unlimited. The product of finite and infinite “money” determines economic value. Prices fluctuate significantly despite limited population and production, reflecting “money” value issues. Recognizing this is crucial. Many economic issues are caused by “money.”
Expenses, or expenditures, are definite, while revenue is uncertain. Expenses are inherently rigid, while revenue is fluid, making production entities prone to “money” shortages. Financial institutions balance fund surpluses and shortages. Production entities stabilize uncertain income with financial support, providing stable income on fixed dates, making labor costs fixed. Periodic fund surpluses and shortages in production entities are supplemented by working capital. Production entities are income stabilizers.
Revenue is uncertain, the biggest issue. Sales volume is unknown until sales occur. Market size is not fixed, based on forecasts. Capital investment occurs first, requiring hiring and purchasing raw materials and products. Investment is a gamble, with expenses increasing as the market expands. Large companies face crises and potential bankruptcy if market forecasts are wrong. Investment and expenses occur regardless of sales volume. Employees must be paid fixed salaries on fixed dates, a free-market economy rule. Few succeed, with many failures. Focusing only on success overlooks market economy risks.
Market size is uncertain, with investment and production plans based on uncertain forecasts, a capitalism principle. Misreading the market wastes investment, creating excess capacity. Market shifts from expansion to contraction create excess capacity, debt, and employment, as seen post-bubble. Market contraction results from environmental changes, not individual company policies. Company managers must make appropriate decisions but face limits. Maintaining prices is crucial during market contraction, enabling a shift from quantity to quality.
Market equilibrium, expansion, or contraction can be gauged by GDP trends, nominal and real GDP relationships, and deflators.
The Price of Goods
The price of goods is determined by the product of quantity and quality. However, excessive equipment leads to overproduction, which in turn causes excessive competition in the market. When a shift from quantity to quality is necessary, mass sales become rampant. One reason for this is that the power to determine prices has been taken away from the production sector. Modern Japan is dominated by mass retailers, but even this trend is beginning to wane because the market is finite.
When attempting to shift from quantity to quality, maintaining prices becomes a necessary requirement. This is because the market is determined by the correlation between income and expenses. Income exerts upward pressure, while expenses exert downward pressure. Prices are established on this balance. Moreover, income and expenses are two sides of the same coin, as is the relationship between supply and demand. The economy is always seeking balance. Therefore, prices cannot simply be low. Prices are determined by density, which is the product of quantity and quality. Quantitative expansion is accompanied by qualitative changes.
Appropriate prices are determined by balance. If appropriate prices are not maintained, prices will continue to fall. Profits will be compressed indefinitely, and expenses will continue to be pressured. Income will be increasingly lost, eventually compressing even additional expenses. Wages will be stripped of all human attributes, meaning that wages will only be seen as expenses, with attributes such as evaluation and living expenses as a person being removed. This leads to the automation of the economy. The criteria for measuring work will only be time and unit price, with individuality not being evaluated at all. This is rationalization, leading to economic rationality.
The economy exists because there is waste. This is because everyone has different conditions. There are young people and old people, children, women, men, married people, single people, divorced people, people with many children, strong people, weak people, tall people, short people, beautiful people, ugly people, good drivers, bad drivers, people knowledgeable about systems, and people who are not. There are eloquent people and people who are not good at speaking. Everyone is different. It is important not to forget that income distribution is required to be done according to the work and contribution of all these people. Naturally, the economy will have waste, unevenness, and biases. Denying waste, unevenness, and biases will make distribution impossible. Income distribution must be done universally to all people, regardless of ability. Otherwise, distribution will not be complete.
Expenses are rigid. At the same time, expenses include fixed expenses and variable expenses. Fixed expenses are those that occur regardless of revenue, while variable expenses are those that occur in proportion to revenue. Basically, variable expenses and revenue have a linear relationship.
The monetary economy is fundamentally based on balance, meaning that it cannot continue if the balance is lost. The basics of the economy are natural numbers, discrete numbers. In other words, negative values are not recognized. If “money” runs out, it must be arranged from somewhere.
Therefore, if income is unstable, the surplus and shortage of “money” will create waves, making life unstable. Production entities act as rectifiers, smoothing out the uncertainty of income and stabilizing life.
Transactions consist of external transactions and internal transactions. External transactions are symmetrical, while internal transactions are asymmetrical, and this asymmetry generates profit and net assets.
The inability to generate profit means the inability to create added value.
The flow of “money” moves from debts (procurement) to claims (operation), and from claims to profit and loss (results), exerting the economic utility of production entities. The utility of production entities lies in production and distribution. Production involves the systematic processing of production means, labor, and raw materials, while distribution is executed within the scope of revenue through expenses.
The flow of regular production follows the flow of goods. The flow of goods includes capital investment and the procurement of goods or raw materials. Revenue is determined by the supply and demand of production goods, which is reflected in prices.
Changes in currency value due to exchange rate fluctuations are reflected in procurement, purchasing, and prices. The entry point for exchange rate fluctuations is procurement, and the exit point is prices. Prices are influenced by import prices.
The principle of capitalism is to base everything on revenue. By generating revenue, expenses are covered, and investment funds are repaid from profits. The issue is that loan repayment amounts are not recorded anywhere. The fact that they are not recorded means that the effect of loan repayments is not measured. This endangers the flow of income and expenditure of production entities. As long as “money” circulates, management can continue. However, it is abnormal for the stock price of a company with no operating profit to be inflated. Continuing to borrow without revenue prospects can be considered fraud. Even if actual profits are not generated, management can continue as long as “money” circulates. Relying on income other than revenue is against market principles.
The balance between revenue, expenses, and profit, and the relationship with income determine prices. First, it is necessary to ensure appropriate revenue. Can expenses be covered with the acquired revenue? Is it sustainable? These questions need to be clarified. Are prices within the range of customer income? In the field of management, uncertain factors are intricately intertwined. The point is that revenue cannot be secured if prices exceed consumers’ payment capacity and purchasing power. Profit cannot be discussed without considering the relationship between prices and income.
It is important to be aware of the flow of funds that do not appear on the surface, i.e., in profit and loss. Understanding the utility of profit requires considering loan repayments, as loan repayments are sourced from profits. Moreover, the principal of loans is considered a fund transfer, not appearing on the surface, i.e., in profit and loss. However, it remains an expenditure. If loan repayments are delayed, management cannot continue. The primary cause of corporate bankruptcy is bounced checks. In other words, without loans, there is no legal bankruptcy. Loan repayments are not recorded as expenses. They are drawn from income regardless of profit and loss. The source of loan principal repayments is depreciation and post-tax profits. If appropriate profits are not maintained, and the sum of depreciation and post-tax profits falls below the principal repayment amount, liabilities begin to self-propagate. This applies to national finances as well. Loan principal repayments do not appear in profit and loss but are paid from profits. If profits are not secured, loan principal repayments are hindered, necessitating refinancing. The increase in liabilities suggests the progression of chronic illness in unseen areas.
One factor distorting the current economy is the misconception that market expansion and growth are the norm. The primary purpose of production entities is the production of goods and the distribution of income. Growth and increased revenue and profit are results, not motives. What is required of production entities is sustainability, not continuous expansion. Misunderstanding this leads to the danger of trying to increase revenue through discount sales, high-risk businesses outside the core business, and speculative transactions. During the bubble, many companies collapsed by engaging in businesses beyond their means. Even now, thirty years later, many companies still suffer from the aftereffects. There are times when growth stops, and the market contracts. It is during such times that the skills of managers are tested. How to maintain the balance between revenue and expenses is crucial. Profit is not the only purpose for production entities. Hiring people and ensuring stable income is also a significant role of production entities.
There is often criticism that corporate entities hoard profits and do not return them to the market after the bubble burst, but it is important not to ignore the fact that revenue across all industries has stagnated. If revenue, i.e., sales, is stagnant, the only way to increase profit is to compress expenses. Compressing expenses means reducing income. The reason revenue, i.e., sales, does not increase is due to a lack of purchasing intent, not simply a lack of corporate effort. If quantity decreases, prices must be raised to increase revenue. Encouraging discount sales and low prices will not improve total income in a mature market. A shift from quantity to quality is required.
When sales increase, profit margins also expand. When sales plateau, profit margins stabilize. When profit margins expand, increased expenses can be absorbed, but when profit margins stabilize, increased expenses cannot be tolerated. To secure profit, expenses must be reduced. Reducing expenses decreases employment and income, reflecting in overall market sales, leading to market contraction. The economy moves from growth to maturity. The relationship between profit and expenses is a matter of profit margins, not revenue expansion.
Revenue is uncertain, while expenses are definite. Therefore, if the power to determine prices is taken away from production entities, it becomes fatal for them. The decline of manufacturing and the rise of mass retailers are not unrelated. The development of the internet, directly linking production and distribution, could fundamentally undermine the market economy. Unified prices are not the best choice for the market economy. The coexistence of stores with different prices is an inevitable outcome in the market economy.
Means of Production and Production
Production involves two flows: investment and current account balance. Generally, production begins with investment.
Investment starts with raising funds from an unspecified number of people. Depending on the source of funding, production entities are classified into corporate enterprises, non-corporate enterprises (such as cooperatives), individual enterprises, state-owned enterprises, and public enterprises. This classification reflects the different means of investment in production means. The differences in investment affect the distribution of profits. Investment is significantly constrained by the monetary and financial systems.
Loans from financial institutions are executed based on future revenue or the latent gains of held assets as collateral.
In a market economy, the activities of production entities are understood through an accounting system based on double-entry bookkeeping. The state of the activities of production entities is measured by accounting algorithms. However, the actual algorithm driving production entities is created by the flow of “money.”
Accounting divides the activities of production entities into short-term and long-term activities, measuring the added value generated by production entities within a unit period as profit. It is fundamentally based on period profit and loss. However, since the foundation of period profit and loss is the lending and borrowing relationship, emphasis is placed on maintaining the consistency between period profit and loss and the lending and borrowing relationship.
This means that the fundamental economic issue is how to align temporary expenditures with the function of “money” within a unit period. This also relates to the consistency between revenue and personal income. It boils down to how to balance the total revenue and total income of society as a whole.
Revenue is the source of funds to pay for incurred and future expenses. Expenses are returned to income.
Revenue means recovering the funds invested in producing goods and the expenses incurred in sales while generating added value and distributing that added value. Expenses are the “money” paid to produce and sell goods, serving as the key to distribution. Profit is an indicator for maintaining the balance between revenue and expenses.
Expenses are expenditures for production. The role of expenses includes not only production but also distribution and consumption. If expenses are endlessly reduced under the pretext of improving production efficiency, income will shrink, and consumption will decline. The goal is to build a market structure that can achieve revenue capable of maintaining appropriate expenses. Profit is the indicator for this.
The trends in revenue and expenses are crucial. Even if profit increases, if revenue decreases, it means the overall market size is shrinking. Excessive expense reduction leads to a decrease in total income.
Simply increasing profit is not the solution. Profit is based on the balance between revenue and expenses. Excessive profit can be harmful. Conversely, losses are not necessarily harmful if there is a reasonable explanation.
No matter how cheap goods become, they cannot be bought without income. Producers are also consumers. If jobs are lost, customers decrease. Without customers, businesses cannot operate. Losing workplaces means losing the places that connect production, distribution, and consumption. If profit is pursued excessively and production sites are automated, people lose the places to work and earn “money.” Profit is merely an indicator of the balance between revenue and expenses. Making profit the goal is dangerous. The validity of revenue and expenses is the real issue.
As rewards for the factors necessary for production, employee compensation, fixed asset depreciation, and operating surplus/mixed income are considered factor costs. Factor costs = Employee compensation + Fixed asset depreciation + Operating surplus/mixed income Employee compensation is for labor as a production factor, fixed asset depreciation is for fixed assets as production means, and operating surplus/fixed asset depreciation is considered compensation for management resources. Domestic factor income = Employee compensation + Operating surplus/mixed income Domestic factor income is considered true production results, or primary income, and domestic net production.
Why is capital investment not booming? It is because revenue plans cannot be established. Many policymakers misunderstand that the goal is to enhance competitiveness or sell cheaply. The role is to generate appropriate revenue, distribute income from it, maintain the revenue of other economic entities, pay interest, pay taxes, recover invested funds, and repay debts. Without appropriate revenue, taxes cannot be paid, income cannot be distributed, interest cannot be paid, invested funds cannot be recovered, debts cannot be repaid, and the revenue of trading partners cannot be maintained. Profit is merely a guideline; the real importance lies in cost-effectiveness. Although not visible on the market surface, fund movements play a decisive role in driving the market. Fund movements are perceived as fund supply and demand. However, since fund movements are not recorded as revenue or expenses in accounting, they are difficult to grasp. Especially, fund movements from lending and borrowing/capital transactions are not recorded in profit and loss. However, these fund movements occupy a significant proportion in the flow of funds.
During the bubble, three excesses became problematic: excess equipment, excess debt, and excess employment. Excess equipment is an issue of fixed assets. Excess debt is an issue of long-term loans and fixed liabilities. Excess employment is an issue of fixed costs and expenses. The excess is relative to revenue. The underlying issue is the lack of core revenue. The expansion of stock caused the lack of revenue. During the end of high economic growth, stock was expanded while revenue stagnated. Therefore, it was considered a lending and borrowing issue, not a profit and loss issue. However, the specific problem in lending and borrowing was not clarified.
The bubble was not based on actual demand. It was merely riding on the apparent rise in asset values, without accompanying real market or income growth. Instead, the divergence between stock and flow led to funds being sucked into the capital market. Investments were made unnecessarily, debts were incurred unnecessarily, and people were hired unnecessarily. This resulted in the bubble. When the bubble burst, necessary investments could not be made, necessary debts could not be incurred, and necessary income could not be raised. In any case, it deviated from the core revenue. To maintain the core revenue, appropriate prices must be maintained. Appropriate prices are not cheap prices but prices where costs and profits harmonize.
As the market matures, production goods become commoditized, and revenue capacity declines. Simultaneously, the widening domestic and international price gap leads to a loss of external competitiveness. The root of the domestic and international price gap is the difference in income levels. This shows that commodity industries support economic growth. Mature industries that have stopped growing create more employment. However, closing the market would lose market discipline. The important thing is to maintain appropriate prices, which requires strengthening appropriate regulations. Unprincipled deregulation only devastates the market. When the market matures, a shift from quantity to quality is required.
Cash Flow
The market operates according to accounting principles. The market mechanism is driven by the power of “money.” The unit of “money” is natural numbers, discrete numbers. Accounting principles are based on balance. As long as there is a balance in cash flow, economic entities can continue their economic activities. If the balance is insufficient, economic activities cannot be sustained. Therefore, cash flow is crucial.
The flow of goods and the flow of “money” do not always align. There can be a time lag between the exchange of goods and the settlement of “money.” Additionally, there can be a time lag between the utility and function of “money” and the flow of “money,” such as with depreciation expenses. As a result, the function of “money” and the flow of “money” are disconnected. Therefore, it is necessary to supplement the flow of “money” separately from the functions of lending, borrowing, and profit and loss. This is what cash flow represents.
The market economy is a system driven by the function of “money.” The essence of “money” lies in its function. The function of “money” is exerted through the flow of “money.” The flow of “money” is created by the surplus and shortage of “money.” There are two flows of “money”: the flow of transfer and the flow of settlement. The transfer of “money” derives claims and debts and functions as long-term funds. Long-term funds stay in the market for a long time, preparing for payments while ensuring the circulation of “money.” Transfers include capital transfers and current transfers. Settlement completes transactions.
Production entities operate based on inflows and outflows of “money.” Inflows are income, and outflows are expenses. Even though they are based on the same function of “money,” income and revenue, expenses and costs are not the same. There is revenue without income and costs without expenses. There is also income not recorded as revenue and expenses not recorded as costs. Additionally, the movement of “money” through lending and borrowing transactions and cash flow management is not reflected in profit and loss. The state of profit alone does not show the movement of funds. However, cash flow management is crucial for the survival of production entities. This is why situations like bankruptcy despite profits occur.
What actually drives economic entities is the inflow and outflow of “money,” meaning income and expenses. Cash flow represents the flow of “money” created by the inflow and outflow of “money.” Therefore, to understand the reality of the economy, it is necessary to look at cash flow in addition to the movements of profit and loss and lending and borrowing.
Revenue without income becomes sales claims, such as sales notes or accounts receivable. Costs without expenses are procurement debts where payment has not been made, opposite to sales claims. Additionally, goods procured but not yet sold are also procurement debts. Depreciation expenses for equipment do not involve actual cash outflow. Other income not recorded as revenue includes income from loans or capital increases. Expenses not recorded as costs include loan repayments. In other words, fund movements from lending and borrowing or capital transactions are not recorded in profit and loss. However, the income and expenditure from lending and borrowing or capital transactions are crucial for the survival of production entities.
The mechanism driving the liberal economy is the flow of “money,” or cash flow. Cash flow is divided into short-term and long-term functions. Short-term functions are classified as operating cash flow, and long-term functions are classified as investment cash flow. Additionally, there is financial cash flow, which adjusts the surplus and shortage of “money.” Cash flow analysis measures economic movements by tracking these three flows. The important point is that long-term funds form stock, and short-term funds form flow. Stock is based on the relationship between claims and debts, while flow forms added value. Stock restricts flow, and flow is returned to stock. Flow and stock are inseparably linked. Therefore, when looking at the function of funds, it is necessary to constantly monitor the relationship between flow and stock. If flow cannot be controlled by stock, it is a warning sign.
Production activities have processes, and these processes create fund demand, which is working capital. Fund demand creates cash flow. The production of tangible goods fundamentally begins with investment in production means and material investment in raw materials. Goods are produced by combining these with labor. The issue is time. It takes time for goods to be produced and sold, i.e., converted into cash. During this time, expenses continue. Securing the funds needed from the start of the business until revenue is generated is the first cash flow in production. The beginning is expenditure.
Cash flow starts with initial investment and working capital. At this stage, revenue is uncertain.
After raising funds, the funds are invested in production means. Production means include production equipment, raw materials, and labor. There are three types of investments: capital investment, inventory investment, and human investment. Investment appears on the market surface as an economic activity from fund procurement.
Initial investment is primarily for production equipment and labor. Additionally, investment requires registration fees to participate in the market. In other words, costs associated with company procedures and registration fees are necessary. This shows that the market is an artificial place.
Investment sets the initial conditions. Investment cash flow and financial cash flow are the origins of these initial conditions. When production activities begin, costs arise in the production and sales processes. Costs play a key role in distribution.
Production goods are recognized as economic transactions when recorded as sales. Sales correspond to total output in the national economic accounts. The national economic accounts are difficult to understand because they generally focus only on gross production, equivalent to gross profit, and neglect total output. Usually, sales are emphasized in profit and loss.
The function of long-term funds arises from investment. Investment forms fixed assets. There are long-term and short-term investments. Long-term investments are formed by capital investments, while short-term investments are formed by raw materials and inventory. The flow of regular funds primarily forms added value. Added value is key to distribution. When there is a surplus or shortage of long-term and short-term funds, financial cash flow adjusts the “money.”
Fund procurement and investment first form the stock as the basis of the business. In other words, flow derives from stock. The basis is in stock. Flow arises from the business and industrial foundations formed by lending and borrowing or capital transactions. The cash flow generated by sales transactions is operating cash flow.
In this way, the flow of “money” forms flow and stock.
It is important to note that the function of “money” arising from lending and borrowing or capital transactions is not recorded in period profit and loss. The cash flow statement supplements this issue.
The expression of fund supply and demand by increase and decrease means that the movement of funds within a unit period in lending and borrowing can only be grasped as a difference. Accounts representing loan repayments do not exist in profit and loss accounts. Lending and borrowing are considered fund transfers regardless of profit and loss. Therefore, the movement of “money” related to lending and borrowing transactions can only be recognized as the difference between the previous and current periods. However, it is important to remember that cash flow management failures by large companies are a direct cause of the collapse of production entities. The flow of “money” from lending and borrowing needs to be supplemented by financial cash flow.
The Economic Lifecycle and Cash Flow Trends
Understanding the role of “money” within a given period is impossible without recognizing how cash flow closely ties production, distribution, and consumption together. This applies to the overall state of a nation’s economy, as well as individual industries, companies, and households. The flow and function of “money” differ between nations, industries, companies, and households in growth stages and those in maturity stages. Implementing the same policies for both stages would lead to significant mistakes. Policies should differ between growth and maturity stages.
In the founding phase, nations, industries, companies, and households typically face a shortage of funds. However, in the maturity phase, an excess of funds becomes the norm, leading to abundant operating cash flow but a decline in financial and investment vitality. During the maturity phase, it is necessary to stabilize profitability and use the funds obtained from operating cash flow to compensate for the financial and investment cash flow shortages.
The above graph shows the standard flow of funds, and circumstances change if the underlying conditions change. The most crucial aspect is whether profits can be secured and maintained. Without profits, cash flow cannot be sustained. Additionally, there is the relationship between depreciation and financial cash flow. Depreciation and loan repayment are not the same. Depreciation does not cover the entire loan amount, and the repayment period, repayment method, and depreciation calculation differ. These discrepancies cause subtle shifts in short-term fund movements, leading to fund surpluses or shortages.
Cash flow also varies depending on how much was invested initially, whether initial costs were covered by own funds or loans. However, it is essential to understand the basic flow of funds.
It is crucial to note that the movement of long-term funds, i.e., financial and investment cash flows, are fund transfers that do not appear in profit and loss statements and are often overlooked. However, it is the movement of long-term funds that can lead to the collapse of production entities. The challenge lies in how to supplement long-term funds. Long-term funds appear in the balance sheet but can only be grasped through changes in receivables and payables. The movement of long-term funds is essentially a transfer. Fund transfers for loan repayment cannot be captured in financial statements. Even if there is a fund shortage, it is merely a matter of fund transfer and does not reflect profits. However, failure to repay loans leads to bankruptcy. The movement of long-term funds beneath the surface determines the survival of production entities.
Looking at the cash flow of all industries and scales in Japan, it appears that they transitioned directly to the decline phase without going through the maturity phase.
The changes in the flow of “money” during the bubble period and after the bubble burst are clearly reflected in the financial cash flow. During the bubble formation period, the rapidly expanding demand for funds reversed rapidly after the bubble burst, causing “money” to flow backward. The “money” that flowed from debt to credit during the bubble formation period changed direction from credit to debt after the bubble burst.
Consequently, non-financial corporations have shifted from external to internal funding. As non-financial corporations transitioned from external to internal funding after the bubble burst, the loan-to-deposit ratio of financial institutions also declined. The decline in the loan-to-deposit ratio under low-interest rates pressures the management of financial institutions.
When looking at cash flow, it is essential to consider depreciation, fixed assets, and long-term loans. Depreciation represents the nominal function of “money,” while fixed assets and long-term loans represent the actual function. While depreciation remained flat after the bubble burst, the supply and demand for funds for fixed assets and long-term loans plummeted. The supply and demand for funds for long-term loans turned negative in 1994, and for fixed assets, it turned negative after the financial crisis in 1997. The abnormal movements during the bubble period stand out.
Flat depreciation means no new investments are being made. After the bubble burst, did managers lose their willingness to invest, or were they unable to invest despite their willingness? Even if managers were willing to invest, they could not do so without promising investment opportunities or funding capabilities. Companies that lost their funding capabilities due to declining asset values and unprofitable competition after the bubble could not invest even if they wanted to. In such an environment, if profits remain flat, companies have no choice but to cut employment to increase profits.
Looking at income tax changes from a different perspective, long-term capital gains, i.e., income from capital transfers such as inheritance, surged after the Plaza Accord and then plummeted after the bubble burst. In contrast, wage income plummeted after the bubble burst, then temporarily recovered, and gradually declined after the financial crisis.
To understand the economic state after the bubble burst, it is necessary to keep this flow in mind. The flow of funds is seen to be reversing.
The Relationship Between Flow and Stock
The relationship between flow and stock is often overlooked. However, one of the fundamental relationships in economics is the relationship between flow and stock. For example, the relationship between revenue and profit, interest and loans, fixed assets and depreciation, and land rent and land prices. Additionally, there is horizontal equilibrium, such as interest rates, profits, land rent, income, prices, stock prices, and dividends. These equilibria influence the direction of fund flows. If interest rates are lower than rent, people will prefer homeownership, and if stock dividends exceed interest, people will prefer stock investments over deposits. Although it depends on investor tendencies, extreme differences can influence fund flows. For example, during the bubble period, the rapid rise in land and stock prices led people to choose investments over deposits. Deposit interest rates are seen as a benchmark for stock against safe assets. However, with today’s zero interest rates, the time value of interest cannot be expected. The benchmark function is stronger than the time value function. To solve problems like bubbles and depressions, it is necessary to understand the relationship between flow and stock.
The elements that make up added value generally represent flow, but the function varies depending on the underlying elements. For example, interest is debt, and profit is revenue.
The issue lies in how to control the flow, rotation, and bias of “money.”
Taking capital investment as an example, suppose a production entity considers whether to invest in capital. The means of capital investment can be through own funds, borrowing “money,” or leasing equipment. The production entity will compare the economic effects of these three options.
The elements to consider are people, goods, and “money.” It is crucial to pay close attention to this point. If investment is limited to the issue of “money,” the meaning of investment is lost. This is a significant flaw in modern economics. Consider the useful life of equipment, depreciation period, production volume, performance, and operating rate. Next, the element of people involves the production entity’s payment ability, revenue prospects, market size, organization, managerial ability, human resources, and organization. Finally, “money” involves the principal, interest, total repayment amount, repayment method, monthly repayment amount, and monthly income. This is the basis of economics and shows the relationship between flow and stock.
Looking at housing investment, the relationship between flow and stock becomes apparent. First, the price of the house itself. Second, land rent and loan repayment amount. Third, the repayment period. Fourth, interest rates. Fifth, land price trends. Sixth, the depreciation period. Seventh, the period during which economic utility is exerted (useful life, etc.). Eighth, future income. Ninth, maintenance costs. Tenth, collateral (assets, insurance, etc.) are considerations when investing in housing. Among these, stock-related factors include house price, loan, repayment period, depreciation period, useful life, and collateral. In contrast, flow-related factors include monthly income, monthly repayment amount, maintenance costs, land rent, and collateral strength. As seen in this example, flow is derived from stock. Stock is the denominator, and flow is the numerator.
First, the condition is that the monthly repayment amount exceeds income. If this premise does not hold, housing investment will fail. If repayment is delayed, the worst-case scenario is foreclosure and losing the house. Repayment comes without delay. This is a characteristic of nominal value. This represents the relationship between interest and income. In finance, it means the primary balance. Then, there is the investment recovery period, depreciation period, loan repayment period, profit margin, and collateral strength. Essentially, costs are paid, and loans are repaid from income within a given period. If revenue exceeds costs or profits fall below loan repayment amounts, debt increases. If it exceeds a certain level, it becomes impossible to repay. The function of stock, i.e., long-term funds, has both positive and negative effects over the long term. Chasing short-term profits alone risks overlooking future financial burdens. The critical point about long-term fund movements is that production entities collapse when they cannot manage cash flow, and the fundamental issue of cash flow is long-term funds. Even if short-term accounts seem balanced, if long-term funds are insufficient, the economic entity will collapse.
Separating flow and stock and pursuing short-term profits alone risks running out of funds. Flow and stock are not unrelated. This applies to financial institutions, corporations, finance, households, and nations. It is essential to remember that deposits are liabilities for financial institutions. If flow and stock are considered separately, neither the function of flow nor stock can be understood. Flow seeks equilibrium. Income, interest rates, land rent, prices, profits, etc., always have a horizontal force seeking equilibrium. Monthly repayment amounts (interest), land rent, and income comparisons are examples.
The economy is structural, and the framework created by flow and stock is crucial. Production, income, and expenditure are integrated. Production entities function through the upward and downward movements of debt and credit, revenue, and costs. If income significantly exceeds expenditure, surplus funds arise, exerting upward pressure on credit or downward pressure on debt. Conversely, if income significantly falls below expenditure, fund shortages occur, exerting downward pressure on credit and upward pressure on debt. This also applies to the relationship between revenue and costs. Revenue and costs are the product of people, goods, and “money.” If people or production volume decreases, the overall figure will not rise unless unit prices increase. Discounting has the opposite effect. While many believe surplus funds are better, excessive surplus funds endanger market discipline. “Money” is fundamentally the liability of the government and central bank. The framework, composition, and ratio of flow and stock serve as barometers for economic management.
The modern issue is the expansion of stock relative to flow, and zero interest rates are a result of this.
To solve economic problems between nations, it is necessary to compare the levels of flow and stock between nations. The issue lies in market direction and the levels of income and debt. Without aligning economic policies with each nation’s economic state, conflicts between nations cannot be resolved.
The equilibrium between flow and stock varies with economic development stages and market conditions. It cannot be discussed uniformly. Especially today, with growth as a premise, the lack of coordination between nations at different economic development stages leads to trade wars. This could potentially escalate into full-scale wars between nations.
As markets mature, production goods become standardized and commoditized. During the growth phase, upward pressure on revenue and costs is constant. However, as markets mature, they become saturated and begin to contract. The expansion and upward pressure that previously influenced the market reverse into contraction and downward pressure. Price competition due to commoditization leads to lower product prices and uniform quality, making differentiation difficult. During the expansion phase, competition existed, but as markets saturate, it turns into a scramble. Without market discipline, markets rapidly move towards oligopoly and monopoly. In such situations, maintaining appropriate prices and sustaining profitability becomes crucial. Downward pressure in the market works to thin out profits. Prices are kept low without volume growth. Efficiency is maximized, but cost reduction has its limits. Revenue and costs inherently seek equilibrium. They are maintained by the force seeking equilibrium. Maintaining prices to secure profits becomes necessary. This requires a shift from quantity to quality. Creating a market environment where quality, not price, is the competition is essential.
Implementing the same policies during the maturity phase as in the growth phase can have adverse effects. The market conditions and forces at work differ between the maturity and growth phases. Quantitative expansion leads to qualitative changes. Strengthening regulations during the growth phase and relaxing them during the maturity phase is a mistake.
The weight of debt varies with the economic, income, and living standards of a country, and whether the market is in the development or maturity stage. The weight of debt is significantly influenced by income levels. Moreover, interest rates and income are not constant; they are constantly changing. Future income growth expectations also play a role. Price levels vary with the cultural standards of a country. Essential goods reflect the living standards of a country, while durable consumer goods depend on purchasing power. Currency trends also affect this. Price levels and changes cannot be treated uniformly. In countries with expanding markets and growing economies, the burden of debt is relatively lighter. In contrast, in countries with shrinking markets and stagnant economies, the debt burden is relatively heavier. This debt burden inevitably affects investment and economic conditions. Expansion and contraction are determined relatively, not unilaterally. Markets do not expand or contract unilaterally; they repeat cycles of expansion and contraction. If unable to adjust to market conditions, the debt incurred during market expansion must be carried over during market contraction. This leads to asset and liability imbalances. This phenomenon explains the continued deflation despite surplus funds after the bubble. If the human and material markets shrink while the “money” market expands, surplus funds cannot be controlled.
After the bubble burst, the ratio of flow to stock became distorted. The issue is how long flow can withstand the pressure from stock. When flow can no longer withstand the pressure from stock, there is a risk of accelerated price increases. If the central bank holds a large amount of government bonds, monetary policy may be restricted, and price increases may become uncontrollable. It is like driving a car at high speed without brakes.
The results of economic activities are accumulated as stock by non-financial corporations, financial corporations, general government, and households. For corporations, profits are accumulated as net assets.
Structure of Production
The production account in the national economic accounts consists of output, intermediate consumption, and the balance item, which is value added. Value added is the balance item.
Production consists of two elements: investment in means of production and production activities using means of production, raw materials, and labor. Production activities refer to the regular activities of distributing “money” through costs while recovering the invested funds. Therefore, production is composed of physical and human elements. Raw materials and depreciation are physical elements, while wages and the like are human elements. “Money” functions to procure and operate these resources and serves as a means of distribution.
Revenue and costs regulate production and consumption. Revenue represents the quantity required by consumers, while costs distribute income. Therefore, production and income are measured by the balance of revenue and costs, which is profit. Distribution is realized through consumption expenditure. The source of revenue is supply, and consumption appears through demand. Since production, distribution, and consumption are integrated, production entities and distribution income cannot be separated. The failure of socialism lies in separating production and income.
The output in the production account consists of market output, output for own final use, and non-market output. Market output is sold at market prices representing economic value to generate profit, i.e., it is output for profit. In contrast, non-market output is provided free of charge or at prices without economic utility, not for profit. Output for own final use is for personal use. Today, it is becoming a premise that all production goods are converted into “money.”
Production consists of means of production and costs. Costs are intermediate inputs and intermediate consumption and also serve as a means of distribution. Costs are established as a pair with consumer goods and expenditure.
It is essential to note that the relationship between total output and total assets declined before the bubble burst. The ratio of total output to total assets began to decline since the Nixon Shock, and it has been relatively stable after the bubble burst. In short, the expansion of stock relative to flow is not due to the bubble but to the end of high growth and exchange rate fluctuations caused by the Nixon Shock. The bubble pushed this to the extreme, resulting in zero interest rates.
In the period profit and loss, it refers to the part corresponding to the sum of intermediate consumption, employee compensation, and fixed capital consumption. Value added is obtained by subtracting intermediate consumption from output. Therefore, attention must be paid to the differences in employee compensation, gross fixed capital formation, and intermediate consumption.
While the ratio of total output to total assets is declining, the share of total production in total output and the share of employee compensation in total production are stable at around 50%. The meaning of this needs to be considered.
Including fixed capital consumption, it is called gross value added or gross value added, and excluding fixed capital consumption, it is called net value added. Gross production (GDP) refers to gross value added.
The structure of production also includes elements of people, goods, and “money.” People are gathered and organized, goods are produced by investing in means of production, “money” is procured, raw materials are purchased, goods are sold, revenue is obtained, costs are deducted from it, and profit is obtained. Production is realized through this series of processes. People, goods, and “money” each create their flow, and investment and operations constitute two flows.
People provide labor as a means of production and receive compensation. Goods are produced by investing in equipment, purchasing raw materials, producing goods, and selling the produced goods to obtain revenue. “Money” is procured to invest in means of production, purchase raw materials, and obtain revenue. Costs are spent in the production process, and the invested funds are recovered and repaid from the revenue. Production activities are realized by combining human, physical, and monetary elements.
The elements that make up production are production equipment, labor, raw materials, and other expenses.
The entities that make up the market are individuals. The smallest unit in production is also the individual.
Individuals gather to form economic units. Economic units include households as consumption units, non-financial corporations as production units, general government and non-profit institutions serving households as public units, and financial institutions as financial units. Financial institutions are institutions that do not produce anything themselves but make a profit by lending “money.” In other words, they are non-productive institutions. Basically, non-financial corporations and financial institutions do not engage in final consumption, even if they engage in intermediate consumption.
The structure of production is derived from the input-output table.
Horizontal Division of Labor
Horizontal division of labor is the division of labor in time and space. Horizontal division of labor includes temporal and spatial division of labor. Temporal and spatial division of labor are inseparable. Temporal changes are accompanied by spatial changes, and spatial changes are accompanied by temporal changes. The economy has a sequential structure. That is, the economy has an order or stages that arise with the passage of time. Order refers to certain changes occurring over time. Stages refer to changes in state with the passage of time. This sequential structure repeats. That is, it is also a repetitive structure. Moreover, such a sequential structure is accompanied by spatial division of labor, so it also has a selective structure.
The market economy and monetary system arose in the process of separating and independentizing the place of production and the place of consumption. In the process of separating the place of production and the place of consumption, the place of distribution was formed. This gave rise to horizontal division of labor. That is, horizontal division of labor established the place of production, the place of consumption, and the place of distribution.
In the past, economic entities were living communities, and the place of production and the place of consumption were integrated. The community, where the place of production and the place of consumption were integrated, inevitably included the place of distribution. This remnant still exists in the family system today. That is, the living community was the place of production, the place of distribution, and the place of consumption. Distribution was systematically carried out in the community. The community has an economic inside and outside. The inside of the community is an ethical space, a non-monetary space, an organizational, authoritarian, and power space. In contrast, the outside of the community is an external space, an unethical, monetary space, and a free space. That is the market. The market is also a legal space. Freedom is guaranteed by law.
Even today, production and consumption are closely linked through distribution. Changes in consumption structure are changing the industrial structure.
The economy consists of internal transactions within the community and external transactions. Market transactions are external transactions. Accounting mainly represents internal transactions.
Economic entities are driven by income and expenditure. Income is revenue, and expenditure is spending. The economic mechanism is driven by the flow caused by the surplus or shortage of “money.”
The community constitutes consumption entities and production entities through economic activities. The market fills the gap between consumption entities and production entities.
The entrance to the place of distribution is “money,” that is, the distribution of income. The exit is where households purchase goods. In other words, the entrance to distribution is where consumers receive income, and the exit is where consumers spend “money” to purchase goods.
The place of production is up to the point of constructing means of production and producing goods.
Working and receiving compensation according to the work done. Making a living with that compensation. This is one of the basic flows of the economy. Modern people tend to despise the act of working. Certainly, slave labor and harsh labor before modern times are problematic. However, labor itself is not a hardship. Labor is one of the means of self-realization. People express themselves through work. Losing a job means losing a means of self-realization. It means losing the purpose of life. Self-realization is the purpose of life.
Production prefers concentration, and distribution dislikes concentration. Concentrated production improves efficiency. However, if concentrated in one place, it cannot be dispersed. Therefore, the economic mechanism harmonizes concentration and dispersion. For example, if exports and imports are concentrated in one country, other countries will have no work. If work is concentrated in one country, income cannot be dispersed. Creating workplaces evenly is also the role of the economy. It is not just about creating efficiently. Waste is also necessary for the economy.
Developing countries have lower income levels than developed countries and have immature, growing, and expanding markets domestically. In contrast, developed countries have high income levels and mature markets. Therefore, labor-intensive commodity industries are overwhelmingly more competitive in developing countries. Moreover, late-developing countries will invest in advanced equipment. If competition is on the same terms, the commodity industries of developed countries will suffer devastating blows. That is what is happening in developed countries today. However, if the market is closed, the economy will stagnate. The issue is to enable competition on the same terms. Experts dismiss commodity industries as having no growth potential and not generating added value. The reason they cannot generate added value is that market discipline has been lost. Commodity industries are the core industries that create stable employment. The loss of vitality in the economy is due to the decline of these industries. That is the current state of developed countries. They have lost industries that create stable employment. Countries with vibrant commodity industries develop. The vitality of modern developing countries is supported by commodity industries. The loss of vitality due to the decline of commodity industries is what is happening in developed countries today. However, if the market is closed, the economy will stagnate. The issue is to enable competition on the same terms. We should learn from the world of sports.
However, such a relationship between developed and developing countries does not hold if there are disparities or classes in developing countries. Disparities and classes hinder uniform income growth. If income does not grow uniformly, market expansion will be limited. Market expansion presupposes the existence of income-growing layers. If economic development widens disparities, it risks undermining not only the economy but also the foundation of the nation. “Money” flows due to differences. However, “money” dislikes distortions and biases in its flow. This is because distortions and biases create stagnation and sedimentation in the flow of “money,” hindering and sometimes blocking the flow of “money.”
When the flow of “money” is disrupted, classes emerge.
If a country or production entity monopolizes means of production, work, and markets, “money” will not circulate. If “money” does not circulate, it cannot fulfill its function of distribution.
In the production sector, commodity industries are not declining industries but mature industries. Mature industries should inherently become core industries. The so-called disease of developed countries is partly due to commodity industries falling into structural recession. Growth industries develop because of commodity industries. This is both temporal and spatial division of labor.
Production Activities by Sector
Sectors are formed based on the nature of economic entities. Economic entities have functions such as production, distribution, consumption, and finance. Based on these functions, economic entities can be classified into production entities, distribution entities, consumption entities, and financial entities. The production entity is responsible for production, the distribution entity for distribution, the consumption entity for consumption, and the financial entity for finance.
The medium that connects production, distribution, consumption, and savings is the individual. Individuals belong to multiple economic entities and connect them. Economic entities are aggregates of individuals. Individuals function as producers, workers, and consumers. Additionally, individuals are taxpayers and citizens.
Production entities include non-financial corporations and the general government. Production entities are often integrated with distribution entities. Consumption entities include households and the general government. Financial entities refer to financial corporations. Besides these, foreign economic entities are considered as a separate foreign sector.
The production of goods distributed through market transactions is primarily carried out by non-financial private companies. The general government has a function as a production entity but is fundamentally a non-profit organization engaged in production (non-market transactions) that does not generate added value through market transactions. Therefore, it does not impact economic growth. It also undertakes consumption, but not personal consumption. Households are responsible for consumption. The prominent role of the general government is in distribution, primarily the redistribution of income. Financial entities mainly facilitate the surplus and shortage of funds.
The economic structure is such that production and consumption are linked through the market. Through the sequential structure and process of production, distribution, and consumption, goods are produced and distributed as needed to those who need them. Production, distribution, and consumption each have sequential, selective, and repetitive structures. That is, production is repetitively carried out by the production entity in a certain order. The algorithm of production refers to the process, arrangement, and procedure of production. The market is a place of distribution, where the production of the previous period, the distribution of the current period, and the consumption of the subsequent period work in parallel to maintain the balance of production, distribution, and consumption. Finance facilitates the surplus and shortage of funds in the phases of production, distribution, and consumption.
In a market economy, corporations lead the economy in the production sector, and households lead in the consumption sector. In terms of production, it can be said that corporations form the foundation of the economy. Several corporations gather to form industries.
The starting point of the economy is production activities. Production is not supported by growth but by consumption. Therefore, the utility of production lies in consumption, not in growth. Industries with predictable consumption form the foundation of the economy. That is, industries that have stopped growing constitute the economic base. If industries undergoing significant changes during the growth process are used as a standard, income stability cannot be expected, and people’s living balance cannot be stabilized. Placing the essence of the economy in growth is dangerous. The origin of production lies in consumption.
The primary role of the general government is the redistribution of income. Why does the general government need to redistribute income? It is because the primary means of obtaining income is labor. Of course, it is possible to obtain income without labor, but that applies to a very small number of people. The majority of people earn compensation for their labor. However, some people cannot work for various reasons. Those who cannot work cannot earn income through labor. Therefore, the government collects “money” as taxes and redistributes income. The guarantee of minimum wage is an extension of this idea. In modern society, one cannot live without “money.” Income is a cost for the production sector, a reward for the distribution sector, and living expenses for the consumption sector. The economy is maintained by the balance of these three functions. Additionally, revenue and income are also subject to taxation.
Why consumption tax? It is because the profitability of corporations has declined, leading to a decrease and instability in corporate revenue and income. Therefore, the weight of consumption tax, which does not rely on corporate profits or income, has increased. Conversely, income and tax are closely related. As of 2017, 63% of companies are in deficit and do not pay taxes. This alone shows that the flow of revenue and income is below the level at which it can function normally.
The general government’s investment is in social capital and does not generate profit in principle. Public works are clearly distinguished from profit-making businesses, and public works are not supposed to pursue profit. Therefore, revenue and costs are considered to be aligned. However, this is strange. Not generating profit means that public works do not generate added value and should not contribute to economic growth. This means that no matter how much public investment is made or public works are carried out, it will not serve as an economic stimulus. In other words, it does not create a circulation of funds. If the profitability of corporations declines, finance loses borrowers and has to rely on public investment. However, if public investment does not lead to profit, funds cannot be recovered, leading to inevitable fiscal collapse. Public investment produces social capital. Public investment does not bring profit. Public investment fundamentally only has the effect of income transfer. Economic measures should be within the scope of income transfer. If income transfer exceeds income redistribution, the excess will accumulate as the debt of the entire society. This means the endless expansion of stock. If finance wants to play a neutral role, public investment as an economic measure should be limited. Public investment should adhere to its original role of public welfare and social capital construction. Otherwise, the economy will become dependent on public investment like a drug addiction, and fiscal health cannot be maintained.
The functions of finance are, first, to circulate “money” in the market; second, to facilitate “money” from surplus entities to deficit entities; third, to create time value; fourth, to control the flow of “money”; and fifth, to maintain credit.
The role of the foreign sector is to procure resources that cannot be obtained or produced domestically and to supplement insufficient resources from abroad. The impact on the economy is influenced more by necessity than by quantity. The impact of essential resources for maintaining national life is decisive. At the same time, it is to prepare foreign currency and determine the international relative value of the currency.
Production Algorithm
In a market economy, production is primarily carried out by production entities. Therefore, it is reasonable to consider that the production algorithm is developed by production entities. Production entities are mainly non-financial corporations and the general government. The quality of production handled by non-financial corporations and the general government differs. While non-financial corporations aim for profit, the general government does not. This leads to differences in accounting perspectives.
Production entities gather to form industries and public institutions. Industries consist of non-financial corporations and financial corporations, while public institutions form general entities. Production entities are formed through certain stages of development. Industries also form growth stages in line with the development of production entities. A nation’s economy follows a similar trajectory to companies and industries, transitioning from primary industries to secondary and tertiary industries. The role and nature of “money” change with the development stages and environmental changes of companies and industries. Therefore, policies must also change according to the development stages and environment.
The development stages begin with the founding phase for companies and the cradle phase for industries. The second stage is the growth phase, followed by the maturity phase, the decline phase, and finally the regeneration phase. If regeneration is successful, it connects back to the second stage, and the subsequent flow repeats the stages from the second stage onwards. Thus, the production algorithm fundamentally combines sequential and repetitive structures.
The first stage is the founding phase for companies and the cradle phase for the entire industry. During the founding phase, a large amount of initial investment is required, but revenue-based funding cannot keep up, so funding primarily relies on financial cash flow. While there is often a need for an expanding domestic market, many production entities enter, leading to intense competition. Small and medium-sized production entities are the main players. If they cannot secure funding as desired, many production entities will be eliminated, and only those that expand quickly will lead the market. In a nation’s economy, the income level is lower than that of developed countries, allowing for the use of cheap labor and high external competitiveness. However, due to immature basic equipment and technology, expansion into developed countries is limited to primary industries and light industries. Public institutions are effective in constructing social capital and stimulating effective demand through public investment during this period.
The second stage is the growth phase, where the market is being developed. Social capital and industrial infrastructure are somewhat established, and capital is accumulated, preparing the energy needed for growth. Although income levels remain low, they gradually rise, leading to price increases and expanding potential demand, resulting in gradual economic growth. As the market matures, the focus shifts from competition to market share battles. Funding often faces working capital shortages during growth, but the increase in asset value supports funding capabilities, allowing for debt expansion to cover funding shortages. In the early stages of growth, there is room for market expansion, and creating effective demand through public works is effective, but the impact of public works diminishes as income rises. Excessive economic measures can strain finances. Clear urban planning-based economic management is required. Additionally, industries gradually transition from light industries to heavy industries, which include core industries such as railways, roads, airports, energy, and steel. Public works and defense projects contribute to the development of heavy industries.
In the third stage, the market matures and becomes saturated, leading to issues such as overproduction, excess capacity, and excessive debt. The market shifts from a place of competition to a place of market share battles and survival struggles. During this stage, policies focus on protecting income levels and employment by shifting from quantity to quality. Controlling excessive competition and maintaining prices are key. Failure in this regard can lead to rapid economic decline, making recovery difficult. As stock accumulation increases, balancing with flow becomes challenging. The decline in private sector profitability increases the fiscal burden. The domestic market loses expansion vitality and heads towards contraction. As the market shifts from expansion to contraction, it struggles to absorb production goods, leading to excessive competition and price competition. Unchecked excessive competition and price competition can lead to market oligopoly and monopoly. Oligopoly and monopoly weaken corporate development and competitiveness, making it crucial to maintain appropriate prices. Income levels become relatively high, losing competitiveness with developing countries, leading to balanced foreign trade. During the growth stage, following developed countries generated growth vitality, but in the maturity stage, the role of a pioneer is required. The maturity stage is also a period of ripeness, preparing for the next growth and industrial regeneration. A shift from quantity to quality, including human resource development, is required. The maturity stage is the peak of the economy and a period of prosperity. Overlooking the fact that prosperity can sap economic growth vitality can lead to significant mistakes. Returning to the original starting point is essential.
In the fourth stage, income levels are relatively high, and external competitiveness declines, making quantitative expansion difficult. Income levels are high, and external competitiveness declines relatively. Lowering income to reduce living standards is undesirable, so increasing added value is the only option. The market shifts from a place of survival struggles to a place of oligopoly and monopoly, weakening competition vitality, and mutual checks become ineffective, leading to stagnation in technological innovation and development. Prices are determined relatively, maintaining economic rationality. Oligopoly and monopoly weaken economic rationality, turning production entity profits into vested interests, skewing income, dividing the market, and creating classes. The market ceases to function. Production entities generally become large-scale. Oligopoly and monopoly signify the end of the market economy. The spirit of antitrust laws aims to prevent such monopoly harms. As the market saturates and quantitative expansion is no longer expected, qualitative improvement is anticipated, and competitiveness is sought in high quality, technological capability, and design capability. As long as competitiveness is sought in prices, the market loses vitality and deteriorates. Domestic facilities become excessive, leaving no room for new investments, shifting focus to renewal and regeneration investments. During market contraction, large-scale facility investments can rigidify cost structures and become fatal. As the domestic market contracts and income levels are high, the break-even point becomes relatively high, losing escape routes to overseas markets with lower break-even points. When manufacturing loses price-setting power, prices are determined solely by supply and demand, making it difficult for manufacturing to maintain the break-even point, leading to a focus on mass sales. This results in quality decline and a vicious cycle. As profitability declines, private investment is restrained, increasing the relative fiscal burden. If left unchecked, the economy and national power will decline. Past accumulation ensures a certain living standard without effort, leading to a lazy society content with the status quo. The greatest fear is the loss of common purpose, goals, and recognition among the nation and its people. Human resource development and investment are essential to prepare for the regeneration phase. Failing to nurture the seeds of the next development can be fatal. The fifth stage can be seen as a second founding phase or cradle phase.
Such development stages are formed by combining investment and regular activities. Development stages are a form, and not all production entities and industries follow the same trajectory. If the assumptions change due to policy mistakes or environmental changes, the role and nature of “money” will change, inevitably altering the fate of industries and companies. It is necessary to verify the actual production algorithms of individual industries and companies.
The production algorithm also varies depending on the nature of the goods. First, whether there is marketability. Second, whether it is an industrial product. Third, whether it is a mass-produced product. Fourth, whether it is a consumable. Goods without marketability do not form market prices and do not increase total production. Whether it is an industrial product affects the role of long-term funds. Industries dealing with nature, like agriculture, are influenced by weather and cannot artificially change production volumes. Whether it is a mass-produced product affects added value. The basic understanding of cost and break-even points differs. Whether it is a consumable changes market characteristics. Consumables have stable demand, while durable consumer goods have demand fluctuations based on the useful life of the goods. Some goods have gap periods. Durable goods must create their demand, resulting in higher profit margins.
Basic daily necessities and consumables, such as food, form stable revenue. Therefore, they should form the basis of the production algorithm. However, they are suppressed in profitability due to their lack of change, destabilizing the economy. Growth alone does not support the economy. Rather, the lack of change allows for planned production. Conversely, temporarily expanding industries experience significant fluctuations. Star industries can quickly become structurally depressed industries. The life cycle of goods has a decisive impact on the production algorithm.
The production algorithm sequentially unfolds through funding, initial investment, production, and sales. Once the initial investment is completed, production and sales are repeated. The production algorithm is divided into investment and regular activities. Investment creates long-term roles, while regular activities create short-term roles. Short-term roles are repetitive.
In the growth and maturity stages, the role and nature of working capital differ. In the growth stage, working capital is generally insufficient, supplemented by rising asset values. In the maturity stage, there is an excess of funds. Invested funds are recovered, and debt is reduced. Thus, the direction of “money” flow changes between the growth and maturity stages. In the growth stage, revenue expands even without effort, relatively reducing the burden of actual debt. In the maturity stage, declining profitability superficially improves profit margins, and debt reduction appears to strengthen financial health, but the actual debt burden increases relatively, reducing funding capabilities. Maintaining prices is key. The challenge is to move away from mass production and mass sales.
The flow of “money” includes income and expenditure flows. Income unfolds as capital income, debt income, and revenue income. There are expenditures for investment and expenditures for costs. Once investment is completed and revenue stabilizes, revenue-based income becomes the main source. It is crucial to note that expenditures for costs precede revenue-based income. Therefore, until profits can be generated, reliance on capital income and debt income is inevitable. Initially, funding shortages are the norm. Production entities have debt precede revenue. Revenue follows later. Economic activities are driven by the flow of “money” preceding the flow of people and goods. Nothing starts without “money.”
Income and expenditure movements do not align. Expenditure precedes income, and while expenditure is certain, income is unstable. Therefore, periodic, regular, and irregular funding shortages occur. Revenue, which should be the main source of income, is uncertain. Sales volumes are unknown until sold. Expenditures are known before starting, but income is not confirmed until afterward. Therefore, constant measurement of economic conditions and countermeasures are necessary.
The starting point of production lies in capital formation. Capital is based on investment funds. From the initial “money,” claims and debts arise. Claims form current assets and net assets. Current assets are the core of assets and costs. Net assets (capital) are the seeds of debt, net assets, and revenue. Claims form actual accounts, and debts form nominal accounts. Claims are based on asset value, and debts are based on book value. When actual value exceeds nominal value, funding capabilities are secured; when it falls short, funding capabilities are lost. Therefore, corporate accounting focuses on the difference between claims and debts, emphasizing net assets. The first branching point occurs next (selective structure). Current assets are divided into fixed assets and costs. Debt is established using net assets as leverage. Fixed assets and costs generate revenue. This creates the path for revenue-based income and cost-based expenditure. Here, the flow of investment and the flow of regular balance emerge.
The production algorithm includes short-term and long-term algorithms. The short-term algorithm forms period profit and loss, while the long-term algorithm forms the balance sheet. Additionally, the production algorithm includes human algorithms, material algorithms, and “money” algorithms.
The human algorithm begins with gathering and organizing people. The process by which households, as consumption entities, provide labor as a means of production to production entities to earn income forms the algorithm. It involves calculating the required workload, predicting labor costs, constructing personnel systems (employment conditions, evaluation criteria, wage systems, etc.), hiring people, measuring daily work volume, and paying wages. This is the human algorithm.
The material algorithm involves investing in equipment as means of production, purchasing raw materials and products, utilizing constructed facilities, manufacturing goods, and selling them.
The “money” algorithm involves procuring funds, investing in equipment, purchasing raw materials, hiring people, selling produced goods, generating revenue, distributing dividends to shareholders, repaying loans to financial institutions, paying taxes, and accumulating internal reserves. This process distributes “money.” Short-term funding shortages caused by imbalances between short-term revenue-based income and cost-based expenditure are supplemented by short-term funds. This is working capital. Working capital arises from factors such as economic scale expansion, seasonal fluctuations, exchange rate fluctuations, and the correlation between fixed and variable costs and revenue. Fixed costs are derived from initial settings. The primary cause of production entity failure is funding shortfalls. Temporary funding shortages need to be supplemented by external funds, which is working capital.
The role of financial institutions is to supplement insufficient funds. Financial institutions assess the management status of production entities and provide funds if deemed appropriate. Financial institutions predict the future revenue and assess the management status based on the asset value surplus of production entities. After the bubble burst, declining asset values and reduced profitability made it impossible to secure future revenue, causing financial institutions to lose strong borrowers. This led to a decline in the loan-to-deposit ratio. The decline in the loan-to-deposit ratio is undoubtedly pressuring financial institutions’ management. This weakens the role of financial institutions in providing funds. Financial institutions should facilitate funds from surplus production entities to insufficient production entities, but they are forced to withdraw funds from insufficient production entities and provide funds to surplus entities. This causes market funds to reverse. The lending criteria need to be reviewed.
The challenge with the “money” algorithm is that the profit and loss process appears on the surface, but the long-term funding flow through the balance sheet does not. Despite this, the long-term funding role determines the fate of production entities. Long-term funding supply and demand can only be grasped through changes, i.e., the difference within a unit period. However, funding supply and demand reflect the actual state of the economy.
During economic stagnation, policies often aim to boost the economy through subsidies, but subsidies are income redistribution and fund transfers. They do not increase total production or total income. If not reflected in revenue or income, they do not contribute to economic growth.
Production entities are supported by accounting systems. The economic value of production entities is determined by revenue and costs. Production entities generate revenue from the economic value produced, distribute income to people from the revenue, repay loans, and pay taxes. This repetition supports economic activities. However, accounting revenue and income, costs and expenditures do not always match. Revenue and costs are matters of recognition, changing based on when they are recognized as revenue or costs. The substance of transactions consists of the transfer of goods, the exchange of “money,” and human recognition. These three elements have time differences in realization. Differences arise based on when they occur, are recognized, and are realized, leading to profit and loss differences. These differences cause funding surpluses and shortages. The cause of production entity failure is not profit and loss but a lack of “money.”
Purchasing raw materials, processing, and selling them is a short-term and repetitive algorithm. Investing in production means, depreciating, and reinvesting is a long-term algorithm. Short-term and long-term algorithms differ based on growth stages.
However, the algorithms of individual industries and production entities are not uniform. Each has its unique algorithm. For example, primary industries, manufacturing, construction, commerce, and services have different algorithms. Production forms such as make-to-order, mass production, agriculture, and fisheries also result in different algorithms. Differences also arise from break-even point structures. Differences occur based on whether the industry is capital-intensive or labor-intensive. Algorithm differences affect the flow of “money.”
Structural Differences in Production Algorithms
The structural differences in production algorithms are determined by several factors. Firstly, the presence and extent of capital investment. Secondly, the presence and extent of inventory. Thirdly, distribution. Fourthly, the production method. Fifthly, whether the production goods are tangible or intangible. The presence and size of capital investment affect the break-even structure. The presence of inventory influences the structure of working capital. Distribution impacts the revenue structure. The production method forms the basis of the cost structure and cost of goods sold. Whether production goods are tangible or intangible changes the nature of claims and debts, altering the characteristics of fixed assets.
Order-based production, like in the construction industry, completes each project based on orders. Mass production involves initial capital investment in equipment to mass-produce the same product. Agricultural and forestry production involves developing fields and permanently producing crops, while fisheries involve investing in fishing boats to harvest fish. Mass production also includes energy industries like electricity and railways.
Production involves human algorithms, material algorithms, and financial algorithms (“money” algorithms). Human algorithms start with organization, material algorithms begin with capital investment, and “money” algorithms start with funding. All algorithms originate from funding; nothing starts without “money.”
The labor force has shifted from primary industries to secondary and tertiary industries due to changes in eras, industrial structures, and technological innovations. This has altered production algorithms, changing the flow of people, goods, and “money.”
Production algorithms vary based on the nature of the production entity. Market producers, such as non-financial corporations, first secure funding, invest in production means and equipment, purchase raw materials, hire people, manufacture products, sell the products, use part of the revenue to repay debts, and earn profits. Non-market producers, such as the general government and non-profit institutions serving households, construct social capital through public investment funded by taxes. If tax revenue is insufficient, they issue government bonds to borrow money. In any case, production activities start with funding.
Material algorithms fundamentally involve producing goods, distributing the produced goods, and consuming them. This requires constructing and organizing production means, producing goods, supplying them to the market, and distributing them. Consumers procure necessary resources from the market and consume them. Production entities not only produce goods but also create jobs and distribute income. The mechanisms for production and distribution differ, as their purposes are different, though they are interconnected and require integration.
For example, in a country with 70 million people, if 20 million are under 20 years old and 10 million are over 60, with an equal gender ratio, and if the necessary resources for living can be produced by 10 million people (excluding the labor required for consumption), the market economy converts all produced goods into money. Citizens earn income and procure necessary items from the market by paying money. The issue is how to distribute the resources produced by 10 million people to sustain 70 million people. If the working population is 40 million (excluding minors and those over 60), historically, one working man supported seven others. If 20 million women have no means of earning income and 10 million men are unemployed, the relative status of working men was high. This necessitated creating jobs for 10 million people, many of which were created by power, rooted in security and national defense.
Modern issues arise from increased productivity, reducing the population needed to produce essential resources. Higher productivity leads to more unemployment, making the distribution of “money” to the unemployed a major challenge. Meanwhile, the production sector focuses on efficiency and cost reduction. Historically, labor shortages were a challenge to maintain the population. Today, the issue is the lack of jobs due to improved productivity, changing the nature of economic problems.
Material algorithms start with securing funding. All units begin with funding. Material algorithms involve producing goods, distributing the produced goods, and consuming them. This requires constructing and organizing production means, producing goods, supplying them to the market, and distributing them. Consumers procure necessary resources from the market and consume them. Production entities not only produce goods but also create jobs and distribute income.
The basic flow of production includes funding, investment in production means, procurement of raw materials, manufacturing and processing of goods, sales of goods, distribution of goods, payment settlement, and reinvestment. This basic flow forms the central line of the production algorithm.
Production algorithms have two flows: investment and regular activities. Investment forms the long-term role of funds, while regular activities form the short-term role of funds. Investment is the foundation of regular activities and constitutes fixed costs. Costs include fixed costs and variable costs that change with sales, such as raw materials.
Goods are produced based on market size, market conditions, demand forecasts, and sales forecasts. Revenue is uncertain and unpredictable, while many costs are fixed. Revenue is a variable, and costs are constants. Sales are the product of quantity and price, influenced by factors affecting quantity and price.
Produced goods are partly sold and converted into money, with the remainder becoming inventory. In the national economy, this forms total output, and for individual production entities, it forms revenue. “Money” is distributed to households as income in exchange for production means (labor, ownership). Households use income to procure necessary goods (expenditure). Expenditure forms the basis of costs. The total value of income is total income. Balancing production and distribution is the primary economic issue. The market is the place to control and balance production and distribution, with “money” as the means.
Production algorithms start with investing in production means, producing necessary goods for economic activities, and supplying them to the market. In a market economy, all actions start with funding. Funding methods include selling owned items, borrowing from others, or receiving gifts. For corporations, this includes investments. Once funding is secured, production means are invested in, goods are produced, sold, and the funds are reinvested, repeating the cycle.
Production is primarily carried out by non-financial corporations, whose role is to produce and sell goods. Non-financial corporations start by buying goods, not selling them first, requiring initial funding.
As production scales expand, division of labor begins, organizing people through division of labor. Organizations form alongside investments, and once investments are complete, organizations come to the forefront.
Ultimately, corporate activities are measured by the relationship between revenue and costs, with profit as the indicator. However, the actual mechanism driving economic entities is the inflow and outflow of “money.” Therefore, economic movements appear as balances, income, and expenditure.
Costs are expenditures for production, also playing roles in distribution and consumption. Excessive cost reduction under the guise of improving production efficiency reduces income and consumption. Building a market structure that achieves revenue to maintain appropriate costs is essential, with profit as the indicator.
Production algorithms complete when produced goods are sold. Ultimately, production depends on consumer purchasing power. Producers and consumers form the two wheels of the economy, with consumer purchasing power based on income, which is paid by producers according to consumer work. The source of income paid by producers is revenue. Additionally, general entities cover costs through taxes, and the foreign sector settles with foreign currency reserves.
Households secure funding by selling owned items, borrowing “money,” or receiving “money” as gifts or inheritance. Regularly, households earn income by lending labor or ownership. Non-financial corporations invest in production means, produce goods, sell produced goods, earn revenue, and reinvest part of the earned revenue, circulating funds through repetition.
In finance (general government), production involves securing funds through taxes or government bonds and producing social capital through public investment. It does not seek profit from production, thus not generating added value. Financially, it is a fund transfer, which is problematic. Except for non-profit areas like national defense, disaster prevention, and security, state-owned enterprises become economic burdens if they do not seek profit, deviating from market economy principles. Hence, privatization is advocated. However, if market principles are followed, state ownership should not be an issue and can contribute to fiscal health.
The foreign sector’s role is to supply domestic resource shortages by exporting surplus domestic goods to secure funds (foreign currency).
Income is a cost and expenditure from the producer’s perspective. Reducing costs unilaterally as a negative loses income. The economy is supported by cost-effectiveness, the relationship between revenue and costs, and cost structures. From a market-wide perspective, income and expenditure are zero-sum, balanced. Some view economic growth as an economic principle, but people and goods have physical constraints. The economy grows only within physical constraints. As markets mature, they become saturated. From the perspective of economic stability and predictability, industries that have stopped growing should be the standard. Forcing unreasonable competition in mature markets leads to production entities shrinking in scale, focusing competition solely on prices. If low prices are the standard, production entities struggle to differentiate goods, leading to mass production and sales, and forced standardization and uniformity of quality. Unprincipled deregulation leads to price declines and quality uniformity. As markets mature, large production entities cannot fully utilize their capabilities. To promote a shift from quantity to quality, scale merits (economies of scale) should not be sought. Scale merits are effective in mass production and sales, emphasizing quantity, but when focusing on quality, they lead to price declines and excessive competition, forcing quality declines.
Recently, many companies advocate customer-first principles as a golden rule, assuming low prices as the standard. However, customer-first principles and national interests are not synonymous. Firstly, customers refer to specific company customers, not all consumers. Customers mean the company’s customers. Low prices may be a standard in consumption, but consumers are also workers. Price competition pressures income and employment. No matter how cheap specific products become, they cannot be bought without “money.” The source of “money” is companies. If many companies are eliminated, no matter how much they discount, customers will not increase.
When markets mature, a shift from quantity to quality is required. Forgetting this makes it impossible to define the nature of production.
Ultimately, production entities are required to produce goods and distribute income. Production entities are measured by the balance of goods and income. Goods form prices, i.e., inflation, and income reflects costs in production. Both income and prices face balancing pressures. Revenue and costs also face balancing pressures.
What Disrupts the Production Algorithm
The ultimate goal is to clarify what disrupts and breaks the production algorithm. The purpose of production is to provide people with what they need, when they need it, in the necessary amount, to those who need it. In other words, the fundamental aspect is necessity. The production algorithm is disrupted when the necessary items cannot be provided to the people who need them, in the necessary amount, at the necessary time.
The market economy is a system that uses “money” and the market to meet people’s needs. The market economy is based on revenue. Revenue is used to distribute costs and repay the invested funds from the revenue. This is the basic principle of the market economy. Therefore, maintaining appropriate revenue is essential to sustain the production algorithm. The question is, what constitutes appropriate revenue? Revenue is based on costs and sales. In other words, appropriate costs and sales form the foundation of the production algorithm. Both costs and sales are expressed as the product of the number of people, quantity, and price. The key to maintaining the production algorithm is how to balance people, goods, and “money.”
The production algorithm is sustained by the purpose of production. Without a clear purpose, the production algorithm cannot be established from the beginning. Why, for what, and for whom is production carried out? If this is unclear, the production algorithm itself loses its meaning. The hint lies in the fact that the economy is an activity for living. In other words, production is carried out because it is necessary for people to live. Once the minimum necessary purpose of living is achieved, the next requirement is to satisfy desires. Another reason for production is to sell the produced items and obtain “money” in return. Why obtain “money”? It is to acquire the goods necessary for living with the obtained “money.”
The purpose of production is that there are people who need the goods. Those who need them are consumers. Therefore, production is constrained by consumption.
In modern society, the purpose of production has become diluted, with “money” making standing out. Production is supposed to be carried out because it is necessary for living, but it has become focused on making “money.” As a result, essential items for living are neglected, and only profitable items are emphasized. This disrupts the production algorithm.
To understand changes in the production algorithm, it is necessary to pay attention to changes in the necessity of individual production goods. The necessity changes before and after goods penetrate the market. When necessity changes, the production algorithm also changes. In many cases, quantity is initially sought, followed by quality. This changes the market structure. When food is scarce, people seek anything edible. As they become more comfortable, they seek delicious food.
In the real market, necessary products sell, and unnecessary products do not. Another reason is that they sell at appropriate prices. These two points must not be forgotten. Conversely, they do not sell because they are unnecessary or not at appropriate prices.
As seen so far, the factors constituting the production algorithm include human factors, material factors, and financial factors. Other factors constituting the production algorithm include external and internal factors besides human, material, and financial factors.
External factors are issues outside the production entity, such as market, political, and economic issues. Internal factors are issues within the production entity, such as profit and loss, people, goods, and money. Internal factors can be resolved as unique issues of individual production entities, but external factors often contain issues that cannot be resolved by individual production entities or industries alone. They are often structural problems.
Modern people mistakenly believe that the market generates unlimited economic value. The market does not generate unlimited economic value; it is merely swayed by fluctuations in monetary value. “Money” is a means of distribution, and its basic role is to connect production and consumption.
Production can only be understood when connected to consumption. It is impossible to understand the function of production without considering consumption and distribution. In a market economy, people work to earn “money.” It is not just about producing products; it is about selling them in the market and converting them into income. The act of production includes selling in the market and evaluating labor. “Money” intervenes in production, distribution, and evaluation. Employment is crucial in the economy because it is a means of distributing “money.” Without understanding this, only half of the function of production can be understood. Consequently, only half of the factors that disrupt the production algorithm can be clarified. The factors that disrupt the production algorithm are deeply related to income and expenditure.
Fluctuations in the production algorithm caused by financial factors include the Nixon Shock and the yen appreciation recession. “Money” drives production entities. Therefore, the flow of “money” ultimately determines the production algorithm. Production entities have the function of streamlining the flow of “money.” Revenue is fundamentally uncertain and unstable. Production entities stabilize the economic system by streamlining income from uncertain and unstable revenue into consistent expenditure. This is the leveling of income. Financial institutions play an important role in this process, balancing the flow of funds by smoothing out surpluses and shortages.
In a market economy, economic entities are sustained by the circulation of “money.” As long as “money” circulates, economic entities do not go bankrupt. Conversely, if “money” stops circulating, economic entities go bankrupt. The production algorithm involves circulating funds between production entities and the market to produce and supply the goods necessary for living. Simultaneously, income is distributed according to work. Revenue is the central means of circulating funds between production entities and the market.
In a market economy, revenue is crucial because it is based on production-related funding. Loans and capital are not production-related funding.
What Disrupts the Production Algorithm
The ultimate goal is to clarify what disrupts and breaks the production algorithm. The purpose of production is to provide people with what they need, when they need it, in the necessary amount, to those who need it. In other words, the fundamental aspect is necessity. The production algorithm is disrupted when the necessary items cannot be provided to the people who need them, in the necessary amount, at the necessary time.
The market economy is a system that uses “money” and the market to meet people’s needs. The market economy is based on revenue. Revenue is used to distribute costs and repay the invested funds from the revenue. This is the basic principle of the market economy. Therefore, maintaining appropriate revenue is essential to sustain the production algorithm. The question is, what constitutes appropriate revenue? Revenue is based on costs and sales. In other words, appropriate costs and sales form the foundation of the production algorithm. Both costs and sales are expressed as the product of the number of people, quantity, and price. The key to maintaining the production algorithm is how to balance people, goods, and “money.”
The production algorithm is sustained by the purpose of production. Without a clear purpose, the production algorithm cannot be established from the beginning. Why, for what, and for whom is production carried out? If this is unclear, the production algorithm itself loses its meaning. The hint lies in the fact that the economy is an activity for living. In other words, production is carried out because it is necessary for people to live. Once the minimum necessary purpose of living is achieved, the next requirement is to satisfy desires. Another reason for production is to sell the produced items and obtain “money” in return. Why obtain “money”? It is to acquire the goods necessary for living with the obtained “money.”
The purpose of production is that there are people who need the goods. Those who need them are consumers. Therefore, production is constrained by consumption.
In modern society, the purpose of production has become diluted, with “money” making standing out. Production is supposed to be carried out because it is necessary for living, but it has become focused on making “money.” As a result, essential items for living are neglected, and only profitable items are emphasized. This disrupts the production algorithm.
To understand changes in the production algorithm, it is necessary to pay attention to changes in the necessity of individual production goods. The necessity changes before and after goods penetrate the market. When necessity changes, the production algorithm also changes. In many cases, quantity is initially sought, followed by quality. This changes the market structure. When food is scarce, people seek anything edible. As they become more comfortable, they seek delicious food.
In the real market, necessary products sell, and unnecessary products do not. Another reason is that they sell at appropriate prices. These two points must not be forgotten. Conversely, they do not sell because they are unnecessary or not at appropriate prices.
As seen so far, the factors constituting the production algorithm include human factors, material factors, and financial factors. Other factors constituting the production algorithm include external and internal factors besides human, material, and financial factors.
External factors are issues outside the production entity, such as market, political, and economic issues. Internal factors are issues within the production entity, such as profit and loss, people, goods, and money. Internal factors can be resolved as unique issues of individual production entities, but external factors often contain issues that cannot be resolved by individual production entities or industries alone. They are often structural problems.
Modern people mistakenly believe that the market generates unlimited economic value. The market does not generate unlimited economic value; it is merely swayed by fluctuations in monetary value. “Money” is a means of distribution, and its basic role is to connect production and consumption.
Production can only be understood when connected to consumption. It is impossible to understand the function of production without considering consumption and distribution. In a market economy, people work to earn “money.” It is not just about producing products; it is about selling them in the market and converting them into income. The act of production includes selling in the market and evaluating labor. “Money” intervenes in production, distribution, and evaluation. Employment is crucial in the economy because it is a means of distributing “money.” Without understanding this, only half of the function of production can be understood. Consequently, only half of the factors that disrupt the production algorithm can be clarified. The factors that disrupt the production algorithm are deeply related to income and expenditure.
Fluctuations in the production algorithm caused by financial factors include the Nixon Shock and the yen appreciation recession. “Money” drives production entities. Therefore, the flow of “money” ultimately determines the production algorithm. Production entities have the function of streamlining the flow of “money.” Revenue is fundamentally uncertain and unstable. Production entities stabilize the economic system by streamlining income from uncertain and unstable revenue into consistent expenditure. This is the leveling of income. Financial institutions play an important role in this process, balancing the flow of funds by smoothing out surpluses and shortages.
In a market economy, economic entities are sustained by the circulation of “money.” As long as “money” circulates, economic entities do not go bankrupt. Conversely, if “money” stops circulating, economic entities go bankrupt. The production algorithm involves circulating funds between production entities and the market to produce and supply the goods necessary for living. Simultaneously, income is distributed according to work. Revenue is the central means of circulating funds between production entities and the market.
In a market economy, revenue is crucial because it is based on production-related funding. Loans and capital are not production-related funding.
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