Monday, 12 September 2011

The "Real" Economy - Reflections On Rajan's "Saving Capitalism from the Capitalists"

You have heard the joke about “killing the chicken to scare the monkey”. Let us now state the insurmountable predicament of central banking in the bluntest possible terms. So long as the task of the central bank is to target inflation, its “legitimacy” may not be threatened that much because historically inflation has proven to be a major and serious threat not just to the capitalist economy, but also to its political institutions, national and international. Because of these “historical experiences”, we may well agree that “inflation is a public good” and leave it at that. But the problem now is that the level of “unemployment” of social resources (of labour as well as machinery) that is needed in order to keep “inflation” under control is so high that it must (!) lead us to question the foundations of an “economy” that must suppress more and more the use of its social resources in order to preserve its own reason for being – profit-making! As Davies’s blog makes clear, we face the threat of “stag-flation”, that is, high levels of unemployment (in Britain they are at a 15-year high!) together with extremely volatile rates of inflation. And this “inflation” can no longer be attributed solely to the “class conflict” intrinsic to the wage relation, but to larger “financial speculative” activities that are caused by the very attempt by central banks to induce private capitalists to overcome their “fear” of unprofitable investment (“negative sentiment or expectations”).

Thus, we have a strange dynamic interaction of socio-economic and political conflicts, all hinging on the wage relation. On one hand, class conflict is so high that “profitability” depends on strict “inflation-targeting” by central banks – that is, maintaining high rates of unemployment. On the other hand, every attempt by central banks to maintain “acceptable” levels of employment through “monetary easing” results in the extra “liquidity” being “parked” in speculative investments that further undermine the financial stability of the capitalist system as well as the “room for manoeuvre” of central banks as interest-rate settings reach “the zero bound”!         

Specifically, the attempt by central banks to prevent debt-deflation and to “stimulate” investment generates levels of liquidity (hot money) so vast that the very “steering” of monetary policy by central banks requires ever more skilful acrobatic acts of “brinkmanship” between “the output gap”, on one hand, and financial booms whose eventual “busts” threaten the very foundations of capitalist enterprise and the reproduction of  society itself (especially “the society of capital”!). This alarming reality has reached paradoxical levels that were unthinkable only a few short years ago – although it was the China-induced “Great Moderation” that may have temporarily saved the system since the 1980s.

Central banks are now at “the zero bound” which means that the setting of interest rates and discount-window operations are no longer even remotely able to influence the level of “real activity”. The paroxysmic result is that central banks need to engage in ever more absurd “contortions” (or if you like “game-theoretic strategies”) in order to manage the conduct of monetary policy in such a way that, on one hand, it becomes more “transparent”, but on the other hand increasingly constrict its margins of discretion. So much so that the fate of the entire world capitalist economy “hangs by a thread” (!) on every word and hint, every “announcement” and “outing”, on every “press conference” or “publication of committee minutes” (or what have you) by central banks that might “shape the expectations” of the capitalist financial markets and move them hither and thither! Here is Issing (

“The choice of path is left to the central bank and, among other things, depends on the expected impact on real economic activity (Friedman, 2004; McCallum and Nelson, 2004). Communication and transparency therefore become discretionary issues; that is, they become a balancing act for the central bank, which has to assess the impact of communication on the efficiency of monetary policy. Communication, not least of all, becomes crucial for steering market expectations (Woodford, 2003)."

“Balancing act” indeed! You may call it “walking the tightrope”! What I am saying here is really quite simple: the fundamental and ineluctable reason why central-bank policy is turning from a matter of “letting policy actions speak for themselves”, where “the market”  adjusted to central-bank policy, to one of “announcement effect” and “constant crisis management” where central-bank policy has to monitor “the market” and “steer” it almost on a daily basis is that the capitalist economy resembles a huge balloon of financial speculation filled with hydrogen, very light and volatile…and even the slightest spark can make it explode in flames – which requires enormous “brinkmanship” from central banks. In other words, “financial fragility” calls for more central-bank “transparency”. But the latter induces even more “fragility” without any “compensating” benefits for the “real economy” in terms of employment and output.

As I said from the start, financial instability has reached a “critical” point because capitalist society stands or falls with the wage relation. Central banks therefore must attempt “to kill the chicken of employment and output, in order to scare the monkey of financial speculation”! The fallacy in this is that the two “battlefields” are entirely different economically: one has to do with class antagonism while the other has to do with inter-capitalist rivalry over the distribution of shrinking “value” or “real profits”. That the latter are “shrinking” is demonstrated effectively by the very “surfeit” of “liquidity”! This “liquidity” in fact does not originate in actual “real profits” or “value” but rather in the very attempt by central banks, first, to seek to restart “private investment” that would otherwise stagnate and, in a second stage, to rescue the private financial structure from implosion due to the speculative activities that wage-relation antagonism forces upon it! The monetary authorities and the financial structure therefore totter and stumble from crisis to crisis – from “excess liquidity” to the risk of total collapse of liquidity! The unbelievable volatility that we are seeing in equity markets (daily swings of 5% and over on the slightest "rumour" or "news" like "Italy seeking Chinese bond buyers" last night) is a clear example of this.

Yet we must bear in mind that “the monkey” side of the problem, that of capitalist speculation, arises from the very “existence” of capital – from the wage relation! We must not fall into the trap into which Professor Rajan has fallen in his book “Saving Capitalism from the Capitalists”! (Linked here ):
This book starts with the reminder that much of the prosperity, innovation, and increased opportunity we have experienced in recent decades should be attributed to the reemergence of free markets, especially free financial markets. We then move on to our
central thesis: Because free markets depend on political goodwill for their existence and because they have powerful political enemies among the establishment, their continued survival cannot be taken for granted, even in developed countries. Based on our reading of the reasons for the fall and rise of markets in recent history, we propose policies that can help make free markets more viable politically."

What Rajan forgets is that it is precisely "free markets" that lead to "monopolies" - because the aim of competition is...."to destroy the competition"! Therefore, it is not "capitalists" that threaten capitalism, but it is rather the antagonism of the wage relation that must threaten it because the "free market" means nothing more than "the freedom of the capitalist to exploit living labour through the 'free exchange' of living labour for the dead labour objectified in the wage"! Capitalists may threaten capitalism by fighting over “real profits” – but the entire foundation of “profits” and capitalism rests on the wage relation! Rajan falls into these absurdities quite simply by forgetting that “there is no capital without the capitalist”: the "free market" is not an institution separate from the wage relation - which, far from being "free" is hideously exploitative and antagonistic! “Capital” is not a “thing” – it is a “social relation of production”, a relation between human beings. Therefore, it is not “capitalism” that needs to be saved from “capitalists”, but rather it is the “antagonism” on which capitalism is founded – that of the wage relation – that is finally amplified into inter-capitalist rivalries in finance and threatens ultimately to extend to nation-states!

Matters are complicated by the fact that the “rescue operations” of central banks as “lenders of last resort” and the assumption of “private” debt by governments, together with the larger deficits required to maintain “activity” (output and employment) mean that interest rates need to be at the zero bound for longer to enable residual inflation to reduce the “real” burden of repayment and in part that of “re-adjustment” on the balance-of-payments front  (see the Reinhart paper on “The Liquidation of Government Debt” that I linked earlier). The consequent “expansion” of “liquidity” simply and greatly compounds the original problem in a growing spiral of despair. This dynamic is altogether evident (indeed “transparent”) in this Rajan paper: where the “extreme swings” between liquidity and illiquidity are identified as a likely outcome of developments well before the GFC as a result of experiences dating back to the early 1990s under Greenspan.

Indeed, Rajan, with Myers, has raised the very subtle (but not remotely “too clever by half”) possibility of a “paradox of liquidity”. Liquidity is a capitalist’s heaven. But that is not so for “creditors”! Because “liquid assets” can “volatilize” or “take flight” any moment because of their “fungibility”. Illiquidity means that (as the “astute” authors put it) “something will ‘be there’” when a financial crisis strikes! This means that “real fixed assets” may attract more financing than liquid ones. (In any case, one would have to ask why a “liquid” firm would wish to leverage its assets with more debt!) The result may be that in a crisis a lot of “liquid investments” would have been “sunk” in illiquid fixed assets that were purchased in more “euphoric” times! Once more, this would account for the “manic depressive” dilemmas of central banks.      Here is the Myers and Rajan paper:

This paper holds the key to the wild gyrations on commodities markets of the last few days. It emerges that Chinese capitalists have used “real commodities” as collateral to elude borrowing restrictions imposed in China to cool its tottering top-heavy economy (to see what I mean by this, have a look at this Krugman chapter ). What happens is that “commodities” are now being used as “the ultimate collateral” for loans – in other words, the obscure world of “shadow banking” is now getting surreally real and “reaching for the gun” by seeking the ultimate protection from the “fungibility” of “liquidity”…in the ultimate “illiquidity” of “real commodities”! This is the paradoxical abyss into which world capitalism is falling in a downward spiral of despair. (On the role of “shadow-banking” in commodities speculation see Bartholomewsz article And the FT stories on “the silver spike” re Chinese speculation - But this last one does not draw the link with Chinese speculators and shadow-banking.)
And Davies in reply to me linked this BoJ paper:

This trend will surely be made worse by the recent sovereign debt crisis that will induce private holders of capital (bondholders) to sell bonds and redivert the capital to "real assets" from nationalised social resources needed for the "physical reproduction" of the society of capital (infrastructure, energy assets, for instance) down to raw materials like copper and petrol. (Krugman recently addressed this "monetisation" of commodities on his blog in connection with a brief discussion of gold-as-money, without drawing the link clearly or fully). But such developments only make the control of political authorities (including and especially, in the front line, central banks) over economic activity much more difficult and "explosive", as this article in the WSJ on China's new "private lenders of last resort" shows dramatically!

The upshot of this argument is that nation-states (what we have called "the Crisis-State") are being asked "to privatise" social resources further so as to be able to repay fictitious "public debts" incurred in the attempt to rescue "speculative private capitalist loans" in the first place!! The explosive political implications of this are obvious and becoming even more so with each new passing hour! In the next few interventions we hope to examine the political choices left to us to avoid the collapse not just of capitalism but of civil society itself!

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