Thursday, 20 September 2007

Prepare to Dust Off The Sliding Scale

Prepare to Dust Off The Sliding Scale

The world economy is booming. One of the largest investment firms in the world Bridgewater Associates has recently completely its regular analyses, which shows that for the first time since 1969, there is not one single economy in the world in recession. The IMF has just increased its forecast for world economic growth yet again. China where the Government has been trying to slow economic growth for fear of overheating has just put in economic growth yet again of over 10%, but that is put in the shade by the world’s fastest growing economies. Azerbaijan is forecast to grow by 26% this year, as is Angola as a result of the current high price of oil, Mauritania which does not have oil, but has gold and other raw materials is forecast to grow by 18%. I have given the background in this previous discussion - Kondratieff’s Long Cycles - but I want here to look at a more limited short term consequence.

Marx analysed Capital and noticed that it moved in cycles. Economists since have given a lot of thought to what causes these cycles. What comes out of Marx’s analysis is that these cycles are not like say those that cause sun spots. Natural cycles occur because of fairly fixed physical characteristics. Although economic and other social activity has some aspects, which are analogous it is the very fact of human intervention, which means that processes are mediated, and therefore less predictable. Moreover, within the realm of capitalist economic activity there is not just one economic cycle occurring, but several, each interrelated and affected by the other. So for example, at the beginning of the 19th century when the first such cycle was identified as occurring in 1825 this seem to coincide with the time when for the first time the real effects of the Industrial Revolution manifest itself. In the preceding period the groundwork for that was laid, in the preceding century many inventions are made for example spinning machines, the steam engine etc. but it is only at the beginning of the 19th century that these begin to play a major role, and in particular it is the introduction of the powerloom, and of steam power that has significant effects. Economic historians now believe that the extent of economic growth in the last third of the 18th century was considerably overstated, and that consequently economic growth earlier in the century understated, and this further illustrates the extent to which output rose in the first part of the 19th century. The downturn in 1825, therefore, seems to be attributable to a classic overproduction, the fact that output grows so rapidly that it outstrips the market. In contrast to Say’s Law (which actually was not developed by Say) which say’s that unfettered markets automatically clear it was obvious that there came a point where goods could not be sold whatever the price. Orthodox economists would describe this in terms of diminishing marginal utility. At a certain point consumers have so much of a thing that they do not want any more of it, or no more of it at current prices, and for capitalists to sell it to them at a price they might (or might not) be tempted to buy it at, would mean that they would make a loss on the Capital they have already outlaid on producing those goods, or at least a diminished profit.

So here we have one form of cycle, one on which consumers simply reduce their consumption or slow down the rate of increase. Today capitalists try to avoid this by diversifaction of product ranges, advertising or marketing campaigns to boost flagging sales, and of course built in obsolescence as well as continually changing designs, models etc. and creating a need for new products, so that consumers throw away the old.

Alongside this cycle is another that which affects the capitalists own purchases of production goods. Marx seems to have believed this played a significant role in the periodicity of economic cycles. In particular he seems to have been interested in the work of others that had studied the extent to which, for example, a factory building would last, or that other long term productive capital such as machinery was depreciated over. Again orthodox economists include this today in their theories of crises. Say 10 number of firms replace 10% of their machines every year as they wear out, and each firm has 10 machines. Then the firm manufacturing these machines has a regular order each year for 10 machines. Now suppose that economic growth increases so that each firm now needs not only to buy a replacement machine, but to buy a new machine in order to increase output. A 10% increase in demand for each of these firms causing a 10% increase in its demand for machinery results in a 100% increase in demand for the machine manufacturer. Orthodox economists call this the “Accelerator Effect”, but combined with this is the “Multiplier Effect”. What this means is that the increase in demand for these Capital Goods then has a much bigger effect on the economy than simply this demand. The workers of the machine making company are doubled in size, the demand for materials by the company double, the profits of the company appropriated by the capitalist double perhaps too. All of these people receive incomes from this, which they go to spend, and in doing so they create a secondary effect of new demand for yet more products, and this too leads to more incomes and more spending. Calculated mathematically then if on average consumers spend 90% of their income, then, if say the initial increase in demand for new machines amounted to £1 million then a total of £10 million would be added to the economy. Of course, were the economy to go into reverse then the opposite is true. Each firm might decide that it does not need even to replace any machines if trade is slack, and then the machine manufacturer finds he has no business at all.

So a second cycle is set up depending upon the average length of time machines last. But this is more difficult. Not only are capitalists decisions on whether to buy new machines affected by them wearing out, but as seen above they also depend upon their perception of the state of demand for their products. Improving conditions might cause them to buy more, worsening conditions to buy none. There will tend then to arise a certain degree of synchronisity in these cycles because demand for machines will automatically ebb and flow with changes in the condition of the economy in general, and so capitalists will over time find that they all enter a renewal cycle for their machines around the same time. Another factor strengthens this synchronisity innovation. PC’s are a good example. Throughout, the 90’s there was a clear cycle of replacement for PC’s, and the reason was quite simple. Microsoft brought out a new version of its operating system every two years, and other software suppliers geared their products to it. In addition new chips were introduced on around the same frequency so that improved hardware enabled improved more demanding software to run, which in turn stimulated further hardware development etc. Businesses, geared their IT investment plans to this cycle of upgrades. The same is true of other types of machinery. But this also poses a further problem. A business that has recently bought a new milling machine might find itself having to junk it because a new invention makes it obsolete. If its competitors buy the new machine which is 50% more efficient, then they are forced to follow suit.

Thirdly, there is the credit cycle. The credit cycle goes through basically four different phases. At the beginning of an economic expansion the demand for credit rises because industrial capitalists need more money in order to expand their production, and the more they sell the more money they are outstanding until it is paid for. This increased demand for credit may not result in higher interest rates, though, because the increase in economic activity also results in more money entering circulation, and consequently an increase in money capital accumulated, particularly as in this early part of the expansion the first beneficiaries are likely to be capitalists who, using the inventions developed in the previous phase which increase productivity, as well as having access to a pool of available labour from the reserve army, see their profits rise significantly through both higher sales, and higher selling prices with constrained costs. In the second phase the demand for credit is reduced as the economic expansion slows, and a period of stability sets in. In the third phase economic slowdown begins. Consumers begin to reduce their purchases and begin to think about saving in case of future problems. Capitalists no longer see the need to buy more machines other than is required for replacements, and with input prices having risen as reserves of labour and materials were used up profits become squeezed. The demand for money and credit falls, resulting in lower interest rates. During this period capitalists may begin to look for more lucrative profits elsewhere such as in Stock Market speculation as cheap money makes this a more attractive proposition. Marx refers to this happening with the Railway Mania in the 19th century, but similar things happened during the 1920’s leading up to the Crash of 29, and the same thing happened in 2000. In the fourth phase economic activity begins to fall – and the diverting of financial resources from productive activity to speculation can be a cause of that. People begin to pay their bills later or default, firms desperate for sales offer extended credit terms etc. The demand for money and credit rises to finance this extension, and late payment causing interest rates to rise again briefly before collapsing as economic activity collapses.

In modern economies because the state intervenes heavily in the economy through monetary policy this credit cycle is modified. If the state considers that economic activity is declining it can artificially increase credit by reducing interest rates thereby encouraging consumers to reduce saving and increase consumption, and encouraging capitalist to increase investment. Similarly, as in the US, UK, and Europe at the moment, and shortly in Japan the State can increase interest rates to slow down economic expansion. But the extent to which this is effective depends. If the economy is on a serious downward, and deflationary spiral reducing interests rates may be ineffective. Keynes described it as like pushing on a string. If I’ve just lost my job I’m unlikely to be tempted by the many adverts telling me they will lend me money to buy a new car despite my economic position, CCJ’s and other bad credit record. If I’m a capitalist and can’t sell the warehouse full of stuff I’ve produced I’m not likely to borrow money to expand my production. Japan had interest rates at zero for a decade, but couldn’t get people to increase their consumption because with falling prices in the shops there was an incentive to keep your money in the bank, and buy what you needed later when it would be cheaper.

All of these cycles interact with one another giving the overall short term economic cycles observable under capitalism. A crises within capitalism can be sparked within any of these three areas, but as Marx points out the real source of the crisis is always located within the sphere of production, and stems from the separation within capitalism of production from consumption, a separation that exists under no other previous mode of production.

But as Kondratieff argues these short term cycles also play into a longer term cycle. That can be broken down as follows, I think. Rather like Marx’s argument about the length of time that factories last there is a similar argument in relation to raw materials. Mines and quarries tend to be rather large investments based around long pay back timescales. They are not like a Mars Bar plant where you can fairly quickly increase or reduce production. If you have invested several tens of million pounds in a new copper mine you expect it to keep producing at pretty much the same rate for the next 20 years or so, you can’t afford to have all that capital sitting being only partially employed so you keep producing, and if need be reduce the selling price, you hedge the future price against such falls through the commodity futures market etc. But for the same reason capitalists tend not to rush out and make such large investments of capital unless they believe that it is going to be profitable to do so. It takes 7 years to get a copper mine up and running, for example. So it is easy to see why a fairly long cycle should exist for such raw materials. What tends to happen is that a splurge of exploration happens when as now economic growth begins to accelerate, because this economic growth occurs at a time when all the existing mines and quarries have taken out all the easy stuff, their equipment has started to become a bit long in the tooth and out of date, and so not only can they not easily meet the increased demand, but doing so is expensive compared to a new mine with better reserves, and using more up to date equipment. But the exploration takes several years, and once found it then takes another 7 years before production begins. In the meantime, demand continues to increase as economic growth accelerates and raw material prices rise.

In the Kondratieff piece referred to earlier I argued that the world entered a new K upswing in 1999. I would point to the fact that everyday for the last year commodity prices have been hitting new all-time highs. Large increases in share prices are normally restricted to small companies that grow quickly, but in the last year some of the biggest companies in the world such as Rio Tinto, Anglo-American, BHP Billiton have seen their share price more or less double. It is these huge increases in commodity prices which is fuelling the economic growth of countries like Azerbaijan, Angola, and Mauritius referred to at the beginning. The same is true of many of the other countries rich in resources in Latin America, and the Caspian basin. Kazakhstan has been turned into almost a modern equivalent of the Californian gold rush as companies fall over themselves to start up oil production, gold and copper mines etc.

The second aspect is that during the down leg of the K cycle there is more incentive to develop new ideas. But rather like the exploration and development of new mines etc. such new ideas take time to formulate and develop. These new ideas get taken up as economic growth accelerates in the upswing both as new types of consumer products, and as new methods of production. So although the microchip was developed mainly during the 1980’s and 90’s as a baseline technology it is only in recent years that that technology has really begun to be adopted widely with PC’s being a consumable, the Internet developing as a new means of communication and basis for production and consumption, and the integration of these various technologies in mobile platforms etc. A similar explosion of biotechnology applications is also likely on the basis of the baseline technologies developed there. But these technologies have the opposite effect to that of raw materials. These new technologies enable a large increase in output at lower unit costs. In part this counteracts the increased costs of raw materials inputs.

Finally, there is labour. Over the period of the downswing Capital has more of the whip hand than it normally does. It has more reason to resist the demands of labour faced with falling rates of profit, and more severe, and more frequent recessions. In itself these press down on labour. So for example at the beginning of the downswing Capital and its state begins to press down more heavily on labour as happened in the Miners Strikes of the early 70’s, and the subsequent pay policies and public spending cuts through to Thatcher’s all out class war first against the steel workers then against the Miners. Once pushed back Capital then not only reduces the ability of Labour to fight back, but undermines its bargaining power, increases the reserve army not just in its permanent form, but through temporary and casual working etc. Wages and conditions are pushed back. As the economic expansion of the upswing begins this demoralised and weakened condition is not easily shaken off. Confidence has to be restored, organisation rebuilt, new leaders developed. It takes time, and with new more productive technology the demand for labour may not rise quickly, and may rise in new unorganised industries. Indeed each Kondratieff upswing has tended to see the emergence of a new economic powerhouse that challenges and replaces the former dominant economy – in the present case China appears to be fulfilling that role, and that may require the development of a whole new Labour Movement.

I think all of these elements can be identified in the present conjuncture, and that should give confidence to Marxists that once more the conditions are developing for militant working class struggles. How these struggles manifest themselves will differ. In China wages are rising by 10% plus per year, and there are clear signs that Chinese workers are beginning to become more organised. The same is true of workers in South Korea and other rapidly growing Asian economies. Under these conditions workers struggles are likely to take on increasingly an offensive nature. Yet in the US, the UK and Europe despite signs of economic growth it is anaemic compared to China and elsewhere. The reason is that these economies are hugely inefficient compared to China which combines the latest technology, with low wage labour. Consequently, we see Delphi declaring bankruptcy with GM looking to be not too far behind.


In Britain we see Peugeot closing Ryton etc. Britain and the US also have a problem with huge levels of public and private debt which has been run up as an alternative to their economies cratering during the downturn, but it now acts as a drag on recovery. As with the PCE in France, it is quite likely that workers struggles in these old economies are likely to have more of a defensive nature, but as the victory of the workers and students in France demonstrates, and following on from the victory against the neo-liberal EU Constitution, which no doubt also helped develop confidence for this current victory against neo-liberalism, there is an air of change beginning to sweep into the Labour Movement even in Europe. In the US too, the demonstrations against the regime’s attempts to bring in new Immigration Laws shows that within the lower depths things are beginning to stir.

Soon the nature of the struggles will noticeably change from being defensive to offensive struggles, and Marxists and Trade Union militants must be prepared to reorient to that situation, or there is a danger of being left behind the class. It will begin to manifest itself in another aspect of the Kondratieff cycle. During the last 20 years western governments have pumped huge amounts of liquidity into the economic system to reduce the effects of recession. As Marx points out when economies are growing rapidly they require increased amounts of money to be put in circulation in order to enable goods to circulate. When real money – gold – was used there was a self-correcting mechanism which threw out excess currency from circulation. But since economies have used fiat currencies in place of gold this mechanism no longer exists. Consequently, any increase in the amount of money tokens (paper money and coins) or credit over and above what is required for circulation leads to a devaluation of these tokens, and thereby inflation.

See Gold and Money

This inflation has not been manifest because of two things. Firstly, the prices of consumer goods have been kept down because of imports from China, and other low cost producers which have sucked up a large amount of this excess liquidity, and is then recycled into Chinese Foreign reserves and loans back particularly to the US, hence the huge trade deficit of the US and UK. Secondly, the liquidity has gone into financial and other assets – in particular creating a house price bubble in the US and UK. However, there will come a point where the current economic expansion, having used up the readily available labour and other resources, and faced with demands from labour for wage increases, as the demand supply balance for labour tips more in favour of labour, will lead to pressure for higher prices. The Chinese Stalinists are already fearful of the imbalance between the cities and countryside, and are trying in the latest 5 year plan to direct resources to the country. One project is to drive a huge motorway through to Western China, both as a means of facilitating the transport of raw materials from Kazakhstan and other Central Asian countries, but also to stimulate economic development along its route into Central China. The rapidly rising living standards of Chinese workers are already fuelling a consumer boom, and increasingly the Stalinists will be forced to divert an increasing proportion of output to meet domestic consumer needs rather than the needs of western consumers. Combined with the likelihood in the next year or so of a revaluation of the Yuan the consequence is going to be a significant rise in consumer goods prices.

In short the next year or so is likely to see the return of inflation, and the current rise in the price of gold is a frontrunner of that. Inflation will make the current debates over pensions even more crucial because inflation quickly erodes the incomes of those on fixed earnings such as pensions. But inflation fulfils a special function for capitalism. It is the means by which it cons workers into falling real wages its means of achieving what Schumpeter and Mises euphemistically called “forced saving” i.e. the workers are forced to save by enabling the capitalist to make bigger profits.

Trotskyists developed the slogan “For a Sliding Scale of Wages” to respond to this kind of attack. It has been little used for the last 20 years or so both because workers have been too weak to enforce it, and because at least for the last decade or so inflation has been low. But during the 1970’s workers in Britain had a sliding scale of wages, ironically introduced by Ted Heath, and workers in Italy had the Scala Mobile for a long time, which protected them to some extent from inflation.

But its important also to understand the arguments behind the demand. The most obvious argument is that it sets out clearly a refusal of workers to pay for any aspects of the bosses system, and problems encountered by it. But during the inflation of the 1970’s and early 80’s there was another argument to be had. The argument that wages caused inflation. It is important for Marxists to nail that argument as completely wrong.

Marx sets out the argument in a pamphlet – “Wages, Price and Profit” in a polemic against Weston. Marx’s argument is straightforward, and one that can be argued even in the terms of orthodox economics. His more detailed explanation is given in the link above on Gold.

Marx says suppose that wages rise, what is the sequence of events that follows from this? The first thing is that workers have more money to spend, and so spend more on wage goods. This increased demand for wage goods might then cause a rise in their price. At the same time the capitalists employing these workers will in paying out more wages suffer a fall in profits so that they will have less money to spend. Because these capitalists have less money to spend their demand for luxury goods and capital goods will fall, which will cause the prices of these goods to fall also. But the higher prices of wage goods means that the producers of these goods will make higher profits, whilst the producers of luxury goods and capital goods will make lower profits because of their lower prices. Seeing this capitalists producing luxury goods and capital goods will switch production into the more profitable production of wage goods. The increase in the supply of wage goods will then reduce their prices, and the reduced supply of luxury goods and capital goods will increase their prices until such time is this adjustment brings about an equilibrium of supply and demand, and equal rates of profit in each of the three sectors.

Consequently, as Marx demonstrates an increase in wages does not cause inflation it merely causes a redistribution of value between workers and capitalists with a consequent reallocation of capital away from the production of the things capitalists spend their profits on, and towards the things workers spend their wages on.

It flows from this that if wage increases are not the cause of inflation then workers should not suffer as a result of inflation. It is necessary to ensure as a minimum that a sliding scale of wages is implemented so that any increase in prices calculated by committees of workers is automatically built into an increase in wages at the end of each month. Workers can then negotiate improvements in their pay over and above that as usual. But workers need also to demand such monthly indexation of pensions and benefits on behalf of those that cannot take action to ensure this themselves.

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