Monday, 29 July 2013

The Rates Of Profit, Interest and Inflation - Part 11

Inflation (3)

To summarise what has been said previously, over the last thirty years, first the rate, and then also the volume, of profit, globally, has increased by a large amount. It has financed a large accumulation of capital, but was still so great that large amounts of surplus-value accumulated as money hoards, and thereby pushed down global interest rates, as well as finding its way into a range of speculative activities, blowing up bubbles in property, shares and bonds. Part of the reason for the rise in the rate of profit was a revolutionising of production via new technologies that slashed the value of commodities, including commodities that form constant capital. In order to avoid a global deflation, capitalist states printed large amounts of money tokens and increased credit to reduce the value of money. That multiplied the effect of the money hoards going into speculative activity. There was no inflation of consumer goods prices because their values had been slashed, but the money printing created a huge inflation of asset prices.

That in itself has had other effects that I will examine later. For example, the main reason that pensions are inadequate is that share and bond prices rose astronomically, so that workers pension contributions bought fewer shares, bonds etc. to go into their fund, whilst the yield on those shares and bonds fell for the same reason. Workers ended up, thereby, with fewer bonds and shares in their pension fund than they would have had, and a much reduced income on those shares and bonds on top of it.

But, the conditions that kept interest rates low – high and rising profits – and that kept consumer price inflation low – large increases in productivity that slashed commodity values – have started to reverse. The large gains in productivity enjoyed over the last 20 years have reached their peak and started to decline. So, the values of commodities may continue to decline for some time, but at an increasingly slower pace. That in itself means that the reductions in the value of constant capital that helped drive up the rate of profit will also decline. The value of commodities that form workers means of consumption will also not fall so quickly, so the value of labour-power will not fall so quickly. Again that means that advances in relative surplus value will slow down, putting pressure on the rate and volume of profit. But, the same causes will also mean that more constant capital has to be expended to obtain the same amount of productivity gain, to bring about a similar level of product innovation and so on, all of which are the basis upon which modern monopoly capitalism competes in the market. An increasing demand for capital, together even with a slowing of the rate at which new potential capital is formed i.e. rate of profit, means that the demand and supply for capital shifts so that interest rates rise. We have already seen such a shift in global interest rates, which although small in absolute terms, have been very large – between 50-100% - in relative terms.

The question is what, if anything can central banks do about that? The view of orthodox economics, and indeed of many Marxist economists has been that low interest rates have been the consequence of money printing by central banks. I have shown that this thesis is false. Interest rates, as Marx argues, are determined by the supply of and demand for money-capital, not money. Central banks can print money-tokens, but they cannot create capital. For that reason, central banks cannot reduce interest rates, or to be more precise, they can only reduce some interest rates at the cost of increasing others.

Money-capital when it is demanded and supplied necessarily assumes the form of money. Indeed, as Marx points out in Volume II of Capital, when this money-capital buys means of production and labour-power (productive-capital) it does so not as capital, but as money. It is money not capital that is handed over in the purchase. On that basis, the origin of that money – whether it is the money form of expanded capital, surplus value/profit, or whether it is simply new money printed by the central bank – disappears. But, the origin of that money, its content as opposed to its form, is very important. If it is the former, it is the monetary equivalent of value that has already been thrown into circulation. It is merely then the equivalent form of that value, the means by which its circulation, its purchase and sale is facilitated. But, if it is the latter, then it has no value equivalent already in the market. Consequently, it is the situation described above where more money has been thrown into circulation than is required for the value of commodities to be circulated. The result is then inflation.

Once again, the orthodox view is that inflation has been kept low because of low demand, weak economic activity etc. That view is also false. There was weak economic activity in the 1970's and early 80's, and yet inflation in Britain at that time ran at nearly 30% p.a.! There was weak economic activity in Germany in the 1920's, and yet the Weimar Republic suffered from hyper inflation. The reason consumer prices have not soared, due to all the money printing, is not a result of weak economic activity – they did not rise sharply during the boom in consumer demand at the beginning of the century either – but has been due to the fact that commodity values have been slashed as a result of the gains in productivity. The end of that condition means that large amounts of money in circulation will result in consumer goods prices rising.

Bond Vigilantes can force down the price
of bonds if they fear inflation, pushing up
interest rates.
This poses a dilemma for central banks. On the one hand, a central bank like the Bank of England, can control some interest rates. For example, if the British Government wants to borrow £10 billion for 10 years, it issues 10 Year Gilts. Normally, these would be auctioned, and potential buyers, usually banks, insurance companies, pension funds, would then offer to buy them. The Gilt would offer a nominal rate of interest say 2% p.a. against the face value of the Bond. But, depending on market conditions, the buyers of these bonds would offer more or less than the face value of the bond to buy it. If they think that risks are high, including the risk of inflation, they will offer less than the face value of the bond, and vice versa. So, the yield they receive on this bond, as opposed to the nominal interest it pays – the coupon – will be higher if they pay less than the face value, and lower if they pay more than the face value of the bond.

But, what has happened with Q.E. in Britain and in the US, and the ECB has done something similar, is that the central bank itself buys these bonds. It can simply “print” money to buy them, and in doing so, it pushes up the demand for the bonds, increasing their price, and thereby reducing the yield on them. Market interest rates are in reality determined by these yields on bonds, not by official interest rates, because they determine how much borrowers must be prepared to pay to borrow money by issuing their own bonds. For the same reason, they also influence company dividend policies, and share prices, because the yield on a share is similarly determined by the relation of the dividend as a percentage of the share price. If share prices fall yields rise and vice versa.

But, the problem with this is obvious. By printing money, and buying these bonds, the central bank devalues the currency. That would have caused commodity price inflation, but for the dramatic fall in commodity-values. It did cause a dramatic rise in asset prices, which set in place a vicious/virtuous circle depending on your point of view. As asset prices rose, yields fell. Speculators, however, are more concerned with capital gain than with yield. That is, why would I be bothered about a piddling 2 or 3% yield on my investment, if instead its price might rise by 10% in a year?

The consequence for pensions, and pensioners then is fairly clear from this. If I pay £100 a month into my pension fund, that is £1200 a year, and £48,000 over 40 years. If inflation remains effectively zero during all this time, my wages and my contributions will remain the same. By the same token, if the average price of a share or bond is £1, my pension fund will have in it £48,000, and assuming each share pays £0.05 in dividends, it would be able to pay me £2400 a year pension.

However, if due to money printing, although consumer price and wage inflation remains the same, but share and bond prices bubble, the situation is very different. Assume over the 40 years share prices quadruple, so that the average price paid for a share over the period is £2. In that case, I will only have bought 24000 shares. Those shares will its true, be nominally worth much more – 24,000 x £4 = £96,000, but the income generated by each share will be no different, so I will now receive 24,000 x £0.05 = £1,200, or half the previous pension. The difference is because the rising share price means my pension contribution buys fewer shares – what financial analysts call pound cost averaging – so fewer shares get transferred to workers, and more remain in the hands of capitalists.

In fact, if share and bond prices had not bubbled over the last 30 years – the Dow Jones Index has risen from 1,000 to over 15,000 in that time! - workers pension contributions would have bought them a majority stake in pretty much the whole of British Capitalism. As it is, the £800 billion in workers pension funds is equal to the share capital of about 75 of the FTSE 100 companies. This is part of the process that Marx described in Capital of the shift from the monopoly of private capital to the introduction of collectively owned, socialised capital via the Joint Stock Companies and Co-operatives. It is what he means when he said in Capital,

“The credit system is not only the principal basis for the gradual transformation of capitalist private enterprises into capitalist stock companies, but equally offers the means for the gradual extension of co-operative enterprises on a more or less national scale. The capitalist stock companies, as much as the co-operative factories, should be considered as transitional forms from the capitalist mode of production to the associated one, with the only distinction that the antagonism is resolved negatively in the one and positively in the other.”

Even though workers own all of this socialised capital via their pension funds, they have no control over it. A central demand of socialists and the TUC should be to demand democratic control over our pension funds. If workers should be given a democratic control over their TU subs, being used for political purposes, and, of course, they should, then even more should they have control over the huge sums in their pension funds. In fact, such control would have a further benefit, because if workers had control over these funds, and through them the companies they work for, they could begin to use their pension contributions not to buy shares, that are subject to the vagaries and speculation of the stock market, but to invest directly in additional productive-capital.

The central dilemma the central banks face is this. They need to keep printing money to stop these bubbles of asset prices bursting, because the commercial banks balance sheets are stuffed full of shares, bonds and property, whose value is grossly inflated. If these assets on the banks balance sheets were valued realistically, then all the banks would be seen to be insolvent. They would need possibly trillions of pounds to recapitalise them across the globe. But, if they keep printing money under current conditions they will increase inflation. That means that potential buyers of bonds will offer less for them. Yields will rise sharply, and with it, will come a bursting of those asset price bubbles anyway, as home buyers can't pay their mortgages and so on.

The indications of rising inflation are already apparent. China has hit capacity constraints. Wages have been rising by up to 50% a year recently, as the demand and supply for labour-power has tilted in favour of the workers. China has begun to look for cheap labour as an alternative itself in Vietnam, Africa and so on. Rising inflation in China, is the main reason the state has deliberately cooled the economy to prevent over heating. But, the Yuan has also been rising, which means that the importers of these previously cheap Chinese goods will face a double whammy of rising prices. The policy of money printing, which devalues the currency itself increases inflation by increasing import prices, for things like food, energy and so on, which is one reason the UK has had much higher than target inflation for the last 5 years.

In the last part I will examine the options this situation presents. Will it be deflation, and depression or as some, such as Moneyweek have predicted will it be Weimar style hyper inflation?

Back To Part 10

Forward To Part 12

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