Friday, 23 October 2015

Lethal Perception

China has just cut its official interest rate by 25 basis points.  The reason given is to stimulate its economy, which has slowed to growth of 6.9%.  If that is the reason for the cut, it is mistaken, and no more likely to stimulate growth than any of the other six cuts it has made during this year, or the interest rates cuts and Quantitative Easing, by other central banks have had in stimulating growth.  In fact, those central bank policies have acted to reduce rather than stimulate growth.  What those policies have achieved, and what the PBOC's action today achieved, was rather to inflate asset price bubbles further, and it is, in fact, that which acts to slow rather than stimulate growth.

When I was sixteen, I was given a new asthma inhaler by my doctor.  I must have misunderstood the instructions he gave me, because I gained the impression that, unlike all the previous inhalers I had, this one could be used, as frequently as I felt I needed it.  All the others could only be used once every couple of hours, because they were based on adrenalyn.  So, one night, when I had come home from work, soon after being given this new inhaler, I felt I needed to use it.  As I didn't feel better immediately, I used it again, and this continued for some time, and instead of feeling better, I started to gradually feel worse and worse.

My parents called for the doctor - which was not easy at that time, because very few people actually had telephones in their home.  When the doctor arrived, he said I'd been lucky not to have given myself a fatal heart attack, by overuse of the inhaler.  The remedy was that I had to spend the next 12 hours sitting still on a straight backed chair, whilst the adrenalyn was gradually removed from my system.  It appeared that I had mistaken what was an anxiety attack for an asthma attack, and repeated doses of adrenalyn, therefore, made it worse rather than better.

The policies of central banks are having a similar effect.  What this ultra loose monetary policy does is to induce asset price bubbles.  The price of all forms of fictitious capital, be it in the shape of bonds, shares or property is inflated by it, not because anyone believes that the underlying productive assets are becoming more productive, capable of generating more profits, so as to be able to pay higher levels of interest, but only because they believe that the prices of those assets will be higher tomorrow than they are today.  But, as Andy Haldane has pointed out, this only leads to "capital eating itself".   Then when capital does eat itself, so that potential money-capital, is converted into revenue, which is used for speculation, rather than productive investment, it appears that the money drug has not yet worked, so another dose is taken, which pumps more adrenalyn into the fictitious capital, which becomes even more hyped, but confirms the view that the prices of these financial assets can continue to move higher and higher solely on the back of central bank support.

Its not that hard to understand.  Productive-capital produces profits, and these profits are divided into a series of revenues.  Firstly, there is the profit that belongs to the productive and commercial capitalist; secondly, there is the interest that belongs to the money-lending capitalist (which takes the form of interest on bank loans, dividends on shares, coupon on bonds); and finally there is the rent paid to the owner of landed property.

Out of the first, the wages of the "functioning-capitalists" the day to day professional managers, must be paid, and after that an amount remains that can be used internally for investment.  All of the other revenues are needed to cover the consumption of the different fractions of capital who receive them. But, for those individuals who obtain very large revenues from these sources, a portion is always thereby available to be used as potential money-capital, i.e. to be thrown into the money market, to be borrowed by productive-capital for the accumulation of productive-capital.

But, there is no reason why all or any of this money will be used in that way.  The old feudal aristocracy, which obtained large rents, was infamous for not only spending all of its revenues, but even for borrowing additional sums on top, to simply engage in conspicuous consumption, for example.  But, in just the same way, these revenues can be used not as money-capital, but simply as money to engage in speculation.  The purchase of existing fictitious capital is precisely that, speculation.  It may have as its purpose the generation of further revenues - a bit like someone who buys Premium Bonds, on the basis of regular small prizes, with the hope of also winning the jackpot - but increasingly, it becomes the achievement of large, rapid capital gains, based on sharp rises in stock, bond or property markets.  In contrast to someone who puts their money into Premium Bonds, its instead like putting all your money into buying Lottery Tickets.

And the comparison is apt, because buying existing bonds, shares or property does no more to build a single factory, produce a single machine, or an additional house than does buying Premium Bonds, or Lottery Tickets, or just putting all your money on red at the roulette wheel.  Only the use of money as money-capital, to buy a new factory, machine, or to build a new house, with the intention of creating surplus value via that production, can have that effect.  It is precisely, because rigging the financial markets to appear as a one way bet, ensures that large amounts of revenues remain as revenues, used only for speculation rather than productive consumption, that potential resources for actual capital accumulation are drained away, and that, as a consequence, actual economic growth is undermined, and retarded.

In that very process, the potential for increasing the mass of profit out of which these revenues can be paid in future is undermined.  It grows more slowly than it otherwise would have done, and thereby reduces the potential for paying dividends, bond interest and so on.  In order to sustain those revenue payments, as yields fall, a larger proportion still of the surplus value has to be drained for that purpose rather than being used internally by companies for investment, so that a vicious circle is established.

This is actually, nothing new.  Marx and Engels described the same situation in 1847.  A new long wave boom had commenced in 1843.  China was opened up after the Opium Wars, and Britain was shipping ever expanding quantities of commodities into a rapidly growing world market.  Huge masses of profits, and high rates of profits were being generated as a consequence.  It led to a massive increase in productive investment, as former factories were re-opened, new ones created, and additional machines introduced.  Former workers, became capitalists on their own account.  It is this kind of over investment that Marx describes in Capital III, Chapter 6, that results in temporary and sharp crises of overproduction.

But, the masses of profit were so great that even with this large scale productive investment, not all of the profits could be used in this way.  The surplus potential money-capital flooded into the money markets, and thereby pushed interest rates down to new low levels.

Engels notes,

"The new market gave a new impetus to the further expansion of an expanding industry, particularly the cotton industry. "How can we ever produce too much? We have to clothe 300 million people," a Manchester manufacturer said to this writer at the time. But all the newly erected factory buildings, steam-engines, and spinning and weaving machines did not suffice to absorb the surplus-value pouring in from Lancashire." (Capital III, Chapter 25)

And, then as now, despite the high rates and masses of profits to be made from this productive investment, the consequence of the low interest rates was to stimulate speculation in stock markets, where even larger, more immediate capital gains could be made.  Not only did potential money-capital go into this stock speculation, rather than productive investment, but firms themselves used their own cash resources and borrowing capacity to borrow to speculate rather than even cover their needs for working capital.  That is similar to the way today firms have used their profits, and the ability to issue bonds with low interest rates, for such speculation, buying their own or other companies' shares, rather than investing in productive capacity.  The speculation de jour in 1847 was railway shares.

"The thirst for speculation of manufacturers and merchants at first found gratification in this field, and as early as in the summer of 1844, stock was fully underwritten, i.e., so far as there was money to cover the initial payments. As for the rest, time would show! But when further payments were due — Question 1059, C. D. 1848/57, indicates that the capital invested in railways in 1846-47 amounted to £75 million — recourse had to be taken to credit, and in most cases the basic enterprises of the firm had also to bleed." (ibid)

The first effect, of the PBOC's rate cut, was, therefore, to send global stock markets soaring higher still.  Why?  Not because anyone thinks that this 25 basis points cut will stimulate growth and lead to higher profits, but simply because it sends the message to speculators that global central banks still have their backs.  No one can seriously believe that the reason for low levels of investment is that interest rates are too high, not even real as opposed to nominal interest rates!  Moreover, in China, the economy is still largely centrally planned.  The state controls the main banks, and lends money to businesses in accordance with the requirements of the five year plan.  Large sections of chinese capital is still in the hands of the state, and so, if the state wants to increase investment, it can simply undertake it via these companies, in the process employing additional workers, and thereby stimulating additional consumption.  No, the purpose of this Chinese monetary stimulus, like the money stimulus undertaken by all central banks is not to stimulate economic growth, but simply to try to postpone the collapse of financial markets and the destruction of fictitious capital.

The other immediate effect was to cause yields on other global bonds to rise, because with the PBOC now protecting the backs of speculators, it means that those speculators can sell higher priced US, UK and other bonds (which thereby have lower yields), and instead to buy Chinese bonds, with higher yields, and the potential for further capital gain.

But, the fact remains that this process simply means pumping more adrenalyn into the system, and actually making the problem worse.  Sooner or later that will cause that system to break down, as the money-capital required to finance productive investment continues to be drained into a speculation that drives yields on those investment ever lower, in some cases, already even into negative yields, as the potential to create additional masses of profits is undermined.  The global financial system is on the verge of a heart attack far more severe than in 2008, as a result of these policies.

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