Friday, 9 September 2016

A Crisis Carol - Stave 3 - The Ghost Of Crisis Present - Part 1

The scrooges had felt in shock from the vision presented to them by the ghost of crisis past. But, then they soon recovered their composure. After all, they had put these previous events out of their minds until reminded of them, and with good cause.

Greenspan had gone, but had spawned a series of clones that carried on his works in the central banks of the entire world. What seemed a potentially terminal destruction of the paper wealth of the scrooges in 2008, had once again been turned around into another rise in those prices, as yet more money was printed and thrown into the purchase of these worthless bits of paper.

The scrooges contented themselves. Their paper wealth was greater than ever. Stock markets were at all time highs, even the NASDAQ; bond prices had risen to the highest levels in 300 years, despite huge levels of public and private debt, massive levels of non-performing loans, and an increasing level of risk of defaults both at a private and sovereign level, because the scrooges knew that any default would be covered by the state coming in to rescue them; property prices had soared, particularly in the world's major cities. The scrooges thought they could sleep sound in their beds, but then found they were visited by a second ghost. He announced himself as the ghost of crisis present.

“You can't frighten me,” shouted the scrooges, only half convincingly. “Look, our wealth is greater than ever, and its being protected not just by one or two central banks, but by all of them.”

The ghost waved his hand, and a series of visions came to the scrooges, which increasingly disturbed them, once more.

The ghost showed them a chart of the Dow Jones between 1980 and 2000, and another between 2000 and 2016. It showed the Dow Jones and other stock markets at record highs. The Dow is more than double the figure it fell to in 2008. But, whereas between 1980 and 2000 it rose by 1323%, between 2000 and 2016 it has risen by only 80%. That is despite the increasingly frantic and desperate attempts by central banks to reflate the bubbles, by printing ever increasing amounts of money, and stuffing it into the purchase of those assets.

Moreover, from the late 1980's onwards, the rate of profit was rising, as wages were constrained and the rate of surplus value rose, due to the introduction of labour-saving technologies that raised productivity and slashed the value of constant capital. From 1999, when the new long wave boom commenced, the mass of profit also rose, as a result of the rise in the rate of profit, coupled with an expansion of the mass of advanced capital.

So, one of the factors underpinning rising asset prices, increased profits, had been present between 1980-2000, but it was not clear that it was present now, or at least the increase in the mass of profits was slowing, and the cost of producing those profits was rising. That was evident from the falling levels of productivity growth.

But, more worryingly for the scrooges, the other factor that underpins rising asset prices, falling interest rates, have been falling in a secular trend since 1982! Typical of the schizophrenic nature of the current global economy, some interest rates have actually been becoming negative, so that the owners of this money-capital actually pay to lend it, whilst other interest rates, for example, those charged by payday lenders, have soared to over 4000% p.a.; some countries have yields of near zero on their bonds, whilst others, like Greece, have had yields over 30%, and others have been frozen out of global bond markets; some large companies, awash with cash, can issue bonds with 2% yields, whilst other companies cannot borrow at all, or face interest rates closer to 10% p.a.

The reason for the divergence is risk. Scrooges have always known that when they lend out their money-capital, there is a risk they may not get it back. Where they can, they do not lend capital, but only money. In other words, they provide capital in its money form, only in exchange for capital in a less liquid form, which then acts as collateral. But, where they lend money-capital without such collateral, they attempt to cover themselves against the loss of their own capital by the rate of interest they charge.

To assist them in measuring that risk, a series of credit rating agencies have been developed, and they rank the creditworthiness of countries and companies. And, just in case, the scrooges can also take out insurance against such losses, via credit default swaps, and other such derivatives, which, in turn, provides another opportunity for the scrooges to speculate, amongst themselves, over such risks.

One reason that 2008 had frightened the scrooges so much was that, by historical standards, interest rates were already at very low levels. A modest rise in interest rates, in 2007, as a modest rise in inflation arose, had been enough to cause asset prices to fall, and to make the scrooges fear of not getting their money back turn into a refusal to lend – a credit crunch that sent short-term interest rates soaring. Libor went through the roof.

But, what also frightened them, in 2008, was that, as some of the loans they had made did turn bad, so it became clear that the insurance they had taken out, to cover such risk, also involved someone else paying out on the insurance claims. But, all of the scrooges themselves had loaned money to the banks, finance houses, and insurance companies, who now had to pay out, and no one knew how much would have to be paid out, other than that the more that was paid out, the more it meant other banks and financial institutions would fail, and the more claims that would itself entail. If 100 scrooges take out insurance against losses, and only one makes a claim, the other 99 can cover it. If instead, 50 make a claim, then some of the weaker ones, of the other 50, may be unable to stump up, and will also fail, putting further pressure on those that are left.

The ghost reminded them of how they had arrived at their current state. In order to avoid the risk of losing their capital, they had loaned it to those countries that had the means of paying it back. That didn't just mean those with sound economies. Economies in Spain, Italy, Portugal and others had seen the prices of their bonds fall, and so their yields rise, as a policy of austerity was introduced in the UK and EU in 2010, which caused the economic recovery that had been occurring since 2009, to go into reverse.

But, the US, whose economy had continued to grow, as it rejected austerity, continued to print money long after the requirement to do so, to end the credit crunch, was over. It used the newly created electronic money to buy up the government bonds held by US banks, and by the scrooges. It thereby restored the paper wealth of the scrooges, and gave the US banks the semblance of solidity based on artificially inflated balance sheets. The consequence was that the banks were again flooded with liquidity, whilst asset prices were reflated, pushing yields down to ever lower levels.

The ghost showed the scrooges an interview given at the time by Bill Gross. At the time, in 2009, Gross was head of the world's largest bond fund at PIMCO. Gross said the strategy was simple - “Buy what the Fed is buying, but buy it first.” In other words, if a central bank is going to be buying some specific class of bonds, that will not only put a floor under their price, but will likely cause their price to rise. If you buy first, you guarantee yourself a capital gain. But, the consequence of this is that, if they followed Gross's strategy, anyone who was going to buy some other kind of bond or financial asset, would instead buy this one. That means the demand for all those other financial assets not backed by a powerful central bank fall, relative to what it would have been, so that the yields on those assets rise.

As yields on financial assets fell to ever lower levels, so the risk/reward of searching out higher yields declined. If interest rates are, on average, 7%, there is an incentive to move your savings from bank A paying 6% on deposits to Bank B paying 8%. But, if interest rates fall, and Bank A is paying 0.25% on deposits, whereas bank B is paying 0.50%, you may be less bothered, because although the relative difference is greater, the absolute return is little different. On £100,000 8% gives you £8,000, and 6% only £6,000, a £2,000 difference. But 0.5% gives you £500, whereas 0.25% gives you £250, only a £250 difference. Yet, governments wonder why people do not waste their time switching banks!

Moreover, if the risk involved in depositing money in Bank B is correspondingly higher than A, this absolute level of return creates a higher propensity to seek security. So, although a US Treasury provides only 1.5% yield, the owners of money-capital tend to favour it over say a Turkish 10 Year Bond, with a 9.5% yield, because they can be more guaranteed of getting their capital back. They become more concerned about the return of their capital, than the return on their capital.

But, that applies with even those sovereign bonds that earlier were seen as risky. The yield on Spanish and Italian bonds has also fallen, not because there has been a spectacular recovery of the Spanish and Italian economies, but simply because the ECB has followed the example of the Federal Reserve in printing money to buy the sovereign bonds of those economies, having also printed money that was pumped into European banks, who also used it to buy government bonds, rather than lend it to European capitals. 

The effect was, in fact, to reduce the yield on these European bonds even below that of the UK and US bonds, as the ECB stepped up this QE, at the same time that the Federal Reserve stopped.

So, as some interest rates/yields are pushed down, by this QE, below where they would otherwise have been, others are pushed up above where they would otherwise have been. In Theories of Surplus Value, Marx quotes David Hume, and Joseph Massie, to show why this money printing cannot cause the average rate of interest to fall. In effect, all that money printing does is to change the nominal figures on either side of the demand-supply equation for money-capital, leaving the actual equilibrium point, and rate of interest unchanged.

“Hume attacks Locke, Massie attacks both Petty and Locke, both of whom still held the view that the level of interest depends on the quantity of money, and that in fact the real object of the loan is money (not capital).

Massie laid down more categorically than did Hume, that interest is merely a part of profit. Hume is mainly concerned to show that the value of money makes no difference to the rate of interest, since, given the proportion between interest and money-capital—6 per cent for example, that is, £6, rises or falls in value at the same time as the value of the £100 (and. therefore, of one pound sterling) rises or falls, but the proportion 6 is not affected by this.”

In practice, this works out via a complex web of interrelations. Marx makes clear that the owners of loanable money-capital lend it as precisely that – money-capital that can be metamorphosed into productive or commodity-capital, and thereby obtain the average rate of profit. The rate of interest is the price of that use value of capital – the use value of being able to produce the average rate of profit. But, they are not bothered whether the borrower actually uses it for that purpose. The borrower may instead use it to buy a house, a car, a new set of clothes, or cover the deficit of their wages to cover the cost of their weekly consumption. The only thing the lender will be concerned about, in such cases, is the risk of actually getting their money back, and will charge increasingly usurious rates the more risk they consider is involved, which also goes with how desperate the borrower is to obtain the money.

In other words, the lender owns money-capital, and lends it as such. But, the demand for this money-capital is not restricted to a demand for its use solely as money-capital. Because money-capital necessarily takes the form of money, the demand for money-capital can also comprise a demand only for money – for currency or liquidity. But, the supply of this money-capital can only be a supply of actual money-capital, and not simply a supply of money, and still less simply of money tokens, such as paper money, electronic money, credit etc.

The payday lender owns money-capital, and obtains interest on it as such. However, the worker who borrows from them, because their wages do not stretch to the end of the week, does not borrow money-capital, but only money, liquidity. In fact, this represents a destruction of potential capital value. If the payday lender, as the owner of money-capital, lends to a capitalist, the capitalist then uses the money-capital as capital. They metamorphose it into productive or commodity-capital. That involves the employment of additional constant and variable capital, and the creation of a surplus value.

Suppose of the £1,000, £800 is metamorphosed into constant capital, and £200 into variable-capital, and it produces £200 of surplus value. If the capitalist hands over £100 in interest, to the money lender, they still have £100 of surplus value, so that they can now engage in production with £880 of constant capital, and £220 of variable capital, which in turn produces £220 of surplus value.

But, if the worker borrows £1,000 s/he uses it as revenue, not capital, i.e. to fund their consumption. So, there is no way that £1,000 can act as self expanding value, i.e. capital. The only way that the worker could pay £100 of interest to the money lender would be to undertake additional labour, so as to earn additional wages, or else to reduce their consumption, so that what would have been spent on buying the commodities required to reproduce their labour-power, is now spent simply to cover the payment of interest. Ultimately, as Marx describes, such a situation is not sustainable, because labour-power requires those necessaries to reproduce itself, or else the supply of labour (quality and quantity) declines, which causes wages to rise, and the rate of surplus value to fall.

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