Tuesday, 27 February 2018

Its Not Inflation Driving Interest Rates Higher (8/10) - The Financial Crash of 1962

The Financial Crash of 1962 

This point that the laws governing the price of fictitious capital, are different to those governing the real economy is illustrated by the Financial Crash of 1962, but it can be seen in most other financial crises, as opposed to economic crises. For example, in Marx's analysis of the 1847 financial crash, he notes that although the basis of the crash was again massive financial speculation on the stock market, at that time the Railwaymania that blew up the prices of railway shares in a similar fashion to the Tech Bubble of 2000, the spark for it, was a credit crunch caused by the operation of the 1844 Bank Act, which limited the issuance of currency to gold reserves. It was this credit crunch, and the fact that private capitalists who had tied up capital in this speculation had to resort to selling other assets, and commodities at knock down prices, to get cash, which led to an economic crisis in which output fell by over 30%. But, Marx notes that when the Bank Act was suspended, and the credit crunch relieved, the economic boom that had previously been underway resumed. He relates a similar story in relation to the financial crisis of 1857. 

In the financial crisis of 2000, the NASDAQ technology Index fell by 75%, and other indices fell by large amounts, and yet even that fall had little impact on the real economy, and certainly not in the growth of the technology sector, thereafter. On the contrary, the new long wave boom that began in 1999, continued apace across the globe, until it was hit once more by the financial crisis of 2008. But, here again, despite the 2008 financial crisis being the worst in history, its main impact on the real economy came as a result of a credit crunch. Once the credit crunch was resolved, via the introduction of liquidity by central banks, and by the state taking over a number of banks to ensure that the payments systems continued to function, the economy itself rebounded in a traditional “V” shaped manner. 

A lot has been made of the fact that since 2009, the recovery has been very sluggish, leading to talk of a “Long Depression”, “The Great Recession”, or “Secular Stagnation”. However, the fact is that in many parts of the globe, economic growth continued at rates only slightly below their 2008 levels. The fact is that, for the global economy, as a whole, there was no depression, recession, or stagnation, although individual economies fared better or worse during this period depending upon their particular circumstances. Despite some doom mongers forecasting that the Chinese economy was headed for “only” 4.5% p.a. growth, the world's second largest economy has continued to grow since 2009 at rates between 6 and 8%. 

The reason that economic growth has been sluggish in the main capitalist heartlands of North America and Europe, is not the direct consequence of the 2008 financial crisis, nor any underlying economic crisis, but is the direct consequence of conservative governments in those economies deliberately imposing measures of austerity to restrict economic growth! 

The financial crash of 1962 is consistent with that process whereby economic growth begins to result in a rise in the demand for labour-power, relative to supply, which begins to cause wages to rise, and squeeze profits. The rising demand for labour-power is consistent with the expanding economy at that point, and rising wages creates a demand for an expansion of the production of wage goods. In such conditions, no individual capital wants to miss out on the possibility of an increased market share, and so each capital is forced, by competition, to expand at a faster rate, even as the profit margin on this additional output is squeezed. Hence the demand for money-capital rises, at a time when the supply of money-capital is relatively constrained. In other words, the requirement to expand creates a demand for additional money-capital, but squeezed profits reduces the amount of new money-capital available from those realised profits. 

This is also the point that Marx makes in Capital III, examining the interest rate cycle, and its relation to real capital accumulation. In other words, as described previously, in the stagnation phase, the supply of money-capital exceeds the demand, causing interest rates to fall. In the succeeding prosperity phase (Spring Phase of the long wave) as economic activity rises, the higher rate of surplus value, and profit, established in the previous phase, enables this increased activity to be turned into much larger masses of profits, because the previously accumulated reserves of labour-power continue to be available so that wages do not rise rapidly. As Bob Sutcliffe points out that was the condition between 1945 and the early 1960's, and it is supplemented by bringing more women workers, and immigrants into the workforce. Although the demand for money-capital rises, as a result of increased activity, the increase in the mass of profits means that the supply of money-capital rises with it, so that although interest rates do not continue to fall, nor do they rise. 

Its when this prosperity phase transitions into the boom phase (Summer Phase of the long wave) that the demand for additional money-capital begins to outstrip the supply, because growth accelerates, whilst profits are squeezed, as wages begin to rise. That is what happened in 1962. The financial crash, as with the situation in 1847, 1857, and similarly with 2000, and 2008, was clearly not provoked by any underlying economic crisis. The economy in all these cases was growing at a rapid, and increasing pace, and profits were high. The financial crisis is provoked rather by a conjunctural shift, which results in a rise in interest rates, which thereby reverses the previous conditions whereby interest rates were falling, or low and flat, which had caused asset prices to be inflated. 

In fact, as I have written previously, there is a discernible 12-13 year cycle of financial crashes, which can be connected to these conjunctural shifts, with financial crashes in 1962, 1974, 1987. 2000. The crash of 2008 is an anomaly, therefore. The source of that anomaly, I suspect is attributable to the Greenspan Put. In other words, I suspect that the increasing resort to money printing by central banks, particularly in the US, and the reduction of official interest rates, as a means of increasing liquidity, so as to prevent asset price deflation, led to the kind of hyperinflation of asset prices that have been seen in the last 40 years. That caused the inflation of those asset prices to rise far more than would have been the case purely on the basis of a natural fall in interest rates driven by the factors described above. After the crash of 2000, and particularly following the effects on markets that followed shortly afterwards, as a result of 9/11, central banks deliberately increased liquidity, so as to reflate asset prices. Global economic growth increased significantly in the period after 1999, but for the reasons described earlier, by central banks diverting potential money-capital into speculation in assets, that global growth, and of profit, was actually less during that period than it would have been had all available savings flowed into real capital accumulation, rather than a large part of it flowing into speculation in stock, bond and property markets. 

It created the conditions that have been discussed extensively, and depicted, for example, in the film The Big Short, that meant that these asset price bubbles were inflated in a way that destabilised the financial system, and made them even more susceptible to any change in interest rates. Otherwise, real capital accumulation during that period would have been greater, creating a much larger mass of surplus value, available for distribution as profit, interest and rents, which would have more sustainably supported asset prices, especially asset prices that had not been so astronomically inflated, which led to ultra-low yields on those assets. Even the hint of higher interest rates in 2008, as wages started to rise, opening up, as in 1962, the potential of a squeeze on profits, was enough to cause asset prices to start to fall, and as asset prices began to fall, eventually, no amount of deceit about the condition of financial institutions, and the myriad of derivative financial products, could prevent the web from unravelling, and for credit to dry up, leading to the series of defaults that led to the financial meltdown of 2008. 

On the basis of previous cycles, it would not have been expected that accumulation would have proceeded sufficiently until around 2012-13, before that profits squeeze, and conjunctural shift in interest rates would have occurred. The actions of central banks in the preceding 20 years, brought forward the crash to 2008. But, the doubling down of that programme of injecting ever more liquidity, together with the programme of austerity to limit the extent of economic growth, and thereby limit the demand for money-capital, so as to keep interest rates low, has meant that, in reality, the conjunctural shift has merely been spread over a longer period. In the same way that the crash was brought forward from 2012-3 to 2008, so the completion of that crash has been pushed back to 2018/19. The coming crash will be simply the continuation, and culmination of the 2008 crash. This hiatus in the conjuncture is why I also now believe that the current phase of the long wave will be extended to 2030, from 2025, before the onset of the next crisis phase. 

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