Monday, 7 January 2019

Predictions For 2019 (6) - The 2008 Financial Crisis Is Concluded

The 2008 Financial Crisis Is Concluded 

The 2008 financial crisis was merely suspended, as a result of state and central bank intervention, in 2008/9. This year will see a resumption, and conclusion of that crisis. A taste of it is, probably, already to be seen in the 20% drop in US stock prices that has already occurred, the re-emergence of volatility, with repeated, large, triple digit declines that significantly outnumber the smaller, subsequent rallies - I reserve judgement on whether this is, actually, the start of the big one until more data presents itself. 

I have previously described the 13 year cycle of stock markets. There were sizeable stock market crashes in 1962, 1974, 1987 and 2000. These crashes are related to the conjunctural shifts in the long wave cycle, resulting from changes in profits and the rate of interest. The determinants of asset prices – be it of land (rent), bonds (coupon/interest), or shares (dividend/interest) – are these revenues they produce and the market rate of interest. If the rate of interest is constant, whilst revenues rise – because the rate or mass of profit rises, so that rents, and interest/dividend payments rise, then the capitalised value of these revenues will rise, i.e. land, bond and share prices rise, and vice versa. Similarly, if revenues are constant, but the rate of interest rises, asset price will fall, and vice versa. These conditions can be combined, so that the result depends upon whether a rise in interest rates outweighs any rise in revenues, causing asset prices to fall, and vice versa. 

In 1962, the global economy entered the Summer phase of the long wave cycle. It meant that economic growth, including a growth in the mass of profits, goes along with an increasing difficulty in expanding absolute surplus value, by expanding the social working-day. As Glyn and Sutcliffe demonstrated, it results in a steadily rising wage share – manifested not just in rising wages, but also in a rising social wage – which acts to squeeze the rate of profit. These are basically the conditions that Adam Smith outlined, as a cause of such a squeeze on profits, which leads to crises. The social working-day expands at a lower rate, now limited by population growth, but the continued demand for labour, all the more, causes wages to rise, thereby causing the wage share to rise, and causing the rate of surplus value to be squeezed. 

The consequence is that as wage share rises, the demand for wage goods rises. Firms are forced to invest, in order to expand production of wage goods, for fear of losing market share in this growing market, and thereby of also losing out in increasing their mass of profits. It is demand causing an expansion of the market which is the driver of investment, and as Marx points out, in Capital III, in responding to Ricardo, who thought that it was rising prices/profits that drove investment, firms invest on the understanding that the market will expand each year, and, in turn, their investment does itself provide the means for an expansion of the market. 

As firms are led to invest, to capture their share of this growing market, whilst their profits start to be squeezed by rising wages, they have to either utilise a larger proportion of their profits to pay for this investment, as opposed to putting that money into the money-market, or they have to themselves go into the money-market, to borrow money to pay for their investments. The effect is the same, it causes the demand for money-capital to rise relative to the supply so that the market rate of interest rises. As the market rate of interest rises, so asset prices fall. After 1962, the global economy, and mass of profits was still rising sharply. This was still the uptrend period of the long wave cycle. But, a look at the inflation adjusted performance of the Dow Jones, between 1965-1985, illustrates the point. During that period stock prices fell, in these inflation adjusted terms, i.e. inflation rose at a faster pace than the rise in the Dow, and a similar pattern would be seen for other assets. 

In 1974, the long wave cycle experienced another conjunctural shift. The long wave uptrend came to a halt, heralding a 25 year downtrend of the cycle. As I have explained, elsewhere, in relation to the long wave, this does not mean an absolute decline, but a relative decline, in other words, growth, during this period, is below the long term average. In the period after 1974, the squeeze on profits, becomes much more acute. As Marx describes, in this crisis phase, interest rates reach their peak, as firms start to find that they begin to demand money-capital, not to finance expansion, but simply as currency, to pay their bills, to stay afloat. The sharpest decline in the Dow, as the graph shows, is during this period between 1974-1985. 

The period of long wave downtrend is marked by two distinct phases. The first phase that can be said to run from around 1974-1987, is the crisis phase. During this phase, new labour-saving technologies are introduced to remedy the squeeze on profits, by displacing labour, and so reducing wage costs. This is the condition that Marx describes as creating the conditions for his law of a falling rate of profit, as distinct from that of Smith or Ricardo. Towards the end of this phase, rising productivity, has resulted in a rise in the rate of surplus value, as wages are reduced, and a fall in capital-value  – because higher productivity reduces commodity values, and also causes a moral depreciation of the existing fixed capital stock, due to large amounts of new technologies being introduced – which causes the rate of profit to rise. The rise in the mass and rate of profit, together with the cheapening of the commodities that comprise the elements of capital, means that alongside the rise in the rate of profit, a large quantity of capital is released as revenue, so that the supply of loanable money-capital starts to rise relative to the demand. The demand is also constrained during such a period, because of labour bing displaced, which puts a limit on consumption. The consequence is a secular fall in interest rates, which could be witnessed from around 1982. 

So, we now have a situation from around 1982, where the mass of profit is rising, facilitating additional payments of rents, interest, and dividends, but where the rate of interest starts to fall. Both determinants of the capitalised value of assets, therefore, work in the direction of driving those prices higher. That can be seen in the inflation adjusted chart for the Dow Jones. In nominal terms, the Dow went from 824, in 1980 to 2810 in 1990, a rise of 241%. Between 1990, and 2000, it rose to 11,723, a rise of a further 317%, or put another way more than 1300%, higher than it had been in 1980. To, put that in perspective, between 1950 and 1980, the Dow rose by only 312%. Between 1970 and 1980, it rose by only 1.85%. As a further comparison, between 1950 to 1980, US GDP rose, by 848%, or more than twice the rise in the Dow. Between 1980 and 2000, US GDP rose by only 256%, or about a fifth of the rise in the Dow. 

To illustrate this further, it can be seen in UK house prices. During the 1980's, UK house prices quadrupled, with a particular surge towards the end of the decade, when prices more or less doubled, before crashing by 40%, in 1990, as interest rates began to rise. 

And, this illustrates the other characteristic of these periods of long wave downtrend, when interest rates are in a process of secular decline. The rise in asset prices they bring with them encourages speculation in these assets. As that leads to the inflation of bubbles, those bubbles periodically burst, and the lower interest rates go, in absolute terms, the more susceptible the bubbles are to bursting, with only marginal changes in interest rates, or revenues.

A similar bubble could be seen in 2000, particularly in relation to technology shares, and the subsequent crash, saw the technology based NASDAQ index, fall by 75%. 

So, the financial crash of 2008, seems out of synch, with this 13 year cycle, although there is evidence of a shorter 7 year cycle of corrections that could account for it, for example, there was a correction in 1994, when central banks began to try to raise official interest rates. However, I think there is a more significant explanation, as I have set out in the past. What has been markedly different during this long wave cycle, is that a) the nature of wealth, in the hands of the top 0.01%, as fictitious capital becomes important, and b) because of the former, central banks have seen it as their role to protect that paper wealth, by printing money to directly buy assets, and to do so at the direct expense of the real economy. 

Looking at the chart of the Dow, in the period after 1929, it bounced, but then, in inflation adjusted terms, never recovers its previous level, until starting to rise again around 1950. The 1929 crash, in long wave terms, corresponds with the 1987 crash. The difference is that in 1987, faced with the biggest crash in history, and with all of the wealth of the top 0.01% held in the form of these paper assets, the state and central banks felt compelled to respond. Alan Greenspan, the recently installed Chairman of the Federal Reserve, who had been a disciple of Ayn Rand, and a devotee of sound money, based upon gold, found himself, becoming a proponent of loose money policies to reflate these collapsing assets. 

This policy of printing money, of cutting official interest rates whenever there was even a whiff of asset prices faltering became known as “The Greenspan Put”. It meant that gambling in these assets, be they shares, bonds or property, became virtually risk-free, because whenever this speculation resulted in the bubbles bursting, the central banks could be counted on to step in to print money, and buy up assets, so as to push those prices back up again. And, remember that this is at a time when the stagnation phase of the cycle is still in operation (1987-1999), which tends to cause asset prices to rise anyway, because rents, and dividends are rising, whilst interest rates are falling. It's no wonder then that between 1980-2000, the Dow rose by 1300%, or about 5 times the rise in US GDP, and by 317%, just between 1990-2000. 

There is a parallel here with the use of Keynesian fiscal stimulus in the period after WWII. I have described before that, in conditions of long wave uptrend, Keynesian fiscal stimulus can act to cut short recessions, when they occur. Mandel in The Second Slump, points to five such occasions. As I've described before this can work for the reason Marx describes in his critique of Ricardo. Firms accumulate capital in the expectation that the market will be expanding. In periods of long wave uptrend this is generally the case. Firms see periods when the market is shrinking as temporary phenomena. In general, during such periods, if there were no intervention, the recession would be a bit longer, but the recovery would be stronger and more dynamic. However, in the post-war period, having experienced both the war, and the mass unemployment of the 1920's and 30's, with a prolonged depression, together with the rise of fascism in Italy, Germany, Spain etc. it was understandable that the social-democratic regimes of the post-war period should focus on stopping rising unemployment in its tracks, whenever it appeared. 

The time, actually, when Keynesian fiscal stimulus should have been used was not the 1950's and 60's, but was the 1930's, when interest rates were falling, as indeed it was in Germany, in Norway, and in the US, under Roosevelt. The use of Keynesian fiscal stimulus, in the post-war period, cut short recessions, but it prevented some of the dead wood being removed from the system, and it prevented interest rates falling as much as they otherwise would have done. It created, by the time the crisis phase of the 1970's came along, the conditions for interest rates to be pushed higher, to “crowding out”, and to rapidly rising commodity price inflation. When the crisis phase of the long wave cycle becomes established that belief in the market expanding each year, starts to become reversed. Firms start to think that increases in the market are the exception, and so stop planning on expansion. Moreover, faced with rising wages, labour shortages, and squeezed profits, to the extent they do look to invest, it is not to expand, but to introduce new labour-saving technologies. This becomes a period of intensive rather than extensive accumulation. 

When, in the 1970's, governments attempted to stimulate aggregate demand, via Keynesian demand management, firms saw the short term improvement, merely as temporary, and an opportunity to raise their prices, not to expand production. And, the investment in labour-saving technologies meant that any growth went along with continued rising unemployment, as labour was displaced by that technology. 

In the period after 1987, we have seen a similar thing in reverse. It was a period when interest rates were falling. So, states could have used fiscal stimulus to ameliorate recessions, and to encourage growth. Instead, they implemented policies of austerity, whilst implementing policies of money printing, to buy up assets. The fiscal stimulus of the 1970's, resulted in high levels of commodity price inflation, and the monetary stimulus of the 1990's and 2000's, led to a hyper-inflation of asset prices. And every time that these asset price bubbles burst after 1987, more money was printed to buy them up to reflate them. So, whilst the next major financial crash would normally have come in 2013, all of this monetary stimulus and intervention over the previous 20 years, meant that when, in 2007/8, rising growth, meant that interest rates began to rise, even marginally, it prompted a huge sell-off in those assets. 

The even more massive money printing, along with the nationalisation of the banks, the buying up of bad mortgages, and even the bail-out of home-buyers, the direct subsidy of property prices, as with the Help To Buy scam in Britain, and the subsidy to landlords via £9 billion a year in Housing Benefits, stopped the crash in financial markets. It was partly paid for by taxes that would otherwise have gone into the real economy. And, to prevent economic growth again pushing up interest rates, governments in the UK and Europe introduced measures of austerity, which Republicans in the US also sought to copy. 

The 2008 financial crash was a manifestation of the fact that all of the 20 years of monetary stimulus had caused the crash due in 2013 to be brought forward. All of the attempt at austerity to hold back growth to prevent interest rates rising have failed. The global economy is growing, global employment has continued to grow. Despite Trump's idiotic economic and trade policies, the US economy continues to grow rapidly, with employment in December rising by more than 300,000, and with a 50,000 plus upward revision to previous month's figures. US hourly wages rose by 0.4% for the month, equivalent to about 5% p.a. 

Put another way, that 300,000 additional jobs means that, approximately, an additional $10 billion of wages is being put into US aggregate demand. If the same rate applied for a year, that is an additional $120 billion of aggregate demand into the US economy. That is before we even consider the surplus value produced by these additional workers, and so the additional aggregate demand that is created by the additional revenues of profits, rent, interest and taxes flowing from it. 

These are the same conditions of rising growth, rising employment, and consequently rising interest rates that caused the crash of asset prices in 2008. Rising interest rates across the globe are causing asset prices to fall, and that takes the form of a more marked fall in the prices of riskier assets, and objects of pure speculation such as crypto-currencies. Bitcoin has fallen by around 70%, other cryptocurrencies have fallen by more. Assets in emerging markets have sold off considerably, and riskier bonds, have also sold off. The US stock markets have sold off by around 20% already. A consequence has again been that with all these risky assets selling off across the globe, money has flowed towards what speculators consider to be safer haven assets, such as US Treasury bonds, which have had a short term rally. But, that situation is only temporary. US Treasury bonds will also continue the sell-off that started last year, seeing yields rise progressively higher. 

The extent of the bubbles in asset prices blown up in the last thirty plus years, and even blown up since the 2008 crash, means that we are likely to see another large financial crisis, like 2008, but what we are also likely to see, is a repetition of what happened between 1965-1985, which is that alongside these large slides in asset prices, there will be subsequent but weaker asset price recoveries, and a longer-term inflation adjusted fall in asset prices over the next 25-30 years.

No comments: