Stephen King, taxes and charities

What’s wrong with charities?  Well, nothing in themselves; people want to help others in difficulty and do so every day. It’s just that in a modern capitalist world, charity has been usurped into a business that employs thousands to raise funds (some of whom earn fat salaries administrating it) to squeeze ordinary people on the streets to make donations, while the very rich make donations in order to avoid paying huge amounts of tax that they ought to make.  Thus, charitable organisations now oppose any attempt to reduce exemptions and tax allowances for the rich in case it damages charitable donations, while democratically-elected governments are starved of tax revenues from the very people who could afford to pay up.  This reduces what an elected government has to spend on the ‘public good’.

Charitable donations backed by tax exemptions make helping the worse-off at the whim of the rich.  As you can guess, it does not work very well. It leaves the decision on who gets what in help to the rich individual and not a democratic government, while at the same time letting the rich pay lower taxes, so many of these rich people are not make any net contribution at all!

Indeed we know from surveys that the rich pay less as a share of the annual incomes that the average income earner.  On the whole, the poor help the poor and the rich don’t.  And yet they are feted in the media and by politicians etc as great ‘philanthropists’.  So they pay less proportionately, but get all the praise for being great people!  Such is the charity business.

The American author, Stephen King, summed it well in a recent expletive ridden article: Tax Me, for F@%&’s Sake!. The writer scolded the super rich (which includes himself) for Scrooge-like attitudes. “In February, while discussing New Jersey’s newly amended income-tax law, which allows the rich to pay less (proportionally) than the middle class, Chris Christie (the Governor of New Jersey) was asked about Warren Buffett’s observation that he paid less federal income taxes than his personal secretary, and that wasn’t fair. “He should just write a check and shut up,” Christie responded, with his typical verve. “I’m tired of hearing about it. If he wants to give the government more money, he’s got the ability to write a check—go ahead and write it.”

King goes on: “Heard it all before. Cut a check and shut up, they said. If you want to pay more, pay more, they said. Tired of hearing about it, they said.  Tough shit for you guys, because I’m not tired of talking about it. I’ve known rich people, and why not, since I’m one of them? The majority would rather douse their dicks with lighter fluid, strike a match, and dance around singing “Disco Inferno” than pay one more cent in taxes to Uncle Sugar. It’s true that some rich folks put at least some of their tax savings into charitable contributions. My wife and I give away roughly $4 million a year to libraries, local fire departments that need updated lifesaving equipment (Jaws of Life tools are always a popular request), schools, and a scattering of organizations that underwrite the arts. Warren Buffett does the same; so does Bill Gates; so does Steven Spielberg; so do the Koch brothers; so did the late Steve Jobs. All fine as far as it goes, but it doesn’t go far enough.”

King then commented about the role of charity versus social spending “What charitable 1 percenters can’t do is assume responsibility—America’s national responsibilities: the care of its sick and its poor, the education of its young, the repair of its failing infrastructure, the repayment of its staggering war debts. Charity from the rich can’t fix global warming or lower the price of gasoline by one single red penny.  And hey, why don’t we get real about this? Most rich folks paying 28 percent taxes do not give out another 28 percent of their income to charity. Most rich folks like to keep their dough. They don’t strip their bank accounts and investment portfolios. They keep them and then pass them on to their children, their children’s children. And what they do give away is—like the monies my wife and I donate—totally at their own discretion. That’s the rich-guy philosophy in a nutshell: don’t tell us how to use our money; we’ll tell you.”

And as for arguing that rich people getting richer helps the economy with the usual story that rich people’s incomes ‘trickle down’ to the rest of us, King retorts “Here’s another crock of fresh bullshit delivered by the right wing of the Republican Party (which has become, so far as I can see, the only wing of the Republican Party): the richer rich people get, the more jobs they create. Really? I have a total payroll of about 60 people, most of them working for the two radio stations I own in Bangor, Maine. If I hit the movie jackpot—as I have, from time to time—and own a piece of a film that grosses $200 million, what am I going to do with it? Buy another radio station? I don’t think so, since I’m losing my shirt on the ones I own already. But suppose I did, and hired on an additional dozen folks. Good for them. Whoopee-ding for the rest of the economy.”

As King says, it is the other way round. The rich are rich because the poor helped them to get rich.  “What some of us want—those who aren’t blinded by a lot of bullshit persiflage thrown up to mask the idea that rich folks want to keep their damn money—is for you to acknowledge that you couldn’t have made it in America without America.  That it’s not fair to ask the middle class to assume a disproportionate amount of the tax burden. Not fair? It’s un-fucking-American is what it is. I don’t want you to apologize for being rich; I want you to acknowledge that in America, we all should have to pay our fair share.”

King’s points are brilliantly clear.  The rich are rich not because they are wildly clever but because millions have worked for them to deliver their wealth and yet the rich moan if they have to make even an equal contribution to society through taxation.  And as we know, multi millionaires like US Republican presidential candidate Mitt Romney paid only 13% of his income in tax last year, or less than 40% of the burden for the average American.

And the Great Recession has not led to the rich losing their wealth.  The Sunday Times Rich List reveals who are the richest people in the UK.  The report shows that the 1,000 richest persons in the UK have increased their wealth by so much in the last 3 years – £155bn – that they themselves alone could pay off the entire UK budget deficit and still leave themselves with £30bn to spare which should be enough to keep the wolf from the door.   The ultra-rich are now sitting on wealth even greater than what they had amassed at the height of the boom just before the crash. Their combined wealth is now estimated at more than £414bn, equivalent to more than a third of Britain’s entire GDP. They include 77 billionaires and 23 others whose wealth exceeds £750m.  And these are some of the very people to whom UK chancellor George Osborne gifted £3bn in his recent budget by cutting the 50p tax rate. That measure alone gave 40,000 UK millionaires an extra average £14,000 a week, at the same time as those on very low incomes in receipt of working tax credits who couldn’t find an employer to increase their hours of work from 16 to 24 a week were being deprived in the same budget of £77 a week, around a third of their income, through their tax credits being withdrawn.  In 1997 the wealth of the richest 1,000 amounted to £99bn. The increase in their wealth over the last 15 years has therefore been £315bn. If this increase in wealth were subject to capital gains tax at the current 28% rate, it would yield £88bn, and that alone would pay off more than 70% of the total budget deficit.

A proper democratic society (socialist?) would have a progressive tax system that built on the principle that the rich should pay more proportionately for the public good if they get richer.  This is so much better a system than charitable donations.  The poor, the disabled, the deprived and the sick and dying would not have to depend on the whims of rich benefactors but on the power of the whole of society.  It would be from each according to their abilities and each according to their needs.  Where have I heard that before?

The long depression – the waste of capitalism

The latest high frequency data on the state of the world economy are now available for April.  I use a combined index of activity in manufacturing and services in the major capitalist economies based on the so-called purchasing managers indexes (PMIs).  Starting with the US, it shows that the US is still in a low-growth trajectory and not in recession or boom, although the direction is downwards.

This is confirmed by the even more frequent, but less reliable, ECRI weekly index.

And for the world as a whole and other regions, it is much the same story – when the PMI for a country is above 50, it is expanding and below means contraction.

Only the Eurozone is in a confirmed recession.  Even the UK is still in a low growth expansion, contrary to the first estimates for UK GDP in Q1’12 that indicated that it was in a technical recession (see my post, Britain’s technical recession, 25 April 2012).  It is likely that those UK GDP figures will be revised up to a small positive position.  But overall, it suggests that the world economy is growing at about 3% a year, with the US at around 2% and the rest at under 1%.  The graphic below shows where the G7 top capitalist economies were sitting at the end of 2011.

World capitalism’s recovery from the Great Recession is the weakest turnaround from a slump since the 1930s. In effect, world capitalism, at least its mature capitalist economies, is in a long depression.  In many economies, the previous peak in output before the slump has not been surpassed.  Only the GDPs of North America and Germany have achieved that.  The rest of Europe and Japan are still in a slough of despond some four years since the Great Recession began.

Even more defining is the sheer waste of the capitalist mode of production.  Factories are idle or under-used, many more millions are out of work (labour participation rates in the major economies have never been lower) and output has been lost forever.  After the deep ‘double-dip’ recession of the early 1980s, the US economy took three years to get back to the level of GDP that it would have achieved if there had been no slump.  Potential output of some $1 trillion was lost forever (that’s the gap between actual output and potential output from 1982 to 1985 in the graph below).

But this time it ‘s much worse.  About $1.5 trillion dollars of output (or over 10% of potential GDP) was lost in the Great Recession of 2008-9, but the recovery is so weak this time that output cannot catch up to where it would have been without the slump and there is now a permanent loss of output of nearly $1 trillion a year (6% of potential GDP) and no sign that the gap is going to be closed.   And this is just the US economy, which is doing relatively better than others.

And, despite all the ‘deleveraging’ of ‘excessive debt’ , massive job losses and the shrinking of assets, profit growth in the major economies continues to slow.  US profits are still growing at a 7% annual pace, but in Germany, the UK and Japan, profits are now contracting.

The depression in Europe is particularly severe.  The Eurozone unemployment rate has hit 10.9% — its highest level since the euro was launched in 1999.

The long depression continues.

The UK’s weak recovery and profitability

The right-wing free market rag, City AM, hit on an important aspect of the UK economy in an editorial this week (http://www.cityam.com/latest-news/allister-heath/secret-collapse-corporate-profits-hurting-uk-s-recovery). Its editor, Allistair Heath, announced that there was a “secret collapse in corporate profits” that ” is hurting the UK’s recovery“.   Heath pointed out that “the supposedly well-established fact that profits are booming despite the recession” is not correct for the UK economy.  It may be “the story in America and in emerging markets … but the general picture for profits generated in the UK is actually pretty gloomy.”   Indeed, “the bounce-back in UK profits in 2009-10 has already been dramatically reversed, with the share of profits by private companies (excluding oil and financial firms) down from 18.2 per cent of GDP in the second quarter of 2007 (prior to the popping of the bubble and subsequent recession) to 14.6 per cent of GDP in the fourth quarter of 2011.”  Heath then quotes Michael Saunders of Citicorp that  “profits account for their lowest share of GDP since 1984.”

But Heath’s revelation should not be new to readers of my blog.  I raised just this point way back in January (see The UK rate of profit and others, 4 January 2012).  This is what I said then: “The UK authorities publish their own measure of the rate of profit in UK non-financial companies also using the net operating surplus divided by net fixed assets (but measured at replacement costs).  They have just released the latest quarterly figures, for Q3 2011…..They confirm my own finding that the UK non-financial corporate rate of profit peaked at the end of 2007, then slumped 30%  to Q3’2009.  Since then there has been a 21% recovery in the rate of profit, although it is still not back to the peak of end-2007.  Interestingly, the UK authorities report that the rate of profit in the manufacturing sector has continued to fall and is now at its lowest level since records were kept in 1997.  It’s the services sector that has driven the rise in the rate of profit.  And I added that “the recovery in the mass of profits has been less than in the US.  At the end of 2010, the mass of profits in the UK was still some 6% below the peak of 2007, although up from the trough of 2009.  In 2011, there has been no real further recovery.”

It’s the figures for the last quarter of 2011 that Heath has latched onto, using the analysis of Citicorp.  In the graphic below, I reproduce figures for up to Q4 2011, but using the net profit rate for all UK corporations and for the manufacturing sector.  The graphic shows that UK profitability is still some 27% below its peak in Q4’2007 for all corporations, and has hardly recovered since the trough of Q3’2009.  It’s even worse in the manufacturing sector.  Profitability there is 58% down from its peak in early 2008 and is now at a low since records began.

Even the mass of profits for UK companies has not returned to the peak before the crisis.  Total profits are still 9% below the level reached in early 2008.

Now Heath concludes that this poor profitability is due to British workers gaining a larger share of new value and thus squeezing profits.  He argues: “labour’s share of UK GDP has risen from 60.1 per cent at the start of 2008 to 62.9 per cent at the end of last year, well above the 1985-2010 average of 61.7 per cent, according to Citigroup.  Workers are being priced out of work. … This cannot last: unless growth recovers very quickly, real wages are going to have to fall.“  So it’s the fault of the workers not capitalist production and the answer is a cut in wages.  For Heath there is no way round this as “collapsing profits are the key reason why firms are not investing more. If they have spare capital, they are better off pulling it out of the UK and investing in an emerging nation. Companies invest and hire for one reason only: to make money. …Unless the UK becomes a more profitable place for firms to conduct business, we will be condemned to years of falling real wages, scandalously high unemployment and economic stagnation.”

Heath is right that, under capitalism, unless profitability rises, production and employment will stagnate or fall.  From a capitalist point of view, wage cuts will help.  The decline in UK profitability began in 1997  as the graph above shows.  This coincided with a rise in labour’ s share, which suggests that profitability has fallen because wages have held up.

But that’s too simple.  Employee compensation as a share of GDP usually rises in capitalist slumps because profits and investment collapse first before employment and worker’s incomes, but then it falls back as profits recover.  Employee compensation as a share of UK GDP was 54.6% in Q4’2011, according to the official figures (not Citicorp’s).  That’s only slightly above the average for the period from 1985 of 54.1%, that Citicorp refers to.  And it’s well below the average since 1955 of 56.7%.  More important, it’s actually down from a peak at the middle of 2009 of 56.3%, even if it is up from the beginning of 2008.  In statistics, you can choose your date and get what you want.  It’s called cherry-picking.

On official figures, labour’s share of UK GDP has been falling since 2009 and yet UK corporate profitability is still weakening.  So it cannot be labour’s fault.  Indeed, household real disposable income per capita has been falling for seven consecutive quarters.

What is the reason for falling profitability if it is not a rise in labour’s share of GDP?  The problem is ‘dead capital’, or excess capacity in the UK capitalist sector.  This must be cleared before profitability will rise sufficiently for investment to resume.  Since 1997, when the overall rate of profit peaked in the UK (see graphic above), the mass of profits has risen 38%, but capital stock has jumped 65%.  So it’s the falling productivity of capital that is the problem, not a rising share of new value going to labour.   And until profitability rises, as Heath says, UK capitalists are on an investment strike.  UK businesses are still investing 15% less than they did before the crisis at end 2007.

Heath says the other reason the UK economy is not recovering is that banks cannot lend to businesses because they are hamstrung by too much regulation.  Bank lending to businesses is down 3% over the latest 12 months, continuing a fall that began in the early part of 2009.  Lending to small businesses is down roughly 10%.   As Heath says: “It is not unusual for lending to firms to be weak in the aftermath of a recession. Banks become risk-averse. After the recession of the early 1990s, when they suffered large losses on their small firm loan books, business lending was also negative.  We have, however, now gone beyond the point at which business lending should be turning positive. In the 1990s it was two and a half years into the recovery. This recovery is now near its third anniversary and business lending continues to fall inexorably.”

The answer for Heath is to end the ‘over-regulation’ of the banks: “Unless somebody in authority gets to grips with the conflicts between regulation and growth and realises a credit-starved economy will always struggle, we can only expect more disappointing GDP figures.”  But this is codswallop.  The fall in lending is not because of too much regulation.  It is demand-driven. The evidence is clear from the Bank of England’s’ own survey.  Nobody wants to borrow money.

Demand for loans by small businesses collapsed back in mid 2010.   They had too much debt and did not want to borrow more when revenues plummeted.  Large companies don’t want to borrow either and need to less because they have built up stockpiles of cash (see my post, Why is the US recovery so weak? – look at profitability, 3 April 2012).  Why borrow more when profits are down and prospects are poor?

Effective demand, liquidity traps and debt deflation

Paul Krugman has laid into Ben Bernanke, the head of the US Federal Reserve, for stopping his previous policy of easy money and quantitative easing.  By pausing, Krugman reckons that the Fed could allow the US economy to slip back into recession: “He has not done remotely enough. The Fed, under its eminent chairman, was supposed to be an important part of the solution to mass unemployment. That isn’t happening.” (http://www.nytimes.com/2012/04/29/magazine/chairman-bernanke-should-listen-to-professor-bernanke.html?pagewanted=4&_r=1&ref=magazine).

The thing is that Ben Bernanke is not a Keynesian.  He is really a follower of Milton Friedman, the deceased right-wing Chicago economist and adviser to the Chilean dictatorship of General Pinochet in the 1980s.  Friedman started off as a Keynesian, but eventually argued that depressions are caused by the lack of sufficient money supply (the quantity theory of money).  Central banks need to get the right amount of money supply in an economy to get it to grow at full employment: too little and you have a recession or even depression as in the Great Depression; too much and you get inflation.  So recessions are the fault of central banks.

Bernanke agrees with this theory.  As he said at Friedman’s 90th birthday tribute: “regarding the Great Depression, you’re right.  We did it.  But thanks to you, we won’t do it again.”  He meant that the Great Depression was the fault of a Federal Reserve that released too much money into the economy and then took it away too quickly.  Now Bernanke wants to avoid a debt deflation, where debt rises in real terms because inflation turns into deflation in a slump.  But he also wants to avoid inflation.  Right now, at least according to his latest Fed statement last  Wednesday, he is not sure which way the economy is going.  So he is sitting on his hands and pausing on any further quantitative easing.  Bernanke  said in his press conference that his current policy, given that there is inflation, is completely consistent with his old views on the Great Depression.

Krugman wants more action, presumably more QE, as he reckons  the economy is in a Keynesian ‘liquidity trap’, where companies are not investing and households are not spending and instead are ‘hoarding’ cash, even though interest rates are near zero (at least from the Fed) and borrowing is cheap.  For Keynesians like Krugman, government spending is fine under certain conditions: when there is liquidity trap; when there is high unemployment and when the lack of demand persists.  Then the multiplier effect on GDP growth from more spending can be high (see Pontus Rendahl, A case for balanced budget stimulus, 26 April 2012, www.voxeu.org).

The Modern Monetary Theory (MMT) guys reckon that it does not take a liquidity trap to prolong a depression.  If there is no demand for credit, then no amount of leading a horse to the trough will work.  So the MMT guys want fiscal action through more government spending.  As Bill Mitchell put it in his blog (http://bilbo.economicoutlook.net/blog/): “The Modern Monetary Theory (MMT) does not rely on the existence of a “liquidity trap” (however conceived) to make a case for the effectiveness of fiscal policy. Paul Krugman and others, who currently advocate the the use of fiscal policy, only do so because they claim there is a liquidity trap which renders monetary policy ineffective. However, in normal times they advocated the primacy of monetary policy.  MMT can demonstrate the ineffectiveness of monetary policy outside of a liquidity trap. The reality is that policy makers have very little idea of the speed and magnitude of monetary policy impacts (interest rate changes) on aggregate demand. There are complex timing lags given how indirect the policy instrument is in relation to its capacity to influence final spending.  Further there are unclear distributional effects – creditors gain when rates rise, debtors lose. What will be the net effect? Central bankers do not know the answer to that question. Monetary policy is also a blunt policy instrument that has no capacity to target specific segments of the spending population or regions.  We always knew that. …  By continuing to see quantitative easing as the solution, the more progressive mainstream economists have also caused the current crisis to be extended.”

That brings me back to my previous post (Paul Krugman, Steve Keen and the mysticism of Keynesian economics, 21 April 2012) and taking it a little further.  Some comments on my last post on Keynesian economics suggested that I had been too harsh on Keynes and his followers, not distinguishing clearly enough between ‘New’ or ‘Post-Keynesians’ who had watered down Keynes so his theory could be synthesised with neo-classical economics.  Keynes, himself, was much more radical, says Krugman.  Well maybe.  Keynes himself considered his ideas as “moderately conservative in its implications”.  But then Keynes changed his views and his opinions on a regular basis.  Once, when questioned about his inconsistency by his neoclassical critics, he said “well, when the facts change, I change my ideas, don’t you?”.  The trouble is it depends on whether the facts have changed or just your view of them.

One of the main issues for me is whether Keynesian claims about the lack of ‘effective demand’ constitute a causal theory of crisis or just a tautology.  Is not the lack of effective demand really a description of a slump rather than its cause?  Paul Krugman, in a little piece called Reading Keynes, tells us that where aggregate demand intersects with aggregate supply, we can find ‘effective demand’ and this equilibrium point could be well below that necessary for full employment in an economy.  This is the key argument of Keynes against the neoclassical school of economics, who claim that supply will create sufficient demand to avoid unemployment.  This is Keynes refuting the fallacy of the so-called Say’s law that claims supply creates its own demand. This is supposed to be startlingly new, although several economists in the 19th century, including Marx, had already shown this.

In his well-known (among economists) attack upon the failure of neoclassical economics to explain economic recessions and particularly the Great Recession (How did economists get it so wrong? 6 September 2009, NYT Magazine), Krugman presents his ‘co-op babysitting’ example. He says “a recession is a problem of inadequate demand.  There isn’t enough babysitting demand to provide jobs for everyone who wants one.”  But this is not an explanation, but a description.  Inadequate demand arises in the baby coop because people hold onto the money rather than buy babysitting services.  This is really yet another refutation of Say’s law.  All it shows is the possibility of a breakdown between buying and selling because of money.  Marx had described that possibility over 150 years ago.  It’s not new.  But in Krugman’s example, there is no explanation of why or when the coop starts hoarding money rather than spending it; it just starts happening.  Krugman puts it down to ‘irrational’ people and ‘imperfect’ markets (the latter, a neoclassical explanation).

It’s the same problem with the explanation of depression as due to a liquidity trap i.e we get to ‘zero bound’ interest rates and there is still no new spending on investment or consumption.  This liquidity trap can be shown by the ‘velocity of money’ in an economy.  Look at this graphic.  It tells the same story as the money multiplier graphic in my last post.

In the Great Depression, the economy becomes ‘stuck’ in a trap of unwillingness to spend – the velocity of money line is well below average.  This is the problem, says Keynes and Krugman.  Yet in the Great Recession, according to the graph, the liquidity trap is not so obvious.  And anyway, why has it happened?  Because there is an unwillingness to spend!  In other words, there appears to be no rational explanation for why the velocity of money drops suddenly in the Great Depression or the Great Recession except that it does.  But in a capitalist monetary economy, such hoarding can be perfectly rational if we connect with a fall in profitability for investment.  Then there is less confidence to invest further and hoarding starts.  Look at the current state of affairs, with US corporations building up huge cash piles and investing relatively less (see my post, Why is US recovery so weak?- look at profitability, 3 April 2012).

The Austrian school of economists argue that the slump in investment is due to previously excessive credit expansion that is now bursting.  The Minsky school says much the same (as does Steve Keen – see my last post).  Those who believe this have attempted to measure the point at which excessive credit or debt becomes the tipping point for a crisis.   The economists Reinhart and Rogoff have done so; the IMF has done so and apparently so has Steve Keen (see my post, Riccardo Bellofiore, Steve Keen and the delusions of debt, 7 October 2011).

Irving Fisher was the ‘debt deflation’ economist of the interwar period.  He reckoned that there were waves of excessive credit or debt, which eventually led to ‘debt deflation’ ie falling prices drive up the real value of debt and so painful deleveraging must follow to reverse the excess. This is the main reason for booms and slumps.  So debt matters.  Krugman seems to recognise that there could be “debt-driven slumps”.  In 2010, he wrote a piece with Gauti Eggertsson (Debt, deleveraging and the liquidity trap, 16 November 2010) that argued an “overhang of debt on the part of some agents who are forced into deleveraging is depressing demand.”  From that debt deflation (Fisher-style), the liquidity trap and the Keynesian multiplier emerge.  And this provides a “rationale for expansionary fiscal policy”.  Krugman called it a Fisher-Minsky,Koo approach to the crisis, although Steve Keen has remarked that he could find little of Minsky in the paper (remember Krugman has little time for Minsky’s financial instability theory).

Yet more recently, Krugman appeared to deny the role of debt in crises.  Krugman says it does not matter in a ‘closed economy’ i.e. one where one man’s debt is another’s asset.  It’s only a problem if you owe it to foreigners.  But the IMF disagrees.  In its latest World Economic Outlook, April 2012, IMF researchers take Krugman to task.  The IMF outlines the evidence that debt does make a difference both to the depth of the crisis and the strength of the recovery: “recessions preceded by economy-wide credit booms tend to be deeper and more protracted than other recessions”  (p96) and “housing busts preceded by larger run-ups in gross household debt are associated with deeper slumps, weaker recoveries and more pronounced household deleveraging“, p115).

Indeed, there is no guarantee that an economy will come out of a slump.  That’s why Fisher misread the slump of 1929.  He thought would be over in a moment, once debt had been cleared.  Instead, it took a war ten years later to do it.  This time too, the clearing of both ‘dead capital’ in production and fictitious capital in finance is going to take a long time.  So we are in what is really a ‘long depression’ as in the 1880s in the UK and the US.  The great boom then  (or ‘great moderation’ now) of 1850-73 (1982-97 now) came to end in a big crash (1873 then, 2007 now), and subsequently it took a series of slumps (1879, 1883, etc or 2008-9) to clear the decks for renewed profitability before capitalism entered a new period of growth from the 1890s onwards. The long depression of the 1880s did not lead to a world war, but to the massive extension of imperialism that helped to get capitalism going (that later ended in war).

So it is no surprise to find that the best way to clear this excessive debt is to default.  A recent study by the IMF on private and public sector debt found that the easiest way to get debt under control in the absence of fast economic growth (current conditions) was to default! (IMF special paper, Default in today’s advanced economies,  2010).

So let’s sum it up.  What is the cause of booms and slumps or economic recessions or depression?  The dominant neoclassical school of economics says any slump is due to imperfections or ‘frictions’ in the market place (namely trade unions or governments disturbing the labour market or monopolies distorting product markets).  In other words, when so-called ‘efficient markets’ are no longer efficient.

Keynesians reckon it is caused by the lack of ‘effective demand’, which happens by chance or by ‘irrational’ behaviour on the part of ‘economic agents’, who suddenly hoard money rather than spend it.  Sometimes this can lead to a ‘liquidity trap’ at ‘zero bound levels’ of interest-rates and so prolong a recession into a depression.

The Minsky school says the cause is an inherent instability in financial sector due to excessive risk-taking that generates a build-up of debt that cannot be honoured.  The Austrian school says this excessive credit is caused by government and central banks creating it.  Both say deleveraging of this debt prolongs a slump.

Some Marxists reckon crises and slumps are not caused by a lack of effective demand or excessive debt or financial instability, but by falling and low profitability in production.  The impact of falling profitability can be postponed by credit (fictitious capital) expansion, but then the eventual slump will be exacerbated by the need to clear this excessive debt.  This is my view.   Other Marxists reckon the crisis is due to ‘the anarchy of capitalist production’ (that’s too vague and too high a level of abstraction as an explanation for me). Or some say it is due to ‘underconsumption’, or a lack of spending power by workers.  That’s pretty much the Keynesian view (just a description of a slump not an explanation).

Britain’s technical recession

Back in recession says the data on the UK economy in Q1’2012.  A ‘technical recession’ is when real GDP falls for two successive quarters.  And the -0.2% fall announced today puts the UK in that category.

Well, it’s only the first attempt at estimating GDP for Q1’2012.  A lot of analysts are saying that it will be revised up above zero in the next estimate because construction and services are being underestimated.

But even if it is, the figure shows that the UK economy is not recovering by anything like the rate necessary to get unemployment down or create new jobs in the private sector to replace the crushing reductions in public services and jobs being imposed by the UK coalition.

As I have reported on many occasions before, the recovery from the Great Recession in the UK and elsewhere in the mature capitalist economies is the weakest since the Great Depression.  Indeed, in the case of the UK, it is even weaker.  Look at this graph.

Part of the reason that it is worse now than in the Great Depression is that it was in the early 1920s that the UK had its biggest decline.  In effect, the UK entered a long depression well before the Great Depression hit the US.  And that is what all the major capitalist economies of the US, the UK, Europe and Japan are now in: a long depression with little economic growth ahead.

Paul Krugman, Steve Keen and the mysticism of Keynesian economics

As promised, let me return to the debate within Keynesianism between Paul Krugman, Nobel prize winner and guru of orthodox Keynesianism and Steve Keen, the upstart radical ‘Minsky-Keynesian’, over what are the key processes of modern capitalism and the cause of the Great Recession.

Steve Keen has recently revised and expanded his excellent book, Debunking Economics (http://debunkingeconomics.com/) and his attacks on mainstream economics, the nature of capitalist crisis and what to do about it provoked the great columnist of the New York Times and scourge of the Republicans, Paul Krugman, to respond.  Krugman wasted no time in dismissing Keen’s ideas in his daily blog as “mysticism”(http://krugman.blogs.nytimes.com/2012/03/27/banking-mysticism/).  Keen responded sharply and then a long debate ensued with loads of other economists with their blogs entering the fray. You can follow the twists and turns in the debate at http://unlearningeconomics.wordpress.com/2012/04/03/the-keenkrugman-debate-a-summary/.

So I suppose it’s my turn.  But first is this debate important and interesting? Well, I think it is, because the differences expressed help to show the struggle that mainstream economics has in trying to explain the slump that world capitalism has just been through and why the recovery is so weak.  This particular debate is not between Keynesians and the Austerians (see my recent post, The debate on austerity, 14 April 2012) for that).  It is between what I call orthodox Keynesianism and a more radical variety that considers most Keynesians still locked in many neoclassical theorems that do not allow them to understand modern finance capital and the banking system. If the orthodox Keynesians did understand, say the unorthodox, then they would see more clearly why capitalism gets into crisis and what to do about it.  Steve Keen leans on the ideas of these radical Keynesians, as a follower of Hyman Minsky and Modern Monetary Theory (MMT), which tries to explain the key role of banking in capitalism as the major cause of economic crises.

So what are the issues at debate?  Well, after perusing thousands of thousand of words from participants in the debate, I think there are three issues.  The first is whether, in a modern capitalist economy, money is created endogenously i.e. demand for money drives its supply, rather than exogenously, namely by the printing or absorption of money by a central bank.  The second is whether the expansion of debt, particularly private credit, adds to demand in an economy, such that it can get way out of sync with the expansion of the production of things and services; and whether this is key to the capitalist crisis.  And third, whether it is the inherent instability of the financial system that is the kernel of crisis and not just the lack of ‘effective demand’ as orthodox Keynesians argue.

Let’s start with the first issue: endogenous money; namely, the need to borrow by corporations, households, financial institutions and government drives bank lending, not vice versa.  The MMT says that banks lend first and that generates deposits, a simple double bookkeeping process.  So banks can create money out of nothing.  Banks do not wait for deposits from customers and central bank cash before lending.  Orthodox Keynesians like Krugman fail to recognise this, says the MMT guys (and Keen).  Banks may drive loan quantity, or create money by lending, but they are restricted in how much by three factors: interest rates (the cost of their own borrowing, partly set by the central bank), required reserves of cash they must hold (as enforced by a central bank regulation) and the amount of equity capital they must hold (again a matter of regulation).  But these restrictions on lending affect the profitability of loans for the banks, not the quantity they can make.

The issue in the debate here is whether central banks have any real control over the money supply and credit in an economy.  In effect, the MMT guys suggest that it is little and the orthodox Keynesians are kidding themselves that the capitalist economy can be controlled by central banks by trying to manipulate the money supply exogenously or even by changing interest rates.  The MMT guys are stating the authorities cannot control the ‘business cycle’,  the cycle of boom and slump, by monetary policy because money is created endogenously.  The orthodox Keynesians like to think that they can and so their policy of lowering interest rates or squeezing bank reserves will work in regulating capitalism.

What does Marx say about this?  Although Marx did not spell out his theory of money and credit clearly in one book (as usual!), it is clear from his writings that he reckoned that money supply is endogenous to the capitalist system and that the banks can create credit as demanded by capitalist production without waiting for some exogenous agent to provide it.  As he put it: “The credit given by a banker may assume various forms, such as bills of exchange on other banks, cheques on them, credit accounts of the same kind, and finally, if the bank is entitled to issue notes – bank-notes of the bank itself. A bank-note is nothing but a draft upon the banker, payable at any time to the bearer, and given by the banker in place of private drafts. This last form of credit appears particular important and striking to the layman, first because this form of credit-money breaks out of the confines of mere commercial circulation into general circulation, and serves there as money; and because in most countries the principal banks issuing notes, being a particular mixture of national and private banks, actually have the national credit to back them, and their notes are more or less legal tender; because it is apparent here that the banker deals in credit itself, a bank-note being merely a circulating token of credit. (Marx, 1894, pp.403-404).  What drives bank lending is not the supply of money but the demands of capitalist production: “The quantity of circulation notes is regulated by the turnover requirements (of capital accumulation – MR)), and every superfluous note wends its way back immediately to the issuer.” (Marx, 1894, p. 524).  Credit creates deposits.

But the Marxist theory of money makes an important distinction from the MMT guys.  Capitalism is a monetary economy.  Capitalists start with money capital to invest in production and commodity capital, which in turn, through the expending of labor power, eventually delivers new value that is realised in more money capital.  Thus the demand for money capital drives the demand for credit.  Banks create money or credit as part of this process of capitalist accumulation, not as something that makes finance capital separate from capitalist production.

But both Marx and the MMT guys agree that the so-called quantity theory of money as expounded in the past by Chicago economist Milton Friedman and others, which dominated the policy of governments in the early 1980s, is wrong.  Governments and central banks cannot ameliorate the booms and slumps in capitalism by trying to control the money supply.   The dismal record of the current quantitative easing (QE) programmes adopted by major central banks to try and boost the economy confirms that.   Central bank balance sheets have rocketed since the crisis in 2008, but bank credit growth has not.

And over the same period, the so-called money multiplier (ratio of broad money in the economy to central bank money), upon which quantity theorists rely to judge whether the quantity of money is right, has just dived (M3/M1).  In other words, central banks have tried to boost the money supply by ‘printing’ money, but it has had minimal or no effect on the real economy because the demand for borrowing has dropped away.

The orthodox Keynesians like Krugman would say that the collapse of the money multiplier proves the phenomenon of the ‘liquidity trap’.  This is when aggregate demand in an economy is so weak that people hoard their money and banks stop lending, so even if interest rates are lowered to zero (as they more or less are now), it does not spark an economic recovery. Then we need exogenous policies to kick-start it.  The MMT guys would say because money creation is endogenous, purely monetary policies like quantitative easing will never work.  Marxists would agree, as long as it is recognised that while banks may be able to create money out thin air, they won’t do so if capital accumulation has slumped.  Credit growth depends on capital accumulation, even if it is never in line (so money is never neutral).

That brings me to the second issue: excessive credit or debt.  One of the key arguments of the Austrian school of economics is that credit can become excessive because it is artificially driven up by central banks.  If there were no central banks, then the ‘free market’ would eventually bring credit into line with production through a move to an equilibrium rate of interest.  Money would have a neutral effect on production and there could be no monetary crises, if it were not for central bank interference.

Steve Keen also argues that the key to crises under capitalism is excessive credit or private debt. But it is not the Austrian explanation.  Instead, he leans on the ideas of Hyman Minsky, the radical Keynesian of the 1980s.  Keen-Minsky argues that the modern financial system is inherently trying to expand credit to gain higher returns.  This leads to a Minsky-type of financial speculation (for more detail on Minsky’s speculation view of banking, see my paper, The causes of the Great Recession).  Private credit rockets as banks speculate in ever riskier forms of assets (stocks, bonds, property).  This creates extra demand in an economy that cannot eventually be satisfied. Increasingly, borrowing is raised just to cover previous borrowing in a Ponzi-like scheme.  Eventually, the whole pack of cards collapses in a ‘Minsky moment’ and capitalism has a slump.

Keen says the best way to look at Keynesian-style ‘aggregate demand’ in a modern capitalist economy is to add to national income the amount of private debt or borrowing.  If you amend Keynes like this, you get a better indicator of when a crisis is coming.  Keen won the Real Economics Review prize for forecasting the credit crunch. He says that this came to him as a revelation because he suddenly realised how the rise in US private debt was preparing a crisis.  Keen said the graphic on US private debt to GDP looked like the ‘hockey stick’ graphic for global warming.

The orthodox Keynesians did not consider this and Krugman dismisses the idea in his debate with Keen.  For them, the crisis, namely a collapse in aggregate or ‘effective demand’, is due to the ending of what Keynes called ‘animal spirits’, a loss of business confidence that feeds through to a collapse in investment and a willingness to spend.  It is not due to excessive private debt.  A slump ensues and can stay for a long time if the economy is locked into a liquidity trap.  It needs government intervention to break out.

What does Marx say?  Marxist theory agrees with Keen that private credit can become excessive.  Indeed, this flows from the Marxist view that money is not neutral in the capitalist economy but central to it.  Credit can and will get out of line with the capitalist production.  Credit is really fictitious capital i.e. money capital advanced for the titles of ownership of productive and unproductive capital i.e. shares, bonds, derivatives etc.  The prices of such assets anticipate future returns on investment in real and financial assets.  But the realisation of these returns ultimately depends on the creation of new value and surplus value in the productive capitalist sector.  So much of this money capital can easily turn out to be fictitious.

The key point for Marxists here is profit.  The huge rise in private debt (measured against GDP) is clearly a very good indicator that a credit bubble is developing.  But it alone is not good indicator of when it will burst.  Some economists in the Austrian school have tried to gauge when the tipping point might be by measuring the divergence between the growth in credit and GDP growth (see Borio and White, Asset prices, financial and monetary stability, BIS 2002).  But Marxist theory provides a much better guide.  It is when the rate of profit starts to to fall; then more immediately, when the mass of profits turns down.  Then the huge expansion of credit designed to keep profitability up can no longer deliver.

It is this model of crisis that I adopted back in 2006 for my book, The Great Recession.  It led me to predict a major slump for 2009-10 (I was wrong as it came a year earlier).  The evidence was there for the US, where  the global slump was triggered.  The US rate of profit peaked in 1997.  At the beginning of 2006, the mass of profits began to fall and the housing market turned down.  Within 18 months, the credit crunch happened and the rest is history.

One way of showing how the fall in the rate of profit combined with excessive debt to bring US capitalism down is to measure the rate of profit not just conventionally against tangible corporate assets but also against financial assets (fictitious capital), which had risen so much.  I have done this in several places (including my paper, The profit cycle and economic recession and various posts).  Here is the graph again to emphasise the point.

It shows that the US corporate rate of profit as measured against all assets, was lower in 2002 than it was in 1982, while it was higher against just physical assets. Once conventional profitability also turned down in 2006, the crisis began and the impact was much bigger because of the size of fictitious capital.  Now, everywhere capitalism continues to try and ‘deleverage’ to cleanse not just dead capital out of the ‘real’ economy, but also to get rid of fictitious capital.

That brings me to the final issue: the cause of crisis.  For the orthodox Keynesians, it is due to the collapse in aggregate or effective demand in the economy (as expressed in a fall of investment and consumption).  This fall in investment leads to a fall in employment and thus to less income.  Effective demand is the independent variable and incomes and employment are the dependent variables.  There is no mention of profit or profitability in this schema.  Investment creates profits not vice versa.  This is the view of Keynes: “Nothing obviously, can restore employment which does not first restore business profits. Yet nothing, in my judgement, can restore business profits that does not first restore the volume of investment.”  (Collected Writing Vol 13, p343.

As I have argued before (see my post, Double dips, deficits and debt, 24 August 2011), these schemas are ‘back to front’ in explaining the laws of motion of capitalism.  Marx’s schema is the opposite.  A change in profits produces a change in investment, which in turn, affects employment and incomes and thus effective demand.

But if investment is the independent variable, according to Keynes, Krugman and Minsky-Keen, what causes a fall in investment? It is an ending of ‘animal spirits’ among entrepreneurs or a ‘lack of confidence’.  As Minsky put it, investment is dependent on “the subjective nature of expectations about the future course of investment, as well as the subjective determination of bankers and their business clients of the appropriate liability structure for the financing of positions in different types of capital assets”.  So profits depend on expectations and crises are the result of changed expectations by financial speculators.   Investment and credit grow as long as there is confidence: what others have called ‘magic Tinkerbell fairy dust’, a belief that things will only get better.

This is the real mysticism of Keynesian economics.  For Keen and the Minsky followers, the orthodox Keynesian/Kalecki identities still apply (see my post, op cit).  Instability in finance and/or excessive credit leads to a collapse of investment or ‘effective demand’ and then onto employment and incomes/profits.  For Marxists, instability in the financial sector would not be enough to cause a major crisis if profitability is rising. The Keynes/Minsky approach is subjective, based on ‘expectations’.  The Marxist approach is objective and based on the law of value.

Depending on your view, the policies for economic recovery are also different.  Keen advocates controlling the level of private debt as the main solution. Krugman advocates regulation of finance and easy money. Failing that, he wants fiscal intervention to stimulate the private sector.  Marxists look to replace the profit system.

The Marxist explanation is the most comprehensive as it integrates money and credit into the capitalist mode of production, it recognises that money and credit are not neutral as the Austrians believe; and argues that money may be a key factor in instability and crisis, as the Keynesians believe, but also shows that it is not the decisive flaw in the capitalist mode of production and that sorting out finance is not enough.  Thus it can explain why the Keynesian solutions do not work either.

A generation of austerity

Just a factual update on the austerity debate.  Some of the  Austerians are getting worried that things might be going too far.   The IMF has swung between wanting governments to step up the pace of austerity, or ‘fiscal adjustment’ as the IMF calls it, and taking it more easily.  In the IMF’s quarterly Fiscal Monitor released last February, the IMF reckoned that the governments of the mature capitalist economies were reducing their budget deficits by an average of 2% pts of GDP this year, with Eurozone governments cutting 3% pts.  The IMF thought this was good news.  But now in April it is showing some doubts.

Its own research reveals that cutting government spending and raising taxes can reduce economic growth to the point where government deficits and debt to GDP stop falling because GDP is falling even more.  As the  US credit agency, S&P put it in its own analysis recently: “a reform process based on a pillar of fiscal austerity alone risks becoming self defeating, as domestic demand falls in line with consumer rising concerns about job security and disposable incomes reducing tax revenues”.  This is the issue facing the US economy. Unless, there is a deal between the incoming President and Congress for the 2012-13 budget starting in October, then built-in automatic ‘fiscal adjustments’ (from not renewing tax cuts and not extending unemployment compensation) will reduce the annual deficit by 4% points in one year.  That could wipe out the expected 2% real growth in 2013.

In its latest Fiscal Monitor released yesterday, the IMF now thinks that if public sector debt ratios are large and economies are in a recession then ‘fiscal adjustment’ can be counterproductive: “in downturns, fiscal consolidation reinforces the economic cycle and thereby excerbates the slump in growth, making an upfront fiscal contraction particularly harmful” (IMF FM April 2010, p15).  So now the IMF advises that “when feasible (!), a more gradual fiscal consolidation is likely to prove preferable to an approach that aims at “getting it over quickly”.

The investment bank JP Morgan has also released new research that shows that the fiscal multiplier (see my previous post, The austerity debate, 14 April 2012) is around 0.7 for the Euro area economies (excluding Greece).  That means fiscal tightening of 1% pt a year reduces real economic growth by 0.7% pt a year.  If you include Greece, the multiplier is even higher.  It means that more fiscal tightening is helping to drive the economic recession in Portugal, Spain, Italy and other Eurozone countries even deeper and that budget deficit targets will not be met as a result.  Now the IMF reckons that the fiscal multiplier, at least in the short term could be even larger, namely 1% pt fall in growth for every 1% pt of GDP tighter fiscal policy: “Assuming, in line with recent fiscal adjustment packages in advanced economies, that two-thirds of the adjustment comes from spending measures, a weighted average of spending and revenue multipliers in downturns yields an overall fiscal multiplier of about 1.0.”

And economists at Goldman Sachs have now waded into the debate with their estimate of the US fiscal multiplier (see GS Fiscal multipliers at times of economic slack and when monetary policy is at zero bound 041912).  They reckon that a 1% of GDP reduction in government spending reduces real GDP by as much as 1.8% during times of economic slack.  They conclude that “fiscal tightening is likely to be particularly painful at present” and that “fiscal stimulus could be an effective policy to stimulate the economy”.  But then they do the usual backtracking towards the view of the Austerians by adding that “there is the possibility that a large fiscal stimulus could propel the economy out zero bound (ie push interes rates up) and thereby lower the fiscal multiplier”.

So in its latest World Economic Outlook, the IMF backs away from its previous hardline on fiscal adjustment.  “Austerity alone cannot treat the economic malaise in the advanced economies,” the IMF said, “sufficient fiscal consolidation is taking place but should be structured to avoid an excessive decline in demand in the near term”.  The problem is that if nothing is done about fiscal adjustment, then government deficits and debt will continue to get out of control.  If no further action is taken, then the IMF forecasts that the gross government debt to GDP ratio in most advanced capitalist economies will continue to rise over the next five years.  It forecasts that the G7 average would reach 130% by 2017, with 113% for the US and 91% for the euro area and 256% for Japan!   If further action is taken, as it expects, then the G7 gross debt ratio would still rise but peak at 124%  in 2017, compared to 85% in 2007 before the crisis.  For the advanced capitalist economies as a whole, it would peak at 109% of GDP in 2017 compared to 60% in 2007.   So after seven years of austerity (2010-17), government debt would still 80% higher than before the crisis

That’s why 2017 wont be the end of austerity. The IMF wants to see the average government debt ratio go back to the 60% reached in 2007.  So it talks about what it calls ‘second generation’ fiscal measures.  To achieve this, the IMF says “the search should be for credible long-term commitments—through a combination of decisions that decrease trend spending and put in place institutions and rules that automatically reduce spending and deficits over time. “  The main aim is to cut health, pensions and other ‘age-related’ spending out of government budgets.

Which countries would have to make the biggest adjustment?  A “second generation” of UK austerity measures would outstrip programmes in both Greece and Portugal. Only the US, Japan and Ireland are facing a larger adjustment among advanced economies. To bring public debt down from 82.5%c to 60% of GDP and pay for rising health and pension costs, the UK will need a fiscal adjustment strategy over the next 18 years equivalent to 11.3% of national output, or roughly £170bn!  By comparison, the existing UK £123bn austerity programme is equivalent to 7.5% of GDP, although over a shorter period.   It’s austerity for a generation.

So the IMF is worried that too much austerity will cut economic growth and deepen the long depression.  And yet it wants a programme of austerity out to 2030 that will destroy the role of government in providing social needs and end what is left of the welfare state.

The austerity debate

There seem to be two issues that are occupying the minds of mainstream economics at the moment.  The first is partly theory, partly evidence and partly policy.  It is the question of whether the dominant economic policy solution to the crisis should be austerity, namely cutting government spending and raising taxes to reduce government borrowing and get public sector debt levels down – or not.  This issue is partly driven by what was the cause of the Great Recession and from that what needs to be done.  Mainstream economics is divided on this.  But it is agreed on one thing: that the aim is to put the capitalist mode of production back on its feet.

The second issue is related to this.  It is the debate that has broken out between mainstream Keynesian Paul Krugman and left ‘Minsky’ Keynesian Steve Keen.  Krugman reckons the cause of the capitalist slump is to be found in Keynes’ traditional idea of liquidity preference and a loss of ‘animal spirits’, leading to an increase in the hoarding of money rather than lending it to boost investment and consumption.  Keen says that this is not the cause.  Instead, it lies in the build up of ‘excessive’ debt in the private sector, particularly the banks, that eventually led to a financial crisis, a Minsky moment.  I’ll analyse this debate in my next post.  But let’s look at the first issue now.

Everywhere, governments are trying to reduce budget deficits and stop public sector debt (relative to GDP) from rising any more.  Apparently, this is crucial to getting the economies of Europe, the US, Japan and others back on their feet.  In Europe, the ‘profligate’ weaker capitalist economies of Greece, Ireland, Spain, Portugal and Italy are being told that they must impose huge austerity measures to achieve this.  And indeed, such measures are also being applied in the stronger capitalist economies of Northern Europe and the UK.  In the US, once the presidential election is over, whoever wins will impose a major programme of government spending cuts and tax rises for the rest of the decade.  And in Japan, with a public sector debt well over 230% of GDP, the government is looking to introduce a battery of new taxes to reduce the budget deficit and debt level.

The question is whether this is the right policy for capitalism.  The Austerians say that it is necessary in order to reduce the cost of capital – in other words, raise profitability.  If the public sector goes on borrowing more and more, the bulk of savings appropriated in an economy will be eaten up by government.  Government will ‘crowd out’  the private sector and stop it getting funds; or the extra demand for savings from the government will drive up interest rates.  And as the public sector is inherently ‘unproductive’ – only the capitalist sector is productive – this will lower economic growth and make things worse.  This is the mantra of the US Republicans, the British Conservatives, most central banks and big business leaders.

The Keynesians disagree.  If public spending is cut and taxes are raised, that will contract domestic demand in the economy and thus lower economic growth.  Indeed, more austerity could mean too much contraction and even cause a rise in debt ratios as a result.  It is better to keep austerity to a minimum in a period of depression until the demand picks up and then try to get debt levels down later.  “Not so deep and not so fast” – is the mantra of Paul Krugman, Martin Wolf, George Soros and the US Democrats and British Labour Party.

Before answering who is right, the first question is to look at why the issue is there at all.  It’s there because the capitalist mode of production failed.  The Great Recession came about because of falling profitability in the capitalist sector from 1997 (in the US and elsewhere) and the eventual failure in 2007 of the huge expansion of private credit (what Marx called fictitious capital) needed to keep the whole thing going.  Then the state had to intervene in aid of capitalism to avoid a banking meltdown and ameliorate the effects of the slump.

The IMF has shown that average public sector debt in the OECD rose 30% pts of GDP from 2007 to 2011.  Of that rise, 9% points were due to falling tax revenues and rising expenditure on unemploymnent and welfare benefits during the Great Recession. Another 7% of extra borrowing went on fiscal programmes to stimulate the private sector or to carry out public sector investment programmes.  The bailout of the banks cost another 7% pts of GDP and then there were higher interest costs incurred from the extra debt that had to paid to bond holders, which cost another 6% pts.  So only one-quarter of the rise in public debt since the Great Recession began was due to a conscious Keynesian-type policy of fiscal stimulus by governments in the mature capitalist ec0nomies. Three-quarters of the rise was due to the capitalist slump and banking collapse.

But this is the crux of the matter: are austerity policies to get a reduction in public debt levels necessary to put capitalism on its feet or will they make it worse?  The Austerians say yes and the Keynesians say no.  What do Marxists say?  It all depends on what is happening to the profitability of capitalist sector.  The expansion of public sector spending and borrowing can stimulate the capitalist economy for a while, but just as with private debt, not forever.  At some point, government consumption becomes a deduction from the profits of the productive capitalist sector (and here we mean the Marxist meaning of productive, namely generating profit and accumulating capital, not making things).

It is this difference between productive and unproductive labour under capitalism that the Keynesians do not recognise.  And that is because Keynes did not have a law of value or any role for profit in economic growth.  For him, the production of things and services creates incomes and profit is not an issue.

The Austerians want the process of “creative destruction” (as Joseph Schumpeter characterised it) of unprofitable capital to play out.  They do not want the public sector to crowd out the restoration of profitability when capitalism is being weighed down by excessive dead capital in the private sector, which needs ‘deleveraging’.  The temporary boost to incomes created by state sector spending is no overall solution to economic recovery under capitalism.  Indeed, the rise in public sector debt necessary to fund this state spending in an environment of slump or low growth just adds to the already existing burden of private sector debt weighing down profitability, even if there is interest to be made by the financial sector from buying government bonds.

The mantra from the Austerians is that you cannot overcome excessive debt by more debt.  Moreover, if the public sector keeps expanding, it calls into question the capitalist mode of production itself – an issue that the Keynesians themselves start to worry about.   So, unless profitability returns through creative destruction, increased state spending and debt will start to aggravate the crisis or at least mean that any recovery based on capitalist production will be muted and insufficient.

That is the why the Austerians have a point.  On the other hand, the Keynesians have a point.  Too drastic a cut in public spending, in an attempt to reduce debt or stop it rising any further, will also kill the ability of those sectors that benefit from government activity.  Thus the debate goes round and round.

As one mainstream economist put it: “we cannot know the answers definitively”, (G. Corsetti, Has austerity gone too far?, Voxeu.org).  Both sides of the mainstream agree that government deficits must be reduced and debt eventually ‘stabilised’.  Corsetti again: “The debate is not about the desirability of restoring a safer fiscal position after the large increase in gross and net public debt in the last few years.  This can safely be taken for granted”.  That’s all right then.

But the Austerians want it done quicker and they want cuts targeted towards government spending rather than raise taxes.  They present the evidence of 40 years of such ‘adjustments’ recently compiled by the IMF for the mature capitalist economies.  This database concludes (rather cautiously) that adjustments through spending cuts are less ‘recessionary’ than those achieved through tax increases (see Devries, Gaujardo, Leigh and Pescatori, A new action-based dataset of fiscal consolidation, IMF working paper 11.128.)

That’s not really surprising under capitalism.  Tax increases directly hit the profitability of the capitalist sector (even if taxes are directed at workers incomes or sales rather than corporate tax) and thus will deter investment.  Reductions in competing government investment and consumption, although hitting those capitalist sectors that governments buy services from, is more beneficial to capitalists as a whole.  Of course, this has nothing to do with what would benefit society.

‘Confidence’ among capitalists also falls when taxes are hiked and do not fall when government spending is reduced.  Reducing public sector services and employment will also involve measures to reduce employment protection, pension conditions and other rights of public sector employees.  All that will help capitalist accumulation by raising the rate of surplus value.

But if severe austerity leads to a fall in employment and thus demand for capitalist production, it could well lower growth and even drive the economy back into recession. Such is the argument of the Keynesians.  Paul Krugman has correctly pointed out that the best way to get the debt ratio down is through faster economic growth, as happened after the second world war.  Net public debt to GDP in the US stood at 80% in 1950 and fell to 46% by the end of the decade and yet public spending to GDP rose!  Why was that possible?  Because average real growth was 4.3% a year (with inflation at 2.3% a year – as it is more or less now).  Real GDP growth was decisive in driving down the debt ratio.

But Krugman and other Keynesians do not put their fingers on why economic growth was so high.  The 1950s was also a period of high profitability in the US capitalist sector.  That was the real key to investment and growth.  Such profitability made it possible for the capitalist sector to bear a high public debt level and accept much higher tax rates than now, as well as strong government spending.  Profitability was high because of the  ‘creative destruction’ of capital that had taken place during the Great Depression of the 1930s and physical destruction that had taken place during the war (at least in Europe).  Government spending was thus beneficial to post-war capitalism – for as long as profitability was high.  But these conditions do not apply in 2012.

The Keynesians are concerned that “accelerated austerity” risks weakening capitalism because it could lead to the “premature scrapping of fixed capital and human capital” (see JV Reehan, From Plan A to Plan B, 7 March 2011, Vox op cit).  But that is precisely the purpose of a capitalist slump.  The slump eventually restores the profitability of the remaining capital.  Once again, the Keynesians see everything in the terms of output and physical assets and not in terms of profit.  Thus they cannot understand the nature of the crisis and offer effective policies to end it.

So instead, we have the attempts of the Keynesians to find a ‘middle path’ between austerity and stimulus.  Olivier Blanchard, chief economist of the IMF (see my previous post, Olivier Blanchard and TINA, 28 March 2012), puts it: “substantial fiscal consolidation is needed and debt levels must decrease.  But it should be a marathon rather than a sprint.  It will take two decades to return to prudent levels of debt (!).  There is a proverb that actually applies here: slow and steady wins the race”. (O. Blanchard, 2011′s four hard truths, 22 December 2011, Vox op cit)

More recently, two of the biggest gurus in mainstream economics, Bradford de Long, the Keynesian professor at Berkeley University of California and Larry Summers, the former US treasury secretary under Clinton and well-known denier of any crisis before it happened, have produced a paper that examines whether fiscal austerity is a good idea or not for capitalism (B de Long and L Summers, Fiscal policy in a depression economy, March 201).

One of the big issues in this debate is the size of the fiscal multiplier, as it is called.  This measures the change in national income that corresponds to a change in net government spending and tax reductions.  The Keynesians says that this is high: namely that a 1% rise in spending leads a equally large rise in economic growth.  The Austerians say it is low, or zero or even negative, because any increase in public spending leads to a fall in private spending as investment is ‘crowded out’; or consumers reduce spending and save more to cover increased taxes or because they fear the government will get into difficulty.  Thus any government stimulus would be counteracted by an equivalent fall in private spending.  This Austerian theory is called the Ricardian equivalence, after the classical economist David Ricardo who first argued it, as against helping the poor with government aid.

What do de Long and Summers conclude?  They reckon that when interest rates are near or at zero and central banks have done all they can to stimulate the capitalist economy with injections of credit (quantitative easing or printing money), as is the situation now, and there is still no growth, then fiscal measures will help the recovery of the capitalist economy not hinder it.  But this is only true “for only as much fiscal stimulus as can be delivered in a timely and temporary way” . That’s helpful!  How large any stimulus should be “remains for future research”.  That means they just don’t know.

The global economy – a high frequency view

Yesterday’s US jobs figures suggested weaker than expected economic growth in the US.  And yet other data suggest the US economy is doing better – at least compared to Europe and Japan.

In previous posts, I have argued that a very good high frequency measure of the state of economic activity is to look at the purchasing managers indexes (PMIs) compiled by various agencies.  These are surveys from company executives about how they see employment, orders and prices and production at their companies each month.  The indexes are just balances between those who think things have improved and those that don’t.  When the index goes above 50, it is supposed to suggest the economy or sector is expanding and when below 50, it is contracting.  Over the years, the PMIs have been pretty good indicators of what is happening.

The PMIs are usually compiled separately for the manufacturing and services sectors.  However, I think you get better idea if they are combined.  I have done this regularly for the US, using with the US Institute of Supply Managers (ISM) index – the US version of the PMI.  Below is the latest combined reading for March.

The combined index continues to confirm that the US economy is experiencing low growth but is showing little sign of either dropping back into recession, or as it did in the third year after the 2001 recession, moving into boom territory.  The US is stuck in a low growth path.

There is an even more high frequency indicator for the US economy provided by the ECRI agency, which combines various economic and financial measures to come up with its leading index on a weekly basis.  This is less reliable as an indicator, but at the moment it is confirming my ‘combined’ ISM measure.  The ECRI had been flirting with a recession level but now it looks firmly in the low growth area.

But what about the rest of the global economy?  This is more difficult to get a clear picture from these high frequency indicators.  But the selection below of the current position of different country PMIs does provide a guide of where we are in March.

The PMIs suggest that world capitalism is still expanding slowly and that includes Japan and the UK.  The jury is out on whether China is slowing fast or just slowly from near double-digit growth last year (the two China indicators tell a different story).  Europe is contracting overall, although if you look at each country within Europe (not done here), the overall decline is due to the slump in southern Europe.  Northern Europe continues to expand modestly.

Tsolakoglou

I know many have already commented on what happened last week outside the Greek parliament building in Athens.  But it’s difficult not to express a feeling of anguish and anger together.  A cash-strapped Greek pensioner shot and killed himself outside parliament in Athens on Wednesday.

Dimitris Christoulas was a retired chemist, with a wife and a daughter, who had sold his pharmacy in 1994.   In a suicide note found by police, he said: “This Tsolakoglou government has annihilated all traces for my survival, which was based on a very dignified pension that I alone paid for 35 years with no help from the state.  If one Greek had taken a Kalashnikov into his hands, I might have followed him and done the same but because I am of an age that makes it impossible for me to take strong action on my own, I see no other solution than this dignified end to my life, so I don’t find myself fishing through garbage cans for my sustenance.”

Tsolakoglou is a reference to the wartime Nazi collaborationist Greek government.  George Tsolakoglou was a Greek military officer who was appointed by the Germans in 1941 as Greek prime minister.  Mr Christoulas correctly identified the nature of the current banker-led Greek government that has agreed to a crippling destruction of Greek living standards, public services and jobs in order to bail out Greece’s creditors, Europe’s banks, insurance companies and hedge funds – and to lie down before the neoliberal policies of the dreaded Troika (the EU Commission, the ECB and the IMF).

In his last statement to the world, Mr Christoulas went on: “I believe that young people with no future will one day take up and hang this country’s traitors in arms in Syntagma Square just as the Italians hanged Mussolini in 1945.”

Unfortunately,  Mr Christoulas’ act is not an isolated one.  The suicide rate in Greece used to be the lowest in Europe but it has soared during the crisis.  The latest data shows suicides jumped 18% in 2010 from the previous year as rising unemployment, higher taxes and shrinking wages drove ordinary Greeks to despair.  Last year, the number of suicides in Athens alone jumped over 25% from a year ago.

“This is the point to which they’ve brought us. Do they really expect a pensioner to live on 300 euros?” asked 54-year old Maria Parashou, who rushed to the square to pay her respects after reading about the suicide.  “They’ve cut our salaries, they’ve humiliated us. I have one daughter who is unemployed and my husband has lost half of his income, but I won’t allow myself to lose hope.”

I remind you of a previous post (Greece: a Sisyphean task, 13 February 2012) that repeated what Greece’s top bishop said about the state of Greek society under the jackboot of the Troika and the collaborationists. Archbishop Ieronymos of Athens and All Greece sent a letter to the banker prime minister Lucas Papademos saying that “the phenomenon of the homeless and the famished, a reminder of WWII conditions, has taken the dimensions of a nightmare,” adding that “the homeless increase by the thousands everyday, while small and medium-sized enterprises are forced to go out of business. Young people, the country’s best minds, choose to emigrate, while our fathers are unable to live after the dramatic cuts in pensions. Family men, particularly the poorest, those with many children, wage earners, are in despair due to repeated wage cuts and unbearable new taxes. The unprecedented tolerance of the Greek people is being exhausted, rage pushes fear aside and the risk of social upheaval cannot be ignored anymore by those who are in the position to give orders and those who execute their lethal recipes.”  He went on: “in these difficult and undoubtedly, crucial times, we should realise that every Greek home is plagued by insecurity, despair and depression, which unfortunately, have caused, and sadly enough, continues to cause the suicides of those unable to bear the ordeal of their families and the pain of their children.”

Elections are about to be announced after Easter.  The date is likely to be 6 May.  The two main collaborationist parties, the conservative New Democracy and the laughingly named ‘socialist’ PASOK are desperately trying to drum up enough votes to keep the bankers government in office.  Given that they will get most of the TV time and have the overwhelming backing of the main newspapers, they may yet succeed.  That’s partly because the anti-austerity parties, although doing well in the polls, are hopelessly divided and refusing to work with each other.

The horrible irony that proves Mr Christoulas so right is that whatever the pro-austerity coalition does, it will not be able to meet the draconian demands of the Troika.  The Greek capitalist economy is diving at about 6% yoy and has contracted by about 16-20% since its peak.  Unemployment is accelerating towards a 24% rate, with youth unemployment heading towards a staggering 60%.  Those who can leave the country are doing so.

There just won’t be enough to squeeze out of the Greek people to pay the demands of the Troika.  The government will fail to meet the fiscal and spending targets and then the Euro leaders will have to decide whether yet another ‘bailout package’ must be formulated, with yet more conditions or whether they will decide to ‘let Greece loose’.

The Euro leaders do not want to do the latter because of the ‘contagion’ effects throughout Europe’s financial markets that would lead to Portugal and Ireland also failing and more important onto Spain and Italy, which are also struggling under the heel of austerity.   So the leaders may opt for another package – PM Papademos and friend of neoliberal economist Mario Monti in Italy, has already hinted that it may be necessary.

The May elections are the next twist in the Greek tragedy, which has already spilt the blood of many.