A world rate of profit revisited with Maito and Piketty

April 23, 2014

Back in 2012, I presented a paper to the Association of Heterodox Economists entitled, A world rate of profit (a world rate of profit).  Marx’s model of capitalism and its laws of motion are based on ‘an economy’, in other words, a world economy.  Of course, there are still many barriers to the establishment of a world economy and a world rate of profit from labour, trade and capital restrictions designed to preserve and protect national and regional markets from the flow of global capital.

But in 2014, capitalism is much closer to be being a global economy than it was in 1914.  So I tentatively suggested in that paper that, maybe, we could start to talk about a world rate of profit and start to measure it as an indicator of the underlying health and activity of capitalism globally.

In the paper I set out to try and measure a world rate of profit.  I was not the first to do this.  Minqi Li et al did some ground breaking work in their paper, Long waves, institutional changes and historical trends: a study of the long-term movement of the profit rate in the capitalist world economyLong-Term Movement of the Profit Rate in the Capitalist World-Economy.  They developed a world rate of profit for a long period going back to 1870.  For the 19th century, their study integrated just the UK, US and Japanese rates of profit.  For the period after 1963, the authors brought in Germany, France and Italy, to make the G6.  Among other things, Minqi Li et al found that their world rate of profit tended to fall between the late 19th century and the early 20th century and again tended to fall between the mid-20th century and the late 20th century.  And they confirmed a rise from the mid-1980s to a peak in 1997.

In my own study, I developed a world rate of profit that includes all the G7 economies plus the four economies of the BRIC acronym.  So this includes 11 top economies which constitute a significant major share of global GDP.  I use the extended World Penn Tables that David Zachariah used in his individual country study (see his paper, Dave Zachariah, Determinants of the average profit rate and the trajectory of capitalist economies, 4 February 2010, zacha10)  I weighted the national rates for the size of GDP, although the crude mean average rate does not seem to diverge significantly from the weighted average.  A proper measure of the world rate of profit would have to add up all the constant and variable capital in the world and estimated the total surplus value appropriated by global capital.  This is really an impossible task.  So weighted national profit rates are the only feasible way of getting a figure.

I found that there was a fall in the world rate of profit from the starting point of the data in 1963 and the world rate has never recovered to the 1963 level in the last 50 years.  The world rate of profit reached a low in 1975 and then rose to a peak in the mid-1990s.  Since then, the world rate of profit has been static or slightly falling and has not returned to its peak of the 1990s.  And there was a divergence between the G7 rate of profit and the world rate of profit after the early 1990s.  This indicates that non-G7 economies played increasing role in sustaining the world rate of profit.  The G7 capitalist economies have been suffering a profitability crisis since the late 1980s and certainly since the mid-1990s.

World rate of profit

Now I have gone over all this again because there has been a brand new estimate of the world rate of profit in a new paper by Esteban Maito of Argentina (Maito, Esteban – The historical transience of capital. The downward tren in the rate of profit since XIX century). His paper presents estimates of the rate of profit on 14 countries in the long run going back to 1870.  And Maito uses national historical data for each country not the Extended Penn Tables that I used.  His results show a clear downward trend in the world rate of profit, although there are periods of partial recovery in both core and peripheral countries. So the behaviour of the profit rate confirms the predictions made by Marx about the historical trend of the mode of production.  There is a secular tendency for the rate of profit to fall under capitalism and Marx’s law operates.  Here is Maito’s world rate of profit back to 1869 (simple mean version).

World rate simple mean

Maito also finds, as Minqi Li and I do, that there was a stabilisation and even a rise in the world rate of profit from the early or mid-1980s up to the end of the 1990s, the so-called neoliberal period of the destruction of trade unions, a reduction in the welfare state and corporate taxes, privatisation, globalisation, hi-tech innovation and the fall of the Soviet Union.  Again this seems to have peaked about 1997 (if China is excluded).

World rate since 1955 ex China

This is where Thomas Piketty comes into the story.  In his book, Capital in the 21st century, now acclaimed by all the great and good in mainstream economics (see my posts, https://thenextrecession.wordpress.com/2014/04/15/thomas-piketty-and-the-search-for-r/ and https://thenextrecession.wordpress.com/2014/04/16/piketty-fest-continues-some-directions-for-the-reader/), and by many on the heterodox left, Piketty alludes to his book title as a follow-on from Marx’s Capital.

But he takes time out to insist that Marx’s law of profitability has proved to be fallacious.  According to Piketty, “the rate of return on capital is a central concept in many economic theories.  In particular, Marxist analysis emphasises the falling rate of profit – a historical prediction that has turned out to be quite wrong”.  I won’t go into Piketty’s reasons for claiming why Marx was wrong here (I am saving that for my upcoming review of Piketty’s book in Historical Materialism).  But the evidence from Maito, Minqi Li and myself makes a nonsense of Piketty’s conclusion about Marx’s law.

Piketty reckons that the net rate of return on capital (Piketty’s r) has been pretty static over the last 200 years at about 4-5%.  This is crucial to his explanation of how capitalism can get into deep trouble.  For him, it will be due to a rising share of profit going to capital and causing such extreme inequality that it threatens social instability.  In contrast, Piketty does not see any crisis coming from falling profitability in the capitalist mode of production.

Piketty’s calculation that the net rate of return on capital has been steady is dubious even on his own definition of capital.  But the real problem is that he defines capital as the same as wealth and thus includes residential property, even though houses are not means of production and do not ‘earn’ an income (unless they are owned by real estate companies and rented out).  By including residential property in his calculations and concocting the ‘income’ from people’s homes as ‘rental equivalents’, Piketty ends up with completely distorted results for his r.

Moreover, here is some irony.  Maito uses Piketty’s historical data for Germany to get a rate of profit for that economy.  But Maito leaves out residential property and correctly categorises capital as the value of the means of production owned and accumulated in the capitalist sector.  The result is not some steady r, but a falling rate of profit a la Marx.   There a long-term decline, but with a rise from the 1980s to 2007 (which confirms my own estimates for Germany -
see https://thenextrecession.wordpress.com/2013/09/22/german-capitalism-a-success-story/).
Actually, Piketty’s r for Germany also falls from 1950 and then stabilises from the 1980s too.  This is because, by 1950, landed property (also used in Piketty’s measure of ‘capital’) has disappeared in value and Germans generally have a much lower ownership of residential property compared to capitalist means of production as capital.

So Marx’s law of the tendency of the rate of profit to fall is again confirmed by this latest evidence on a world rate of profit.  In my view, it remains the most important law of motion of capitalism, not Piketty’s r.

Piketty fest continues – some directions for the reader

April 16, 2014

As yet more reviews pour out on Thomas Piketty’s book, Capital in the 21st century, and Piketty does video conferences galore online with an assembly of the great and good among mainstream economists, I thought that I might help the followers of my blog by presenting the following reviews that offer the most perceptive analyses that I have seen so far.




and you can find all the data for his tables here:


except the one that really matters, the sources for estimating the r.  The search for the r continues (see my previous post, https://thenextrecession.wordpress.com/2014/04/15/thomas-piketty-and-the-search-for-r/).

One thought: it seems that rising inequality has become both the flagship for opposition to neo-liberal economics and at the same time the explanation for crises under capitalism – although Piketty says nothing about the latter at all in 677 pages.

For my view on inequality and Piketty on inequality, see https://thenextrecession.wordpress.com/2014/03/11/is-inequality-the-cause-of-capitalist-crises/


The fest continued with a hugely laudatory review from Paul Krugman http://krugman.blogs.nytimes.com/2014/04/16/piketty-day-notes/.  Krugman makes some good points about how Piketty has exposed the deniers of rising inequality:  “But there’s something else: this analysis isn’t just important, it’s beautiful. Piketty gives us something we didn’t know we needed — a sweeping, elegant integration of growth theory, the factor distribution of income, and the personal distribution of income and wealth. He even (in work linked to but not presented in the book) shows how to derive the power laws that we know govern the distribution of income and wealth at the top, and shows how r-g determines the crucial exponents.”  It is precisely because Piketty relies on mainstream noeclassical analysis that he falls well short of Marx in explaining the laws of motion of capitalism.  My review will explain why.



Thomas Piketty and the search for ‘r’

April 15, 2014

Just about every man and woman and their dogs have reviewed French economist Thomas Piketty’s magnum opus, Capital in the 21st century.  Most reviews are laudatory (but not all) and most reviews are superficial (but not all).  “A watershed in economic thinking” Branko Milanovic; “could change the way we think about the past two centuries of history” The Economist; “a defining issue of our era” John Cassidy, New Yorker and so on.

I am not going to review Piketty’s book here as I have been asked by the Historical Materialism journal to do a review and I don’t want to steal the thunder from that.  But as that won’t be published for some time, I can’t resist posing a few questions for everybody to consider if they plan to read the 677 pages plus a myriad of statistics and charts offered by Piketty.

The book’s title immediately suggests a reference to Marx’s Capital, written in the 19th century. By implication, Piketty sets out to deliver an analysis of capitalism relevant to the 21st century as an improvement on Marx.

So here are the questions.

Piketty’s definition of capital is different from that of Marx.  Is Piketty’s better, more realistic and appropriate or is Marx’s?  Does it matter?

Piketty presents “two fundamental laws of capitalism”.  Piketty’s laws are different from Marx’s laws of motion of capitalism.  Are they realistic and more compelling in explaining capitalism in the 21st century?

Piketty’s main thesis is that inequality of wealth will grow as the share of income in an economy going to capital rises faster than national income increases.  This will happen if the net rate of return on capital (r) rises faster than the nominal rate of national income growth (g).  Is he right?

What is this r, how do we measure it and is it a realistic category?  I challenge the reader to search for Piketty’s r and the data behind it.

Piketty says r and g are independently determined and exogenous to his model of capitalism.  Is it realistic to assume that the rate of return on capital is not affected by the rate of growth in an economy, or vice versa?

Piketty says that, over centuries, r is pretty much steady at about 4-5%.  How does Piketty reach this conclusion?  Does he explain? Marx would not agree that the rate of profitability in capitalist economies has not moved much?  Is Marx wrong and Piketty right?

Piketty says, as r is steady, the only swing factor is g and he forecasts that the growth of national income will fall below r during the 21st century and thus inequality will rise further.  Is he right about g slowing down while r stays steady?

Piketty uses the neoclassical aggregate production function model to make forecasts about future growth in an economy?  Is this robust and realistic?

Rising inequality is the issue for 21st century capitalism for Piketty.  But what about booms and slumps and the recurrent breakdowns in capital accumulation?  What does Piketty have to say about those in relation to his ‘fundamental laws’?

Piketty suggests policy solutions to the rising inequality of wealth.  Are they appropriate and realistic?

My review will try to answer these questions.


A critical day

April 13, 2014

I’ve just got back from presenting a paper jointly with G Carchedi at a seminar on “Imperialism and war” organised by the Critique journal.  Critique is a long-standing theoretical journal of Marxism (http://www.critiquejournal.net/) and it recently published a joint paper by Carchedi and me called “Marx’s law: answering old and new misconceptions” (http://www.tandfonline.com/doi/full/10.1080/03017605.2013.876811#.U0k3frQXJGU).  Much of the arguments in that paper concerned answering the critique of Marx’s law of the tendency of the rate of profit to fall recently renewed by Michael Heinrich, a prominent Marxist scholar, in the US journal, Monthly Review.  You can get the gist of that debate here (http://gesd.free.fr/mrhtprof.pdf).

The Critique editorial board kindly invited us to speak on how Marx’s law related to the cause of capitalist crisis at their seminar in London, among other speakers.  The first speaker was Bob Brenner, Distinguished Professor of of History at the University of California Los Angeles (UCLA) and director of the Center for Social Theory and Comparative History at UCLA, editor of the socialist journal Against the Current, and editorial committee member of New Left Review.  Brenner authored the highly influential book, The Economics of Global Turbulence in 2006, one of the first to argue that the source of crises in capitalism could be found in falling profitability and moreover providing empirical evidence of this.  Also, see his article of 2009, What is good for Goldman Sachs is good for America (http://escholarship.org/uc/item/0sg0782h).

Brenner delivered a paper similar to the article above that provided compelling empirical evidence that the root cause of the Great Recession lay in the secular decline of the US rate of profit and the attempt to overcome that with a series of ‘asset price’ credit-fuelled bubbles in stock markets (1990s) and residential property (2000s).

Carchedi and I presented two separate papers in our session.  Carchedi’s was called “The law of the tendential fall in the rate of profit as a theory of crises: twelve reasons to stick to it”.  In it, Carchedi carefully examines the 12 major arguments against Marx’s law of profitability and provides clear refutations of each, using both theoretical points and empirical evidence.  In summary, Carchedi concludes: “it is better to stick to the original Law. It works and it works well.”

My paper was called: “Marx’s law of the tendency of the rate of profit to fall and the theory of crises: does it fit the facts?”.  In it, I set out to show that there is plenty of empirical evidence to support Marx’s view that the rate of profit in a capitalist economy will tend to fall as the accumulation of capital takes place because the organic composition of capital will rise, as a rule.  The rate of profit will only rise if counteracting factors, like a faster rising rate of surplus value, come into play, to delay or curb the law for a while.  Moreover, the movement in the rate and mass of profit is a good leading indicator of whether a crisis or slump in production is about to happen.  I used empirical evidence from the US and UK economies to show this, as well as evidence provided by other scholars.

Although Critique has published our paper on the law and invited us to speak on it in the healthy spirit of debate, the editor of Critique, Hillel Ticktin, disagreed with both Bob Brenner and Carchedi and I on the relevance of Marx’s law of profitability to crises.  Ticktin’s arguments boiled down to the view of Michael Heinrich and the Monthly Review: namely Marx’s law was not a law in the proper sense, indeed there was no such thing as a ‘law of a tendency’, it was either one or the other, but not both.   Anyway, the law of the tendency really included the counter-tendencies and thus made the law ‘indeterminate’ and thus impossible to use in a coherent way.  Moreover, it cannot be empirically verified, at least in statistical terms, because the data from official sources are inadequate and/or not collected to provide clear information on Marxist categories.  So what Brenner, Carchedi and I were doing was a waste of time.  Crises under capitalism clearly reoccur with regularity, but this is more to do with the momentum of the class struggle than with any movement in the rate of profit, which after all did not appear much on any analysis of crises by the great Marxist leaders after Marx.

Readers of this blog will know that all these criticisms of Marx’s law and its relevance to crises under capitalism are not new.  And they have been taken up in a myriad of posts here and in papers by others elsewhere.  Suffice it to say, that we ‘fundamentalists’ and ‘mono-causalists’ that support Marx’s law of profitability as the best explanation of crises under capitalism and specifically, the Great Recession, will continue to plough on in the belief that what we are doing does help to explain the contradiction in capitalist economies better than alternatives.

Critique plans to publish all the papers on its website, but you can find Carchedi’s paper here Carchedi London 11-12 april 2014 and mine Presentation to Critique conference 11 April 2014 here.

$5 trillion – gone forever!

April 11, 2014

The British media and the government have made much of the news that the UK economy is likely to grow faster than any other of the top seven capitalist economies this year.  According to the latest forecast of global growth released by the IMF, the UK will grow 2.9% this year, compared to 2.8% in the US and 1.7% in Germany.  And the advanced economies as a whole will expand output by 2.2% compared to just 1.3% in 2013.

However, what was not mentioned so loudly by the media was that the IMF has trimmed its growth forecast for the world as a whole from a previous forecast of 3.9% to 3.6%, compared to 3% in 2013.  This reduction was because the so-called emerging capitalist economies are experiencing slower growth than before the crisis.  The IMF expects these economies to grow 4.9% this year, only up slightly from last year.  Also, the IMF reckons that in 2015, the advanced economies will still grow only 2.3%, hardly faster at all than this year, while the UK’s growth will slow to 2.5%.


Moreover, many major economies have still not returned to the real output levels achieved before the crisis.  The UK was still 0.5% below its previous peak at the end of 2013.  Italy was still a huge 7.5% below, Spain 7% below and France flat. The distressed Eurozone states of Ireland and Portugal are 5-7% below and Greece some 23% down!  And this is now six years since the Great Recession broke.

But here is the even more startling fact:  if you measure the loss of real output since 2008 relative to where it should have reached in 2013 if there had been no Great Recession, then Greece and Ireland have lost nearly 40% of the potential rise in real output from 2008 to 2013 that they should have had.   The UK has lost near 20%, the US 12% and even Germany has lost a potential 5%.

Relative loss

When you add up all this lost potential output in dollar terms, it comes to over $5 trillion for the US, the Eurozone, Japan and the UK.  This is the value of output that has been lost forever and that’s real money.  What’s more, extra potential output will be lost until these economies grow at the same pace as before the crisis – and they will not be doing so in 2014 anywhere.

Dollar loss

Here’s how it looks for the ‘fast-growing’ UK as a chart – it’ s much the same for the other economies.

UK trend

Such is the waste of jobs, incomes, services and resources that the Great Recession and recurring capitalist slumps deliver.

A look at the high frequency data on the state of economic activity in March 2014 shows that the slow recovery in the US continues, based on the combined survey of manufacturing and service companies.

ISM Mar 14

The more unreliable weekly ECRI survey shows something similar.

ECRI Mar 14

In March, all major economic regions expanded but most at a slower pace than in February.

PMI Mar 14

The world economy continues to crawl.


UK profitability flat and still below peaks

April 10, 2014

The latest data on UK corporate profitability have been released – to complete figures up to the end of 2013.  The UK’s national stats office is one of the few that provides some very useful data on profitability – and often compares it with other countries too.  According to the data, private non-financial corporations’ profitability, as measured by their net rate of return, was estimated at 11.7% in Q4 2013.  That’s up from the trough in 2009, but still lower than the rates experienced in 2008.  In reality, the rate of profit has been pretty much flat since 2010.

Net ROP quarterly

The net (that’s after depreciation) rate of return in the UK manufacturing sector reached 12.1% at the end of 2013, the highest level since mid-2008.  In contrast, service sector profitability rate was at 13.9%, down from 2012 and still below peaks in 2008.  UK corporate profitability is still some 21% below where it was in 1997, when it reached 14.5%.  And it is still 20% below its next peak year in 2008, and up only a measly 5.5% from the trough of 2009 reached at the end of Great Recession.
UK rate of return on capital

India’s Modinomics

April 6, 2014

This week marks the start of the biggest democratic election in human history, at least if we mean by democracy a vote for a parliament. Around 814m Indians are eligible to vote over the next six weeks to elect a parliament from which a government will be formed in late May.

The incumbent Congress party-led coalition is heading for a big defeat. The Congress party, India’s main bourgeois party that has ruled for most of the years since independence from British imperial rule in 1949, has been controlled by a family dynasty based on its leader Nehru and the Gandhis. Rahul Gandhi and his mother Sonia currently control the party. But the failure of their government to sustain economic growth and make sufficient jobs available for the impoverished agricultural peasants and the unemployed and underemployed of the teeming cities has lost them support. As the mainstay of the Indian capitalist class, the Congress leaders have been caught in a series of scandals and corruption that has turned the people away. Congress will be lucky to return half the 200 or so seats they won last time in 2009.

Voter opinion at a national level has turned towards the Bharatiya Janata Party (BJP), led by Narendra Modi. The BJP has ruled before from 1998 to 2004. But the BJP proved to be an unreliable tool for Indian capital, riddled as it is with former members of what is basically a Hindu religious fascist party, the Rashtriya Swayamsevak Sangh (RSS), an organisation modelled on Mussolini’s Black Brigades. Modi is a long time member and worker of the RSS who has moved seamlessly into the BJP.  He claims, of course, that he has moved on and will now be doing the bidding of capital as a whole and will no longer push his former Hindu communalism. But Modi has been chief minister in Gujarat state since 2001, where pogroms of Muslims have taken place without a blink from the Modi government.

But that does not matter to India’s capitalist class, as long as it does not get out of hand. For them, Modi is now seen as leading a ‘business-friendly’ government as he proved in Gujarat, where multi-national companies were welcomed with cheap land deals, reduced taxes and deregulated environmental laws. This is what he likes to call Modinomics.

The irony is that while Modi has made much of his success in boosting growth in Gujarat with neo-liberal policies, the reality is that Gujarat has done little better than other states led by Congress or by more radical ‘social-democrat’ governments. Amartya Sen, the Nobel laureate economist, has said the Gujarat state’s social and economic progress is poor. Others claim that keeping growth at healthy levels in Gujarat, a mid-sized state with a strong tradition of trade and a better infrastructure than much of the country, is easier than elsewhere.

Gujarat’s growth rate in the 1990s was 4.8%, compared to the national average of 3.7%; in the 2000s it was 6.9% compared to the national average of 5.6%. The difference between Gujarat’s growth rate and the national average increased marginally, from 1.1 percentage points to 1.3 percentage points. Maharashtra, the top-ranked state in terms of per capita income in the 2000s, improved its growth rate from 4.5% in the 1990s to 6.7% in the 2000s. The difference between Maharashtra’s growth rate and the national average grew from 0.8 percentage points to 1.1 percentage points. Contrast this with the performance of Bihar, the state that has been in the bottom of the rankings in terms of per capita income throughout: its growth rate was 2.7 percentage points below the national average in the 1990s, but 1.3 percentage points higher in the 2000s.  So Modi’s performance is nothing special.

And the problems for Indian capitalism are mounting. After achieving spectacular growth averaging above 9% over the past decade, India has started to slow in the last few years.

India GDP

The slump in infrastructure and corporate investment has been the single biggest contributor to India’s recent growth slowdown. India’s investment growth, averaging above 12% during the last decade, fell towards zero in the last two years.

India GFCF

Mainstream Indian economists blame high interest rates and ‘too rigid’ labour rights. The IMF in turn blames “heightened uncertainty regarding the future course of broader economic policies and deteriorating business confidence”. The IMF wants the new Indian government to raise energy prices to make the state-owned companies profitable and stop labour unions trying to preserve wages and employment, so that the young unemployed can get work (at lower wages, of course).

Two-thirds of Indian workers are employed in small businesses with less than ten workers, where labour rights are ignored – indeed most are paid on a casual basis and in cash rupees, the so-called ‘informal’ sector that avoids taxes and regulations. India has the largest ‘informal’ sector among the main so-called emerging economies.

But small businesses are not very productive. Indeed, India has the lowest productivity levels in Asia. Productivity would rise if generally underemployed peasants could move to the cities and get manufacturing jobs in the cities. This is how China has transformed its workforce, of course to be exploited more by capital, but also to raise productivity and wages. China has done this through state planning of labour migration and huge infrastructure building. India cannot, so its rate of urbanisation is way behind that of China. So Indian and foreign capital are still not fully exploiting the huge reserves of mainly youthful labour for profit.

As a result, employment growth is pathetically slow. An estimated 10-12m young Indian people are entering the workforce each year but many cannot find jobs due to their paucity or because they lack the right skills. Congress says it will find jobs for low caste rural people by introducing ‘affirmative action’ in companies. This would do little except enrage large and small capitalists alike. At the same time, it goes along with the IMF for “a more flexible labour policy”.

And there is the issue of basic resources for India’s 1.2 billion people. Mechanically pumped groundwater now provides 85% of India’s drinking water and is the main water source for all uses. North India’s groundwater is declining at one of the fastest rates in the world and many areas may have already passed “peak water”. The World Bank predicted earlier this year that a majority of India’s underground water resources will reach a critical state within 20 years.

The big demand from Indian capital is to cut back the size of the state. Bureaucratic and inefficient as it is, India’s central and state government, as well as state enterprises set up in the early days of ‘socialist’ India, have provided some solidity to India’s economy. But the multi-nationals and large Indian capitalists want this to go. Central and state government run up significant annual budget deficits because they subsidise food and fuel for the millions of poorer Indians. Those deficits are funded by borrowing and the cost of that borrowing has steadily eaten into the available revenue from taxes, leaving little for education, health or transport.

Government tax revenues are low because Indian companies pay little tax and rich individuals even less. Inequality of income in India is not as high as in China, Brazil or South Africa, but it is probably higher than the official gini index because of huge hidden income among the rich and it has been rising.  According to the OECD, income inequality has doubled in India since the early 1990s. The richest 10% of Indians earn more than 12 times as much money as the poorest 10%, compared to roughly six times in 1990.

india gini

The answer for Indian capital and endorsed by Modi is privatisation, cuts in food and fuel subsidies and a new sales tax, a tax that is the most regressive way to get revenue as it hits the poor the most.  The aim here, as it always is with neoliberal economic policy, is to raise the rate of exploitation of labour so that the profitability of capital is boosted and thus provide an incentive to invest, something Indian capital is refusing to do right now.

Indian companies are increasingly heavily in debt: corporate debt to GDP is one of the highest in Asia. And the cost of servicing that debt has risen sharply as the Reserve Bank of India has been hiking interest rates to try and control the highest inflation in Asia.

Indian capital’s profitability had been falling steadily (if from a high ‘emerging market’ level) even before the global economic slump started. It has fallen further since and is now some 20% below levels in the 1980s. The boom double-digit growth years of the early 2000s, when all the talk was about India’s software outsourcing industry and new auto companies, seem unlikely to return without drastic reductions in the share of value going to labour.

India ROP

A victory for Modi is likely and that is making India’s business class beam. The Indian stock market has reached new highs. But India’s electorate is faced with a choice at a national level between a corrupt family-run party backed by big business and landholder interests and an extreme nationalist party that has adopted Modinomics to ‘solve’ Indian capitalism’s failure to deliver sufficient growth and better profitability. It is a choice that will make many vote instead for various regional parties or small radical parties which may well hold the balance of power in parliament, as before.

HFT, arbitrage and flash crashes

April 4, 2014

The new Michael Lewis book, Flash Boys, which focuses on high-frequency trading, is causing a bit of a stir in the financial sector. His book is now a No 1 best seller. And various investment houses and economic commentators are complaining that he is smearing perfectly legitimate fast trading as some sort of scam that rigs markets.

Lewis reckons that high frequency trading (HFT) amounts to high-tech ‘front running’. By that he means that HFT firms, using sophisticated mathematical models and algorithms, are gaining an unfair advantage in knowledge about the movement of prices in financial markets so they can get in to buy and sell a millimetre of a second before others. Moreover these high-frequency traders are getting special privileges from investment banks to trade in ‘private exchanges and ‘dark pools’ of warehoused shares and bonds to gain more advantage over the average investor.

The defenders of HFT say that they are just doing what always has been done in investment markets, using superior techniques that make them more efficient than their rivals. They make gains because they are more clever and quicker, not because they have ‘inside knowledge’ and are ‘front running’ the market.

In one sense, high frequency trading is nothing new in financial investment – it’s just the latest technical revolution in speculative financial trading and, in particular, what is called arbitrage. That means taking advantage of slight differences in the price of the same stock or bond before others notice.

Since the beginning of financial speculation, arbitrage has existed. The most famous example is that which made the legendary banker and speculator Nathan Rothschild hugely rich from the Napoleonic wars between Britain and France. Rothschild had an agent at the Battle of Waterloo in 1815. His agent saw that Napoleon was losing and rushed back to the coast, hired a boat for a humungous sum of 2000 francs through a storm to England. On getting the news, Rothschild rushed to the London Stock Exchange and acted as though he wanted to sell British shares, giving the impression that British commander, Wellington, had lost. Everybody pitched in to sell and Rothschild quietly bought them all up before the news arrived of the British victory.

Two things come from this: speedier information gives an advantage and but also allows the ‘rigging of the market’. High frequency trading is an advance in efficiency because it is speedier, but it is open to the usual chicanery of speculative investment. HFT is just another example of speculative capital engaged in arbitrage, simultaneously buying and selling two equivalent positions, or at least instantaneously as possible. Time is risk. So reducing the time between buying and selling reduces risk to the speculator: HFT has taken that to the nth degree.

Let me quote Nasser Saber, author of three volumes on, Speculative Capital, on HFT: “HFT is the adaptation to the new circumstances of old ways… when a find places an order to buy say 100,000 shares of a stock, the order has to broadcast to reach the market. But if before it reaches the market, we can intercept it and get ahead of the trade, buying as many shares as we can, that would push the share price higher, if only by a very small amount. We then sell for a profit, maybe razor thin. If we repeat this process tens of millions of times a day, our low margin will compensated by large volume… that’s HFT in a nutshell”. (see http://dialecticsoffinance.blogspot.co.uk/).

The difference between Rothschild and high frequency traders is that the former used a man and the latter use computers and software. Yes, it is efficiency and front running together – as it always has been. That is what financial speculation is all about. But then financial speculation creates no new value, it merely redistributes existing value or produces fictitious capital way out of line with real value. As such, it is not just no use at all, but positively dangerous to productive sectors.

Those with the algorithms and the maths and the technology can gain a momentary advantage over the average punter. And of course, the average punter does not have access to the technology and also to the special ‘private exchanges’ where those ‘in the club’ can take advantage of these minute differentials at speed. Indeed, these private exchanges and dark pools of stocks were set up by the investment houses to stop the small HFT operations ‘stealing’ their arbitrage gains.

Most financial capital does not go into HFT – it’s still a small field that Lewis is highlighting in his book.  Spreads on arbitrage are continually being squeezed, so volume must continually be expanded.   Fierce competition for market share among HFT firms has been driving many into new markets, geographies and asset classes. For instance, Virtu, which uses algorithms that dart in and out of positions in milliseconds, says its profitability relies on the fact that it trades 10,000 securities and other financial products such as fixed income, currencies and commodities in 210 markets and 30 countries.  Though HFT firms will make $1.3bn before expenses this year from trading US stocks, up slightly from 2013, that expected figure will be far below the $7.2bn peak in 2009, according to estimates from the consultancy Tabb Group.

And that is where disaster brews, as speculative capital and trading is always an accident waiting to happen and now at flash speeds. Long-Term Capital Management, a hedge fund, that engaged highly-leveraged speculative investing, using a ‘foolproof’ and highly ‘efficient’ risk model called Black-Scholes, infamously collapsed in 1998, losing $3.8bn and nearly taking the 14 largest investment banks who invested in it down with it. LTCM and its investors were bailed out by public money from the Federal Reserve. And there have been several examples in recent times of sharp flash crashes in financial markets probably caused by HFT.

“At some point in time the chickens are going to come home to roost on the HFT game,” said one Goldman Sachs ‘insider’. “It’s a smart move for anyone to become more diversified in their approach to the market.” Or just not have speculative capital and a financial market at all!

Marx blogged to death

March 31, 2014

The New York Times has launched a debate about whether Karl Marx was right after all about capitalism (http://www.nytimes.com/roomfordebate/2014/03/30/was-marx-right). As the NYT put it in its introduction to the contributions of some well-known economic commentators and bloggers:“in the golden, post-war years of Western economic growth, the comfortable living standard of the working class and the economy’s overall stability made the best case for the value of capitalism and the fraudulence of Marx’s critical view of it. But in more recent years many of the forces that Marx said would lead to capitalism’s demise – the concentration and globalization of wealth, the permanence of unemployment, the lowering of wages – have become real, and troubling, once again. So is his view of our economic future being validated?”

You can see what’s worrying the NYT. Like many supporters of capitalism as the only and best system of human social organisation, the NYT is worried that capitalism does not (or no longer seems) to deliver ever-increasing living standards for the majority, but instead is producing ever greater inequalities of wealth and incomes, to such a point that it could provoke a backlash against the system itself.

So the NYT offers a debate. And the question of whether Marx was right about capitalism is put to five bloggers. Of course, most of these are very quick to assume that capitalism does work or is, at least, the best system on offer and there is no alternative (TINA), to use Margaret Thatcher’s infamous phrase about the ‘free markets’ and welfare cuts.

Take free marketer, Michael R. Strain, a resident scholar at the neo-liberal American Enterprise Institute. Mr Strain tells us that maybe Marx had a point back in the days of Victorian England and Charles Dickens, when there was poverty everywhere. But now, Strain tells us, things are different. Now only just over 5% of the world’s population is living on less than $1 dollar a day compared to over 26% just 40 years ago. This is the great achievement of ‘free enterprise’.

This statistic hides a story though, because the big reduction in the worst level of poverty (living on $1 (1987 prices) was achieved by China’s dramatic rise in the world economy. I would be surprised if Strain would conclude that China’s economy is an example of ‘free enterprise’. For that matter, the biggest falls in poverty also took place in the Soviet economies until the fall of the Wall.

No matter, after damning Marx with faint praise, Strain brings up a hoary old chestnut used by mainstream economics: the fallacies of Marx’s labour theory of value. You see, it’s obvious false “that the value of an object is determined by the labor required to produce it. I could spend hundreds of hours writing a song; Bruce Springsteen could write one in 15 minutes worth far more than mine. Q.E.D”.

Well, fancy Marx not noticing that the product of some people’s labour is worth more in the market than others even though they take less time. Clearly, Strain has not read Marx’s Capital Volume One, where he deals with this issue and many others in relating the difference between ‘concrete’ labour and ‘abstract’ labour time.

But again, no matter, Strain has to admit that Marx may still have point about capitalist crises: “There is an inherent instability in capitalism — cycles of boom and bust lead to human misery. Capitalism does create income and wealth inequality.” That doesn’t sound good for ‘free enterprise’ but Strain then tells us that, after all, such crises are not ‘inherent’ and all this inequality and boom and bust were just leftovers from the Great Recession and capitalism would be soon all right. Great – panic over!

Strain’s arguments are thin indeed. We get a more serious bashing of Marx from top Keynesian Brad de Long, professor of economics at University of California, Berkeley, and who blogs at Grasping Reality With Both Hands.  First, he tries a quick demolition of “Marx’s fixation on the labor theory of value” which according to De Long “made his technical economic analyses of little worth”. You see, Marx’s claim that only labour creates value meant that he could not see rising living standards being achieved if the rate of exploitation of labour rose over time. Marx was “confused between levels and shares” of income. After all, you can have a falling share of value going to labour, but still have rising living standards.
This, of course, is yet another chestnut: that Marx reckoned wages would keep on falling under capitalism until the point that, as De Long puts it, the working class would starve. And how wrong was that. This is a nonsense view of Marx’s immiseration theory. Marx clearly recognised that rising productivity of labour under the dynamic development of the capitalist mode of production could lead to increased wages, except that the workers would have to fight for them. A rising rate of exploitation did not necessarily mean falling wages, although sometimes it could. Again this is all in Marx’s Capital – but our esteemed economist seems ignorant of that.

All these misrepresentations of Marx’s value theory are deliberate. Marx’s theory explains that the world’s wealth does not come from capitalists investing, landlords from owning land or bankers from lending money, or somehow from ‘technology’, but from the effort of human labour. But the product of labour is usurped and appropriated by the owners of capital so there is a direct contradiction between profit and the value created by labour. This is something that cannot be admitted or accepted by the apologists of capital.

De Long tells us that Marx thought that new technology under capitalism would lead inexorably to rising unemployment and Marx was wrong. But what Marx explained was that capital’s drive for higher profits would mean more labour-saving technology. That would mean a rise in the ratio of machinery, plant and technology per employee, what Marx called the organic composition of capital. The evidence for this happening over time in every major capitalist economy is overwhelming. The ratio of the means of production to the employment of labour has risen hugely. And this creates a tension between capital and labour on sharing out the new value created and on the continued employment of labour in outdated industries. A reserve army of labour is permanently available for capital to exploit or not.  This seems to describe exactly the nature of technology and labour under capitalism, not De Long’s distortion. Ironically, De Long says at the end of his piece that maybe robot technology will actually displace human labour permanently after all. But that’s another story.

Tyler Cowan is a professor of economics at George Mason University and blogs at Marginal Revolution, which covers economic affairs. Tyler is a firm proponent of modern neoclassical economics that starts from the assumption of free markets and sees economics as the study of the allocation of scarce resources, basing himself of the neoclassical assumptions of marginalism.

For Cowan, Marx has got the wrong end of the stick. Capitalism’s failure to provide things like decent education and health or better living standards, at least right now, is because of ‘vested interests’ blocking the free market from making a proper allocation of resources. ‘Rent seekers’ and monopolies (including trade union interference) are the problem, not capitalism as such.  Cowan reckons Marx has little to say on these issues. Again, of course, yet another eminent economist has not read his Marx, who dealt with the issue of monopoly and rent at length.

Like De Long, Cowan confuses productivity with profitability. For him, the low profitability that Marx pointed out “perceptively” is due to the low growth in productivity since the 1970s. Thus Cowan suggests that Marx had a similar theory to the neoclassical marginal productivity theory, something by the way that Thomas Piketty also thinks in his recent opus, Capital in the 21st century.

But turning Marx into a neoclassical economist won’t work. Actually Marx’s theory is the opposite: a higher growth in the productivity of labour will eventually lead to a falling rate of profit, because it can only be achieved by increasing investment in the means of production and reducing relatively the costs of labour. But as profits only come from labour power, there is a tendency for profitability to fall as productivity rises.

Yves Smith writes the blog Naked Capitalism. She is the head of Aurora Advisors, a management consulting firm and generally considered more to the left in the economic spectrum. But she soon dismisses Marx’s analysis, as she sees it, in her contribution. We are told that Marx had an underconsumption theory of crises under capitalism, namely that “Marx believed that overproduction would lead to pressure on wages, which would prove to be ultimately self-defeating, since the drive to lower pay levels to restore and increase profit levels would wreck markets for goods and services. That’s very much in keeping with the dynamic in advanced economies today.”

This is the usual view of Marx by many lefts and the modern version of this is to claim that rising inequality of incomes is the cause of crises, or at least the latest one. I have spent a lot of time on my blog explaining both that this is wrong and it was not Marx’s view either (see my post: https://thenextrecession.wordpress.com/2014/03/11/is-inequality-the-cause-of-capitalist-crises/.)

But no matter, because according to Smith, Marx got it wrong anyway about class struggle under capitalism eventually leading to its overthrow. You see, a ‘middle class’ developed around managers and trade unionists and this has permanently blocked any move to end capitalism. So Marx was wrong in his expectation of change.
There was only one blogger who defended Marx’s ideas out of the five invited to contribute to the NYT debate – I suppose a fair ratio of views among economists. Doug Henwood is editor of Left Business Observer, host of a weekly radio show originating on KPFA, Berkeley, and is author of several books.
Henwood makes it clear where he stands: “I don’t see how you can understand our current unhappy economic state without some sort of Marx-inspired analysis.” Even better, he places the Marxist theory of the cause of crises under capitalism squarely with the movement of profitability. “Corporate profitability — which, as every Marxist schoolchild knows, is the motor of the system — had fallen sharply off its mid-1960s highs.” As Henwood explains, the strategists of capital moved to raise profitability through a reduction in labour rights and by holding down wages. “The “cure” worked for about 30 years. Corporate profits skyrocketed and financial markets thrived. The underlying mechanism, as Marx would explain it, is simple: workers produce more in value than they are paid, and the difference is the root of profit. If worker productivity rises while pay remains stagnant or declines, profits increase. This is precisely what has happened over the last 30 years. According to the Bureau of Labor Statistics, productivity rose 93 percent between 1980 and 2013, while pay rose 38 percent (all inflation-adjusted)”.
However, Henwood reckons the current crisis is the result of inequality and low wages reducing consumption and thus the answer is to raise wages and public spending. The problem with this view of Marx is that it does not match the facts: consumption did not slump at all prior to the Great Recession: it was the collapse of the housing market, profits and then investment, not consumption. Raising wages and reducing inequality will help the majority but lower profitability further and thus reignite the capitalist crisis. It’s not higher shares for labour that is the answer but the replacement of the capitalist mode of production.
But at least Henwood understands better Marx’s views, unlike the other bloggers. That did not stop Philip Pilkington, a heterodox economist, blogging that Henwood was wrong. Pilkington correctly refutes De Long’s distortion that Marx thought wages must keep falling. As he says “I don’t know why this myth continues to bounce around. Everyone and their mother seem to think that Marx was dead sure that real living standards of workers could not rise under capitalism. But this is simply not true…Marx did not argue that real wages could not rise under capitalism. End of story”

Unfortunately, Pilkington relies on the arguments of the post-Keynesian ‘Marxist’ economist of the 1940s, Joan Robinson. As a result, he claims that Henwood is confused to argue that US profitability fell in the 1970s. He says “I don’t know where this stuff comes from. I know that Marxists want to bring every crisis down to some sort of crisis of profitability but really, the data is readily available.”
Yes, it is readily available and unfortunately for Pilkington backs the Marxist case.  Pilkington is confused with his data. Not understanding Marx’s law of the tendency of the rate of profit to fall, Pilkington provides us with a graph showing the year on year change in the mass of profit to refute Henwood, not the rate of profit! Oh dear.
Pilkington concludes with a question “is Marx relevant for understanding the world today?” And his answer: “Frankly, I don’t think so.” For him, we are back to rising inequality and banking speculation as the explanations of crises – they remain the most popular and yet the furthest away from Marx’s.

So Marx continues to be blogged to death.

US business investment still stuck

March 30, 2014

First Look at Q4 Domestic Income Shows Labor Share at Record Low, Corporate Profits at Record High

New data released today by the Bureau of Economic Analysis showed that GDP grew slightly faster than previously estimated in the fourth quarter of 2013, an annual rate of 2.6 percent rather than the previously reported 2.4 percent. Consumption grew more strongly than previously estimated and investment slightly less strongly. Other components were little changed.

Today’s report also includes the first look at the composition of Gross Domestic Income for Q4 2013. The data show a continuation of recent shifts in income shares. As the following chart shows, the share of corporate profits in GDI rose to 12.65 percent, and the share of employee compensation, including wages, salaries, bonuses, and benefits, fell to 52.2 percent. These figures mark record highs and lows for these GDI components since 1947, the earliest year for which data are reported.

The following chart shows trends in the shares of major GDI components over the course of the Great Recession. In addition to compensation of employees and corporate profits, the chart shows the share of proprietors’ income, which includes the net income of proprietorships, partnerships, cooperatives, and other noncorporate enterprises. Proprietors’ income now accounts for 7.9 percent of GDI, up from its low for the recession, but it remains well below the levels of 10 to 15 percent that it reached in the 1950s. Several other small items make up the remainder of gross domestic income, including rental income of persons, net interest, and the net income of government enterprises, which is typically negative.

We can redraw the data in the previous chart to bring out the relative movements in the shares of GDI components more sharply. The next chart assigns a value of 100 to each component’s share in 2007, the year before the recession began. This chart shows that corporate profits were hit hard in the first months of the recession, but began to recover already by the end of 2008, when GDP was still falling. By the time the economy had officially entered the recovery phase in mid-2009, corporate profits were surging to new highs.

Compensation of employees and proprietors’ income behaved differently. During the downslope of the recession, the shares of those two components held fairly steady, that is, they decreased but only at about the same rate as GDI as a whole. After mid-2009, when the economy began to recover, the two diverged. Proprietors’ income grew faster than GDI as a whole, so that its share increased. Compensation of employees grew less rapidly than GDI, so its share began to fall, and is still falling.

These trends in the shares of GDI components provide another view of the substantial changes in the distribution of income and wealth that are underway in the twenty-first century United States. The data shown in our charts are only indirectly related to the more widely publicized increase in the share of total income accruing to top earners, but they explain part of what is going on. It is true that some high earners receive the major part of their income in the form of salaries and bonuses, and that many middle-class families receive some corporate profit income through mutual funds and retirement savings accounts. Still, corporate profits are more unequally distributed and compensation of employees less unequally distributed than income as a whole. That means the rising share in GDI of the former and the falling share of the latter are two of the factors behind the rising fortunes of the super-rich and the relative economic stagnation of the middle class.


- See more at: http://www.economonitor.com/dolanecon/2014/03/27/first-look-at-q4-domestic-income-shows-labor-share-at-record-low-corporate-profits-at-record-high/#sthash.6CYAnfGm.ZbreNAaz.dpuf

The final estimate of US GDP in the fourth quarter of 2013 was released last week. It came in with a 2.6% annualised growth rate, slightly higher than previously estimated. That means in 2013, the US economy grew in real terms by 1.9% and in Q4 it was up 2.6% over Q4 2012. The US is still growing at below the average rate of GDP growth over the last 30 years of 3.3% a year.

GDP may be rising slowly, but not corporate profits. The share of corporate profits in gross domestic income rose to 12.65%, while the share of employee compensation (wages, salaries, bonuses, and benefits), fell to 52.2%, the highest and lowest share respectively since records began in 1947. The exploitation of labour has reached record levels.
What is often left out of the discussion of profits versus wages is what is called proprietors’ income. Ed Dolan in his blog has highlighted that, in addition to corporate profits, small businesses also take up 7.9% of national income. (see http://www.economonitor.com/dolanecon/2014/03/27/first-look-at-q4-domestic-income-shows-labor-share-at-record-low-corporate-profits-at-record-high/). This share is only half is where it was in the 1950s. The large corporations are sucking up the value created by labour in the US.
And it shows what Thomas Piketty revealed in his book, Capital in the 21st century, that the very rich are getting richer, not because they are smarter, better educated or even taking big wage bonuses. It is because income from capital (dividends, interest and capital gains) has rocketed
(see my post, https://thenextrecession.wordpress.com/2014/01/13/americas-lost-generation-and-pikettys-rise-in-capitals-share/).
So the mass of profits accruing to corporations is now some 20% higher in nominal terms than it was before the Great Recession. The mass of profits is not the same as total surplus value in Marxist terms and it is also not the same as the profitability of capital, which I have shown is no better than it was in 2007. But clearly the corporate sector is now better placed than it was to start investing at a higher rate.
The failure to invest in new productive capital rather than in financial assets and property is the reason that the US economy is experiencing the weakest recovery after a recession since 1947. Overall business investment is still below its 2007 peak and the rate of growth has been slowing not accelerating. It fell 16% in the 2009 recession, rose 2.5% in 2010, accelerated to 7.6% in 2011, then slowed a little to 7.3% in 2012. But last year it slowed significantly to just 2.7%.
The level of investment by the top 500 US companies compared to sales or assets remains well below the levels of the 1990s.
S&P capex

Net business investment – that’s after deducting the depreciation of existing stock – is still nearly one-third below the pre-crisis peak. And net investment in structures is more than half below the previous peak, and down nearly 20% in equipment.  Even net software investment is still 12% down.

US business investment level

I won’t go over the arguments on why the US corporate sector is still on an ‘investment strike’ – you can see my opinion in several previous posts. But what are the chances that in 2014 capital spending will finally pick up speed. At the beginning of 2013, most mainstream economists expected just that but were sadly disappointed. The growth rate of investment in both equipment and structures declined last year, which mainstream economists want to blame on a one-off tax incentive that pulled investment forward in time.
Equipment spending rebounded quickly after the recession ended in 2009, but its year-on-year growth rate has fallen in every year since 2010. It rose just 3.1% in 2013 compared with 12.7% in 2011.
Nevertheless, optimism remains. According to the Philadelphia Fed, nearly half of businesses surveyed plan to increase their capex spend in 2014 compared to 39% in 2013, the highest ratio since 2004. Citibank looked at the investment plans of 725 non-financial corporations and found that they expected to raise investment by 5% this year, a bigger forecast than last year – but hardly a breakneck pace.
American corporations’ capital equipment is getting old and the average age of structures is the highest it has been since 1964; equipment since 1995 and intellectual-property products, like software, since 1983. So maybe businesses will have to invest soon?
Capital stock age

This may well be more wishful thinking, however. Net business investment has peaked lower (as a share of GDP) in each successive recovery since the 1980s.

US net investment

And while profit margins may be up as firms squeeze labour’s share, sales revenues are growing only slowly, increasing the risk that any new capital spending may reduce profitability, not raise it.  What is clear is that the US economy will be stuck in its current low-growth trajectory, at best, unless businesses end their ‘strike’ and start to invest in new equipment, plant and technology.


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