You can’t make a horse drink

The Keynesians are split:  they are split on the effectiveness of monetary and fiscal policy on reigniting the capitalist economy and on whether the size of an economy’s outstanding debt (both public and private) matters or not.  The more conservative wing is worried that the current talk of monetary policy aiming at targeting, not inflation, but nominal GDP growth, along with other ‘unconventional’ measures beyond quantitative easing like having negative interest rates (see my post, is dangerous and might lead to higher inflation and interest rates and thus choke off any sustained economic growth; or even reproduce another credit bubble and financial crash.

A representative of this conservative wing, Paul Ormerod,  put it this way in a recent article ( “So-called Keynesians demand an increase in both public spending and the public sector deficit. What might Keynes himself have said about the current situation? “ Well, says Ormerod, “For Keynes, a crucial policy aim during a slump was to have a low long term rate of interest.  Without it, recovery would just not happen.”   If governments start borrowing too much on top of existing high levels of debt, they risk driving up the cost of that borrowing as lenders demand more interest on their loans.  That lowers the value of existing government bonds and becomes “a powerful depressant of private sector spending, both corporate and individual”.  Ormerod invokes the increased uncertainty this generates – the ‘confidence fairy’, as more radical Keynesians dismiss it: “the less confident you are about your view, the less you will spend.  High interest rates add to uncertainty and undermine confidence.”   So, according to Ormerod, “we might end up even worse off and with a higher deficit to boot.  Policy at the moment is much more about psychology rather than the mechanistic calculations of so-called Keynesians.”  Ormerod claims that Keynes would agree with him and not with the radical wing.

A similar criticism of the more radical wing of Keynesianism has been mounted by the eminent octogenarian Nobel economics prize winner, Robert Solow.  Solow has been a perceptive critic of neoclassical economics and the Austerians.  But in a recent piece, he urges caution on the question of ignoring the size of ‘national debt’ (  His main points are that if foreigners own most of that debt, then that puts the value of the national currency in jeopardy if these foreign investors switch to other country’s assets.  That is less likely to happen for the US because of the role of the dollar as the world’s main reserve currency, but it cannot be ignored.

If the debt is mainly owed to other citizens of the same country, then through inflation and the shifting of the burden of servicing that debt into the future, it can be made manageable now.  But the real problem, Solow reckons, is that rising debt “soaks up savings that might go into useful private investment. Savers own Treasury bonds because they are seen as safe, default-free assets, and the government can borrow at lower rates than corporations can. If there were less debt, and fewer bonds for sale, savers seeking higher returns would invest in corporate bonds or stocks instead. Business investment would expand and be more profitable.”   This is not a problem right now as too much austerity is the issue, but it could become one further down the road.

Comments like these from fellow Keynesians have produced hot responses from the more radical wing.  Randall Wray is one of the leading exponents of Modern Monetary Theory (MMT), which argues that a government can spend just as much as it likes because it can create money to pay for it; so there is no issue of default and no likelihood of rising interest in the current environment of excess capacity in production, high unemployment and cash hoarding by corporations (see my post,

He laid into Solow (  “Solow is a “neoclassical synthesis” Keynesian, the type of Keynesian economics that used to be taught in the textbooks. He was also on the wrong side of the “Cambridge controversy”, as the main developer of neoclassical growth theory.”  Wray answers Solow point by point.  But what is revealing is on nearly every point that Solow raises, Wray does not really dispute: foreigners owning debt, Treasury printing of money for debt, inflation as a way of reducing the real value of debt and the burden of servicing debt to bondholders for the rest of the economy.

Indeed, as this debate goes on, the evidence is mounting up on whether rising debt (public or private) really does matter in the growth of a capitalist economy.  In a recent meeting of the US Federal Reserve in San Francisco, new papers were presented that seem to back up the view of the conservative wing (   Christopher Hanes looked at the impact of monetary policy.  He found that “our statistical analysis shows that higher debt levels would likely lead to higher interest rates, thereby raising budget deficits and debt levels, which in turn would raise interest rates further.  Government bond rates shoot up and a funding crisis ensues. A fiscal crunch not only hurts economic growth because interest rates could rise to unprecedented levels but also because it could make it difficult for the Federal Reserve to control inflation.  Unsustainable fiscal policy can force a central bank to pursue inflationary policies, which is known as fiscal dominance.  If the central bank does not monetize the government debt, then interest rates will rise sharply, causing the economy to contract.  Indeed, without monetization, fiscal dominance may result in the government defaulting on its debt, which would lead to a significant financial disruption, producing an even more severe economic contraction.  Hence the central bank will in effect have little choice and will be forced to purchase the government debt by printing money, eventually leading to a surge in inflation.

So if the government expands its borrowing to try and shore up the economy, it will cause interest rates to rise and choke off growth, unless the borrowing is done simply by printing more money (just as the more radical wing of Keynesians are now advocating).  But if that policy is adopted, it will ‘eventually lead to a surge in inflation’.  Neither way of boosting government spending can avoid damaging the capitalist sector. Indeed, another paper that looked at the impact of nominal GDP targeting in the Great Depression, found that it did not work.

But where Wray is really rankled is by Solow’s assertion that rising public debt “soaks up saving that might go into useful public investment”.  Wray is convinced this is nonsense and runs directly against Keynes’ own view.  Marxists argue interminably about what ‘Marx really meant’.  So do the epigones of Keynes.  And it is just as difficult to know what the great bourgeois economist meant, as he is contradictory and ambiguous.  But whatever Keynes thinks, Wray puts forward a clear view:  “Investment creates saving. Budget deficits create saving. You need the spending before you get the income that you then decide to save.”   This is the Keynesian view that consumption leads the economic process.  From extra spending, we get extra employment and investment and then extra income and saving.  As I have explained in numerous posts (, this analysis of the dynamics of the capitalist economy is flawed because it denies any role for profit in driving investment (and beneath that, the role of exploitation) and assumes that there is just an economy, not a capitalist economy, in the same way as neoclassical theory does.

The reality is the opposite of the Keynesian equation:  under capitalism, it goes from profits to investment to employment to consumption (and saving).  Indeed, in Keynesian terms, savings do drive investment, if we mean corporate savings or profits.  If profitability (relative to existing capital stock) is not high enough and profits (savings) by the corporate sector are hoarded (as now), then investment will not recover sufficiently to restore growth, employment and spending by consumers (workers).  In that situation, no amount of monetary easing or expansion or increase in debt will restore economic recovery.  You can take  a horse to water, but you can’t get it to drink.  It will require the replacement of private investment for profit with public investment for need.

And so pro-capitalist monetary policy remains on the horns of a dilemma, between wanting to boost growth through investment with low interest rates, while also avoiding reviving a new credit bubble and accelerating inflation.  As Ben Bernanke put it this week in his address to those central bankers in San Francisco.  “Let me finish with some thoughts on balancing the risks we face in the current challenging economic environment, at a time when our main policy tool, the federal funds rate, is near its effective lower bound. On the one hand, the Fed’s dual mandate has led us to provide strong support for the recovery, both to promote maximum employment and to keep inflation from falling below our price stability objective. One purpose of this support is to prompt a return to the productive risk-taking that is essential to robust growth and to getting the unemployed back to work. On the other hand, we must be mindful of the possibility that sustained periods of low interest rates and highly accommodative policy could lead to excessive risk-taking in some financial markets. The balance here is not an easy one to strike. “

Indeed!  So far, the effect of Bernanke’s easy money policy has not been to restore significant investment growth or employment, but to take bond and equity prices towards all-time highs in a new financial bubble.  The horses are not drinking so the cash is going elsewhere.

8 thoughts on “You can’t make a horse drink

  1. One question I have is the effect of nationalization in scaring capital into a larger “investment strike” relying on their option to disinvest from the U.S. or any country that threatens its existence. Isn’t there a need to anticipate nationalization of all major capitalist enterprises if you take this first step, and, further, how quickly could such a move arrest capital outflows that would be made by those firms, or would it even matter?

  2. The current economic situation is purely political. In the sense that the supposed expert advisers (consigliere) on economic policy know nothing and have all been utterly wrong each time they have reluctantly been forced to commit themselves. The politicians on the other hand are all disarmingly united in wanting austerity — solve the crisis using the skin of the working class as the sail to catch the winds of prosperity… They know just as little as the economists, and are just as wrong, but their finger is on the button so they trigger devastating error after devastating error in their ignorance and stupidity.
    So the economic situation is purely political, and since it’s one-sidedly bourgeois political, its creators flounder hopelessly when it comes to setting out any rationale for what they are doing.
    The problem for us is that they are doing it.
    Eugene Preobrazhensky wrote in The New Economics that it doesn’t matter a toss what the bourgeois economists say or how they say it – as clowns or tragedians – the bourgeois economy cannot be rationally controlled in advance – ie it can’t be planned. The “invisible hand” of the Law of Value (driving Mike’s demi-urge Profit) sorts things out regardless by discarding unprofitable capitals and equalizing and calibrating the operation of viable capitals. Unconsciously. Behind the backs of the actors involved. And open to scrutiny and assessment only after the event. After the event! (Which is why all our bourgeois experts are such lousy soothsayers and such whizzes with smoke and mirrors. Mediums all.)
    So we have a purely political economic crisis in which the most significant factor of the political equation in bourgeois society is missing – organized labour as a conscious class agent. A class-conscious workers’ movement. In other words, a socialist alternative that can explain and show why the capitalist system is not just coughing and spluttering but is failing miserably on all fronts.
    Now, despite the best efforts of Mike and the few serious Marxist economists around, our socialist organization and the class consciousness of the working class are still so pulverized by the grinding down suffered between the millstones of capitalist ideology and repression and Social Democrat and Stalinist ideology and repression that no concrete steps to put the capitalists out of their misery can or will be taken in the near future. Which means that despite all the stupidity and counter-productive tyranny being perpetrated by the bourgeoisie and its politicians, the system will probably recover for another brief round of fake prosperity for a few.
    Or maybe this time it won’t… the crisis is so deep that only extreme write-offs of superfluous capital will revive the rate of profit… and one of the stupidities being practised by the politicians is to molly-coddle unproductive capital. Witness the automotive industry in Europe and the US.
    Popular pressure and democratic mobilizations (eg most notably in North Africa and the Middle East) are forcing governments to refrain from the most efficient means of destroying superfluous capital – total war and mass bankruptcy. So the self-correcting process is excruciatingly slow this time. Which is probably good giving the hair-raising perspectives raised by outright war and bankruptcy on a national regional and continental scale.
    The most painful thing, as always, is knowing that all this pain is unnecessary and that all the official posturing is pure Rasputin obscurantism in a pretty business suit.
    Sometimes I wish Mike that you would be less “reasonable” and institutionally oriented in your jousting with bourgeois economics and economists. Just because there are a lot of them and they take themselves with great seriousness doesn’t mean they have any scientific weight or deserve to be treated as anything but charlatans and fools. To give a parallel, the same goes for the Monarchy, and the same went for the priestly astronomers of the Middle Ages who thought the earth was the centre of the universe. The only reason for not farting in their faces was to avoid being tortured or burnt at the stake by the Inquisition, or getting your head lopped off by the Lord High Executioner.
    Are today’s sanctions against dissenting economists as terrifying as torture, burning or decapitation?

  3. The recent decline in reported profits may indicate that the period of dramatic cost cutting to boost profitability is coming to an end in the US. There is a limit to how ‘lean and mean’ one can be. This has been the preferred method to date, will it be supplanted by investment (that has been rising) of all that cash as hiring rises?

    Capitalists in the UK and in many EZ countries believe there is still much more to be squeezed out of workers and they’re not finished yet.

    Today the Dow Jones is at an all time high, returning to it’s pre-crisis level. I think it’s too easy to claim we already have a new financial bubble. Not everyone believes so and even Schiller’s P/E index, that tends to be on the upside of risk, is not at dot-com levels. Bernanke is warning of the potential for a new bubble. And bubbles have tended to form in periods of sustained growth.

    Private capital, profitability, etc. is key in all this but Schumpeterian creative destruction isn’t the only option for capital.

  4. @GrahamB: You don’t mention the *rate of profit* in relation to capital’s prospects. During periods of growth, more capital is formed. The more capital there is, the greater the amount of profit needed to keep the rate of profit the same. The trouble is that there is only a finite amount of surplus labour to convert into profit, so the more capital there is, the lower the rate of profit, unless you can increase surplus labour in proportion to it, which the imperialist system has been unable to do except to a certain extent in the proletarianizing BRIC countries, which have thrown small subsistence producers off their land and into the urban labour market (and in Russia’s special counter-revolutionary and historically perverse case expropriated the workers from their own means of production leaving them with nothing but their labour power to live off).
    The problem for capitalism as Mike has pointed out time and again, is that the rate of profit is falling, and this suffocates economic activity (and us with it). So (except to a limited extent in the BRIC countries) there is in fact no solution for capitalism except to wipe out superfluous capital. For instance, axe the European automotive and steel industries which are grotesquely overdimensioned in this capitalist world of ours. Or destroy a country or two while grabbing their resources. The process that Schumpeter labelled “creative destruction” is an objective fact of capitalist life, and is absolutely necessary for the survival of capitalism as a system.
    Our alternative – a socialist economic system without capitalism and it’s inhuman dependence on private profit and a repressive and tyrannical military class dictatorship to protect and promote it – can guarantee the survival of humanity in a prosperous society. But this requires putting the capitalist system out of its agony – the final act of creative destruction, so to say.

    1. In my first sentence, for ‘profitability’ read ‘rate of profit’.

      The collapse of the Stalinist centrally planned economies, the rise of the BRICs and more broadly the emerging economies has been fundamental (not secondary) in the recovery of capitalism from 1993 to 2007.

      Of course creative destruction is one means by which a falling rate of profit can be reversed, I was pointing out that it’s not necessarily the only one. There is much in Mandel that I agree with on this – the long term tendency of the rate of profit to fall is endogenous to the dynamic of capitalism, it’s reversal can include exogenous factors, as in above.

      Michael and others have been down the road of quantifying the rate of profit many times on his (excellent) blog and I don’t want to directly address it once more. I’m not in the depressed rate of profit school.

      1. Maybe we should say “survival” of capitalism rather than “recovery” 😉

  5. I think QE has been great for the capitalist class. Cutting the value of USD by printing more of them has done wonders for ‘job creation’. Now that most workers have been sold on the idea that unions are a burden to the ever mystified ‘economy’, capitalists from around the world and domestically can hire U.S. labour power at lower prices. Add to this, the extra benefits of cutting the value of foreign capitalist owned U.S. bonds and real Social Security payouts in USD, flowing from same and you get a happier capitalist class.

    Of course, finding markets to sell the commodities produced by an ever more productive working class when the markets themselves i.e. the workers’ income, has been so debased through Austerianism is problematic. Still, the exported commodities belonging to U.S. capitalists are now cheaper as a result of both workers’ increased productivity and the de-valued USD.

    What are a lot of U.S. capitalists doing to quench their prime directive i.e. to expand their asset holdings? Investing their stash of steeply discounted Fed Funds in more highly valued AUD denominated Australian bonds and other forms of finance capital?

    Methinks, yes.

  6. I don’t disagree with many of the things you say, but couldn’t the Job Guarantee program proposed by MMTers control inflation as well as achieve a sort of transition from a capitalist economy to a more socialist one? As companies go bust, more people would enter the JG program, thus increasing the role of the government in the economy. Also, since workers would have more leverage, it would eat faster on the profits of many companies, specially the most exploitative.

    In my pipe dream world, it could lead to the best of both worlds: the innovation that sometimes come from private enterprise (i.e. a mobile phone) and the socialization of those industries that stop being profitable, but may be still useful.

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