The Four Causes of the Economic Crisis
There are four main causes of the economic crisis: 1. the war in Iraq, 2. the Bush tax cuts, 3. the falling rate of profit in the “real economy” (or, in other words, the productive sector of the economy), and 4. the flow of foreign and domestic investment capital into the financial markets.
In what follows we will look at these four causes individually and then, since capitalism is a dynamic system, try to look at all of these issues interacting simultaneously. “In the final analysis,” as they used to say, capitalism is the cause of the crisis. And to understand the crisis and how revolutionary democracy can organize economically, socially, culturally, and politically to solve the crisis we will have to deepen our understanding of capitalism’s laws of motion.
1. Falling rate of Profit
U.S. auto maker General Motors along with Ford Motors has been on the verge of bankruptcy since the 1990s. They are one example of a general and well known trend--the loss of manufacturing jobs to outsourcing and technological innovation. During the 1990’s lower profit rates in manufacturing sector of the economy meant that capital started to move to other sectors of the economy in search of higher profits. Capital always goes to where the profits are the highest. The greed is a function of the way the system works. If you were a capitalist and you didn’t seek higher profits you would lose your capital.
During the 1990’s there was tremendous investment in the new economy – especially Information Technology. Stock prices of companies like Amazon.com rose dramatically although they had yet to make a profit. The flow of capital into the new economy created a “bubble.” A bubble just means that the price of some asset, in this case IT stocks, rises above what it is really worth (how to figure out what something is “really worth” is a long story). The dotcom bubble, as it was known, burst. Lots of capital was lost. But the remaining capital needed to find a profitable place for investment. Because the productive sectors of the economy -- traditional manufacturing and the new high tech sector -- were experiencing declining profit rates capital began moving to the financial sector.
The flow of investment capital into the financial sector instead of the productive sector is the heart of the problem. New value is created in the productive sector. When a financial capital loans money to productive capital part of the new value created by the productive capital goes to the financial capitalist as interest (or dividends). But if the productive sector is under resourced then new value is not created in the necessary quantities to meet all of the interest claims. This is the heart of the problem.
After the dotcom bubble capital popped capital flowed out of the productive sector and into the financial sector in search of higher profits. The financial sector responded to this lack of profitable places to put capital in the productive sector (or as it is sometimes called: the real economy) by creating new “financial instruments” – like mortgaged backed securities, credit default swaps, and derivatives. The banks and other financial institutions looked for creative ways to lend money – sub-prime mortgages, interest only mortgages, adjustable rate mortgages, car loans, and consumer credit. . Instead of the productive sector producing new wealth, the financial sector was busy creating new claims on old wealth. Capital was not invested productively it was invested to speculate, to gamble on the production of future wealth.
2. Bush’s tax cuts
The dotcom bubble burst soon after Bush took control of the white house at time when the Federal government was running budget surpluses. These surpluses could have been used to do the work that private investment capital in search of the highest profits could not do: re-building infrastructure—like crumbling bridges and tunnels, arcane public transit systems, universal broad band access, researching alternative fuels, repairing the environment etc.
Instead Bush cut taxes for the wealthiest people in the country arguing that by giving money back to private capital they would in turn invest it in the economy. They did. As investors they sought the highest rate of return. The financial sector had the highest rates of return and now even more capital flowed into the financial sector. All of the problems and imbalances that were created by falling profit rates in the productive sector were exacerbated by the new flood of capital entering the financial markets as a result of the tax cuts. To maintain profit rates new financial instruments must be developed, more risks must be taken. The result more risky bets, more complex financial products and a starving of the productive sectors of the economy where real wealth is produced. Bush, by pushing the tax rate to artificially low levels, in effect subsidized the financial sector at a time when it needed the exact opposite medicine -- a heavy tax that could redirect capital into the productive sector.
3. Foreign Capital
With Bush’s tax cuts effectively subsidizing the financial sector foreign capital in search of higher profits floods in. China, Europe, and the Middle East capitals are buying U.S. debt and investing in the financial sector, again exasperating all of the problems mentioned earlier. More risky loans, more bets, bets on top of bets, insured bets on top of bets on top of bets.
The profit rate in the financial sector is booming. CEO’s of financial institutions are paid inconceivable salaries 20 to 70 million dollars a year in bonuses alone. These flows of foreign capital exacerbate the distortions in the economy between the financial and productive sector, and between foreign and domestic production and exchange process. The artificially high rates of profit undermined the “real economy” making it impossible to do things like: re-building infrastructure, researching alternative fuels or climate change.
4. The War in Iraq
The center-left economist Joseph Stiglitz estimates the war in Iraq will cost the U.S. 3 trillion dollars (or 3,000 billion, a little more than four bailouts). Financing the war is an immense burden on U.S. workers. Wars are not productive expenditures; they waste tremendous resources. The war is so expensive its costs outstrips the productivity of U.S. workers and paying for it requires heavy borrowing by the U.S. government primarily from foreign capital. This creates immense debts to foreign capital.
Governments often borrow money to spend on projects in the expectation that the investment will produce some economic benefit that will make it possible to repay the loan. The architects of the war in Iraq calculated that by opening the Iraqi market to U.S. capital and gaining access to Iraqi oil the costs of the war would be offset. The main problem with their calculations is the time frame. They expected the war to be over and the benefits to be flowing. Instead the war is increasingly costly. Even worse it is clear enough that the U.S. has been defeated in the war. The financial crisis is one more signal that the war in Iraq is lost. The question of the war deserves it own treatment. But it is a significant cause of the current meltdown.
5. Putting it all together
The crisis appears to be a financial crisis -- a crisis in the financial markets, and if you listen to politicians and other commentators they raise the concern that the crisis will spread to the “real economy.” The problem with their analysis is that the crisis originated in the real economy, in the lack of profitable opportunities for investment in the productive sectors of the economy. Unless the crisis in the real economy is addressed the crisis will continue. In a minute I will try to show why only revolutionary democracy can solve the crisis in the real economy. But first let’s try to understand the exact nature of this crisis now that we have determined its causes.
What is this crisis about? The Great Depression of the 1930’s was an over-production/under-consumption crisis. Remember in the Grapes of Wrath, the capitalist farmers burn the peaches that have been picked by the migrant workers in order to get the prices up. There is too much supply and no demand (no demand backed by the ability to pay). When there is supply but no demand then prices fall. This is a crisis for a system that is based on the exploitation of labor and the realization of profits based on that exploitation. If profits cannot be made than the system does not work. It is important to remember that this is a social problem. The workers and their tools still exist and can be used to make things people need but they lie idle because profits cannot be made. The problem is with the way that work is organized.
This current crisis is different then the Great Depression. It is the exact opposite: the great depression was under-consumption/over-production, but this crisis is under-production/over-consumption. Let’s think about how it works. The flood of capital into the financial sector of the economy created a credit bubble that is bursting. In a useful work, The Trillion Dollar Meltdown by Charles R. Morris, writes,
"Here is a crude gauge of the credit bubble. Not long ago, the sum of all financial assets-- stocks, bonds, loans, mortgages, and the like, which are claims on real things--were about equal to global GDP. Now they are approaching four times global GDP. Financial Derivatives have a notional value of 10 times global GDP."
What does that mean? Stocks, bonds, loans, mortgages, etc, are “claims.” If I have a stock or bond I have a piece of paper that entitles me to something “real.” GDP is a rough measurement of the value of all goods and services produced. When the claims --i.e., stocks, bonds, loans, etc, -- are roughly equal to GDP the system is in balance. The situation described by Morris in the above shows the system is out of balance. There are more claims then real wealth. There are about four claims for every single real unit of wealth. So, three out of four claims are worthless!!! That is the crisis. Whose claim is good and whose claim is worthless is the question that Federal Reserve and the Treasury are trying to answer. But they cannot pose the question right, and even if they could the problem is deeper.
The claims are “bundled” together. So the paper that represents the claim doesn’t represent just one claim that can be devalued, it represents many different claims and ties them together so if one goes down the toilet then they all go. In addition, those pieces of paper have been insured so if they are devalued that triggers a new claim, and on top of it people have bet on the value of the claim. So all of those claims are deeply intertwined and entangled. The whole financial system is going to go down. It is possible that a few banks will be able to absorb the losses and buy up the smaller banks but it is unlikely.
The bailout and other measures taken by the Fed and the Treasury continue to exacerbate the problem (which is why they are not working). The bailout and lowering interest rates just continues the same dynamic of pushing capital into the financial sector when what needs to happen is capital must be removed from the financial sector and put into the productive sector so that real value can be produced and we can literally work our way out of the crisis by producing real value. Only revolutionary democratic control over financial institutions can make that happen, and simultaneously transform they way we work and organize that work.
6. Conclusion
This is essentially a crisis about the way that production is organized by private investment acting according to market signals (looking for high profits). We must continue to struggle for revolutionary democratic control over every aspect of the society. If this crisis continues to worsen the tempo of the struggle will increase rapidly. Lenin remarked that at times history moves very slowly and at others ten years can pass in a few days. In other posts we have discussed the need for workers to take over boards of directors and to struggle locally for political power as a part of a long term revolutionary process. The crisis highlights an additional arena of struggle. We must struggle for control over investment. The first step is to nationalize the banks, insurance companies (especially health insurers), and other financial institutions, and to put them under democratic control.
Nationalizing the banks is not enough as they will just fall under the control of the Federal Reserve and the Treasury. We must create revolutionary democratic institutions to oversee investment and we must develop the analysis to make investment effective in doing two things simultaneously: 1. developing the productive power of labor (by allying with progressive capital in the new economy against the forces of the old economy and reaction) 2. We must develop the productive forces in ways that transform exploitative and oppressive social relations. This may mean things like prioritizing investment in the Afro-American nation or creating special investment funds over-seen by democratically elected representatives of oppressed peoples in the U.S. We will want to fund productive capitalists and worker co-operatives in things like the research and development of alternative energies and green technologies, rebuilding infrastructure and public transportation. We will have to build the revolutionary democratic organization necessary to decide these issues. What this crisis makes clear is that the market cannot organize investment effectively and if it is not decided by the market it must be decided democratically or else we will be walking down roads that lead to fascism.
An Obama victory is among the most pressing tasks at hand. Four more years of Bush policies will exacerbate this crisis in unforeseeable ways and most likely produce an open fascism. An Obama victory will make possible a “new” new deal which will open up many possibilities for revolutionary democracy to transform and revolutionize the society. Crisis are combinations of dangers and opportunities. The opportunities for revolutionary democracy are immense. Let’s make the most of them.
