Thursday 8 February 2018

The Bitcoin Canary in The Coal Mine - Part 5 of 5

Between 1980 and 2000, the Dow Jones rose by around 1300%, or about 7 times the rise in US GDP. Stock markets across the globe followed a similar pattern. Bond prices rose in a similar fashion, with a corresponding fall in bond yields. The movement of the US 10 Year Bond illustrates the point being made. In 1962, which is approximately the start of the Summer Phase of the post war long wave, it stood at 3.86%. As the Summer phase of the long wave proceeded, the yield steadily rose, reaching 8.0% in August 1974, where the crisis, or Autumn phase, of the cycle begins.

As the crisis phase continues, the yield continues to rise, reaching its peak of 15.84% in September 1981. At the start of the stagnation phase of the long wave, around 1987, it stood at 10.23%, and, as the stagnation phase of the long wave proceeded, it continually fell reaching 4.16% in October 1998, just before the start of the new long wave boom that began in 1999.

Asset prices are determined by two things, firstly the revenue that the type of asset produces, rent in the case of land, interest in the case of shares (dividends), and bonds (coupon), and secondly the average rate of interest. That is because, as Marx describes, the price of these assets is the capitalised revenue they produce. If the revenue rises, the price rises accordingly, but also even if the revenue remains constant, but the average rate of interest falls, the price rises, because any given revenue thereby constitutes a higher capitalised value. During the 1980's, and 90's, revenues in the form of dividends rose, as global profits rose, along with the rate of profit. But, at the same time, interest rates fell, as the supply of money-capital exceeded the demand for money-capital. That was the economic basis of the huge rise in asset prices during that period. 

But, as I have described before, since the latter part of the 19th century, socialised capital replaced privately owned industrial capital. The former industrial capitalists became money-lending capitalists, the owners of shares and bonds, and alongside it often land and property. The dominant section of the capitalist class became consolidated as a financial and landed oligarchy. Its private wealth was no longer held in the form of industrial capital, but in the form of fictitious capital, from which it drew interest and rents. But, by 2000, this huge rise in the nominal value of this fictitious capital, presented a quandary. The actual amounts of revenue that these assets were producing had continued to rise, but not as fast as the rise in the price of the assets, so that the yield on these assets continued to fall. The lower the yields became, the more the owners of these assets became concerned with the potential capital gain that could be obtained from them, rather than any marginally higher yield, and eventually that became a concern just to prevent any sharp capital losses, resulting from a fall in the price of assets. 

In fact, the phenomenon could be seen fairly early on. In 1987, triggered by the twin deficits crisis caused by the tax cuts introduced as part of Reaganomics, global stock markets suffered their biggest ever drop in prices. As the global financial system teetered, the US Federal Reserve eventually stepped in to cut official interest rates, and pump liquidity into the markets, causing those asset prices to be reflated. Within a year, the 25% drop in asset prices had been recouped, and stock markets ended significantly higher. It was the start of a trend, of the so called Greenspan Put, as each time financial markets began to sell off, the Federal Reserve and other central banks would step into the fray to cut their official rates, and inject additional liquidity. By injecting liquidity, the central bank creates inflation, and because of the other changes that governments had introduced in the late 1980's, to deregulate financial markets and encourage additional borrowing, the inflation took the form of an inflation of asset prices, rather than of consumer prices. By undertaking this action, which drained money and money-capital from the real economy, conservative social democratic regimes made clear that their primary aim was the protection of the paper wealth of the owners of fictitious capital, even if it meant doing damage to the real economy. 

And, it did do damage to the real economy, for the reasons I have set out before. The astronomical rises in share and bond prices, meant that money-capital was devalued, including the money-capital put into workers pension funds to buy those shares and bonds. So, the provision of pensions became hugely more expensive, creating the pension black holes we see today, as wages did not rise to compensate for the higher cost of pension provision. Likewise, the astronomical inflation of property prices, resulting from the same speculation drove up building land prices, causing the cost of building new houses to rise sharply. As the price of houses rose to 10-12 times average earnings, compared to the long-term average of 2.5 to 3 times average earnings, workers increasingly found they could not afford to buy houses, and as that meant more went into private rental accommodation, so rents rose accordingly, even though these higher rents still represented a lower rental yield for landlords, as the price of property rose by even larger proportions. 

The quandary facing the global ruling class is that its wealth is in the form of this astronomically inflated fictitious capital, and it does not want to see that wealth evaporate as bubbles burst. Yet, the other aspect of those bubbles is that unless real industrial capital expands, so as to produce greater masses of profits, and rents and dividends as deductions from them, the asset prices become ever more unsustainable, so that sooner or later, whatever the central bank does, however much money it prints, the bubbles burst anyway. But, a further quandary faces them, which is that if economic activity does increase, that implies an increased demand for money-capital relative to its supply, whilst that increase in activity means that more labour-power is demanded, so that wages rise, and profits start to get squeezed, reducing the supply of money-capital (realised profits) relative to the demand for it it. 

And, although conservative social democratic regimes can and have tried to hold back the accumulation of industrial capital – which they have done via policies of austerity, and by encouraging available money-capital to be diverted into financial speculation – the workings of capital itself, the very fact that individual capitals have to compete, one with another, for market share, and so accumulate capital, means that, especially as the productivity gains from the technological innovations of the 1980's begin to wane, so more workers have been taken on, and those workers begin to demand additional goods and services, which creates competition between capitals to meet those needs, which leads to more accumulation, which leads to more employment, and eventually leads to higher wages, and profits beginning to get squeezed, so that the supply of money-capital (from realised profits) declines relative to the demand for it, and so interest rates begin to rise, and as interest rates rise, so the capitalised value of assets starts to fall. 

The latest ISM data from the US, shows that contrary to all the claims about a long depression, of secular stagnation and so on, the US economy is growing at an increasing pace. And all of the reports from the OECD, World bank, IMF etc. show that this increase in economic growth is happening across the globe. As the real economy booms, the potential money-capital that has been sucked into financial speculation over the last thirty years, is starting to flow back into the real economy. It inevitably means that, as the real economy accelerates, financial markets will come under increasing pressure, so that all of those serial bubbles begin to burst. It is hilarious that all of the free market gurus, are left trying to find a solution to this situation in the belief that central planners in the world's central banks can determine the price of money-capital, by setting official interest rates, and using money printing. If that were the case, rather than the price of money-capital (the rate of interest) being determined by supply and demand, as with any other commodity, the obvious solution for every crisis would be to have those central planners simply set the prices for all commodities! 

Despite all of the massive manipulation of government bond markets, by QE, bond prices have started to fall, and fall continuously. It has accompanied falls in other asset prices from Bitcoin to gold, to shares. Sooner or later, these sequential bubbles will burst, and there is nothing the central banks will be able to do about it. At the end of last week, the Dow Jones had its biggest points fall in a single day since the financial crisis of 2008, and other markets followed suit. That was a fall of 700 points.  On Monday, that 700 point fall was made to look like a blip, as the Dow Fell, at one point by 1600 points, within a matter of a few minutes.  The VIX Index, which measures volatility, the cost of insuring against prices moving against you, and is known as the "Fear Index", moved by an astonishing 280%, a figure that is simply unprecedented.  Is this the start of the bursting of those bubbles?  Even speculation guru, and fund manager Carl Icahn believes that the present situation cannot continue, for similar reasons to those I have set out.  He believes that the current rumblings are only the forewarnings of a huge financial earthquake to come.  I have argued since 2008 that the coming financial crisis will be really just a continuation of it.  That is because that crisis was cut short by using the same resort to money printing and a direction of those funds into a reflation of asset prices that were the cause of the crisis to begin with.  The world today is in a worse position, for that reason than it was in 2008.  It has 40% more debt, the Dow Jones is nearly 4 times the level it was at in 2009, and it is nearly double the level it was at in 2007, when it peaked prior to the crisis.  Are the current sell-offs the start of that earthquake?  Only time will tell. 

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