Analyzing Currency Circulation

On May 20, a ceasefire was announced between the Hamas-led government of Gaza and Israel. The truce followed an 11-day pounding of Gaza’s 2 million-plus residents by Israeli bombers and rockets. Residents of Gaza, described as the world’s largest open-air prison, are not allowed to leave. According to Gaza’s Ministry of Health, total deaths among Gaza residents — or perhaps we should say inmates — were at least 248. Of these, 39 were women and 66 were children. An additional 1,910 people were wounded. According to UN officials as a result of the Israeli assault, 800,000 people in Gaza do not have access to clean water. All of this is amid the COVID-19 pandemic, which has swept through Gaza as it has through the rest of the world.

According to the Israeli government, Israeli casualties from rockets fired from Gaza include 12 deaths, of which two were children. Israel is well supplied by the United States with bombers and highly accurate computer-guided missiles, while Gaza residents have only highly inaccurate missiles that can only be shot in the general direction of their targets. In addition, most of the Gazan missiles have been shot down by the Israeli military using the U.S.-provided Iron Dome anti-missile system. As a result, physical damage done to Israel by Gazan missiles has been minimal.

The accuracy of the U.S.-provided bombs and missiles is illustrated by the destruction of a Gaza high-rise that housed both the Al Jazeera news agency and the U.S.-based Associated Press. The Israeli government gave journalists minutes to leave claiming that the building was being used by Hamas, the elected governing party in Gaza. However, AP claimed there was no evidence that Hamas used the building.

What is true is that the high-rise provided an excellent view of Gaza and therefore of the toll the Israeli assault was taking on the besieged city. Perhaps the Israelis were more concerned about Al Jazeera than they were about AP. Still, the attack on the building was a clear attack by the Israeli government on journalists and freedom of the press.

AP was therefore forced to protest. However, the next day AP under right-wing pressure fired an American journalist, Emily Wilder, for pro-Palestinian tweets when she was a college student as if that is a crime. Wilder was active as a college student in the Jewish Voice for Peace and so happens to be Jewish.

She is not alone in the American Jewish community. Increasingly, younger Jews have come to oppose the actions of the Israeli government, which claims to represent all Jews, including those who do not live or wish to live in Israel, but not its Arab citizens. Most of the American Jewish community opposed the administration of Donald Trump, not least because Trump’s racist demagoguery was reminiscent of the ideology that eventually led to the Third Reich in Germany. Indeed, extreme antisemitism is widespread among Trump’s supporters.

This did not prevent Trump from claiming that he was the most pro-Israel president ever. He pointed to his decision to move the U.S. embassy from Tel-Aviv to Jerusalem. The former president when speaking to Jewish-American organizations repeatedly described Israeli Prime Minister Benjamin Netanyahu as “your prime minister,” which drew protests even from docile (to American imperialism) pro-Zionist Jewish organizations. This did not prevent these same organizations from coming out once again in support of the latest Israeli war against the Palestinian people.

Netanyahu and most of the Israeli population, in contrast, strongly supported Trump. The racist rhetoric of the former — and possible future — U.S. president was music to their ears. The latest crisis broke out when the Israeli government moved to evict some four Palestinian families from their East Jerusalem neighborhood of Sheikh Jarrah to make room for Jewish settlers in the historically Arab area. The Zionist propaganda machine claimed that this was a routine eviction case involving the fact that the Arab residents had not paid rent for 39 years to Jewish landlords who the Zionists claim had owned the apartments since the 1870s.

But nobody in Palestine is fooled by these Zionist arguments. The real aim is to drive all Arabs out of Jerusalem so it can be made exclusively into a Jewish city. This year, the end of the Muslim month of fasting called Ramadan coincided with the Zionist “Jerusalem Day” holiday, which celebrates the Israeli conquest of east Jerusalem in the 1967 six-day war. It also coincided with the anniversary of Al Nakba on May 15, a day of mourning marked by Palestinian communities around the world.

Jerusalem Day is celebrated by the Zionists, who march through Arab neighborhoods shouting “Death to the Arabs.” This annual Zionist holiday is reminiscent of the pogroms in Czarist Russia when pro-Czar “Black Hundred” gangs marched through Jewish neighborhoods shouting “Death to the Jews.” The spark setting Palestine aflame, however, was a police attack on worshipers celebrating the end of Ramadan in the Al-Aqsa mosque in Jerusalem, one of the most sacred Muslim religious sites in the world.

For the first time in recent decades, Israeli Arabs joined Gazans and West Bank Palestinian Arabs in a movement that swept all of Palestine — including pre-1967 “Israel”. This shocked both the Israeli government and racist Israelis who believed they would forever rule Palestine by playing on divisions between the Israeli Arabs and the Palestinians of the West Bank and Gaza.

The demonstrations were not confined to Palestine but swept the world, including many cities in the United States. In the U.S., the pro-Palestinian demonstrations were the largest ever. For the first time, a few Democratic congresspeople spoke out against continued U.S. support to the Israeli government. These included the Palestinian-American congresswomen Rashida Tlaib and Alexandria Ocasio-Cortez among others. Senator Bernie Sanders also criticized the Israeli government. However, the great majority of Democratic congresspeople and senators and all Republican congresspeople and senators remained staunchly pro-Israel.

So did the Democratic administration of Joseph Biden, who voiced the same tired platitude that “Israel has the right to defend itself.” Biden during his half-century-long (and counting) political career has been a staunch supporter of Israel. He once said that if Israel didn’t exist, we would have to invent it. He forgot to add that “we” — meaning imperialism” — did exactly that.

Imperialism, represented by Great Britain, Czarist Russia, post-World War I Poland, Nazi Germany, and finally the United States, after exterminating the bulk of the Jewish population, resettled most of the surviving European Jews in Palestine. The, in a chain reaction, the Jewish population was also driven out of the Arab world and moved to Palestine.

Imperialism, now completely dominated by U.S. imperialism, gave these resettled Jews, now called Israelis, the task of waging war on the Palestinians and other Arab peoples. The Israelis help imperialism oppress people even beyond the Middle East. For example, Israelis supported the Nicaraguan Contras and today help train U.S. police that hold down African Americans and other oppressed people within the U.S. itself.

Why does the U.S. ruling class so stubbornly still insist on supporting racist settler-colonial apartheid Israel? Many people honestly believe that the “Israel lobby” wields so much power within the U.S. that it effectively determines U.S. foreign policy. The “lobby,” the belief goes, can do this even though it goes against the “national interest” of the U.S., which would be to establish better relations with the far more numerous Arab people as well as with Iran, a nation that the Israeli leadership continuously urges the U.S. to go to war against.

Naturally, this belief in the power of “the lobby” feeds antisemitism, particularly among people who are unaware of the real history of Zionism and its relationship to antisemitism and European and U.S. imperialism. The Israeli lobby is indeed powerful enough to be able until recently to ruin the career of any Republican or Democratic congressperson who raised any objections to the pro-Israel policies of the U.S. government. However, despite “the lobby’s” apparent power, it (just as Zionism has always done) continues to do the bidding of its real masters — the capitalist ruling classes of the colonial and imperialist powers.

The real reason why U.S. imperialism supports the apartheid state of Israel — and with the help of the other imperialists indeed brought it about — is because their economic interests are completely opposed to the need of the Arab people to organize themselves into their own state. If Arabs were to organize a nation-state of their own, considering their numbers and natural resources, it would be able to compete economically with the established capitalist powers. U.S. capitalism is already reeling before the economic competition of China. The last thing U.S. capitalism wants is another China, and it is prepared to do everything within its power to prevent that.

For this reason, it has been and continues to be a central plank of U.S. foreign policy under Democrats and Republican administrations alike to keep the Arab world divided among weak states and oil monarchies, none of which can offer serious resistance to U.S. imperialism. Several Arab states, beginning with Sadat’s Egypt, have recognized Israel. Recently, the United Arab Emirates recognized Israel, and Saudi Arabia’s close alliance with Israel is an open secret. All these regimes serve U.S. imperialism. The Arab oil monarchies exist for one purpose and that is to deny the Arab nation control of its natural resources.

The central pillar of U.S. domination of the Arab world is the apartheid state of Israel. Israel serves U.S. imperialism as a guard dog for the Suez Canal. The Egyptian government knows full well that the Israeli army would quickly arrive at the Suez canal quickly if it ever interfered with U.S. imperialist interests as regards the canal.

Israeli armed forces have been used against Arab nationalist movements in Lebanon and help guard Iraqi oil as well. U.S. imperialism knows that when Palestine becomes “free from the river to the sea” it will not only mark the end of U.S. domination of Palestine but of the entire Arab world. This is what the Biden administration and all other U.S. administrations mean when they say “Israel has the right to defend itself.”

If, however, you are a student of neoclassical economics — the kind of economics you learn at the university — you will object to this analysis. Neoclassical economists claim they — or rather David Ricardo — “proved” that all capitalist nations regardless of their degree of development have an equal interest in free trade.

If the neoclassical economists are right, this would mean that the Arab nation attempting to form itself against the vicious opposition of imperialism has the same interest as the imperialist nations as regards world trade. If that were true, U.S. support of apartheid Israel is indeed hard to explain. But as we will see, the opposite is the case. This takes us back to our main topic in this series of posts, the question of the currency of money. The claim that free trade is equally in the interests of all nations depends as we will see on the quantity theory of money.

A new era of prosperity?

Writing in the May 8, 2021, edition of the progressive website Business Insider, George Pearkes waxes eloquent about prospects for the U.S. economy: “The epiphany came as I stared at my screen and saw some of the largest companies in the world report staggering numbers. Apple and Facebook shattered expectations for revenue and income. …

“From the ashes of a slow-growth, over-supplied economy where businesses had little pricing power, wages were weak, and economic policy failed to support already beaten-down animal spirits, we’re seeing a phoenix emerge.”

Pearkes contrasts what he sees as today’s bright economic prospects with the disappointing recovery that followed the 2007-09 Great Recession. Then, Pearkes complains: “Inflation, investment, and GDP growth were all slow. The Fed (but not fiscal policymakers) eventually helped the economy hobble to the point that it could begin raising rates, but even blooming petite bourgeois confidence following the 2016 election of Donald Trump couldn’t fully shake off the cobwebs.”

According to Pearkes, the weak recovery after the Great Recession did not reflect anything fundamentally wrong with U.S. capitalism but rather the bad fiscal policy of the U.S. government. While the Federal Reserve did, according to Pearkes, what it could to encourage recovery fiscal policy — the spending, taxing and borrowing policies of the federal government — were just “too tight.”

Now Pearkes believes U.S. government policymakers have learned the lessons of the Obama administration policy of allowing the huge deficits of the Great Recession era to shrink. Since today the U.S. government is following a far more full-blooded Keynesian “stimulus policy,” with much larger deficits, Pearkes confidently assumes that the high growth rates of the 1950s and 1960s are returning and all will soon be well once again with U.S. capitalism.

I don’t know whether Pearkes is a supporter of Modern Monetary Theory, but his articles reflect the thinking of MMT and post-Keynesian economists. This is the trend in economics that attempts to reconcile the conflicts of interest of the capitalist class and working class by promoting a high rate of economic growth. The way to return to old-time capitalist prosperity, these “heterodox” economists believe, is for governments of the imperialist countries — especially the U.S. government — to run large budget deficits.

The Federal Reserve System and the other central banks, the heterodox economists believe, should “print” enough money to keep interest rates from rising as the growing budget deficits of the imperialist central governments pump demand into the economy. The consequent soaring demand will, these economists believe, cause the economy to boom. A booming economy means high profits for business while “full employment” means rising wages for workers. With profits and wages rising at the same time due to strong demand, the interests of the capitalist class and working class will be reconciled.

According to this line of thinking, all was well, at least in the economic sense, with American capitalism in the 1950s and 1960s. But then in the 1980s and after, conservatives came to power. The conservatives simply had the wrong ideas. They were mistakenly concerned about federal budget deficits and inflation. As a result of these wrong policies, economic growth slowed and with it the rate of growth of employment. Rising unemployment along with anti-trade union policies shifted the balance of power on the labor market in favor of capital.

Many progressives blame President Bill Clinton in particular for transforming what they see as the pro-labor Democratic Party of Franklin D. Roosevelt into a pro-business party. The Clinton administration followed a policy of reducing chronic deficits causing the U.S. government to run budget surpluses for the first time in 30 years at the end of the 1990s. According to the heterodox economists, especially supporters of MMT, this led to even slower growth after the turn of the century, culminating in the 2008 disaster.

The next Democratic administration, headed by Barack Obama, made the mistake, according to the heterodox economists, of moving to reduce the post-2008 budget deficits far too soon. (1) If instead, the Obama administration had allowed the budget deficits to remain higher for longer, the booming conditions of the 1950s and 1960s would have returned. If that had happened, Hillary Clinton would have easily defeated Donald Trump in the 2016 election. Instead, because of Obama’s overcautious fiscal policies, the rust belt failed to revive causing a majority of the white working and middle classes to cast their votes for the racist demagogue Donald Trump.

Some progressives and heterodox economists are increasingly optimistic that the Biden administration has learned the lessons of 40 years of mistaken conservative — also called neoliberal — economic policies and the good times are finally returning. In class terms, the heterodox economists represent the interests of members of the “middle class” who seek to reconcile conflicting class interests of the capitalist and working classes through capitalist prosperity, as both the mass and rate of profit rise and wages and profits can — for a time — rise together. The heterodox economists believe their policy can make capitalist prosperity permanent.

However, the capitalist class and “orthodox” economists — the majority of professional economists who represent the interests not of the middle class but the ruling capitalist class — are becoming less optimistic about the economic prospects of American capitalism over the next few years.

Much to the surprise of the “experts,” the U.S. Labor Department reported that the number of new jobs rose by only 266,000 in April. While this would have been considered a “good number” by the orthodox economists in “normal” times, the experts had been expecting employment to rise by a million or more as vaccinations spread and the economy at the insistence of the capitalist class continued to “reopen” at a faster rate than the pace of COVID-19 vaccinations justified.

While month-to-month employment figures are always subject to fluctuations, surprises and revisions, what the experts seem to have overlooked were the effects of the massive cold wave that hit the normally subtropical U.S. state of Texas and neighboring U.S. south-central states in February. As cold weather typical of areas thousands of miles to the north invaded Texas, the notoriously under-regulated Texas power system began to collapse. Since such extreme cold waves are rare this far south, the industrial capitalists who own the power system failed to add the excess capacity necessary to handle such rare but not unheard-of events.

From the viewpoint of the industrial capitalists who supply electrical power, the policy of not adding excess capacity to handle rare cold waves makes sense. Maintaining capacity used only once every 30 years or so is like leaving money locked up in a safe rather than investing it at interest. As a result, when such a cold wave strikes, the electrical system breaks down forcing many businesses to close and lay off their workers. (2)

When the cold wave ended later in February, electrical power was restored and the workers previously laid off returned to work. This played a role in the almost 1 million new jobs added in March, which reflected not only the economic “reopening” in the wake of the COVID-19 pandemic but also the snap-back recovery from the effects of the cold wave. By April, the snap-back recovery had run its course and employment growth slowed sharply.

However, the capitalists have another explanation for the disappointing April employment report. They blame “over-generous” unemployment payments. While the expanded federal unemployment benefits are scheduled to run out in September, some Republican governors are jumping the gun and moving to end the extra benefits early. “Nearly every sector in our economy,” Montana Republican Governor Greg Gianforte claimed, “faces a labor shortage.” And “the vast expansion of federal unemployment benefits is now doing more harm than good.” Starting on June 27, the extended unemployment benefits will be terminated. These measures are being taken even though overall employment in the U.S. is still more than 8 million below what it was in February 2020. (3)

As the bosses see it, the extended unemployment benefit of an extra $300 a week, already down from the $600 benefit granted by the CARES Act in 2020, is preventing workers from returning to work at the meager wages they are offering at a time when many people have still not been fully vaccinated against COVID-19.

With the GOP increasing its agitation to end the extended unemployment benefit immediately, the chances of an extension at the federal level beyond September 2020 look bleak. Capital has no intention of letting the opportunity to increase the all-important rate of surplus value made possible by mass unemployment created by the COVID-enhanced recession slip away.

Inflation returns

But it is the return of inflation that is increasing the chances that the current recovery instead of developing into a full-fledged upturn in the industrial cycle lasting seven to 10 years might instead abort, leading to another severe downturn in perhaps two to four years. Fears that this might turn out to be the case have increased since the U.S. government reported that its producer price index rose at an annualized rate of 7.2% while the consumer price index increased at a double-digit annualized rate of 10.8%.

The surge in inflation is somewhat reminiscent of the situation just before the crash of 2008 when the economy seemed to be teetering between a return to 1970s stagflation and an old-fashioned economic crash. At that time, the failure of the Federal Reserve to sharply increase the rate of growth of the dollar-denominated monetary base — defined as paper dollars, coins, and the deposits of the commercial banks in the Federal Reserve banks that make up the Federal Reserve System — led to the crash.

The Fed failed to engineer an increase in the rate of growth of the monetary base fearing if it did the result would be a return to the stagflation of the 1970s. Stagflation brings with it a sharp rise in the rate of interest. Since the relative level of debt in the economy was much higher than it had been back in the 1970s, the new “Volcker shock” stagflation would have made necessary to stabilize the U.S. dollar and avoid true hyperinflation of the dollar and the end of the dollar system, would have led to a far worse recession than the one that occurred in the early 1980s. Therefore, the crash of 2008 was the price American capitalism had to be pay to avoid another, far more disastrous, stagflation crisis.

There are also important differences between today’s situation and those that prevailed in 2007-08. Today, inflation is appearing at the very beginning of an economic upturn at a time when the total number of people employed in the economy is still 8 million below the previous peak set in February 2020. The Biden administration and the Federal Reserve hope that the current surge of inflation reflects shortages caused by the COVID-19 pandemic and will die down as the economy returns to normal. If this happens, the industrial cycle will follow a more “normal” course, with the next major recession not due for another seven to 10 years. Just as importantly, they hope the developing cyclical upswing will be considerably stronger than the one that followed the Great Recession.

However, if inflation does not die down, it will evolve into stagflation over the next couple of years. In that case, a new crash, or new “Volcker shock,” will be necessary to halt the inflation. Considering today’s still higher debt levels, growing ever higher in today’s speculative atmosphere (4), the next recession could be nasty indeed. The Fed can always halt inflation by making money “tight” and allowing interest rates to rise, but if it feels forced to do this anytime soon, the current recovery will abort with many millions still unemployed.

If the current recovery does abort, the Biden administration and with it progressive hopes of a new era of prosperity and progress for the working class within the framework of capitalism will come to a disastrous end. Donald Trump, assuming his health holds up, will be looking forward to his triumphant return to the White House on January 20, 2025. (5)

The circulation of money

In light of these potentially disturbing developments, this is a good time to examine Pichit Likitkijsomboon’s contribution to Fred Moseley’s collection of articles on Marx’s theory of money. While Likitkijsomboon doesn’t deal with the question of whether money must be a commodity, he does raise interesting questions on the circulation of money.

Likitkijsomboon is critical of what he call’s Marx’s “non-quantity” theory of money. The starting point of all later investigations into the circulation of money is the Ricardian version of the quantity theory of money. Modern neoclassical economics is based on the trinity of the quantity theory of money, Say’s law and the law of comparative advantage. This trinity is found in Ricardo as well. While Marx inherited and greatly deepened the Ricardian labor-based theory of value, neoclassical economics took over the Ricardian trinity rejected by Marx while discarding the Ricardian labor-based theory of value. (6)

In its pure form, the quantity theory of money claims that nominal prices and wages are determined by the number of commodities on one side and the quantity of money on the other. In its Ricardian form, the quantity theory of money holds that prices and wages are extremely sensitive to even slight fluctuations in the ratio of money to commodities. Ricardo assumed, just as neoclassical economists did later, that real capital is always fully employed, but unlike the neoclassicals, Ricardo, as a supporter of Malthus’s so-called law of population (7), assumed that the working population is always larger than the ability of the means of production to employ them.

Ricardo, much like the neoclassicals after him, accepted Say’s law, which claims that commodities are the means by which other commodities are purchased. Therefore, according to Ricardo, there could never be a “general glut” of commodities. If economic crises did occur, they would have other causes such as wars followed by a return to peacetime production after a war, crop failures brought about by bad weather, or as we have all seen, pandemics. What Ricardo would have denied was that an economic crisis could ever be caused by a general overproduction of commodities.

Closely connected with Ricardo’s quantity theory of money was his theory of comparative advantage. Adam Smith had assumed that in international trade, just as in trade among individual capitalist firms within a capitalist nation, the capitalists who can produce a given commodity of a given use value of a given quality with the least labor — assuming all capitalists pay the same wages to their workers — will be able to undersell their competitors and win the war of competition.

Ricardo accepted this analysis within a capitalist nation but rejected it in international trade. He claimed that assuming that wages are equal among the trading nations — which is of course far from true in today’s world — the capitalists able to produce commodities with the least quantity of labor but more labor than the capitalists of any other capitalist country in the world, would still win the battle of international competition in the branches of industry where they are least behind the global average in terms of labor productivity.

Today, the economists say that these capitalists though they are at an absolute disadvantage enjoy a comparative advantage. Ricardo came to this conclusion through his quantity theory of money. Let’s assume for purposes of simplification that all countries use the same gold coins as currency. Assume that when international trade begins, prices are equal to their national labor values — market prices are equal to direct prices. The countries whose capitalist enterprises have below-average labor productivity in all branches of industry will be beaten in all industries and will run massive balance-of-trade deficits. As a result, gold coins will flow out of these countries into countries with the highest productivity of labor. The deficit countries will seem to be facing disaster. But Ricardo believed that because of what he believed to be the quantity law of money, they will be rescued.

Ricardo assumed that as the quantity of money falls in low-labor productivity countries so will prices and (money) wages. At some point, prices and money wages will fall so low that the industries that are least behind the international average will be able to start underselling the same industries in countries with higher productivity of labor. The outflow of gold coins from the low-productivity of labor to the high-productivity of labor countries will then cease. The countries with low labor productivity will, however, have to give up those industries where they are furthest behind the world average in terms of labor productivity and specialize in those industries where they are least behind.

Now let’s look at a country in the opposite situation. This country’s capitalist enterprises can produce any commodity of any use value of any given quality with less labor than the capitalists in any other country. It has an absolute advantage in every branch of industry. However, in some industries, its absolute advantage is greater than in other industries. According to the theory of comparative advantage, our high-productivity of labor country enjoys such an advantage only in those branches of industry where it is most ahead of the international competition.

Again, assume for reasons of simplification that all countries use a single gold coin currency and money wages are equal in all countries. Now assume international trade begins. The country that is ahead of all others in all branches of industry will experience a huge surplus in its balance of trade, and gold coins will flow into the country. Its money supply will therefore grow rapidly. But according to Ricardo’s — and the neoclassical — quantity theory of money, nominal prices and wages in our high-productivity of labor country will rise making it less competitive.

Soon those branches of industry where our country is least ahead of other countries will find that the prices of their commodities are higher than they are in other countries with lower productivity of labor. All our country’s industries have an absolute advantage and should win the battle of competition, according to Adam Smith, in every branch of industry. According to Ricardo, however, they will lose the battle of competition because in branches of industry where, though they enjoy an absolute advantage in terms of labor productivity, thanks to the quantity theory of money they are at a comparative disadvantage.

Ricardo concluded that high-productivity of labor countries will, though they have an absolute advantage, are at a comparative disadvantage in those branches of industry where they have the least absolute advantage. Instead, they will specialize in those branches of industry where they are most ahead of the world average in terms of labor productivity and therefore have not only an absolute advantage but a comparative advantage as well.

World trade, assuming that it is free of tariff and non-tariff trade barriers, will move into a balance where all countries produce only the commodities where they enjoy a comparative advantage. International trade will be balanced and further movements of gold coins between nations will now cease. No country, according to the theory of comparative advantage, regardless of its level of development will find itself falling into debt with another country.

As a result, according to Ricardo, an international division of labor will emerge that maximizes the productivity of labor on a global scale. World production as a whole will achieve the highest degree of efficiency at a given level of global development. The Ricardian theory of comparative advantage, which claims that developed and underdeveloped capitalist countries have an equal interest in free trade, was eagerly adopted by neoclassical economists.

According to neoclassical economists who have adopted the theory of comparative advantage, not only do the capitalists and working classes have the same interest within a capitalist country but so do developed and undeveloped capitalist countries. Today, the theory of comparative advantage is taught as the basic theory of international trade in university economics departments — especially those located in imperialist countries — to this day.

Rounding out Ricardo’s theory of money

If average prices among the trading nations were to rise above the average values — or more strictly, prices of production — of commodities, capital will flow out of the gold mining and refining industry and into more profitable industries just as happens in other branches of industries when their rate of profit falls below the average. The quantity of gold bullion produced declines. This according to the quantity theory of money will cause commodity prices to drop worldwide. But this would be no problem, according to Ricardo, because it would involve only nominal prices. The production of real wealth and real wages would remain unchanged. The doctrine that changes in the quantity of money affect only nominal prices and wages but nothing else is known as the “neutrality of money.” The neutrality of money was eagerly adopted by the neoclassical school just like it adopted the theory of comparative advantage.

If, according to Ricardo, average global prices and wages fall below commodity values, the reverse happens. More gold bullion is produced, which increases the flow of gold to government mints, and the quantity of gold coins rises relative to the number of commodities. This rise causes prices to rise until they are once again in line with values and prices of production. Again, according to Ricardo, only nominal prices and wages will be affected.

Marx rejects Ricardo’s theory of foreign trade

Marx had intended to write a book on foreign trade where he would have developed his theory of international trade. However, Marx never as far we know ever got to point of preparing a draft of such a book. His comments on foreign trade are scattered about his writings but do not form a coherent whole. However, Marx clearly rejected the Ricardian theory of comparative advantage as well as the quantity of money on which it rests.

Anwar Shaikh, who is a native of Pakistan (8) — a capitalistically underdeveloped country — is a strong opponent of the theory of comparative advantage. Shaikh believes that Marx supported Adam Smith’s position that, at least as a first approximation, it is absolute advantage rather than comparative advantage that prevails in international trade. Shaikh believes that Smith’s theory of absolute advantage should form the basis of a theory of international trade under capitalism.

I agree with Shaikh that Smith’s theory of international trade based on absolute advantage should be the starting point. But to understand where Ricardo’s — and the neoclassical — theory of comparative advantage goes wrong, we have to examine the laws that regulate the circulation of money.

Likitkijsomboon on post-Ricardian developments on the circulation of money

The pure quantity theory of money used by Ricardo began to decline in the wake of the first true crises of general overproduction — called commercial crises in the 19th century — that occurred in 1825 and 1837. In Britain, these crises were triggered by external gold drains. As the balance of payment turned against Britain, the exchange rate of pound-sterling fell against other currencies. As a result, it became profitable to foreign holders of pound-sterling-denominated international bills of exchange to demand gold from the Bank of England rather than sell these bills for bills denominated in their own currencies at the going rate of exchange. As a result, gold reserves of the Bank of England fell as gold flowed abroad obliging the Bank to raise the rate at which it (re)discounted bills of exchange.

While raising the discount rate was effective in reversing the gold drain, it led to waves of bankruptcies, falling prices and wages, and falling industrial production and employment, resulting in a sharp rise in unemployment, especially in industrial districts. None of this was supposed to happen according to the Ricardian theory. According to Ricardo, if prices were too high in Britain relative to prices on the world market, a small gold drain would by reducing the money supply in Britain immediately reduce British prices relative to world prices. This would painlessly reverse any gold drain before a crisis occurred. But the crises of 1825 and 1837 showed in practice that something was occurring that Ricardo had overlooked. What exactly had gone wrong?

Supporters of the prevailing Ricardian theory blamed banknotes, the promissory notes payable to the bearer on demand in gold coins that were issued by the Bank of England and widely used as means of purchase and payments in large transactions. Ricardo’s supporters held that the money supply should include banknotes as well as gold coins. If, they argued, the quantity of gold declined in the vaults of the Bank of England but the number of banknotes increased, the total money supply would not fall. As a result, the defenders of the quantity of theory of money claimed, neither would British prices.

The failure of British prices to fall would then cause the gold drain to get out of hand finally forcing the Bank of England to raise its discount rate to defend the convertibility of its banknotes into gold coins as required by the law. This was the cause, according to the defenders of the Ricardian theory, of the commercial crises of 1825 and 1837. The cure, according to them, was to tie the number of banknotes issued by the Bank of England to the quantity of gold in its vaults. If this were done, prices in Britain would fall and correct any incipient gold drain before it led to a commercial crisis.

The Currency School

The school of thought defending the Ricardian view became known as the Currency School. In 1844, the reforms it recommended were put into effect. The Bank of England was divided into two departments. One was called the Issue Department. Its sole job was to manage the bank’s gold reserve and cash-in banknotes for gold on the demand of banknote owners. Essentially, with some qualifications, the Issue Department issued banknotes in proportion to the quantity of gold held in its vaults. If gold flowed into its vaults, the Issue Department would create additional banknotes in proportion to the increase. If gold flowed out, the Issue Department would destroy banknotes in proportion to the decline in the gold reserve.

The Banking Department of the Bank of England ran what was essentially a commercial banking business. It took deposits, granted loans, and re-discounted bills of exchange. If the Banking Department needed additional banknotes to either redeem its deposits, grant loans, or discount bills of exchange, it would get them from the Issue Department. Under this system, the Bank of England could run out of its banknotes even while it still had gold in its vaults.

The Currency School believed this arrangement would ensure the number of banknotes in circulation would now be closely tied to movements of gold in and out of Britain. Prices within Britain would now, the Currency School claimed, also be governed by the movement of gold in and out of Britain. If the balance of payments turned against Britain, the currency school predicted British prices would promptly fall, and the gold outflow would be quickly reversed before another commercial crisis could develop.

The Currency School was proven wrong. Three new commercial crises shook Britain, the first in 1847, the second in 1857, and the third in 1866. Not only did the Bank Act fail to prevent these crises, but it also made them worse. As soon as the commercial crisis broke out, the banknote-owning public, fearing that the Bank of England would run out of banknotes, moved to withdraw money from their commercial banks in the form of Bank of England banknotes before the supply was exhausted. The commercial banks in an attempt to conserve their reserves of banknotes were forced to sharply raise their own discount rates, call in loans, and refrain from granting new loans. Credit dried up, greatly intensifying the drop in industrial production, the contraction of employment, and resulting mass unemployment.

Fortunately for British capitalism, the Bank Act contained an escape hatch that enabled the Bank to temporarily issue extra banknotes not backed by gold. The crisis on all three occasions was promptly broken as soon as the Bank Act was suspended. Only in 1857 did additional banknotes not backed by gold have to be issued and then only for a short time. The mere knowledge that the Bank of England could issue additional banknotes not backed by gold was enough on the other two occasions to end the crisis. While these early crises were quickly ended by suspending the Bank Act, this still left the question of why the Bank Act had not prevented the crises in the first place.

The Banking School and Marx

Marx’s theory of currency is presented in fragmentary form in the notebooks that became Volume III of “Capital,” produced by Engels after Marx’s death. Marx was strongly influenced by the two leaders of what was called the Banking School, which arose in opposition to the dominant Currency School. They were Thomas Tooke (1774-1858) and John Fullarton (1780?-1849). Thomas Tooke was a British businessman, economist and statistician who along with Ricardo, Malthus, James Mill, and others in 1821 had founded the Political Economy Club. Tooke is the author of the monumental “History of Prices,” first published in the 1850s and a source much used by Marx. John Fullarton was a British medical doctor, banker and economist. His main economic work, “On the Regulation of Currencies,” first published in 1844, also influenced Marx’s views on currency.

Likitkijsomboon writes: “Sir James Steuart was highly praised by Marx as the first person to correctly deduce the law of money circulation. He asserts that the total quantity of money in a country is divided into two portions: money in circulation and money hoards. The former is determined by the state of trade and prices, while the latter act as reservoirs to adjust the quantity of the former through hoarding and lending by money owners.”

James Steuart (1712-1780) was described by Marx as “the last of the mercantilists.” Steuart explained that every flux of currency must be matched with a reflux of currency. In the post-Ricardian period, Tooke and Fullarton built on Steuart’s earlier insights in their struggle against the quantity theory of money and the Currency School. A reflux of currency, which removes currency from circulation, occurs when loans are repaid, interest payments made, and bills of exchange coming due are paid off. Any currency not needed by the public for purchases or payment was deposited for safekeeping in the banks.

Likitkijsomboon quotes Marx as follows from Volume I of “Capital”: “We have seen how, along with the continual fluctuations in the extent and rapidity of the circulation of commodities and in their prices, the quantity of money current unceasingly ebbs and flows. This mass must, therefore, be capable of expansion and contraction. At one time money must be attracted in order to act as circulating coin, at another, circulating coin must be repelled in order to act again as more or less stagnant money. In order that the mass of money, actually current, may constantly saturate the absorbing power of the circulation, it is necessary that the quantity of gold and silver in an country be greater than the quantity required to function as coin. This condition is fulfilled by money taking the form of hoards. These reserves serve as conduits for the supply or withdrawal of money to or from the circulation, which in this way never overflows its banks.”

If, however, the quantity of gold and silver — money material — in the country were to be less than the quantity required to function as coin, then the “absorbing power of the circulation” could not be saturated. An economic crisis would then occur that would forcibly readjust the circulation of commodities to the supply of money. Here Marx is rooting his theory of currency firmly in his commodity theory of money. We see that Marx was taking what was valid in Tooke’s and Fullarton’s criticisms of the Ricardian quantity theory of money. This is how we must proceed when we criticize political economy. Take what is valid from whatever source and discard the rest.

We therefore shouldn’t assume that Marx’s theory of currency of money if it had been fully developed would be identical to that of Tooke and Fullarton. However, Marx knew that Tooke and Fullarton had made important advances over Ricardo not on theoretical questions but when it came to empirical observations of the circulation of money. In extending Marx’s work and developing a correct theory of currency for our own time, we must make of use of what is correct in the work of Tooke and Fullarton.

Ricardo had assumed that virtually the entire money supply was in circulation. Since every capitalist was attempting to make as much profit as possible, Ricardo reasoned that it would make no sense for a capitalist to let either money or real capital remain idle. Therefore, just as with the full utilization of means of production, Ricardo assumed the capitalists would throw any money that entered their possession immediately back into circulation. In the terminology of the 19th century, a situation when the entire stock of money was in circulation was called a “full circulation.” As far as Ricardo was concerned, the circulation was always full.

However, Tooke and Fullarton realized that, just as the mercantilist Steuart had explained in the 18th century, there was never a full circulation of money. They realized that the money supply was divided between a monetary hoard, which by the 19th century was centralized in the hands of the banks, and money in circulation. Suppose prices rise, perhaps because a period of depression gave way to a more active state of business. With both the number of commodities in circulation as well as prices of individual commodities rising, more money than before will be necessary to circulate commodities.

But from where will this extra money come? It will, the Banking School answered, come from the existing hoard of money held in the banking system. The ratio of money hoarded in the banks to the money in circulation will fall. The rise in the total quantity of money in circulation relative to the portion lying idle in the banking system causes a “tightening” of the money market and a rise in the rate of interest. But as long as the hoard of money held in the banking system does not fall below a certain critical level, there will be no crisis. Prices have risen not because the quantity of money has risen, like the Ricardian quantity theory of money held, but rather the quantity has risen because prices have risen. This is the advance made by Tooke and Fullarton over Ricardo as regards the circulation of money.

The opposite situation can occur. Prices may fall for some reason. If prices fall, money will start to pile up in the cash registers and safes of individual capitalists and their businesses. What will the capitalists and businesses do with the idle cash? Assuming the existence of a modern banking system such as already existed in Britain by the 19th century, they will deposit the cash into their bank accounts.

As a result, the cash reserves of the banks will swell while the money in circulation drops. Prices fall not because the quantity of money in circulation has fallen but rather, the Banking School realized because the quantity of money in circulation has fallen because prices have fallen. Therefore, as long as reserves of idle cash in the banks doesn’t fall below a certain critical level, and of course assuming that there is no depreciation of the currency against gold, a change in the level of bank reserves affects the rate of interest and not the level of prices.

The fluctuations of currency, prices, and the movement of interest rates

When bank reserves fall, the demand for loans is greater than the remaining quantity of loan money in the hands of the banks at the existing rate of interest. The banks respond to such a situation by raising interest rates. During such periods of “stringency” on the money market, the banks are obliged to raise interest rates they pay on deposits to attract additional reserves.

Tight money increases the competition among the banks for additional deposits. The competition among banks for deposits is fought by raising the rate of interest on deposits. In contrast, when money drops out of circulation and piles up in bank reserves — easy money — competition among the banks for deposits declines. The banks now lower the rates they pay on deposits. This is why bank depositors are always hard hit by periods of stagnant business that lead to “easy money” and declining interest rates on deposits.

This is enough to explain why the Bank Act of 1844 based on the Ricardian version of the quantity theory of money did not work. The first effect of an unfavorable balance of trade under the gold standard in Britain was on interest rates and not prices.

Assuming there was a shortage of gold money or silver money (in the 19th century) on the world market, a high rate of interest in a specific country relative to the world average would attract additional loan money — called “hot money” — eagerly seeking the highest rate of interest possible. These higher interest rates were found in the countries experiencing a negative balance of payments and consequent gold drain.

The inflow of loan money capital in search of higher interest rates would soon reverse the gold drain. The result was that the drain of gold ended not with a downward adjustment of commodities prices in the country that had experienced a negative balance of payments, as predicted by Ricardo. Instead, a country whose prices were high relative to prices on the world market would go into debt rather than experience a drop in its general price level. The countries running balance of trade deficits would fall increasingly into debt to those countries running balance of trade surpluses.

These effects are of great consequence not only for the theory of the industrial cycle but also for world trade. If a country is experiencing a deficit in its balance of trade, it will first experience a rise in its interest rates. This is also true in a system of paper money such as the current dollar standard — how this operates we will examine next month. Such a country will experience a tightening of its money market, not a fall in its prices. Higher interest rates will then attract “hot money” from countries running balance of payments surpluses. The result will be that the countries experiencing balance of trade deficits will fall increasingly into debt to those countries experiencing balance of trade surpluses.

Of course, things will be different when a general shortage of gold (or silver in the 19th century) develops on the world market. A shortage of gold (money material) is always a shortage relative to the quantity of non-money commodities in circulation. This is the very definition of the general relative overproduction of commodities. Once generalized overproduction develops to a certain point, international credit begins to seize up. The stage is now set for a world market-wide crisis of the general relative overproduction of commodities.

When the crisis hits, the deficit country will no longer be able to attract an inflow of money loan capital before its domestic monetary shortage leads to a commercial crisis, or a financial crisis and recession, which will then lower prices. During world market-wide commercial crises, each country is hit successively by foreign drains of gold, tightening financial conditions, and rising interest rates. This continues until a full-scale economic crisis develops leading to falling prices, disappearing profits, declining industrial production and employment, and mass unemployment.

The crisis continues until all the nations engaged in international trade are drawn in. This shows that commercial or financial crises go far beyond mere imbalances in international trade. They represent the fact that all the trading capitalist countries have overproduced. However, before a generalized “financial crisis” can break out, global overproduction and the inflation of credit allowing the overproduction to continue has to grow until the critical point is reached in the international industrial cycle.

However, before that critical point of the international industrial cycle is reached, imbalances in international trade and payments are resolved not by an adjustment of prices but rather through a rise in interest rates in the deficit countries and the consequent flow of “hot” money capital from countries running trade surpluses to countries running trade deficits.

But once the financial or commercial crisis breaks out, industries in countries at an absolute disadvantage relative not only to competitors in the home market but other countries as well are driven into bankruptcy and liquidation. When this happens, it is the law of absolute and not comparative advantage that with great brutality asserts itself not only within individual capitalist nations but among capitalists operating in different nations as well.

Next month, we will take a closer look at the implications of today’s system of paper currencies and “floating” exchange rates on the question of absolute versus comparative advantage in international trade


1 Standard Keynesian stabilization theory holds that the central government should run deficits during periods of recession to pump demand into the economy. The extra demand is then increased by the multiplier and accelerator effects. The multiplier effect occurs when an initial rise in spending on consumer goods obliges the industrial capitalists who produced those commodities to hire additional workers. These newly hired or rehired workers can now buy additional consumer goods, which leads to a further rise in production and employment. If the multiplier is five, each one dollar in deficit spending by the central government causes not one but five additional dollars to be spent.

The accelerator effect kicks in with rising investments in new plant and equipment by the industrial capitalists. Such investments are the heart of what Marx calls expanded capitalist reproduction. Industrial capitalists increase their investment when the level of excess capacity falls below a certain level. When this happens, each individual industrial capitalist fears that if demand continues to rise they will be unable to meet the demand. This will cause their customers to turn to their competitors. When business slumps again, every individual industrial capitalist fears that if they cannot meet the demand during the boom their sales will fall to such low levels during the slump because of lost customers that they will not be able to survive the downturn.

As investment soars, demand for construction machines, building materials, and many types of raw and auxiliary materials rises leading to a rise in employment in these branches of production. The rate of profit increases partially because prices rise and partially because the turnover of the variable capital — purchased labor power — increases. As a result, the amount of surplus value realized as profit in a given period rises. The rising mass and rate of profit further increase investment.

The multiplier and accelerator effects, according to Keynesian stabilization theory, continue to boost economic growth until “full employment” is achieved. As the economy recovers, tax revenues rise and the deficits of central governments shrink.

However, a shrinking deficit reduces the rate at which the central government is adding demand to the economy and therefore tends to slow economic growth. According to standard Keynesian stabilization theory, if the deficits shrink too fast the economy can fall into a slow growth pattern sometimes called “secular stagnation.” This is exactly what many Keynes-influenced economists believe happened under the Obama administration. (back)

2 Many Texas residents found themselves trapped in unheated homes when the power failed. Many people were forced into shelters as temperatures inside their homes dropped below freezing. (back)

3 We should remember that these jobs include part-time and temporary jobs. Persons are considered employed by the U.S. Department of Labor if they worked as little as an hour during the week the survey was carried out. (back)

4 Feverish speculation has swept markets for residential real estate, stocks, many commodities, and bitcoin and other “cryptocurrencies.” This situation is more typical of periods immediately preceding major recessions than it is in the early stages of an upswing in the industrial cycle. (back)

5 There are growing reports that state prosecutors in Georgia and New York will bring criminal charges against Donald Trump. In Georgia, the potential criminal case involves Trump’s attempt to bully state officials into “finding” enough additional votes for Trump enabling him to win Georgia’s electoral votes. As it was, Biden won the state’s electoral vote by a narrow margin. In New York state, the criminal probe reportedly involves Trump’s shady business and financial operations and his tax dodging.

If the economic situation looks likely to deteriorate by November 2024, those sections of the ruling class who oppose Trump’s return to power may believe that criminal prosecution and possible conviction of Trump could bar his return to the White House. Trump’s supporters would see such a prosecution as an attack on their democratic right to vote for him.

While we can’t oppose the prosecution of Trump for (some of) the many crimes he has committed throughout his business and political career as well as in his personal life, there should be no illusions that the prosecution and possible conviction of Trump will do much to prevent the further growth of the extreme right-wing and fascist tendencies in U.S. politics if the economic situation deteriorates. (back)

6 As the class struggle between the British capitalist class and the working class became ever more intense, bourgeois political economy was forced to reject the Ricardian theory of value because any version of labor value implied that the incomes of landowners and capitalists and other non-workers must come from the unpaid labor of the wage workers. The way was then prepared for the rise of neoclassical and Austrian economics based on the scarcity theory of value, on one side, and Marx’s critique of classical political economy, on the other. (back)

7 The so-called law of population is attributed to the British clergyman and political economist Thomas Robert Malthus (1766-1834), though it seems to have been developed first by Joseph Townsend (1739-1816), a British medical doctor, geologist and clergyman. The so-called principle of population claims that as the wealth of society increases the population grows even faster until famine once again reduces it. Therefore, no matter how much the productive power of society grows the great mass of the people will continue to live in poverty. In reality, countries where the standard of living is the highest experience very low and sometimes negative population growth. This in practice thoroughly refutes the Townsend-Malthus law of population. (back)

8 Pakistan was a part of India. During India’s struggle for independence, the British encouraged a Muslim separatist movement claiming that Indian Muslims represented a different nation than the Hindu Indians. This division resulted in a bloody struggle between Hindus and Muslims leading to the formation of Pakistan as a separate Muslim nation. Three-quarters of a million people died and millions of people were displaced. Today the struggle between Hindus and Muslims continues to poison the politics of the sub-continent. (back)


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