Trump versus the Fed
On Sept. 3, the U.S. Institute of Supply Management reported that its widely watched index, based on a survey of industrial purchasing managers, had dropped to 49.1 percent. Any number below 50 indicates a declining trend in U.S. industrial production. The index has not been so low since September 2009, when the U.S. industrial economy was near the trough of the Great Recession.
The ISM reports: “Falling orders among foreign clients dragged on overall new business growth and producer confidence. The degree of optimism about the year ahead hit a fresh seven-year series low amid growing business uncertainty. As such, employment was broadly unchanged and spare capacity was used to clear backlogs of work.”
This is just the latest in a series of reports indicating that the U.S. and world capitalist economies are on the brink of recession. The Trump White House and the electoral wing of the Republican Party fear that Trump will face the reelection in November 2020 amidst full-scale recession conditions, dramatically reducing Trump’s chances of winning a second term.
Trump has responded by stepping up his public attacks on Jerome Powell, the conservative Republican banker Trump himself nominated to head the Federal Reserve System. In the wake of the annual August meeting of bankers at Jackson Hole, Wyoming, Trump declared Jerome Powell to be worse for the U.S. economy than even Chinese President Xi Jinping.
Trump is pursuing two aims here. First, he hopes that the Federal Reserve and its Open Market Committee will lower its target for federal funds and flood the banking system with newly created U.S. dollar reserves that will at least postpone the arrival of a full recession and mass cyclical unemployment until after November 2020. If this happens, Trump will be able to run as a “prosperity president.” Experience shows that U.S. presidents have a tough time winning second terms when they have to run for reelection near the low point of the industrial cycle.
Secondly, if a recession does arrive by election day, Trump wants to be able to point to a scapegoat — in this case, the Federal Reserve Board and the “international financial elites” out to destroy his nationalist “Make American Great Again” policies.
Jerome Powell, for his part, has promised that he will act “as appropriate” to keep the expansion going. The key words here are “as appropriate.” Powell is indicating to the markets that he will not jeopardize the dollar and the dollar system in an attempt to “keep the expansion going” like Trump is demanding. Somewhat reassured, investors caused the dollar price of gold to fall after Powell’s remarks, while interest rates on government bonds have rebounded.
The central bankers versus Trump
From the viewpoint of that section of the capitalist class that opposes Trump’s policies — what I call the “Party of Order” — there is no reason why the Federal Reserve should risk the dollar system by flooding U.S. commercial banks with newly created U.S. dollars to increase Trump’s chances of reelection. Given the realities of the capitalist “business cycle” — what Marx called the industrial cycle — a recession is inevitable sooner or later anyway. So, the Party of Order asks, why shouldn’t the Federal Reserve aim to have the next recession hit its low point as close to November 2020 as possible? Then the recession can be used to ensure that Trump is replaced by a Party of Order Democrat.
Bloomberg News, which speaks for the highest levels of finance, has just published a piece by William Dudley, the former chairman of the Federal Reserve Bank of New York, the most powerful bank within the Federal Reserve System. Dudley writes: “I understand and support Fed officials’ desire to remain apolitical. But Trump’s ongoing attacks on Powell and on the institution have made that untenable. Central bank officials face a choice: enable the Trump administration to continue down a disastrous path of trade war escalation, or send a clear signal that if the administration does so, the president, not the Fed, will bear the risks — including the risk of losing the next election.”
What the central bankers should be doing, according to Dudley, is tell Trump to end the trade war. If he doesn’t, we — the Fed — will arrange a recession just in time for the November 2020 election. But if he drops the policies we find objectionable, perhaps we can stave off the next recession until sometime after the election. (1)
While Trump blames Jerome Powell and the Federal Reserve for the failure of the U.S. economy to “take off like a rocket” following the latest Republican tax cut for the rich, the Party of Order blames Trump’s protectionist tariffs and overall nationalist policies for the recession danger. There is nothing wrong with capitalism, the Party of Order assures us. If a recession does come, it will be the fault of Trump’s policies. Tariffs are, the Party of Order points out correctly, a form of sales tax. And as anybody who has ever taken a high school or college “macro-economic” course knows, raising taxes — all other things remaining equal — reduces monetarily effective demand and thus slows economic activity and increases unemployment. Also, like all sales taxes, tariffs represent a highly regressive form of taxation.
Central bankers have indicated they are prepared to create additional currency to replace the monetarily effective demand that is being sucked out of the global capitalist economy by rising tariffs. But should the central banks even attempt to replace this demand in the first place? Dudley answers no. Instead, Dudley is saying, the recessionary effects of the tariffs should be utilized politically to get rid of Trump and his policies that threaten the entire imperialist “order” so dear to the Party of Order.
There are actually two aspects to the question raised by Dudley. First, from the viewpoint of the Party of Order should the Fed even try to avoid a recession by November 2020? And we see that Dudley answers “no”. The other, far more important question, in the long run, is this: Is it within the powers of the Federal Reserve to avoid a recession by election day 2020? And assuming that we give a positive answer, what economic and financial risks does the global central banking system headed by the Federal Reserve run if it attempts to do so?
According to U.S. law, the Federal Reserve is mandated to guarantee price stability and “maximum” (2) employment. However, when Congress mandated that the Federal Reserve guarantee maximum employment, it neglected one little thing. It failed to give the Federal Reserve the power over industry that would actually give it the means to guarantee “maximum” employment. To give the Federal Reserve this power would be incompatible with the private ownership of the means of production and therefore would mean the abolition of the capitalist system.
The Federal Reserve’s actual job under the current monetary system is to determine how much of the total debt of the federal government is transformed into Federal Reserve Notes, fractional coin, and their electronic equivalents, called by the economists central bank money. The more U.S. government debt is transformed into money by the Fed’s “magic wand,” the thinking goes, the more potential monetarily effective demand there will be and the easier it will be for the industrial and commercial capitalists to transform the value and surplus value contained in their commodities into money. And surplus value in money form is the very definition of profit. (3)
However, Karl Marx in Volume III of “Capital” pointed out that the ability of the leading central bank of his day — the Bank of England — to create additional money, runs into a “metal barrier.” The metal Marx refers to here is gold bullion.
Since the abolition of the last vestiges of the international gold standard in August 1971, this barrier now appears to the central bankers as what we may call the “inflation-interest rate barrier.” But at bottom, this is the same barrier. The only way to escape the metal barrier, according to Marx, as opposed to simply changing its form, is to abolish the private ownership of the means of production and the private appropriation of the products of socialized labor.
The capitalist ruling class and Trump
The U.S. capitalist class is deeply divided on the question of whether or not Trump should remain in office after 2020. Many U.S. capitalists — those who form the Party of Order — fear that Trump by whipping up white racism is radicalizing the Black-Brown part of the U.S. population, which is rapidly becoming the majority of the U.S. working class. These capitalists always complain that the president is “dividing us rather than uniting us.” What they fear above all is that Trump is dividing an increasing section of the working class from the exploiting capitalist class.
Also, the extremely reactionary nature of the Trump administration in all respects is encouraging the growth of support for socialism — even if vaguely defined at present — on a mass scale not seen in the U.S. since the Great Depression, if then. Today even bourgeois polls show that a majority of young people, including a significant sector of the white population, favor socialism over capitalism. The capitalist ruling class is eager to reverse this trend. And the first step from the viewpoint of the Party of Order is to replace Trump by a Democrat through the machinery of the November 2020 election.
Other U.S. capitalists, also affiliated with the Party of Order, are concerned that Trump’s increasingly nationalist economic policies will destroy the entire global division of labor, foreign trade, and, most importantly, the system of surplus value production that has grown up since the end of World War II and the end of the Cold War. Under this system, the bulk of surplus value is contained in commodities produced in the oppressed countries of the Global South but consumed in the Global North.
Trump’s trade war is encouraging those in China who believe that China should develop its own products and trademarks in high-growth industries, especially “high tech,” rather than depend on the current international division of labor, which ensures that most of the surplus value — or profit — goes to the capitalists of the imperialist countries, above all the U.S.
For example, can China continue to depend on U.S. companies for high-powered computer chips such as central processors and graphical processors that are crucial to machine learning? Can leading Chinese companies such as Huawei continue to depend on Google’s Android Operating System? Huawei has just released its own Harmony smart-phone operating system. And should China continue to tolerate the dominance of Microsoft Windows on its office computers, especially when there is an alternative in the form of the GNU/Linux (4) operating system?
At the same time, the Party of Order fears that Trump’s nationalist policies are not only encouraging more nationalism in China, the same policies have also encouraged the growth of nationalism in Europe, since his trade wars also affect the European capitalists. Who knows, the European capitalists — especially the Germans capitalists — must be wondering, where Trump’s nationalist protectionist policies may end?
The world capitalist system was hit by a similar wave of protectionism in the years that followed World War 1. The political, and in the end shooting, war that was unleashed by that earlier trade war didn’t end well for the German capitalists — and a lot of other people as well. The gains made by the nationalist Alternative for Germany party in the recent state elections held in Germany, combined with the fall in the vote for the mainstream “Atlantist” (5) Christian Democrats and Social Democrats, show that economic nationalism is leading to a resurgence of nationalism in Germany and around the globe. Also, the Brexit crisis is turning into the greatest crisis the British parliamentary system has faced in centuries.
The growing nationalist kickback to Trump’s policies, the capitalists of the Party of Order fear, encourages the growth of nationalism around the world that would limit their ability to exploit Chinese workers and other workers of the Global South. No matter how “pro-business” Trump’s policies are in terms of domestic policy, these capitalists are well aware that there are simply not enough workers in the U.S. to produce the huge additional amounts of surplus value that they will need if they are to prevail against their capitalist rivals in the years ahead. The biggest fear of the Party of Order capitalists is that U.S. capitalists will end up with a smaller share of the global surplus value. For them, a recession in 2020 and the temporary decline in profits that such a recession will bring is a small price to pay to get rid of Trump and his nationalist policies.
However, many other U.S. capitalists strongly support Trump. First, Trump is clearly one of them. He enjoys great privilege only through the accident of birth. His attempts to repeal Obamacare, which failed in Congress last year, are now being pursued by Trump and the Republican Party in the courts. If Trump wins a second term and the Republicans end up in control of Congress once again, he will again attempt to pass a bill — or a series of bills — that will repeal whatever remains of Obamacare after the courts are through with it. Trump and the Republicans will also attempt to cut Medicare, Medicaid and Social Security.
The Trump-supporting capitalists point to the pro-corporate tax cut and his withdrawal from the Paris Climate Accord, combined with his ignorant mocking of the dangers of climate change and his enthusiastic support for expanding fossil fuel production. They are delighted by his “de-regulation” and strongly anti-union policies. Trump’s policies, far from being “populist,” are a capitalist’s wet dream come true. The pro-Trump wing of the capitalist class speaks for the growing section of the U.S. capitalist class that believes the current form of the U.S. empire is no longer serving their interests. They agree with Trump that the time has come to get tough with rival capitalists and use the full power, including military power, of the U.S. state to grab more markets and sources of raw materials from rival capitalists, while doing everything possible to increase the exploitation of the workers at home.
At bottom, Trumpism — and similar nationalist movements in other imperialist countries — is a capitalist reaction to the fact the market cannot expand as rapidly as capitalists can increase production. When market demand is inadequate for all the competing capitalists to sell their products at an adequate rate of profit, some capitalists have to be driven out of business. Every individual capitalist, capitalist corporation, and nation state will do everything possible and commit any crime to make sure they are among the capitalists victorious and not the capitalists vanquished.
Capitalism and the metal barrier
Capital is a complex social relationship of production consisting of two simpler relationships. These are (1) the commodity relationship and (2) money — represented by C and M. The most basic of these two is the commodity relationship C. Indeed, money must first be a commodity before it can become money. Therefore, in “Capital” Marx begins with commodities and the various forms of the commodity — the simple, extended, and general forms — out of which he derives the money form. Once Marx has developed the various forms of the commodity, including the money form, he proceeds to analyze the money relationship, a derivative of the commodity relationship.
Perfecting and extending the classical theory of value, Marx discovered that commodities represent definite quantities of abstract human labor — the socially necessary labor necessary to produce commodities of given use values and quality under the prevailing relations of production. The conditions of production themselves constantly change. However, as the forces of production develop, the values of commodities decline.
All that is true of the commodity, in general, is also true of the commodity that serves as money. However, money has additional qualities. The money relationship of production is defined as abstract human labor that is directly social embodied in the money commodity. Money is therefore both a social relationship of production and a commodity with a particular use value — a thing. (3) The chief function of the money commodity is to measure in terms of its own use value the values of all other commodities. While many commodities have served as money in the history of commodity production, in the history of capitalism proper only two have functioned as money — gold and silver bullion. Since the late 19th century, gold bullion functions as money on the world market.
The quantity of labor embodied by all non-money commodities can only show that the labor embodied in them is social to the extent they can be converted on the market into a definite quantity of the use value of the money commodity. If the value represented by the quantity of the money commodity that it is exchanged for equals the value represented by a given commodity, that commodity sells at its value, to use Marx’s more abstract phase, or its direct price, to use Anwar Shaikh’s more precise term.
This is expressed in the formula for simple circulation of commodities C—M—C. The starting point of simple circulation is a given commodity of a given use value. The M represents the money commodity, which has the same value but not the same use value compared to C. The final C represents a commodity of a different use value than the starting C but identical in terms of value with the starting C and the intermediary M. In simple circulation, we have commodities and money as the basic ingredients but no actual capital.
Capital appears as money that unlike simple circulation C—M—C appears to have the power of breeding more money. The simple formula for capital is, therefore, M—C—M’. You start with a sum of money and end up with a larger sum of money. Unlike simple circulation, you start with a sum of a commodity with a given use value and you end up with a greater quantity of the same use value.
Where does the extra money — M’ minus M — come from? There are two different aspects of this problem. One is a value problem: where does the extra value come from? The other is a use-value problem: where does the extra money material come from?
Let’s start with the extra value. For Marx, the extra value arises from the part of the workday that workers labor free of charge for the capitalist — and other exploiters such as landowners and other hangers-on. While this was intuitively obvious long before Marx, what Marx showed was that production of surplus value is not in contradiction to the exchange of commodities at their values — called equal exchange — but is in full accord with it.
The reason is that workers do not sell their labor to the bosses but rather their ability to work, or labor power. To reproduce that ability — in the sense of being able both to continue to work throughout their working lives and raise the next generation of workers, workers need commodities produced by other workers. The value of workers’ labor power is, therefore, the value of the commodities the workers need to reproduce their labor power.
For capital, and therefore for capitalist production to exist, the value — the quantity of labor socially necessary to reproduce the workers’ labor power — must be less than the total quantity of labor the workers perform in a given period of time, such as a workday. Therefore, assuming all commodities exchange at their values, workers labor only part of the workday for themselves and the rest of the workday for the capitalists and their hangers-on.
Marx’s revolutionary discovery utterly destroys capitalist apologetics claiming that capitalism is a free society based on voluntary equal exchanges between “sovereign” individuals without exploitation. Instead, it is another form of class society where a part of society — the working class — works for a class of non-workers — the capitalists. On this basis was built the classical socialist movement that found its organizational expressions in the First and Second Internationals and then the Third International.
The theory of surplus value explains from where the value taking the form of M’ minus M comes. But from where does the extra physical material come? The simple and correct answer is that it comes from a special branch of industry that produces the commodity that serves as money — the gold mining and refining industries.
Marx’s theory of value leaves no room for “non-commodity money” (5) or what is sometimes called “MELT” — the monetary equivalent of labor time — where money is viewed as the labor time embodied in commodities as a whole as opposed to the labor time embodied in a special commodity serving as money.
Though at first glance the question of where the extra money material — gold bullion — comes from seems a trivial problem relative to the far more difficult problem of explaining surplus value based on equivalent exchange, it is today the source of tremendous confusion.
One reason is that while Marx’s reasoning is profound once you understand it, it is anything but easy. Your eyes tend to glaze over as you read about bottles of whiskey, Bibles and yards of linen. Also, since the end of the international gold standard, it appears that gold is no longer money because we no longer carry around gold coins in our pockets or pieces of paper that promise to pay a certain amount of gold to the bearer on demand.
But there is another reason why Marx’s full theory of value is misunderstood and rejected even among those who consider themselves Marxists. Once we accept the view that the ability of the “monetary authority” — today the U.S. Federal Reserve System functions as the ultimate monetary authority on a world scale — is limited by the amount of gold bullion (mined and refined gold), the possibility to abolish crises and win reforms under capitalism shrinks. We then either have to put up with the limits that capitalism imposes on us in the form of the metal barrier or overthrow the capitalist system altogether. Instead of the struggle for reforms, it becomes a question of political and social revolution.
Recently, a school of monetary economics called Modern Monetary Theory has gained influence in the progressive movement. For the most part, the supporters of this school are well to the left of center and want to eliminate the evils of capitalism. However, they believe that this can be done through a series of reforms within the current system. The supporters of MMT believe that money does not arise out of the exchange of commodities but rather from the rise of the state power.
According to MMT, the state creates money through its ability to impose taxation and make taxes payable in whatever token the state is willing to accept in payment. This might be silver or gold in the past or legal-tender fiat money today. The “modern” in Modern Monetary Theory refers not to its allegedly modern character in today’s money but rather in the “modern” nature of this theory of money. The merit of Modern Monetary Theory — and it is a merit — is that it makes explicit what is often only implicit among Marxist supporters of MELT and non-commodity money.
MMT holds that there are no financial limitations on the state imposed by the quantity of money. The only such financial limits are the available quantities of commodity use values. We are once again up against the question of reform and revolution. MMT claims that there are no specifically capitalist barriers to production, only natural barriers. Naturally, the profound theoretical differences between Marxist and MMT theories of value and money does not preclude us working together to pursue common ends, though our views on where these struggles will likely end up will of necessity be quite different.
Marxism versus Modern Monetary Theory
Not long ago, retired Marxist economics professor Richard Wolfe was asked by the YouTuber Thom Hartmann what his views as a Marxist are on Modern Monetary Theory. Professor Wolf could hardly have been expected to explain Marx’s theory of value in the 11-minute segment Hartmann gave him. He answered to the effect that MMT could work in theory but not in practice. This was the wrong answer. What Professor Wolfe should have explained is that Marx gave great thought to the questions that are raised by MMT today. In the “Grundrisse,” ”Contribution to a Critique of Political Economy,” “Capital,” and elsewhere, Marx demonstrated why in theory MMT cannot work. The 1970s showed why it cannot work in practice. (6)
Central banking, stagflation, and liquidity traps
Overproduction is defined as a situation where the growth in the number of commodities for sale on the world market — measured by the weights their price tags represent in gold — exceeds the growth of the physical quantity of gold bullion on the world market. The resulting upward pressure is felt most strongly on the short end of the money market, with the tendency of the yield curve to become inverted — short-term interest rates rising above long-term rates. The yield curve inversion reflects the fact that demand for credit to finance inventories — unsold commodities — grows much faster than the demand for long-term loans during a period of overproduction. Therefore, an inverted yield curve is a chief symptom that a recession, or more serious crisis, approaches.
But why can’t the central bank issue whatever quantity of currency is necessary to keep the economy growing? Under the various forms of the gold standard, the central bank was constrained by the need to redeem the currency in gold. This created a legal metal barrier. John Maynard Keynes and his followers believed that if the central banking system was freed of this legal obligation the central banking system could expand the quantity of currency and lower interest rates whenever a recession threatened. Keynes recognized that this legal metal barrier was indeed a barrier to production, but he saw the metal barrier as something imposed by faulty legislation and not capitalism. Keynes advocated from the 1920s onward that the legal metal barrier be removed.
As long as the legal metal barrier remained in effect as the production of non-money commodities developed faster than the production and refining of gold, the central bank was forced by law to sooner or later reduce the rate of increase in notes or face a run on its gold reserve. It thus appeared that crises of overproduction were caused by the legal requirement that central banks had to redeem their currency in gold. For this reason, with a few exceptions on the extreme right, professional economists now strongly oppose the restoration of the gold standard.
As we saw last month, the central bank can indeed increase the number of its notes — or their electronic equivalent — at a rate of growth that is faster than the quantity of gold bullion even under a gold standard once the crisis breaks out. That is because of the resulting rise — the sharper the crisis, the greater the rise — in demand for means of payment during such a crisis without a run on the central banks’ gold, or under a “fiat system” a sharp rise in the currency price of gold. This economic law was illustrated during the three crises that occurred during Marx’s lifetime, those of 1847, 1857 and 1866. (7) In “Capital” and elsewhere, Marx strongly criticized the legislation that prevented the Bank of England from expanding its note issue beyond the level that was backed by gold.
We don’t have to go back to the crises of 1847, 1857 and 1866 to illustrate this important economic law, only to the crisis of 2008. On Aug. 29, just before the crisis hit with full force, with the failure of the giant Lehman Brothers Bank and just before the Fed began its “money printing spree” that pushed the annual rate of growth of Federal Reserve Notes and their electronic equivalents to triple digits, the dollar price of gold was $835.20. By Oct. 31, 2008, the dollar price of gold had fallen to $718.20 despite the runaway rate of growth in the quantity of U.S. dollars. The dollar price of gold didn’t rise above $900 again until January 2009, when the crisis had begun to subside.
However, what is possible in the teeth of the crisis is not possible in the absence of a crisis. If the central bank allows its note issue — or electronic equivalent — to grow faster than the quantity of gold that “backs” the notes, the currency price of gold will rise and the central bank risks losing its credibility. In that case, the currency price of gold can rise for awhile at a considerably faster rate than the difference between the rate of increase in the quantity of gold backing it and the rate of growth of the currency.
Assuming that the quantity of the chief currency, today the U.S. dollar, grows faster than the quantity of gold measured in some unit of weight, the quantity of gold becomes increasingly scarce relative to the dollar at the prevailing dollar price of gold. Under these conditions — in the absence of a crisis where the currency’s role as a means of payment comes to the fore — the owners of gold will become increasingly unwilling to sell their gold at the existing currency price while would-be buyers become increasingly unwilling to buy gold at that price. The owners of gold will then increasingly withdraw their gold from the market and wait until the dollar price of gold rises. The inevitable result is a rise in the dollar price of gold. As the price rises, the U.S. dollar will then represent a smaller amount of gold bullion in the sphere of circulation. The same will be true of the dollar’s satellite currencies, whose value is more or less tied to the value of the U.S. dollar.
Supporters of the current system of “fiat money,” which include the overwhelming majority of professional economists, answer, so what? Gold, the economists claim, is only money because governments treat it as money. Since the end of the last vestige of the gold standard in 1971, they insist that gold has completely lost its monetary role. Today, all these schools — supported by many, perhaps most, modern Marxists — say that “modern” money is fiat money, above all the U.S. dollar.
As soon as governments stopped treating gold as money, they claim, gold ceased to be money. In contrast, Marx’s theory of value holds that governments treat gold as money because gold indeed is the thing that represents the money relationship of production and not the other way around. Governments, if Marx’s theory of value is correct, can no more demonetize gold than they can repeal the law of gravity.
The inflation-interest rate barrier, the modern form of the metal barrier
Under the various forms of the gold standard, the metal barrier appeared to be a legal barrier. If the metal barrier was a mere legal barrier, the solution to overcoming this artificial barrier to production and employment was to change the law. The legal (as opposed to the economic) laws that regulate currency can be changed within the framework of the capitalist system. If, on the other hand, the metal barrier is imposed by an economic law — the law of value — that governs the capitalist system, a social revolution is necessary to remove it. This is why progressives who favor social reform but want to avoid a political and social revolution “hate gold.”
Under the current dollar system, if the Federal Reserve in the period leading up to the outbreak of a crisis, but before the crisis hits with full force, refuses to restrict its currency issue so the currency is growing faster than the global quantity of gold bullion, the dollar price of gold will rise. The supporters of Milton Friedman, John Maynard Keynes, and Modern Monetary Theory answer, so what? Gold is just another commodity and a not very important commodity at that. If the price of oil rises, virtually all industries are impacted because the use value of oil is energy in concentrated form. But gold plays a quite modest role in production. Therefore, the economists say, the dollar price of gold has little impact on the real economy under a system of fiat money such as today’s dollar system.
Unlike the case under a gold standard, the dollar price of gold under the current system contains a strong speculative element. Speculators are speculating on the future relationship of two variables — the rate of growth of gold bullion and the rate of growth of U.S dollars. If speculators expect the Federal Reserve to increase the rate of growth of the U.S. dollar — which the Fed does control — relative to the rate of growth of gold bullion, which the Fed does not control — the speculators will bid up the dollar price of gold. If the dollar price of gold keeps rising, next the price of primary commodities will rise as speculators in the “pits” begin to bet on rising dollar prices of primary commodities, even if they rise by a smaller amount than the dollar price of gold. If these higher dollar prices for primary commodities persist, they spread into the sphere of wholesale goods and finally into the prices of retail goods, the actual cost of living.
The speculators are always guessing what they think the Fed will do. Assume the speculators guess wrong — as they did in the period between the initial crisis in July-August 2007 and the outbreak of the “real” crisis in September 2008. The speculators incorrectly guessed that the Bernanke Fed would flood the commercial banks with newly created dollars. But this time it did not.
As the dollar price of gold rises, the demand for credit rises as the cost of doing business measured in dollars rises. Reserves of dollars are drawn down, the velocity of circulation of the dollar rises, and nominal interest rates rise. If the central bank fails to increase the rate of growth of the currency as the markets expect, a sharp credit crisis will occur — and this is what happened in 2008, followed by a deep recession.
When this occurred, the central bank and its currency regained their credibility. The gold speculators were hit by a falling dollar price of gold and dumped gold on the market in return for dollars. As the demand for dollars as means of payment rose — including but by no means confined to speculators who had been gambling on a continued rise in the dollar price of gold — the demand for dollars rose. The sharper the credit crisis, the more this was so. The credit crisis — cum recession — now made it possible temporarily for the Federal Reserve System to increase the number of its dollars well beyond the rate of increase in the quantity of gold without the dollar price of gold increasing. This is exactly what happened in 2008.
The recession that followed, like all recessions, led to falling interest rates. In this way, the crisis of overproduction of commodities relative to gold bullion was halted by curbing the production of (non-money) commodities while increasing the production of gold bullion as the rate of profit on capital invested in the mining and refining of gold rose both absolutely and relative to that of other commodities. Now it was gold that was being overproduced relative to non-money commodities. The crisis of overproduction was now being resolved. However, the price of resolving the crisis was the mass destruction of the productive forces and massive cyclical unemployment.
But what if the central bank had created the currency the market was expecting? If this had happened, the rate of increase in the currency price of gold would have accelerated, and so would the rates of increase in the currency prices of primary commodities, wholesale goods, and finally retail goods. It would have become a vicious circle. To keep the whole thing going, it would have become necessary for the Fed to further increase the rate of growth of dollars. The increasing rate of growth of the number of dollars would have been in a race with the increasingly rapid increase in the prices of commodities in terms of dollars. Unless the Fed curbed the growth in the currency, this process would have fed on itself until full-scale hyperinflation, destroyed the currency and the authority of the state issuing it. (8) To avoid this fate, the Federal Reserve System — had to curb, or at least not accelerate, the rate at which it was increasing the quantity of its currency. This is what the Volcker Shock of 1979-80 was all about.
During a currency devaluation-driven inflation, the money capitalists defend themselves by increasing the nominal interest rates they charge, though the real rate of interest — the rate of interest calculated in terms of purchasing power and the gold rate of interest — is negative. When the central bank does curb its currency issue and inflation is stopped, the high nominal interest rates briefly spike as the currency suddenly becomes scarce relative to high currency prices of commodities. Suddenly, high nominal rates of interests become even higher real rates of interest and even higher golden rates of interests. The economy “goes into shock.”
The high interest rates cause commodities, including the money commodity gold bullion, to be dumped and the currency stabilizes. Years of austerity — now called neo-liberal policies — follow. Interest rates, however, then fall as sections of the industrial and commercial capitalist convert themselves into money capitalists. Money is diverted from the circuits of M—C…P…C’—M’ and M—C—M’ (the circuits of industrial and commercial capital) into the circuit M—M’ — the circuit of loan money capital.
When these events unfold, the central bank runs into the economic form (as opposed to the legal form) of the metal barrier. It appears to central bankers, who have not mastered Marx’s theory of value, as the inflation-interest rate barrier.
Some historical examples
Global hyperinflation has never occurred, so we don’t have a historical example of what that would look like. Germany in 1923 does provide an example of what happens in an imperialist country if full-scale hyperinflation develops. The German hyperinflation did not occur because of a crisis of overproduction — there was no global overproduction crisis in 1923 — but was associated with a deep political crisis brought on by the French occupation of Germany’s Ruhr Valley, the center of German heavy industry.
The fall of the German mark exchange rate against the U.S. dollar, which in those years represented a fixed quantity of gold, kicked off a currency devaluation inflation that rapidly intensified as the printing presses of the German Reich Bank struggled to keep up with the rising price level in German marks. At the same time, the prices of German commodities until almost the end of the hyperinflation fell when calculated in terms of U.S. dollars and gold. Foreigners could buy commodities for a song in Germany in U.S. dollars as the mark inflation raged.
As a result of the hyperinflation, the state and its government lost authority. The state is a body of armed people who do not like being paid in worthless currency. Uprisings from both the extreme right — Hitler’s beer hall putsch of 1923 — and the extreme left — the bungled attempt to organize a Communist insurrection of 1923 — broke out or were threatened.
At the end of 1923, a new currency convertible into gold was issued, backed by U.S. dollar loans. Money capital flowed into Germany to take advantage of the post-inflation high interest rates. Money capital like a gas deplores a vacuum. The rise in unemployment, though considerable, was somewhat curbed by this massive inflow of money from abroad made possible by the local nature of the crisis. A partial recovery both economic and political occurred, and the government of the Weimar Republic, though still shaky and unpopular, regained some authority.
The story didn’t have a happy ending. In 1928, due to the boom in the U.S. — both in the real economy and in the stock market — loan money capital began to flow out of Germany and back to the U.S., where interest rates were now rapidly rising. Soon the U.S. economy entered a sharp recession and the stock market crashed. As a result of the market crash and sharp recession that followed, U.S. interest rates fell and money capital once again flowed back to Germany. But then President Hoover, against the advice of most economists of the time, signed the Smoot-Hawley Tariff on June 17, 1930.
Loans to Germany dried up since the Germans could not pay their debts to U.S. creditors in dollars if Germany couldn’t export commodities to the United States to earn dollars. Unlike in 1923, in 1929-30 there was a general global crisis of overproduction. Unemployment in Germany rose to over six million, the middle class was driven to desperation, and in January 1933 Adolf Hitler was appointed Chancellor. The rest, as they say, is history.
The closest the world has come to generalized hyperinflation occurred at the end of 1979 and early 1980. In the wake of the “Great Recession” of 1973-75, the U.S. Federal Reserve System was increasing the quantity of Fed-created dollars at an annual rate of around 6 percent. The rate of growth of Federal Reserve-created dollars was far below the levels that would be necessary to support runaway inflation, let alone hyperinflation like that in Germany in 1923, but was still much higher than the gold mining and refining industry was increasing the global quantity of gold bullion. Reigning “stabilization theory,” based largely on the writings of John Maynard Keynes, targeted the federal funds rate just as the Federal Reserve System is doing today.
The dollar system was born in August 1971 when President Nixon ended the convertibility of the dollar into gold by foreign governments and central banks, transforming the earlier gold-dollar exchange system that had dominated the international monetary system since World War I into today’s dollar system. To “keep the expansion going” that followed the 1973-75 version of a Great Recession, the Federal Reserve resisted the rise in interest rates the ongoing dollar depreciation-fueled inflation was driving. It had been only four years since the Great Recession of 1973-75 had ended, and the Fed hoped to keep the expansion going for quite a few more years to come.
In those days, the Fed had little credibility. As prices rise, any reserves of currency are drawn into circulation and the velocity of circulation rises and hits its maximum. This causes a scarcity of currency forcing the Federal Reserve to increase dollars at an ever-faster rate as its races to keep up with the accelerating rate of increase in the general price level. If the Federal Reserve had yielded to the pressure, the result would have been runaway inflation that could have ended with the first global hyperinflation. Neither the dollar system nor the U.S. empire could survive anything like this for very long.
Therefore, by the end of 1979, the only realistic way out of the crisis for the capitalist system was to refuse to increase the rate of growth of Federal Reserve-created dollars. Without increasing this rate of growth, runaway inflation, not to speak of genuine dollar hyperinflation, could not develop. But this also meant that the Federal Reserve Board had to give up its attempt to hold interest rates down to keep the weak expansion that followed the 1973-75 version of the Great Recession going. Interest rates would have to be allowed to explode upwards. In 1979, U.S. President Jimmy Carter appointed Paul Volcker to oversee the process. (9)
As interest rates rose, gold speculators were forced to dump their gold — much of it bought on credit — ending the decade-long “gold boom.” The selling spread to primary commodities and raw material prices. Wholesale prices and then retail prices leveled off. Then the weak economic expansion gave way to renewed recession. Indeed, the number of workers employed in U.S. basic manufacturing that reached an all-time high as Paul Volcker assumed the chairmanship of the Federal Reserve Board fell sharply and never recovered. The “Rust Belt” was born.
By 1982, many countries in Latin America were on the brink of bankruptcy and the Volcker-led Fed decided the time had arrived to ease up on monetary policy. Six months later, the U.S. economy began to expand — initially at a fast rate ending the Volcker Shock proper, though its lingering effects in the form of the Rust Belt and the de-industrialization of the United States are still evident today. (10)
The movement of interest rates since the Volcker Shock
Let’s examine the movement of interest rates in a typical capitalist industrial cycle. High cyclical unemployment drives down money — and value — wages, increasing the rate of surplus value. Low golden market prices (prices measured in ounces of gold) relative to golden prices of production encourage a rise in world gold production, swelling gold reserves. A combination of debt deflation, reduced demand for credit caused by inventory liquidation, minimal business investment, and lower prices in currency terms as well as gold terms, increases the “real money supply” even more than the golden money supply. The rise in loanable funds combined with a reduced demand for such funds drives down the rate of interest as the recession runs its course.
As recovery begins, a combination of high and rising rates of profit — caused by an increased rate of surplus value, the devaluation of constant capital, and the removal of barriers to the realization of the value of commodities, including the the surplus value they contain, causes a sharp rise in both the mass and rate of profit while the rate of interest remains low. This encourages money capitalists to transform themselves into industrial — and commercial — capitalists leading to a “healthy” period of capitalist development, where “enterprise” is rewarded as opposed to speculation. A new upswing in the industrial cycle has arrived.
Let’s compare this with the situation that prevailed in 1982 as the Volcker Shock was ending. We certainly did have a sharp increase in the rate of surplus value caused by both unemployment and the effects of the workers being paid in devalued dollars — and the dollar’s local satellite currencies around the capitalist world. Constant capital was also devalued. Since the golden market prices of commodities had fallen sharply during the inflation, the profitability of gold production had relatively and absolutely considerably increased. Gold production rose and continued to rise during the rest of the 20th century. This increased the ability of the Federal Reserve System to create new dollars without a dollar depreciation. As a result, the dollar depreciation-driven inflation of the 1970s was over though the dollar price level continued to creep slowly upward.
But there was an important difference between a classical recovery cycle and the situation that existed in 1982. That was the fact that interest rates instead of being low were extremely high as the Volcker Shock ended. As the Federal Reserve System regained its credibility under Volcker, the capitalists lost their desire to hold gold at the existing rate of interest. They increasingly sold gold at existing U.S. dollar prices and lent out the dollars they got in exchange for their gold to take advantage of the still — and for many years thereafter — historically high though now falling interest rates.
For example, instead of investing to modernize and expand the steel mills in Pittsburgh as they had done after major economic crises in the past, the capitalists used the money to either make loans to consumers or developing countries. The most important developing country was the People’s Republic of China. Mao was now dead and under Deng Xiaoping, China was stabilizing politically and opening up for capitalist development and foreign investment. A historic shift of the location of capitalist production and surplus value production from the Global North to the Global South sharply accelerated. This trend was then reinforced by the counterrevolutionary events begun under Mikhail Gorbachev — who came to power in March 1985 — in what was then the USSR and the European socialist countries. In the wake of Russian and East European bourgeois counterrevolutions, the U.S. and capitalists in other imperialist countries were far less concerned about the safety of their foreign investments than they had been during the Cold War.
The problem of low interest rates
Eventually, the period of unprecedentedly high interest rates encouraging capitalists to shift from being industrial and commercial capitalists to becoming money capitalists brought down interest rates to the extremely low levels that prevail today. Traditionally, periods of low interest rates follow debt deflation that transforms the “credit system” back into a money system. Once again, commodities are purchased with money as opposed to credit.
Today, however, despite a certain amount of debt deflation, especially during the Great Recession, debt remains overall very high. While consumer debt isn’t quite as high relative to incomes as it was on the eve of the Great Recession, corporate debt has grown, as well as the government debt. (12) We have already seen some major commercial bankruptcies such as Payless, Toys Are Us, and Sears Roebuck. Now a major industrial company, General Electric, seems close to collapse.
During the years of low interest rates, individuals, but also a considerable number of corporations, have grown dependent on the continuing low interest rates to service their debts and avoid bankruptcy. As the economy transitioned from the post-Volcker Shock period of extremely high interest rates to the current period of very low interest rates, the economy has become hooked on very low rates of interest.
Negative interest rates
There is much talk about “negative interest rates,” especially in Germany and Japan, and the possibility that they will spread to the U.S. The measure of the long-term rate of interest is considered to be the yield on long-term government bonds. Since the chance of default on long-term bonds issued by the major imperialist governments, payable in the currency issued by the central banks of those countries, is close to zero, the default risk (12) is considered to be effectively zero as long as they owe their debts in their own currencies. The central banks themselves — especially since the crisis of 2007-09 — hold a large portion of government debt.
In the U.S., the Federal Reserve Banks return the interest they earn on the government securities they hold to the Treasury. Therefore, the part of the debt that consists of Federal Reserve System-held government securities is effectively debt the U.S. federal government owes to itself. By failing to take this into account, right-wing economists and politicians exaggerate the size of the debt of the federal government. The actual federal debt is the total quantity of government securities issued minus the debt held by the Federal Reserve Banks.
The commercial banks hold deposits in the central banks that bankers and economists call central bank money. In the U.S., this would be one of the 12 Federal Reserve Banks that make up the Federal Reserve System. Under the current monetary system, the commercial banks have the right to redeem their central bank deposits in legal-tender cash — paper currency and fractional coin — at any time. As bank depositors withdraw cash from their deposits, the commercial banks rebuild their “vault cash” by exercising their right to withdraw cash from their deposits at the central bank. In recent years, the growth of electronic payment systems — debit cards, credit cards, and now smartphone payments — has reduced the need for cash of all kinds, including vault cash.
The U.S. government maintains its checking accounts at the 12 Federal Reserve Banks, though the government withdraws its money by issuing checks on its Federal Reserve accounts and not by actually withdrawing paper dollars and fractional coin to make payments. The reserves of the commercial banks consist of both vault cash plus their deposits payable on demand in legal-tender currency held in their central bank accounts.
Traditionally, the Federal Reserve did not pay interest to commercial banks on their deposits with the Federal Reserve Banks. But recently, the Federal Reserve System started paying interest on these accounts. This gives the Federal Reserve an additional tool in its attempts to regulate the growth of bank loans in the economy. If the economy is stagnant and the Federal Reserve wants to encourage an increase in bank loans, it can reduce the interest rate that the commercial banks are paid on their accounts with the central bank.
This encourages the commercial banks to increase their loans and discounts that return a higher interest rate than they get at their accounts with the Fed. If the Fed is worried that banks are loaning too much money — the economy is “overheating,” which means that overproduction is reaching dangerous levels — the Fed will increase the rate of interest it is paying the commercial banks on their Fed accounts. This will encourage the commercial bank to keep more money at the Fed and cut back or at least reduce the rate of growth of loans to the private sector, cooling down the economy — that is, reduce the ongoing overproduction.
The Fed could at some point charge the commercial banks a fee on the reserves they hold with the Federal Reserve Banks. This would be a negative interest rate.
However, there are strict limits to negative interest rates. Under certain conditions, the owners of money — if it is not earning interest it is money and not money capital — might pay a certain service fee in return for storing money safety. Indeed, working people who maintain very low balances in their bank accounts pay what are in effect negative interest rates to the banks because the service fees exceed the tiny amount of interest their deposits “earn.” However, the banks themselves and wealthy investors can afford to buy or rent safety deposit boxes, hire guards, and so on to secure their money. It should be pointed out that negative interest rates apply to “risk-free” government debt and commercial bank deposits in the central banks and not to interest rates that “risky” borrowers like the readers of this blog have to pay. Here interest rates will remain very much in positive territory.
As soon as the negative interest rates exceed the costs of storing and guarding the money, the banks and the wealthy will start to hold their money in the form of cash rather than lending it out at negative interest rates. Therefore, nominal interest rates cannot fall very far into negative territory. The approach of negative interest rates means that the long fall in interest rates that followed the Volcker Shock cannot go on much longer since interest rates are approaching their zero bound minimum. The economists call a situation where the long-term rate of interest approaches zero, making it virtually impossible to significantly lower interest rates further, a “liquidity trap.”
When interest rates are at normal levels — or even more so when they are at extremely high levels like they were immediately after the Volcker Shock — the profit of enterprise — defined as the difference between total profit and the rate of interest — can be increased simply by lowering the rate of interest. The Volcker Shock left the profit of enterprise in negative territory, though total profits that included interest were high. As interest rates began their long fall, the profit of enterprise again became positive and then rose sharply as rates continued to fall.
A given level of debt levels can be serviced more easily the lower the rate of interest is. As long as interest rates can be lowered, the burden of servicing the debt can always be lightened by further reducing interest rates. But once interest rates have fallen close to the zero bound minimum, reducing the burden of debt by further lowering interest rates becomes more difficult and at a certain point impossible.
The central banks, however, can still engage in so-called quantitative easing to expand the quantity of currency they create. The difference now is that this expansion will no longer lower interest rates. This is indeed the course that Trump wants the Federal Reserve System to follow. If near-zero interest rates are not “low enough” to trigger a new boom, the economy is stuck in a liquidity trap.
In a liquidity trap, an attempt by the Federal Reserve to lower interest rates further will either have little effect or will kick off a dollar devaluation that will raise interest rates through the mechanisms we explored above. At first, the rising interest rates will be “nominal” and real rates — measured in terms of commodities — will be negative. However, to keep interest rates “negative,” the rate of inflation will have to increase until it reaches hyperinflation levels and legal-tender fiat money loses its nature as money. Then it will be time— with all token and credit money, as well as credit in general, destroyed— to get out the hoarded gold bars and coins as gold assumes its role as the “coin of last resort.”
What this means in practice is that in a “perfect liquidity trap” — and we aren’t very far from that now — the central bank cannot lower interest rates like it normally can do by expanding the quantity of currency. Instead, any expansion in the quantity of the currency will either have no effect on interest rates or it will actually raise them.
In principle, capitalism can get out of a liquidity trap in two ways. One way
would be the discovery of huge new gold fields comparable to the discoveries of the 16th century that brought capitalism into being in the first place, or the California and Australia gold discoveries in the mid-19th century, or the discoveries of gold in Alaska and Canada at the end of the 19th century.
If the market were flooded by huge amounts of newly produced gold bullion, the Federal Reserve System would be able to carry out the kind of quantitative easing that Trump is demanding without running into the metal barrier or its modern form, the inflation-interest rate barrier. Instead, we would see a sudden new expansion of the world market, a dramatic increase in profitable fields for investment, and a sharp rise in business investment with its associated “accelerator effect.” The new wave of capitalist prosperity would eventually allow interest rates to recover, leaving today’s liquidity trap far behind.
The problem is that unlike the 16th or even the 19th century, the world is thoroughly explored. There are no easily accessible massive gold fields comparable to Peru in the 16th century or California and Australia in the 19th century. However, the Trump administration sees a ray of hope in global warming. Recently, Trump indicated that he wanted to buy the Danish colony of Greenland and even canceled a visit to Denmark when the Danish government indicated that it was not interested in selling the world’s largest island to the U.S.
Today most of Greenland is buried under a mile-thick layer of ice. But as global temperatures rise, this ice sheet is melting, much to the alarm of climate scientists. The same can be said of the ice-covered continent of Antarctica. However, as the ice melts both in Greenland and Antarctica and most of the world’s cities and whole low-lying countries are flooded, who knows what mineral wealth — including gold — will be revealed? The only problem is that civilization and therefore capitalism may not survive the “side effects” that global warming will bring. But the U.S. capitalist class — or at least its most powerful sectors like the fossil fuel industry — seem willing to take the risk. Hasn’t “free enterprise” always been about risk?
There is always the possibility of mining asteroids, which are believed to be rich in mineral wealth including gold. However, before this mineral wealth can be mined a vast engineering and technological revolution will have to occur and huge new investments will have to be made. This will require decades if it is possible at all under the declining capitalist system. (14)
The other possible path out of the liquidity crisis would be a new super-crisis similar to that of 1929-33 — but on the even greater scale that would be necessary to transform today’s credit system into a cash system once again. The huge decline in golden market prices would greatly expand the purchasing power of the gold that now exists. Also, it would raise the rate of profit on capital invested in gold mining and refining both absolutely and relatively. Depleted gold mines would again become profitable and gold-bearing land now too poor to mine would become profitable. The only problem with this solution as far as the capitalist are concerned is that it would lead to a social and political crisis that capitalism hopefully would not survive — though it could also lead to a world war that civilization would not survive. And even that would not represent any lasting solution.
To be continued.
1 The working class has no horse in this debate since we will be screwed either way — though it is true if the Federal Reserve is seen as aiming to have a recession around the time of the November 2020 election, this helps Trump by giving him a scapegoat. However, the current struggle between Trump, the Party of Order, and the Federal Reserve tells us much about the nature and limits of capitalist production and will have important political implications for the class struggle over the next few years, and quite possibly over many years beyond. (back)
2 Maximum employment means the maximum level compatible with capitalist profits. What is really meant — though Congress would not dare put it this way for obvious political reasons — is that the Federal Reserve System is mandated to follow monetary policies that aim to maximize profits. (back)
3 Or, to use the more philosophical language of Marx, a social relation of production among people mediated by a thing. (back)
4 GNU/Linux based on the principles of Free Software can be freely downloaded on the Internet and installed on your computer. This operating system runs among other things the Internet itself and the top 500 fastest supercomputers and is used in many businesses to run their internal networks. The Linux kernel, part of GNU/Linux, is also used in Google’s Android Operating System. Recently, the Linux kernel has even appeared in some Microsoft systems used for networking and programming but not yet in home Windows systems. Microsoft Windows is dominant only in office and home computers.
A disadvantage of using GNU/Linux as an office and home system is that it is not standardized, taking the form of hundreds of distributions and many different desktop environments. However, it wouldn’t be hard for China and other countries adopting GNU/Linux as a standard office and home operating system to develop a standard business — and home — oriented distribution that could spread around the world. The advantage of GNU/Linux to Windows not only for China but for every other country that is, or potentially will be, in the cross-hairs of the U.S. is that since the source code is public — and can be modified by the user — it is very difficult for the U.S. government and its numerous spy agencies to plant spy and other malicious software in it. And if such malware were to get into GNU/Linux, it could easily be removed. (back)
5 In Germany, members of that section of the capitalist ruling class that accepts political and military subordination to the U.S. are called Atlantists. Atlantists have dominated postwar West Germany and then all Germany through the Christian and Social Democrats. The heart of German “Atlantism” is complete acceptance of U.S. political and military domination over Germany in return for the U.S. guaranteeing the German capitalists access to markets and raw materials, including access to the U.S. home market. The continuing viability of “Atlantism” has been brought into question by Trump’s trade — and increasingly anti-German — policies. Policy toward Germany is one of the key points of difference between the pro-Trump nationalist wing of the U.S. ruling class and the Party of Order, sometimes called “globalists”. (back)
6 This doesn’t mean that money cannot be represented by tokens — coins or today’s legal-tender fiat money — or circulating promissory notes held in checking accounts. But neither credit money nor token money can represent value — abstract human labor embodied in commodities — directly but only through the use value of a special money commodity that serves as the universal equivalent — counter value — of all other commodities. Whenever I read Marxists trying to explain that today’s money is “non-commodity” money or that modern money is based on MELT, I realize that individual has not — or not yet — fully mastered Marx’s theory of value. I must admit that I was in that category for many years. (back)
7 The Grundrisse was not published by Marx under that name or any other name in his lifetime. The Grundrisse is a series of notebooks that were filled up by Marx during the winter of 1857-58 when Marx’s interest in economics was renewed by the global crisis of overproduction that hit Britain in October 1857. The “Contribution Towards a Critique of Political Economy,” based on parts of the “Grundrisse,” was published in 1859. Volume I of “Capital” was published in 1867. However, neither Volume II nor Volume III of “Capital” was published in Marx’s lifetime but rather by Fredrick Engels after Marx’s death.
The parts of Marx’s work, whether published in his lifetime or after his lifetime, where he deals with money and value are studied far too little by today’s Marxists as shown by the references to non-commodity money and MELT. These writings of Marx seem either too “Hegelian” and abstract or too practical since they deal with such “dry” subjects as currency, exchange rates, and central banking. Yet together, even if they are often in the form of notes written for Marx’s own clarification, they form a vital part of Marx’s theoretical legacy. (back)
8 In the 19th century, the Bank of England’s banknotes — paper pounds — were backed by the gold in the bank’s vaults. Under today’s fiat dollar system, the Federal Reserve Notes and their electronic equivalents are “backed” not only by the gold in the vaults of the U.S. Treasury and secondarily by gold held in the name of foreign central banks in the vault under the Federal Reserve Bank of New York but by all of the gold bullion that can be exchanged for U.S. dollars on the market.
Under the 19th-century gold standard, the Bank of England banknotes were promissory notes payable to the bearer on demand in gold sovereigns of a defined weight. If the Bank of England’s gold reserve became seriously depleted, the convertibility of the banknotes at the rate of one gold sovereign to one paper pound would be brought into question. This, however, never happened during the time of Marx and Engels.
Today, neither the Federal Reserve System nor the U.S. Treasury are under a legal obligation to redeem U.S. paper dollars for gold at any ratio. However, the amount of gold that the U.S. dollar represents in circulation varies with the dollar price of gold. The higher the level of gold production, the faster the total quantity of gold bullion as measured in some unit of weight will grow and the more U.S. dollars the Federal Reserve can create before it faces a sharp rise in the dollar price of gold. In other words, the more gold in the world, the more dollars the U.S. Federal Reserve System can create before it runs into the inflation-interest rate barrier.
There is, however, one crucial difference between the gold held in Fort Knox and under the Federal Reserve Bank of New York and the gold held by the “private sector.” In the event of a “run on the dollar” — a sudden panicky move by the money capitalists to exchange their dollars for gold on the “open market” — the private holders of gold will keep it off the market until the run one way or other ends. However, the gold held in Fort Knox and New York can be deployed on the market in a centralized way to support the U.S. empire and attempt to save the dollar system.
Today Russia, China, and other countries are building up rival gold hoards. Unlike private gold hoards, these hoards might be deployed in unison with the U.S.-controlled Fort Knox-New York gold hoard against a crisis of overproduction. But in the event of a political or military crisis that pits the United States against the countries building up rival gold hoards, these gold hoards can become weapons of war. This is an important question I will explore in future posts. (back)
9 Hyperinflation cannot develop unless there is already a serious underlying political and not just economic crisis since it never makes sense for a country to ruin its currency for simple economic reasons. (back)
10 Carter nominated Volcker for the chairmanship of the Federal Reserve Board in 1979 to oversee the process, though the results destroyed any chance that Carter had for a second term. Trump has hinted he will fire the current Trump-nominated chairman of the Federal Reserve Board because he fears that Powell’s policies will trigger a recession that will end whatever hopes Trump has for a second term. If Trump actually fires Powell — and gets away with it — and replaces him with a Fed chairperson who is willing to “run the printing presses” if necessary in hopes of reelecting Trump, we would have the mirror opposite of what happened in 1979. (back)
11 The fundamental causes of de-industrialization are the differences in the value of labor power and the rates of surplus value in the United States and the other imperialist countries and the countries of the Global South. However, the high interest rates that followed the Volcker Shock considerably accelerated the process. The failed attempt to demonetize gold is what made the Volcker Shock necessary for capitalism. (back)
12 The supporters of Modern Monetary Theory view this as a good thing because they believe that such government debt can easily be converted into additional money by the central banks to fuel the further expansion of the market. According to MMT, it is the growth of private debt not backed by the growth of government debt that can easily be converted into money that is the cause of economic crises. Therefore, according to MMT, the growth of the debt of central governments prevents crises.
In reality, though, the repudiation of debt by central governments that are denominated in their own currencies is unlikely. However the larger the debt of the central government is the more pressure there is on private debt. MMT fails to understand this because of their false belief that central governments create money by in effect crediting the bank accounts of their suppliers and employees. (back)
13 Although the default risk in the sense that a government refuses to repay its debts issued in its own currency is very low if not zero, the same cannot be said for the risk the central government will repay its debts in depreciated currency. The fact that interest rates are as low as they are today reflects the extent that central banks — above all, the U.S. Federal Reserve System — have regained their credibility since the Volcker Shock. A lot of the current credibility that the Federal Reserve System enjoys flows from the fact that the Bernanke Fed against all expectations did not accelerate the rate of expansion of the quantity of Federal Reserve dollars it was creating, even though since July-August 2007 it was clear to many that a major crisis was approaching, until the crisis actually broke out and greatly boosted the demand for U.S. dollars as a means of payment. However, if the Powell Fed — or a Trump-appointed successor to Powell — were to flood the commercial banks with newly created dollar reserves in a bid to stave off the looming recession, much or maybe all of this credibility would be lost. (back)
14 The point here is that if capitalism is to survive, it must expand into new environments. In the 19th century, these new environments were California, Australia, Alaska, and Canada with the resulting genocide of the native peoples in its path. Now it depends on expanding into glacier-covered lands like Greenland and Antarctica as global warming not only melts these glaciers but threatens to destroy the environment that human society depends on altogether. However, this is the perspective not only of Trump but also of the Party of Order that controls the Democratic Party. (back)