How recessions end
During recessions, inventories—commodity capital—are run down as production declines faster than sales. At some point, therefore, industrial production will begin to rise, because the industrial capitalists have to rebuild their inventories. This is why all recessions eventually end.
The recovery begins first in Department II—the department that produces the means of personal consumption. The contraction in industrial employment more or less comes to a halt once rising industrial production caused by the need to rebuild inventories begins.
However, industrial employment rises very little during the first phase of the upturn. Many factories during the recession were forced to operate at levels far below their optimum level of productivity. As inventory rebuilding proceeds, more factories come closer to their optimum utilization levels. The resulting surge in productivity (1) enables the bosses to increase production considerably while adding few, if any, workers. (2) Therefore, for a considerable period of time after the recession proper ends, labor market conditions continue to favor the industrial capitalists over the workers. This remains true after the rise in the rate of unemployment begins to taper off.
The onset of an upward trend in industrial production means that the overproduction of commodity capital has been more or less overcome. The same is not true, however, of the overproduction of the elements of fixed capital such as factory buildings and machinery. The generalized overproduction of commodities that developed during the preceding boom would not have been possible without a similar overproduction of the means of production.
The overproduction of commodities, therefore, means an overproduction of the productive capital used to produce the commodities. During the recession, the reduced level of industrial production leads to the liquidation of the overproduced commodity capital. The liquidation of “excess inventory” does not eliminate the overproduced means of production. Therefore, for a considerable time after the recession proper has ended, factory shutdowns continue and new capital investment remains minimal. Indeed, during the earliest phase of the upturn, capital spending often continues to fall. The level of capital spending is, therefore, a lagging indicator of the industrial cycle.
As we saw last week, the economy becomes very liquid during the recession due to the contracted level of commodity circulation and the increased purchasing power of money as prices, including the price of labor power, fall. As we also saw last week, the falling prices of the recession tend to increase the production of money material (3) The increased purchasing power of money due to lower prices and wages, plus the rise in the quantity of money made possible by increased gold production, work together to increase liquidity. With money abundant and new investment minimal, businesses are in a position to retire existing debts.
As industrial production turns upward, the economy is therefore able to operate to a much greater extent on a cash basis rather than a credit basis. Not only has the purchasing power and the quantity of metallic money increased during the recession—making possible an increase of token money and credit money—but the velocity of circulation of the currency has declined. Therefore, when commodity circulation once again increases, there is little need to resort to credit.
Instead, the increased economic activity that follows the recession can be largely financed by the increased mobilization of previously idle hoards of money that accumulated in the banks during the recession.
Even when industrial and commercial capitalists use commercial credit—selling commodities to one another on credit—they have much less need for bank credit. Indeed, statistics show that the growth of bank loans is a “lagging indicator” of cyclical changes in economic activity. For some time after the recession has ended, bank loans continue to decline. The weak demand for bank credit makes it very difficult for banks to raise interest rates in the early stages of the upturn. The competition between the industrial and commercial capitalists on one side and the money capitalists on the other strongly favor the industrial and commercial capitalists.
The large amount of idle cash means that the government can engage in massive deficit spending without this leading to a rise in long-term interest rates. Or what comes to exactly same thing, the government can engage in a high level of deficit spending without this lowering the profit of enterprise by increasing long-term interest rates. (4) For the same reason, consumer credit can again be expanded, which leads to an initial rise in the sale and production of consumer durables such as automobiles and houses. Just like consumer durables lead the economy into the recession, they also lead it out of the recession.
The rise in the rate of profit
As sales gradually but progressively improve, the turnover of capital begins to rise. This means a rise in the turnover period of variable capital and thus a rise in the rate of profit. Remember, the numbers of turnovers of variable capital in a given amount of time is one of the key variables that determine the rate of profit. Prices for the most part have now stopped falling, though they are not yet rising. Prices are not rising, because excess capacity remains very high and production can be quickly increased to meet any increase in demand at existing price levels. (5)
But after prices have stopped falling, the still low level of selling prices is now compensated by the low level of the prices of inputs. While the industrial capitalists are forced to sell their commodities at prices that are still below the values of their commodities, they can also buy raw and auxiliary materials and labor power at prices below their values. The negative effects of falling prices on profits, therefore, begins to lift. Only the high prices of the elements of fixed capital that were bought during the boom and have not been written down continue to have a negative effect on the rate of profit.
The low prices that prevail during the depression have the further benefit of encouraging gold production, which tends to keep the rate of growth in the quantity of money high. It is once again possible to realize surplus value, and as a result, the rate of profit begins to rise rapidly. But it isn’t only the growing possibilities of realizing surplus value that leads to a sharp rise in the rate of profit at this stage in the industrial cycle. The recession has made it far easier to produce surplus value as well.
Recession followed by the lingering depression means that the rate of surplus value is high and continues to increase. Not only is unskilled labor cheap and plentiful but skilled labor is plentiful and cheap as well. From the viewpoint of the industrial capitalists—though not the workers, of course—this is a win-win situation.
But this isn’t the only benefit that capital obtains in the aftermath of the crisis. The constant capital has been devalued, which tends to lower, or at least retard, the increase in the organic composition of capital, especially when calculated in terms of prices. (6)
The actual devaluation of the elements of constant capital largely occurred during the preceding boom. At that time of high investment, much state-of-the-art technology was applied that rapidly lowered the actual value of commodities. Or what comes to exactly the same thing, the amount of socially necessary labor required to produce the commodities that formed the elements of constant capital was reduced by application of the new state-of-the-art technology to production.
However, this change in the value of constant capital isn’t reflected in lower prices until the crisis. So the devaluation of capital that actually occurs during the boom does not become “effective” until the crisis. In the wake of the crisis, the lowered prices of the elements of constant capital, combined with the higher rate of surplus value, work in the direction of raising both the rate of and mass of profit. As a result, many factories and machines that could not function as capital during the recession can once again begin to do so, though often not before their value has been written down on the books.
The beginnings of the recovery in Department I
The recovery begins in Department II but gradually spreads to Department I. But it does so by stages. The first stage in the recovery of Department I is the increased demand for raw and auxiliary materials. As profits in Department II continue to rise, the industrial capitalists of this department begin to reopen many factories that were either completely shut down or were only in partial operation during the recession. Before they do so, the industrial capitalists will often retool them.
Many obsolete factory machines are now replaced with more up-to-date models. Once the factories are reopened, retooling is much more difficult, since it is hard to remove old machinery and install new machinery without disrupting ongoing production. Therefore, the recovery that at first benefits only the raw and auxiliary material branches of Department I now begins to spread to the machine-building industry as well.
Since the industrial cycle runs about 10 years, the last time there was a similar opportunity to retool existing factories would have been about 10 years ago, when the economy was also emerging from recession. If we assume that many factory machines last about 10 years, it is time to replace these machines anyway. This further stimulates the recovery of the machine-building industry.
Therefore, as factories are increasingly reopened with new, more powerful machinery, industrial production rises above its old pre-crisis level. The depression phase is now over, and the phase of average prosperity has arrived.
Let’s now review the situation that faces both the industrial capitalists and the working class as the depression ends and the phase of average prosperity begins.
At depression’s end
The above-average rate of unemployment that has prevailed since the recession has raised the rate of surplus value. This combined with the fall in the prices of the elements of constant capital translate into sharp increases in the rate of profit. The organic composition of capital has been lowered, or at least its rise has been considerably reduced, both in terms of values and prices. To the extent that the prices of agricultural commodities used in food production or that enter into the production of other “wage goods” falls, the rate of surplus value is further increased. This means that it is possible to keep money wages down without lowering real wages so much that the reproduction of labor power is endangered.
The rise in the rate of surplus value helps postpone the inevitable renewed rise in the organic composition of capital as depression gives way to average prosperity. Why is this? As a general rule, we can assume that the industrial capitalists must pay the full value of the elements of constant capital, but as Marx explained in his epoch-making analysis of surplus value, they only pay a part of the new value created by the labor of the industrial workers. Therefore, the higher the rate of surplus value, the less the industrial capitalists pay for this newly created value. Only the value the industrial capitalists actually pay for enters the cost price of commodities. (7) The higher the rate of surplus value, the more likely it will be cheaper for the industrial capitalists to use variable capital as opposed to constant capital.
Here we see one of the key “services” that the crisis performs for capital. If the crisis had not occurred and demand for labor power had remained strong, the rate of surplus value would have fallen. But the crisis changed all that by causing the demand for labor power to plunge while the supply of labor power—the total number of workers seeking employment—continued to rise.
The rise in the rate of surplus value not only helps the rate of profit directly. As a further “benefit” for capital, it holds back the rise in the organic composition of capital. This in turn helps transform the fall in the rate of profit into a mere tendency.
Low rate of interest
If the rate of profit has benefited from the effects of the crisis—though as we have seen these beneficial effects can only be felt after the crisis has ended—the profit of enterprise benefits even more. The crisis and its aftermath, through its low prices in terms of gold, has stimulated gold production and thus led to an expansion in the quantity of money. The increase in the money supply drives the rate of interest of rates down towards their minimum levels. (8)
As profits sharply rebound after the crisis, therefore, interest rates rise very little. Sometimes, long-term interest rates continue to fall into the early stages of the recovery. The more the market prices of commodities are below the actual values of the commodities, the more likely this will be the case. The lower commodity prices are relative to their values, the higher the level of gold production—and thus the higher the growth rate in the quantity of metallic money—will be. And the faster the growth in the quantity of metallic money, all else remaining equal, the lower will be the rate of interest.
Therefore, since the profit of enterprise is the difference between the total profit (less rent) and the interest, the rate of profit of enterprise rises even faster than the rate of profit as such in the wake of the recession.
And the more the profit of enterprise rises, the more surplus value will be produced. And the more surplus value is produced—especially since the conditions now exist to actually realize the surplus value in terms of money—the higher the mass of profit.
Therefore, all the forces that bring about recovery of the rate and mass of profit, and consequently of the capitalist economy as a whole, feed on themselves as the industrial cycle progresses from the lowest point of the recession, through the post-recession depression, and onward to average prosperity.
The transition from average prosperity to a new boom
Average prosperity has now arrived but not yet a new boom. As long as considerable excess capacity remains, the kind of large-scale industrial investments that are needed for a full-scale boom will not be made in sufficient quantity. No matter how low the rate of interest is, as long as industrial capitalists can meet rising demand by simply retooling and reopening existing factories, it is not yet in their profit interests to undertake the kind of massive investments needed to construct large new factories filled with state-of-the-art of equipment. And without these investments, large sections of industry in Department I, especially the sub-sectors of Department I that produce means of production for other Department I industries, continue to stagnate.
During the time of average prosperity, capitalist expanded reproduction is not yet in full bloom. The key to transforming average prosperity into a true boom is the whittling away of the remaining excess capacity. As long as there are still substantial “surplus” factories and machines, a boom cannot occur. However, during average prosperity excess capacity is being progressively whittled away at both ends.
First, older factories that cannot make at least the average rate of profit after their fixed capital has been pretty much written down to nothing will now be scrapped. The closing down of these “high-cost” old factories means reduced excess capacity.
On the other hand, some of these older factories will be able to make the average rate of profit, due either to the writing down of the value of their fixed capital on the books or to the sale of the factories by bankrupt industrial capitalists to “stronger” industrial capitalists at a fraction of their old value. These factories are progressively reopened as average prosperity progresses. When a previously idled factory is reopened, excess capacity is also reduced.
The stage is now set for a new boom.
The stock market and the industrial cycle
In the days of Marx, industrial enterprises were as a rule either owned by individual capitalists or partnerships, where a few capitalists would pool their capital in an industrial or commercial enterprise. By the standards of today, these enterprises were very small. Only in enterprises such as railroads that needed gigantic quantities of capital did something like the modern corporate form prevail. Today, however, only small-scale industrial and commercial enterprises are generally still owned by individual capitalists or partnerships.
A corporation is a collective industrial, commercial or financial capitalist. Instead of a few capitalist owners, there is a huge mass of owners. In the really big corporations that represent quantities of capital that are far beyond the means of even the richest individual capitalists, the largest stockholders may own a very small percentage of the total stock capital.
In theory, the stockholders elect the board of directors on the “democratic” principle of one share one vote. The board of directors then selects the actual managers who run the corporation on a day-to-day basis. In practice, however, corporations are run by a few “insiders” who pretty much control things. The great majority of the share owners, even those who may individually be very wealthy, have virtually no direct influence on the “management” of the corporation. (9) The replacement of the individually or family-owned enterprise by the “largely held” corporation has important implications for the evolution of the industrial cycle and the formation of crises, as we will see in future posts.
The shareholders large and small receive “dividends” in proportion to the total amount of stock they own. Dividends are paid out of the profits of the corporation, generally I assume, for reasons explained below, out of the interest part of the profit. (10) Though shareholders are owners and not money lenders like bond owners, they are still money capitalists. Stockholders do take a bigger risk then bondholders. Bondholders short of bankruptcy are guaranteed interest payments, while shareholders aren’t guaranteed a dividend. And in the case of bankruptcy, the stockholders generally get nothing.
If, however, a corporation did not pay dividends, its stock would in the long run fall to zero. Assuming the corporation is profitable, it would inevitably be taken over by another corporation and its management would be ousted. So in the long run, economic laws force it to pay the interest, or a part of the interest, it “earns” on its capital to the stockholders in the form of dividends. Unlike bond holders, however, stockholders can expect dividends to increase as the corporation accumulates capital. In the case of rapidly growing corporations, such as many “high-tech” companies, the corporation may keep most if not all the interest and plow it back into the business rather then pay it out in the form of dividends to the stockholders. In this case, the stockholders have to be satisfied with the rising price of the shares on the stock exchange. These higher share prices reflect the much higher dividends that the stockholders expect will be paid in the future when the capital the corporation is expected to accumulate grows much larger.
The risk that the stockholders run is, however, considerably less than an individual owner of an industrial or commercial enterprise who is entitled to the profit of enterprise as well as the interest.
If I, a capitalist, own a single industrial or commercial firm that represents most of my capital, I am taking a much bigger risk than if I have the same amount of capital invested in many different stocks that are freely traded on the stock market. (11) The stock market capitalist spreads his or her risk among many different actual corporations and further reduces his or her risk by being able to quickly and easily sell a stock that he or she thinks is going “sour.”
This is done by simply calling a broker and executing a sell order. Or in these days of Internet “day trading,” by simply clicking the mouse. On the other hand, it is far more difficult to sell an ongoing industrial or commercial business, especially one that is going sour. So even a passive owner—one that does not actually manage the enterprise but hires professional managers—is running a much larger risk of losing much or all of his or her capital than the “stock market capitalist” is.
It is this extra risk that “entitles” such an owner, as opposed to a pure “stock market capitalist,” to the profit of enterprise as well as the interest on his or her capital.
Therefore, while the corporation acts as a collective industrial capitalist, its actual owners—the stock owners—individually function as money capitalists. The same analysis can be applied to commercial and financial corporations as well. (12) To the extent the profit is immediately transformed into new industrial capital, profit that remains after the paying out of the dividends is either used to pay the top corporate brass, who act as the “active” industrial capitalists, or is thrown on the capital and money market by investing in government bonds, the bonds of other corporations, commercial paper, placed in in high-interest bank accounts, or even in the the stock of other corporations.
To the extent this happens, the industrial or commercial corporation acts as a collective money capitalist. Capitalism is tending towards a state where all the individual capitalists are money capitalists while the industrial and commercial capitalists are collective, or corporate, capitalists. The collective capitalists—corporations—function not only as industrial and commercial capitalists but also as collective money capitalists side by side with the individual money capitalists and the banks.
Banks—even during the early stage of capitalism, when industrial and commercial capitalists were individual capitalists—were always collective money capitalists. (13) Even if the bank is individually owned, it still depends on its depositors to raise sufficient funds to function as a collective money capitalist.
What determines the price of stocks?
Leaving aside the tides of speculation that in the modern stock market often reach the levels of tidal waves, the price of a stock is determined by two factors: first, the size of the dividends which is are largely governed by reported profits, and second, the prevailing level of long-term interest rates. Assuming no new stock is issued, a share will represent x percent of the total capital of the corporation defined as total assets minus liabilities. (14) Unlike the case with a bond, which represents a given amount of capital in terms of money and entitles the owner to the interest yielded by this capital, the amount of capital that the stockholder owns grows with the total capital of the corporation as long as no additional stock is issued.
As the corporation accumulates capital, it either pays an increasing dividend on this stock or else its management runs the risk of being ousted in a hostile takeover. (15) Over time, the individual shares represent a growing quantity of capital “entitling” the shareholders to receive an increasing quantity of the surplus value produced by the working class in the form of dividends.
The second factor that determines the price of a stock is the long-term rate of interest. The price of a stock will tend toward a level corresponding to the total annual dividend paid divided by the long-term interest rate. This division is called “capitalization.” Stocks, therefore, rise in price with rising profits and dividends and falling interest rates and fall in price with falling profits and dividends and rising interest rates.
However, there is a strong speculative element involved. Stock market speculators are betting on future dividends—ultimately dependent on the rate and mass of profit appropriated by the corporation—and future interest rates. These bets often turn out to be far wide of the mark. This makes stock market speculation very risky for people with small savings who hope to increase their savings by investing in the stock market. (16)
Changes in stock market prices during the depression and average prosperity
As the economy approaches the bottom of the industrial cycle, stock market speculators anticipate the sharp rise in both the rate and mass of profit that occurs as the industrial cycle progresses from depression to average prosperity. Long-term interest, the rate at which the flow of dividends are capitalized, can for the reasons that I explained above be expected to remain low for quite some time, though it may rise slowly. On the other hand, the rate and mass of profits are rising rapidly. With corporate profits rising rapidly, dividends can be expected to rise as well. These conditions are highly “bullish” for the stock market.
Wealthy capitalists who specialize in stock market speculation know that the best time to buy stocks is near the bottom of the recession. They hope to make lots of money buying stocks when they are cheapest, sometimes with the intention of selling them when they become “overvalued” near the end of the coming boom. Without doubt, these kinds of calculations are behind the bullish movement we have seen on world stock markets over the last month. Even if the recession continues for many months to come, these stock market speculators are figuring, how much worse can things get? Even if the economy continues to worsen in the coming months, the stock market speculators are betting that inventories will, in the not very distant future, have to rebuilt, which as I explained above will mark the beginning of the upward movement of the new industrial cycle. Therefore, the downside risk in the stock market seems low to them, while the upside potential appears great.
There are, of course, dangers in buying stocks during a recession. First, nobody can be sure exactly when a recession such as the current one will actually end. To take one well-known historical example, a recession started in the United States during the summer of 1929. At first, this looked like a typical cyclical recession. Surely, most stock market speculators assumed, it would be over in a year or a year and a half. In the fall, the famous stock market crash of that year occurred. Over a three-week period, the Dow Jones Industrial Average fell about 40 percent.
Many stock market speculators figured this was a great buying opportunity. The business press, most bourgeois economists and of course President Hoover were confidently predicting an upswing by the summer of 1930. Surely at the latest the industrial cycle would turn upward by 1931. Historical experience indicated that by then inventories would be so depleted that industrial production would have to rise once again, initiating a recovery in profits and dividends. Over the next few months, stock market prices recovered much of their losses.
With stocks so cheap, many stock market operators figured that this was an unprecedented buying opportunity. It wasn’t! By the time time the stock market had hit bottom in July 1932, the famous or infamous Dow Jones Industrial Average had dropped not by 40 percent but by 89 percent! Indeed, the DJIA didn’t return to its 1929 peak until 1954, and this does not take into account the 40 percent devaluation of the dollar in terms of gold that occurred during the Depression. So in terms of real money, it took even longer for share prices to reach their old level. Of course, this an extreme example. At the other extreme, those who bought stocks after the 1987 crash indeed made huge amounts of money as stock prices quickly recovered.
Another danger of buying stocks during a recession is that bankruptcies are high, and occasionally even a large corporation “unexpectedly” goes bust. Remember the infamous Enron Corporation, which collapsed in 2002? For years, it was hailed in the business press as the world’s most “innovative”—in terms of making profits—company. Buying its stock seemed a sure thing. The price of its stock soared on the stock exchange.
Then, in 2002, it went bankrupt—it was revealed that Enron was little more than a massive swindle company—and its stock fell to nothing. When a corporation collapses and its assets are liquidated, the money raised goes to pay the bond holders and other creditors, with workers’ unpaid wages and pensions last in line. There is then usually nothing left over for the stockholders, who lose their entire investment.
So stock market speculation is best left to the professionals—the professional wolves of the stock exchange that is! The stock market is a very dangerous place for those who have accumulated small savings. Even many a big capitalist has met grief in the stock market. (17)
Despite the uncertainties, the depression phase of the industrial cycle does offer unique opportunities for enrichment for the “well-informed” stock market investor. But the same depression phase of the industrial cycle is generally a miserable time for the working class. The journalists who cover the economy for the media are generally ecstatic as they watch the rising value of their own stock portfolios. Why doesn’t the “public”—made up largely of workers who depend on the sale of their labor power—not their stock market portfolios—in order to making living, understand how wonderfully the economy is doing? Why do polls show that many people still think the economy is in “recession” when the soaring stock market shows how “healthy” the economy really is. Or as I believe Rosa Luxemburg put it somewhere in a slightly different context, during the depression phase of the industrial cycle, it is stocks up, proletarians down.
Next: From Boom to Crisis
1 Government productivity figures always show a surge in labor productivity once the recession gives way to the depression phase of the industrial cycle. This surge occurs for the reasons I noted above and should not be confused with the organic growth of productivity that is driven mostly by investment in new, more-powerful machinery and technology. This organic rise in labor productivity occurs mostly during the boom phase of the industrial cycle.
2 This is why employment statistics are considered lagging indicators of the “business” or industrial cycle. For example, when the current deep downturn in the global industrial cycle does “bottom out,” it will be many months, if not years, before there is any substantial recovery in employment, and even longer before unemployment declines substantially. Even if the recession is nearing its end, the unemployment crisis is barely beginning.
3 A study of the concrete history of gold production and real world industrial cycles suggests that fluctuations in the level of gold production are tied not so much to the 10-year industrial cycle as to the “long waves.” During each such wave, several industrial cycles in which the boom phase dominates are succeeded by several industrial cycles in which the crises and depressions are dominant.
Every major period of prosperity in the history of capitalism since the middle of the 19th century has been preceded or accompanied by a major rise in gold production, while every period of major crisis has been accompanied or preceded by major declines in gold production. There was a particularly deep and prolonged decline in gold production in the years preceding the Great Depression of 1929-40. In contrast, during the Depression itself, gold production rose sharply.
In the years since the end of the international gold standard, we have seen the same broad pattern despite the claims of the bourgeois economists that gold is now simply “another commodity” that has little effect on the rest of the economy. Gold production, after declining and then stagnating during the 1970s, turned up again in the early 1980s, just before the beginning of the “Great Moderation.” However, since 2001 gold production has again declined. Right on cue, the crash of 2008 arrived.
I will examine the effects of gold production on the general state of the capitalist economy when I take up the controversial question—among both Marxists and bourgeois economists—as to whether in addition to the 10-year industrial cycle there is also a cycle of longer duration. In this section, however, I examine an “ideal industrial 10-year industrial cycle” and assume that there are only 10-year industrial cycles, and all that happens within each industrial cycle unfolds over a period of 10 years.
4 Long-term interest rates are defined as the rate of interest paid on loans of more than a year’s duration, while short-term interest rates are defined as the rate of interest on loans of less than a year’s duration. Long-term loans are used to finance large-scale capital investments such as factory construction, railroads, canals, airports, and long-lived machinery. Short-term loans are used to finance inventory accumulation.
Generally, the longer the terms of the loan the higher the rate of interest, since it is riskier to loan money over a long period of time—there is more time for things to go wrong—than over a short period of time. But as we will see next week, short-term interest rates rise much faster than long-term interest in the late stage of the industrial cycle. Sometimes they even become “inverted,” so that short-term interest rates rise above long-term interest rates. An “inverted yield curve” is considered one of the surest signs of an approaching crisis.
5 Just like is the case with gold production, there is evidence that price movements are more tied to “long waves” than they are to 10-year industrial cycles. This is especially true if prices are calculated in terms of real gold money rather than in terms of token money. The devaluation of token money can hide a fall in prices calculated in terms of gold money, as was the case in the 1970s. I will examine this when I get to the posts on the proposed existence of “long cycles” in capitalist production.
7 Under the pressure of competition, the industrial capitalists strive to minimize the cost price of commodities—that is, the price the industrial capitalists must pay in order to produce their commodities—not the price at which they sell them. Every industrial capitalist wants to produce at the cheapest cost price possible and sell at the highest possible selling price. The greater the difference between the selling price and the cost price, the higher the rate of profit.
8 Even if gold production does not rise during a particular industrial cycle, the contraction of real capital combined with continued production of gold causes the ratio of real capital to real money capital to fall, though to a lesser degree than if gold production is rising. It is not entirely surprisingly, therefore, that there is evidence long-term interest rates are sensitive not only to 10-year industrial cycles but also to “long waves” made up of several industrial cycles—much like gold production and prices are.
The place to examine this, however, will be section where I discuss the controversial question of “long cycles” in capitalist production. It should be remembered that in recent decades, however, the fear of future currency devaluations has had a very great influence on the rate of interest somewhat independent of the ratio of real capital to real money—gold—capital.
9 The tendency of capitalist production to transform the actual owners of capital into passive dividend collectors shows that the more capitalism develops, the more the capitalists are expelled from the sphere of production. This transformation of capitalists into persons with no other economic function than appropriating surplus value prepares the way for abolishing the capitalist class and with it abolishing classes in general. This is one the strongest signs of the approaching transformation of capitalist production into a higher mode of production.
10 A shareholder is an owner of, not a creditor to, the corporation. How can the shareholder be said to be paid “interest”? Isn’t the interest the part of profit paid to lenders? When an industrial enterprise is owned by a single capitalist who works purely with his or her own capital, the profit will be divided, at least in the mind of an intelligent capitalist, into interest and the profit of enterprise. So it is quite possible for a share owner to be paid out of interest in the form of dividends. “Professional investors” and money managers pay close attention to the “yield” on bonds versus the “yield”—on stocks when they determine whether to buy or sell stock or bonds.
11 Bourgeois economists sometimes claim that risk produces profit—the greater the risk the bigger the profit produced, they claim. This is false. Risk does not produce an atom of surplus value. However, it is true that the outcome of the mutual competition among the capitalists produces a distribution of the total surplus value among the capitalists that favors those who take the biggest risk. As the saying goes, no pain no gain. If I, a capitalist, run a greater danger of losing a large portion or even all my capital, I will do so only if there is the possibility of a considerably greater “award.” This gives the superficial appearance that risk itself is somehow creating “profit” and “wealth.” Our modern vulgar bourgeois economists take this appearance for reality, especially since it serves the ideological interests of capital.
13 A commercial bank borrows money from depositors and lends it out at the rate of interest. The difference between the interest that the bank appropriates on its loans and what it pays its depositors represents its profit. A bank can make huge profits on its highly “leveraged” capital—the difference between the bank’s total assets and its liabilities, including its deposit liabilities. It thus appears to earn a “profit of enterprise.” However, all its profit comes—assuming an old-fashioned commercial bank that deals only with industrial and commercial capitalists—from the interest part of surplus value. A modern bank that makes consumer loans also makes a considerable amount of profit from the wages of indebted workers that it pockets.
14 This is why the existing stockholders often resist any move by corporations to issue additional shares that dilute their percentage of ownership. This is especially true if the additional shares do not represent additional “paid-in capital” but simply represent shares that the executives who actually run the corporation award to themselves.
As the corporate shares rise in value, the corporation will frequently “split the stock,” so what previously represented one share will now represent several shares. In this case, the several shares will represent the same x percent of ownership of the corporation that the single share represented previously. Corporations often do this in order to keep the price of their shares below $100 per share. This policy, as Lenin noted in his famous pamphlet “Imperialism,” produces a huge mass of petty shareholders in the imperialist countries, thus helping to prop up the rule of the large capitalists.
15 If the capital of a corporation does not grow over time, that corporation will disappear. So assuming the corporation will continue to exist, it is a sure thing that its capital will indeed increase.
Sometimes when a corporation is extremely profitable, it might not actually pay dividends for many years. In this case, the buyers of the stock are counting on the payment of future dividends sometime in the distant future. If in these cases the individual shareholders need cash, they sell their shares at far higher prices than the price they paid for them. An example is the Microsoft Corporation, which didn’t pay dividends for decades. But eventually when Microsoft’s growth began to slow, it was forced to begin paying actual dividends.
16 While the ratio of real capital to real money capital plays the main role in determining the rate of interest—assuming the currency remains reasonably stable in terms of its gold value—the movement of the stock market—as well as land prices—also play a role in determining the movement of interest rates. While in the long run, the rise in stock market prices—and land prices, which are capitalized ground rents—represents the growing mass of surplus value, which in the final analysis is tied to the growing mass of variable capital, this isn’t necessarily so in the short run.
Speculative waves known as “manias” or “bubbles” sometimes carry the stock market—as well as land prices—to absurd heights. During these manias, speculators buy stocks with the intention of selling them as soon as their price rises. They lose all interest in the actual “yield” of the stock compared to long-term interest rates and any realistic prospect for dividend payments. The dividend yield on stocks falls to absurdly low levels compared to the yield on bonds. During such manias, the stock market comes to resemble a giant Ponzi scheme. Speculators buy stocks they know are “overvalued” because they believe that they will soon be even more “overvalued.” As they say on Wall Street, they come to believe in the “greater fool theory.”
The rise in the value of stocks—fictitious capital—will tend to raise the level of long-term interest rates, just like the accumulation of real capital does. During such manias or “bubbles,” “stock market analysts”—often tied to brokers who make money selling stocks, of course—find all kinds of reasons why the “old rules” don’t apply in the “new era,” and predict continued fantastic gains in stock market prices. More and more people are drawn in as stock market prices in apparent defiance of the laws that govern such prices in the long run continue to rise.
Eventually, the bubble bursts and the stock market crashes. One of the reasons why stocks eventually crash is that the rise in long-term interest rates that such manias or bubbles help cause leads to such a huge difference between the rising yields on bonds and the falling yields on stocks that a massive shift to bonds begins. This soon causes a panic selling of stocks. During such a mania, much higher interest rates can be earned on bonds with vastly less risk.
Sometimes the collapse of a stock mania occurs near, if not at the peak, of the industrial cycle. This was the case with the infamous stock market crash of 1929, and it was the case with the latest stock market crash as well. But this is not always the case. The huge stock market crash that occurred in the fall of 1987, for example, was not followed by a recession for several years. Unlike 1929 or 2008, the U.S. or world economy was not in a recession when that crash occurred. Many Marxists predicted a new Depression or at least a severe recession when this stock market crash occurred. But instead, by lowering long-term interest rates and easing the money market in general, the 1987 crash probably actually postponed the next recession.
In the discussion that has occurred around the current crisis on the Internet, many are pointing to the role of fictitious capital. In contrast, I believe it is the movement of real capital, not fictitious capital, that is the real cause of all major economic crises, including the present one. In the long run, the movement of fictitious capital is governed by the movement of real capital, not the other way around. This is true even if the tail of fictitious capital does appear at times to wave the “dog” of real capital.
Frederick Engels noted that such “autonomous stock or money market crises” can affect the movement of real capital. But unless the overproduction of commodities, including the overproduction of productive capital that goes with it, is well developed, a stock market crash will have only a limited effect on the real economy and might even help extend a boom, which seems to have been the case with the 1987 crash.