http://www.newschool.edu/cepa/

 

SOME ECONOMIC CHARACTERISTICS OF CONTEMPORARY

CAPITALISM

 

1. The process of capital accumulation can be conceptually envisaged as

occurring in two distinct and alternative ways. I shall call the first of these

"accumulation through expansion". Capital exists at any time in numerous large

and small blocs. When accumulation occurs through an expansion of each of

these blocs, though admittedly at very different rates, and without displacing

production outside of the capitalist sector (whether State production or precapitalist

production), then we have "accumulation through expansion".

"Mainstream" growth theory, in all its versions, sees the process of

accumulation exclusively as "accumulation through expansion". Marxian

economics too recognizes that accumulation over certain stretches of time may

take the predominant form of "accumulation through expansion"1. As distinct

from this however one can visualize an alternative process, which I shall call

"accumulation through encroachment". Here certain blocs of capital grow

through the displacement (meaning either expropriation, or purchase at

"throwaway prices" or snatching away the space) of other blocs, or through the

displacement of pre-capitalist production, or through the displacement of State

sector production, or through the sheer appropriation of common resources that

have hitherto not formed part of private property.

To be sure, these two processes are never fully separate in concrete terms.

Indeed one of Marx's basic propositions (Marx 1978, 584-9) was that the

processes of capital accumulation, of an increase in the scale of production and

of "centralization of capital" (of which the growth of one bloc of capital through

the displacement of other blocs is an important mechanism) were intertwined

and mutually-related processes, so that "accumulation through encroachment",

in the sense of "centralization of capital" at any rate, was always round the

corner even when "accumulation through expansion" happened to be occurring.

Encroachment through "centralization" in other words was an integral part of

the accumulation process. Rosa Luxemburg (1963) went even further to argue

that "encroachment" on the domain of the pre-capitalist producers was at all

times an integral part of the accumulation process. These two phenomena,

namely encroachment upon the domain of the petty producers and

encroachment upon the domain of the smaller capitalists, have in any case a

family resemblance between them, which Marx (1978, 714) had himself

highlighted (though unlike Luxemburg he saw the two phenomena as

temporally separate, the first being confined to the period of the "primary

accumulation of capital").

1Marx (1974, 263) talks of "this constant expansion of capital, hence also an

expansion of production, on the basis of the old method of production which goes quietly on

while new methods are already being introduced at its side..".

But even though "accumulation through encroachment" in the inclusive

sense of the term is always an integral part of the accumulation process, so that

the pure reign of "accumulation through expansion" is rare, and at best

transitory, a conceptual distinction between the two is useful. And a crucial

feature of contemporary capitalism is a vast increase in the relative importance

of "accumulation through encroachment". To say this is not to claim that the

more familiar phenomena such as expansion of the existing capital stock

financed by the flow of profits, technological progress embodied in new

equipment, or innovations of altogether new spheres of production, have ceased

to exist; it is merely to assert that alongside these familiar phenomena (which in

any case underlie "normal" centralization) there has been a veritable upsurge of

"accumulation through encroachment".

All over the capitalist world, and especially in the third world,

"disinvestment" of State sector equity and "privatization" of State sector assets,

invariably at "throwaway" prices, is a pronounced phenomenon. This is nothing

else but private enrichment at the expense of the State, or private accumulation

through an expropriation of State assets. Likewise all over the capitalist world,

especially the third world, public utilities like water and energy, and public

provisioning of social services like education and health, have increasingly

become domains of private sector operation and hence provinces of private

accumulation of capital. Mineral resources, the control over which had been

wrested by third world States after de-colonization through bitter struggles are

now once again passing under the control of Multinational Corporations, the

most classic example of this being oil. Agriculture everywhere is being "opened

up" to multinational seed and marketing companies. Through a variety of means

ranging from "contract farming" (under which the peasants get tied to MNCs);

to outright expropriation of land; to purchase of land at "throwaway prices"

from peasants reduced to penury, under the twin impact of higher input prices

(more generally the withdrawal of State support) and reduced output prices; to

the reduction of peasants to the status of inferior tenure-holders through the

process of entrapment in debt; through all these means agri-business, catering to

the demand emanating from the advanced capitalist countries, is displacing

peasant agriculture. Likewise the removal of protectionist barriers erected by

the third world nation-State is leading to an expropriation of small capitalists

unable to withstand competition of imported goods produced by the MNCs.

And everywhere common resources like forests or water or pastures or fallow

land under common use are increasingly being taken over as private property.

One can reel off examples of each of these phenomena from every country; and

they all fall under the rubric of "accumulation through encroachment" whose

decisive and pervasive emergence is a hallmark of contemporary capitalism.

2. This burgeoning of "accumulation through encroachment" is in turn the

direct result of the pursuit of "neo-liberal" policies. "Neo-liberalism" operates in

this respect in two distinct ways. The first way, which is much written about, is

the pursuit of policies that remove restrictions on the movement of goods and

capital across borders. "Trade liberalization" ousts small domestic producers

from the market and generally engenders domestic "de-industrialization" (in the

sense of increasing unemployment through shrinking domestic industrial

activity); and liberalization of capital flows allows MNCs to buy up domestic

producers through a combination of carrot-and-stick methods. The second way

is through the imposition of "deflationary policies", especially on government

expenditure, as part of the neo-liberal agenda. This, by negating Keynesian

demand management and lowering the level of aggregate demand in the world

economy, leads to centralization of capital on a global scale, a shift in the terms

of trade against the peasantry and third world primary commodity producers

who become easy preys for expropriation, and a rolling back of the State sector

which becomes increasingly privatized and whose domain gets opened up as a

province of private accumulation2. In short, deflation is accompanied by

accumulation through encroachment.

This deflation, needless to say, is not confined to the third world; it is a

global phenomenon. And the main driving force behind it is international

finance capital which has emerged in an altogether new form in the recent years.

The global tendency towards the adoption of deflationary policies has often

been called "a retreat of the State". This is a misnomer: what we are witnessing

is not a "retreat of the State" but a change in the nature of its intervention, from

intervention carried out for the ostensible benefit of the "people as a whole", to

intervention carried out in defence of the interests of international finance

capital, with the support of the latter's local components which increasingly

encompass the bulk of the large bourgeoisie, upper bureaucracy, and a

collaborationist "globalized" elite.

Since the term "finance capital" was used extensively around the time of

the first world war by a host of writers, it is worth emphasizing that

contemporary finance capital differs fundamentally from what those writers had

discussed (notwithstanding the differences among them). First, it has an

overwhelmingly speculative character. This is different from the "finance

capital" of the earlier period which was seen as the "coalescence of bank and

industrial capital ", or as "capital controlled by banks and employed by

industrialists ", and hence, by implication, pursuing an objective dictated by the

fact of this link with industry. Secondly, its behaviour is not necessarily related

to certain perceived strategic interests specific and exclusive to the nation of its

origin, because of which calling it "international" is more appropriate than

identifying it in its different fragmented forms as "German", "British" or

"American". And, thirdly it operates not in a world broken up by inter-

2For a more extensive discussion of the implications of global deflation see Patnaik

(2002).

metropolis rivalry, contributing to a further promotion and consolidation of such

rivalry, but rather in a world where such rivalry is muted, and the very

"international" character of this finance capital is inter alia an important factor

behind this mutedness (since it wishes to operate over an entire undivided

world).

At the same time, however, any focus on “finance capital", no matter of

what sort, often conjures up an entity which is separate and detached from the

world of production, so that focussing on this entity gives the impression as if

the other entities like MNCs have somehow become of secondary importance.

This impression is erroneous. The financial structure is a superstructure on

capitalism, not detached from it but enmeshed with it, putting its own imprint

upon it, so that the MNCs for instance do not become secondary, but themselves

become "financialized", imbued also with the desire for speculative gain. In

addition they also gain from the opening up of the world to the free flow of

commodities and capital, through the process of "accumulation through

encroachment". In short, the relevant distinction at the top ceases to be one

between industry and finance or between productive capital and speculative

capital or between entrepreneurs and rentiers. The possibility of "accumulation

through encroachment" (including at the expense of small domestic capitals

within the metropolis) brings about a commonality of purpose among all of

them which overcomes these distinctions.

At the same time, there is a palpable slowing down of the growth of the

world economy on account of the global pursuit of deflationary policies. Indeed

this slowing down is precisely the other side of "accumulation through

encroachment". The period of protracted post-war boom (the so-called "Golden

Age of Capitalism") was by contrast a period when such encroachments were

comparatively limited, a prominent State sector made its appearance

everywhere, and third world economies, behind protectionist barriers, recorded

rates of growth unprecedented in their recent history. The universalization of

neo-liberal policies and the ubiquitous pursuit of deflation which reflected the

rise to prominence of international finance capital, changed all that.

Keynesian demand management policies which underlay the protracted

post-war boom presupposed national capital controls (a necessary condition for

the activism of the nation-State in matters of aggregate demand, output and

employment), and a suppression of rentier interests within the nation (Keynes

(1949, 376) had asked for the "euthanasia of the rentier" whom he characterized

as "the functionless investor"). The conjuncture within which Keynesian

demand management policies flourished (marked by greater political assertion

by the working class), and the global regime produced by this conjuncture (the

Bretton Woods system) ensured the satisfaction of these conditions. But the

emergence of the new form of international finance capital during the "Golden

Age" period itself contributed inter alia to a change in conjuncture.

In retrospect, the period of the post-war boom must be seen as an

aberration in the "normal" functioning of capitalism, brought about by the very

substantial threat posed in the post-war context by socialist, working class and

third world nationalist politics to the very survival of metropolitan capitalism,

rather than as a new kind of "normal functioning", as so many writers at the

time had imagined. With the change in conjuncture and the subsidence of these

threats, capitalism resumed its policies of "sound finance", the "orthodox role of

the State" and "accumulation through encroachment", of which the palpable

fall-out today are high levels of unemployment, and an open aggressive drive

towards a re-acquisition of control over third world markets and resources with

the help of the local collaborating bourgeoisie.

3. Why, it may be asked, does capitalism adopt "sound finance" as its

normal State policy? The usual answer to this question is given in terms of the

antipathy of finance capital towards an interventionist State ensuring high levels

of activity. The fact that international finance capital is in a dominant position in

the contemporary world economy can then explain both why "sound finance"

has come back into vogue after the Keynesian interlude, and also why it is so

effectively enforced: finance being international, if a nation-State chooses to

ignore its caprices, and jettisons "sound finance" and deflationism in pursuit of

higher employment, then finance will move out of the country, precipitating a

liquidity crisis and bringing the government to its knees. This fact keeps nation-

States in thraldom to the caprices of international finance capital. But then the

basic question remains: why does finance capital have this antipathy at all and

oppose Keynes-style interventionism?

Three obvious answers can be given to this question: first, a high level of

activity brings in its train the fear of inflation and exchange rate depreciation,

which, in a world typically characterized by non-indexed rates of return on

financial assets, frightens speculators. Given this fact it is not surprising that

they feel comfortable with lower levels of activity. Secondly, cuts in State

expenditures and fiscal deficits are typically accompanied by disinvestment and

privatization of State assets which can then be bought up "for a song" by

rentiers and financial interests; and the same is true of the assets of small

capitalists too. This fact also underlies finance capital's preference for

deflationary policies as opposed to Keynes-style expansionary ones. Thirdly, as

Kalecki (1943, 1971) had argued long ago, capitalists in general do not want the

level of activity and employment to become "too high", for then the "workers

will get out of hand" and the "sack will lose its meaning". And they certainly do

not want a high level of activity to be brought about through State investment,

and hence through the existence of a State sector, since the social legitimacy of

capitalism gets undermined by the existence and functioning of a State sector. If

this is true of capitalists generally, then it is infinitely more true of the financial

interests who constitute in Keynes' phrase "functionless investors" with very

tenuous social legitimacy to start with anyway.

But the opposition of finance capital alone cannot explain capitalism's

preference for deflationism, especially when industrial capital, no matter how

much it ideologically dislikes State activism in matters of employment, stands

so much to gain from it (at least until a level of employment is reached where

the workers get "out of hand"). There is however a powerful additional factor

which also contributes to deflationism. Let us now turn to it.

A capitalist economy cannot function without a stable medium of holding

wealth. In an idealized textbook picture of an isolated national economy this

role is performed by money backed by the State. But in the concrete world

economy, the money of one particular economy, typically the most powerful

capitalist economy of the time, is chosen to constitute this medium. Its de jure

stability used to be assured, but not any longer, by linking it to gold which has

historically been the most favoured medium of wealth holding; but its de facto

stability is assured, whether now or earlier, by ensuring inter alia that

commodity prices do not rise inordinately in terms of it. This requires, first, that

the domestic workers in the leading economy must not get "too strong" to

precipitate a wage-price spiral on their own, and secondly, that primary

commodity prices must be kept in check so that no wage-price spiral is

precipitated on this score. This latter requires not just control over raw material

sources, but, additionally, control over world demand, through deflation3. In the

colonial period, this deflation was specifically targeted towards the colonies and

third world economies4. In the period of hegemony of international finance

capital, this deflation is general, encompassing both developed and third world

economies, and excluding only the leading economy itself (at present the U.S.),

whose currency, being "as good as gold", places it under no obligation to pursue

deflationary policies.

For this reason deflation and "sound finance" have always been a part of

the baggage of capitalism. The question is often asked: why do the governments

of metropolitan capitalist economies choose inflation control as an objective

over higher employment5? The answer is that they really have no choice in the

3. Marx (1974, 118) had written: “It is therefore quite possible, and under a developed

system of capitalist production even inevitable, that the production and increase of the portion

of constant capital consisting of fixed capital, machinery etc. should considerably outstrip the

portion consisting of organic raw materials, so that demand for the latter grows more rapidly

than their supply, causing their prices to rise.” Deflation according to our argument is

resorted to even before such price rise can actually occur.

4For the role of deflation in the colonial context see U.Patnaik (1999).

5Professor Hicks had asked this question at the Golden Jubilee Conference of the

Indian Statistical Institute, Calcutta (see Bose et.al. 1982). His answer was as follows:

inflation occurs through a series of price-hikes and for an average economic agent, since

every price-hike other than his own appears directed against him (even if he is not a loser at

the end of the entire round of price-hikes), inflation appears to be a more menacing

phenomenon than unemployment; governments take this perception of the economic agents

into account, and hence, for political reasons, are more concerned about inflation than

matter: inflation control is essential for the stability of the wealth-holding

medium, and hence for the stability of capitalism; if in the process of achieving

price-stability, much higher levels of unemployment are generated, then they

simply have to be accepted.

The caprices of international finance capital therefore find spontaneous

expression in the policies being imposed all over the world by the leading

capitalist economy of our time. This action of the latter on the other hand is not

a whimsical or capricious one. It is to preserve the value of the wealth of a vast

number of wealth-holders, including citizens of other capitalist economies. It

commands support therefore even in economies being deflated, both because

the financial interests located within these economies prefer deflationary

policies, and also because the preservation of the value of wealth, through the

preservation of the value of the leading currency, is important for all. The

leading economy in this sense acts as the champion of the interests of

international finance capital, of all its constituent fragments located within the

various national economies, including those of the third world, even though the

result of its actions is high unemployment, relative stagnation of the world

economy and pervasive "accumulation through encroachment."

4. We have so far highlighted certain features of the new phase of capitalism

by contrasting it with the period of Keynesianism, and suggested that it entails a

throwback to the more "normal" pre-Keynesian capitalist policies of deflation,

"accumulation through encroachment" and a degree of predatoriness6. Let us

now turn to a major difference between the pre-Keynesian period and the new

phase of capitalism.

We talked earlier of the fact of the currency of the leading economy of

the capitalist world in a particular historical epoch, being considered de facto if

not de jure "as good as gold", and constituting, for this reason, a stable medium

of wealth-holding for the capitalist world as a whole. For an economy, and

hence its currency, to occupy this position, it must have superior military, and

hence economic, might. Notwithstanding this might, however, it invariably

experiences, after a certain stage, a current account deficit vis a vis the other

major capitalist economies. An important condition for the stability of the

capitalist system is that when such deficits arise, the leading economy must

learn to live with them. If it did not persist with having such deficits, and

thereby accommodating the products of the other major capitalist economies

within its own (and its satellites') market, then the growth prospects of these

economies would be damaged, leading to intensified protectionism, struggle

unemployment. Professor Hicks’ invocation of agents' psychology however appears tame and

unconvincing.

6. Since the inter-war years were a period of protracted crisis for capitalism and hence

in a sense “abnormal”, our reference to “normal” pre-Keynesian policies refers to pre-first

world war capitalism.

among capitalist powers, disruption of the international monetary system, and

an enveloping of the capitalist world in serious economic and political crises.

Indeed the "leading role" of the leading capitalist economy consists precisely in

its willingness and ability to tolerate such persistent deficits vis a vis the other

major capitalist economies, and thereby keep the system as a whole going.

Britain had continued to have large trade and current account deficits vis

a vis Continental Europe throughout the late nineteenth and early twentieth

centuries, and with the U.S. in the pre-first world war period (when the U.S.

started repaying its debt); and this willingness on her part to persist with the

current account deficit vis a vis these "newly-industrializing" economies of the

time was a condition for the continuation of the diffusion of capitalism to these

new centres, for the survival of the Gold Standard, and for the sustenance of the

long late-Victorian and Edwardian boom. Likewise the U.S. has for several

years been running a persistent current account deficit not just with the other

major capitalist countries, not just with the "newly industrializing countries" of

today like China and East Asia, but in fact with the entire rest of the world taken

together. And herein lies the difference.

While running a persistent current account deficit vis a vis the major

capitalist economies of the pre-first world war years, Britain did not build up

any debt against herself. On the contrary she used her colonial possessions like

India, against whom she built up a contrived current account surplus, not only

to settle her current account deficit vis a vis the major capitalist economies but

even to make substantial capital exports7. These capital exports were to the

temperate regions of White settlement, visavis which the tropical colonies like

India had substantial current account surpluses.

The two main forms of the “contrived” current account surplus which

Britain had visavis India were: the "drain of wealth" (so called by the anticolonial

economists in India at the start of the twentieth century) or the

impounding and transfer to the metropolis of a part of the surplus value

produced in India under the head "Home Charges" which were supposed to

represent payment for the import of "good administration" by India; and the

deliberate "keeping open" of the Indian market for the import of British textiles

even at the expense of jobs of Indian artisans. (In fact Britain's current account

surplus vis a vis India kept growing until it assumed enormous proportions

during the first world war, but the changed correlation of forces after the war,

entailing inter alia a massive Japanese thrust in the Indian market, apart from

the growth of India's own industrial sector, closed this option for Britain and

was a major factor behind the breakdown of the Gold Standard and the

instabilities of the inter-war period culminating in the Great Depression.8)

7. For a discussion of the role of colonies like India in settling British balance of

payments, see S.B.Saul (1970).

8. For an elaborate discussion on this, see Patnaik (1997, Chapter 11).

The U.S. by contrast, having no colonies to "drain" surplus away from, is

sinking into debt. Its current account deficit is not just vis a vis the major

capitalist countries, or vis a vis the "newly-industrializing" economies of today;

it is vis a vis the rest of the world as a whole. If it curtails this deficit by

deflating its own economy (it has been under no compulsion to deflate for the

sake of appeasing international finance capital, since, its currency, being

considered "as good as gold", puts it on a different footing from other capitalist

economies), then it will precipitate a domestic as well as a global recession. If it

curtails this deficit by imposing protectionist measures, then the entire trade and

financial regime that has been built up of late, will become unsustainable, which

again will threaten the economic and political stability of capitalism. It cannot

also curtail this deficit by depreciating the dollar, since, apart from being

difficult to achieve in a world with "market determined exchange rates", this

will induce inflationary pressures, and entail wealth losses, both of which will

jeopardize the position of the dollar as the reserve currency, and threaten the

stability of the system as a whole. Not surprisingly therefore it is trying to

achieve the same end, of reducing its current account deficit, by coercing Asian

economies like China to revalue their currencies upwards.

In a world characterized by deflationary government policies, where

fiscal deficits, except in the leading country, are eschewed, any such revaluation

of exchange rates amounts to solving the problem of the leading country by

enforcing a reduction of activity in the revaluing economies. The point is

obvious: imagine a world with only two economies, the “leader” and the

“other”. Using subscripts 1 and 2 respectively for these two economies, since

(I-S)1 = (S-I)2

where the l.h.s. is the current deficit of economy 1, a revaluation of currency by

2 reduces the net export demand for its products and its hence output and

savings. As a result the r.h.s. is reduced, which in turn means a reduction in the

l.h.s.; that is, the net borrowing of the leading economy is brought down, with

no reduction, rather on the contrary an increase, in its activity, through the

imposition of a reduction in activity in 2. The leading economy therefore

reduces its borrowing compared to what it might have been otherwise, witnesses

an increase in its activity, and yet ensures that wealth-holders who hold their

wealth in its currency or currency-denominated assets, experience no actual

capital losses. (True, the value of the other currency has gone up relatively, but

the value of the leading currency in terms of commodities has not gone down,

as might have happened if it had depreciated instead of the other currency

appreciating). It is not surprising therefore that the U.S. is recommending

currency appreciation to the Asian economies in particular, with whom it has

substantial current deficits.

Such appreciation however would convert the current global deflation

into a veritable recession. The difference between the pre-first world war years

and today consists therefore in this: unlike in that period when the leading

capitalist power could draw on the expropriated surplus value of colonies to

offset its own current account deficits vis a vis the major capitalist powers and

hence keep the system going, today the leading capitalist power's current

account deficits are vis a vis all groups of countries, since it has no colonies of

that kind to draw surplus values from; and even a reassertion of political control

over the third world is unlikely to yield a "drain of surplus value" on the

requisite scale. Mankind has proceeded beyond the stage where old-fashioned

colonial "drain" of the kind that the British imposed on India can be carried out

with impunity.

What this means is the following: the system can be kept going at its

current low growth rates but a price for it has to be paid in the form of growing

U.S. indebtedness. If the latter is to be curtailed, then currency appreciations

may have to be imposed on a host of unwilling economies, and even if they do

succumb to pressure, the global deflation would turn into a veritable slump.

Even if the leading economy is able to insulate itself from such a slump, that

still would not mean that the system as a whole does not get engulfed in a crisis.

The new phase of capitalism in short has brought the system to the brink of a

major crisis.

5. The view that the new phase of capitalism is associated much more than

before with accumulation through encroachment may be accepted by many, but

its implications are not always understood. All accumulation, it may be argued,

is associated with the growth of poverty, if for no other reason then at least

owing to the fact that an enlargement of capital would necessarily go hand in

hand with an absolute enlargement in the size of the reserve army; and the

reserve army above all is the site for poverty and destitution. But when

accumulation takes the form, to a pronounced degree, of accumulation through

encroachment, then the growth of poverty which accompanies the process of

accumulation must be even more serious. And yet what is remarkable about the

new phase of capitalism is that it justifies the adoption of neo-liberal policies,

which is a euphemism for bringing countries under the hegemony of

international finance capital, in the name of eliminating poverty. State sector

assets are privatized in the name of improving "efficiency" which is supposed to

usher in faster growth and eliminate poverty; State assistance to the peasantry is

done away with in the name of making the peasantry adjust better to the market

opportunities opening up, so that it can experience higher growth and hence

reduce poverty; deflationary policies are imposed in the name of accelerating

private investment and hence growth in the economy which would supposedly

impact favourably on poverty: tax reductions are supposed to attract foreign

investment and promote enterprise while a fiscal deficit is supposed to "crowd

out" private investment. Indeed the entire obsession with the stock market is

jsutified by the claim that "market sentiment" must be buoyant for high growth

to occur and for poverty, consequently, to go down.

This entire line of argument is questionable. Not only is there no positive

association between favourable "market sentiments" and higher investment and

growth (the theoretical link between the two in any case had been demolished

by the cognition of the role of effective demand), but, what is more, when the

growth process is the fall-out of accumulation through encroachment, the claim

that higher growth results in poverty reduction becomes a baseless one. If Latin

America and Africa, where even the growth claims are extremely modest,

provide classic illustrations of the poverty-accentuating effects of neo-liberal

policies, India too does precisely the same, notwithstanding claims of high

growth in her case under the neo-liberal dispensation.

Just one figure would suffice to make the point. The proportion of the

rural population in India which had a consumption level of less than 2400

calories per person per day was 75 percent in 1999-2000 compared to 56

percent according to similar data in 19973-74 (neo-liberal policies were

introduced in India from 1990-91 onwards). Even if we take the FAO

recommended bare minimum necessary consumption of 1800 calories per

person per day, then while there were only three states in 1999-2000 where

more than one-third of rural population could not even meet this minimum, the

number of such states in 2004-05 has increased to eight. The accentuation of

rural poverty in India during precisely the years of the neo-liberal regime when

growth rates are claimed to have been remarkably high, underscores the vacuity

of the arguments justifying neo-liberalism in the name of fighting poverty.

But it is not only that the claims advanced regarding poverty removal in

the new phase of capitalism fail to convince; the very theoretical premises on

which the case for neo-policies is argued are questionable. And yet these

questionable premises have common currency these days: all the measures

which it proposes in the name of "efficiency", promotion of growth, and poverty

removal, are based on the acceptance of Say's Law, and hence the premise of

the impossibility of a deficiency of aggregate demand. The deflationism

imposed by the very same policies which presume this, however, serves to

perpetrate and perpetuate this very deficiency of aggregate demand.

6. The new phase of capitalism on the one hand turns large segments of the

third world bourgeoisie into collaborators. In several of these countries the

struggle for decolonization had been fought under the leadership of the

domestic bourgeoisie or proto-bourgeoisie, which, after independence, had tried

to pursue a path of relatively autonomous capitalist development. While allying

itself with domestic landlordism, while compromising with the big capitalist

powers, it had nonetheless retained a degree of autonomy. Using the postcolonial

State to promote capitalist development, and pursuing non-alignment in

foreign policy which enabled it to use the Soviet Union to keep metropolitan

capitalist pressures in check, it had managed to adhere to this path with a

consistency which misled even an acute observer like Kalecki (1972) into

believing that such regimes (which he characterized as "intermediate" and

mistakenly thought were being led by the petty bourgeoisie) were a durable

phenomenon of the contemporary world. But the internal contradictions of such

regimes, combined with the collapse of the Soviet Union, and the emergence of

international finance capital keen to prise open third world economies, altered

the perspective of the third world bourgeoisie. From a position of relative

autonomy it moved towards greater collaboration with metropolitan capital; and

from a dirigiste economic strategy it moved to embrace neo-liberalism. The

hiatus was no longer between the third world nation and imperialism, as was the

case during and following the struggle for independence, but between

international finance capital with its local bourgeois collaborators on the one

hand and the mass of workers, peasants, agricultural labourers, petty producers

and small capitalists on the other.

Perhaps the most significant feature of the new phase of capitalism is the

squeeze it imposes on the rural economy of the third world countries where the

bulk of the population of these countries lives. It is this fact which also provides

the principal source of resistance to capitalism in its new phase.

Prabhat Patnaik

REFERENCES

Bose D.K.

Kalecki M. (1943) “Political Aspects of Full Employment”, Political Quarterly,

reprinted in Kalecki (1971).

Kalecki M. (1971) Selected Essays in the Dynamics of the Capitalist Economy,

Cambridge University Press, Cambridge.

Kalecki M. (1972) “Intermediate Regimes” in Selected Essays on the Growth of

Socialist and Mixed Economies, Cambridge University Press, Cambridge.

Keynes J.M. (1949) The General Theory of Employment, Interest and Money,

Macmillan, London.

Luxemburg R. (1963) The Accumulation of Capital, Routledge Paperback,

London.

Marx K. (1974) Capital Vol.III, Progress Publishers, Moscow.

Marx K. (1978) Capital Vol.I, Progress Publishers, Moscow.

Patnaik P. (1997) Accumulation and Stability Under Capitalism, Clarendon

Press, Oxford.

Patnaik P. (2002) The Retreat to Unfreedom, Tulika, Delhi.

Patnaik U. (1999) “Export Oriented Agriculture and Food Security in

Developing Countries and India”, in The Long Transition, Tulika, Delhi.

Saul S.B. (1970) Studies in British Overseas Trade, Liverpool University Press,

Liverpool.

 

By DAVID LEONHARDT

 

Job growth slowed sharply last month, the Labor Department reported today, in a sign that high energy prices are hurting the economy and business executives have become worried that the damage might grow.

Still, wages in October rose at their fastest clip in more than two years, leaving open the possibility that the hiring slowdown will turn out to be temporary.

Employers added only 56,000 jobs in October, well below the 150,000 or so that are needed to keep pace with population growth. The Labor Department also said that 36,000 fewer jobs were added in August and September than previously estimated.

"Job growth has kind of stalled out," said Bill Cheney, chief economist of John Hancock Financial Services in Boston. "It's a puzzle," he added, noting that economic growth, retail sales and other indicators remained strong.

Hiring over the last three months has fallen to its lowest level since the summer of 2003, when the economy finally began to emerge from a three-and-a-half year hiring slump. Recent hurricanes have played a role, leaving many Gulf Coast residents out of work, but job creation was also weak across much of rest of the country last month, Kathleen P. Utgoff, commissioner of the Bureau of Labor Statistics, told Congress.

With interest rates rising, the hot housing market cooling and energy costs coming off a two-decade high, some executives and economists are concerned that consumer spending will slow in coming months. For now, though, most forecasters expect hiring to pick up before the end of the year.

As poor as the October hiring number was, the government's monthly employment report offered a number of other reasons for optimism.

The jobless rate fell slightly, to 5 percent from 5.1 percent. It is calculated from a survey of households, which economists consider less reliable than the much larger survey of businesses that produces the job-growth numbers.

But the household survey sometimes captures hiring by small companies before the business survey does, and in recent months it has offered a rosier picture of the economy. Last month, for instance, the number of workers holding part-time jobs because they could not find full-time work dropped to its lowest point since 2002.

The business survey, meanwhile, showed that the average wage for rank-and-file workers rose 8 cents last month, to $16.27 an hour. That is equal to an annualized increase of more than 6 percent.

"There is an increased level of business caution," Drew T. Matus, a senior economist at Lehman Brothers, said. "But these kind of wage gains don't make sense in light of the low level of hiring unless business just decided to pause for the month."

Still, wage growth has risen less than 3 percent in the last year, while inflation has been running close to 4 percent, effectively cutting many workers' pay.

The spike in inflation, caused largely by oil prices, seems to have soured many Americans on the economy, despite its continued growth. In a recent poll by the University of Michigan, 60 percent of people said that they expected the next five years to bring periods of widespread unemployment.

Not since 1992 have so many people given that answer. In the middle of last year, fewer than 40 percent of respondents did.

In October, car dealers, hotels, restaurants, and movie and music studios all cut jobs. Department stores added fewer jobs than they typically do during October; that shows up as a loss in the Labor Department report, because the government adjusts its numbers to account for normal seasonal variations.

Across the economy, in fact, employment rose by 702,000 jobs last month. But the government reported a seasonally adjusted gain of only 56,000 because most of the new jobs were part of the usual October jump in employment.

John E. Silvia, chief economist of Wachovia Corporation, said many of the sectors cutting jobs depended on consumers, who might eventually react to high gasoline and heating prices by cutting other spending, even if they have yet to do so. On Thursday, retailers reported surprisingly good sales numbers for October.

"It's hard to put this all together," Mr. Cheney of John Hancock said.

Job gains last month came from manufacturers, banks, hospitals, doctors' offices, residential contractors and computer-systems companies. The end of a strike by Boeing workers helped cause a jump in the number of workers at transportation-equipment factories, and the early rebuilding of the Gulf Coast probably pushed up construction employment.

Economists still expect the Federal Reserve to keep raising its benchmark short-term interest rate in coming months in an effort to tame inflation. Alan Greenspan, the outgoing Fed chairman, testified to Congress on Thursday that he viewed inflation as a bigger threat than weak economic growth.

The Fed has increased the benchmark federal funds rate, now at 4 percent, during each of its last 12 policy-setting meetings. It seems poised to do so again at the two remaining meetings before Mr. Greenspan's retirement early next year.

Investors are predicting that the Fed will increase the rate at one of the first two meetings chaired by Mr. Greenspan's successor, Ben S. Bernanke, but not at both, based on the price of a futures contract tied to Fed policy.

The widening of income inequality in recent years appeared to continue last month. Wage gains for workers at financial, information and professional-services companies - who tend to be highly paid - all received big raises in October. Employees at factories, warehouses, tourism companies, schools and health providers received smaller pay increases.

In his testimony this week, Mr. Greenspan said the country was going through "a very marked changed in the distribution of income."

He added: "We have clearly observed a major increase in the need for skilled workers to basically staff our ever increasingly complex technological capital stock."

The dropout rate in high schools and colleges is too high for the economy to be fully staffed with qualified workers, Mr. Greenspan said.

By ELISABETH BUMILLER and LARRY ROHTER

 

MAR DEL PLATA, Argentina, Nov. 4 - President Bush's foreign and domestic troubles trailed him to the opening day of an international summit here as tens of thousands protested in the streets and Mr. Bush deflected questions about his chief political aide, Karl Rove, who remains under investigation in the C.I.A. leak inquiry.

At a brief news conference with American reporters today at the Sheraton Mar Del Plata, Mr. Bush was asked four times about Mr. Rove, and four times refused to answer. The president did not take the opportunity to offer a public endorsement of Mr. Rove, nor did he address speculation in Washington about whether Mr. Rove would stay as his deputy chief of staff.

Asked if there were discussions at the White House about whether or not Mr. Rove would remain in his job, Mr. Bush replied that "the investigation on Karl, as you know, is not complete, and therefore I will not comment about him and/or the investigation."

Mr. Bush calmly added, "I understand the anxiety and angst by the press corps to talk about this." But he called the C.I.A. leak inquiry "a very serious investigation," and said that the White House is "cooperating to the extent that the special prosecutor wants us to cooperate."

At the same time, Venezuela's populist president, Hugo Chávez, rallied some 25,000 protesters in this beach resort's main soccer stadium. He declared a free trade accord backed by Mr. Bush as dead and accused the Pentagon of having a secret plan to invade his oil-rich country.

"If it occurs to U.S. imperialism, in its desperation, to invade Venezuela, a 100-years' war will begin," Mr. Chávez declared to cheers.

A few blocks from the hotel where the summit conference was taking place, some protesters threw stones and set fires this afternoon, and the police fired tear gas canisters to break up the demonstrations. Television images showed riot police arriving in vans and on motorcycles and horseback and massing near the crowds.

Several hundred demonstrators wearing bandanas or masks over their faces brandished clubs or fired slingshots at the police and set fire to a bank, according to reports by news agencies. The rioting broke out after a much larger, peaceful protest march involving several thousand people, the agencies said.

President Bush arrived here on Thursday night after one of the worst weeks of his presidency, only to be greeted by strong anti-American sentiment and taunts from Mr. Chávez.

Today, Mr. Bush said that he and Argentina's president, Néstor Kirchner, had agreed in talks that the United States' role in the region could be constructive and positive. Mr. Bush stressed the need for wise decisions to attract investments.

Standing next to President Kirchner, he also made what appeared to be a reference to the protests.

"It's not easy to host all these countries," he said, addressing Mr. Kirchner. "It's particularly not easy to host, perhaps, me," he said, drawing laughter.

The Summit of the Americas, a two-day, 34-nation gathering, opened to officially focus on creating jobs and promoting democracy.

Mr. Chávez, who has repeatedly accused the Bush administration of trying to assassinate him and invade his oil-producing country, is using the international summit meeting here to protest the administration's free trade message and to attempt a showdown with Mr. Bush, the man the Venezuelan government calls "Mr. Danger."

He said this week that his main goal at the meeting was the "final burial" of the proposed Free Trade Area of the Americas accord, which is already stalled.

"I think we came here to bury F.T.A.A.," Mr. Chávez said today, according to remarks reported by Reuters. "I brought my shovel."

Mr. Bush said today he would be "polite" when he meets Mr. Chávez.

The White House strategy is to ignore Mr. Chávez as much as possible.

"President Chávez has been pretty vocal about how he sees the summit and what he hopes to achieve at the summit," Thomas A. Shannon, the assistant secretary of state for inter-American affairs, told reporters on Air Force One on Thursday as it headed for Argentina. "I mean, he's going to behave the way he wants to behave."

Earlier this week, Mr. Bush did not denounce a longstanding request from Mr. Chávez that the Argentine government build a nuclear reactor in Venezuela for energy production.

"I guess if I were a taxpayer in Venezuela, I would wonder about the energy supply that Venezuela has," Mr. Bush said in an interview at the White House on Tuesday with a group of reporters from Latin American publications. "But maybe it makes sense." Mr. Bush added that "it's the first I've heard of it."

A little more than 24 hours later, Stephen J. Hadley, the national security adviser, appeared to backtrack when he noted that Mr. Chávez had asked a number of countries to build a nuclear reactor in Venezuela, and that he was far from a deal.

"I think that's because people recognize that it would be problematic for Chávez to be in the nuclear business, if you will," Mr. Hadley said, adding that "this trip, this summit, is not about Hugo Chávez."

But behind the scenes on Thursday, the United States and Venezuela were intensely jostling for advantage. As a result, negotiators were still struggling to come to an agreement over the final text of a joint communiqué, meant to be based on a consensus, that the leaders here hope to issue when the meeting ends on Saturday.

In a section on job creation, United States representatives have suggested taking note of "the 96 million people who live in extreme poverty" in Latin America and the Caribbean, subsisting on $1 a day or less. But Venezuela would agree to that statement, Latin American diplomats said, only if the following phrase were also included: "while in the United States there are 37 million poor."

The deepest disagreements had to do with the issue of free trade, which Mr. Bush has offered as the key to economic growth in the hemisphere. Washington is said to be pushing to issue a statement favoring the resumption of negotiations aimed at establishing the free trade accord, abbreviated F.T.A.A., but has met resistance not only from Venezuela but from Brazil and Argentina, too.

"The only language which is a problem is F.T.A.A.," said José Miguel Insulza, the secretary general of the Organization of American States. "We're moving toward a solution, not in the meeting but in the corridors."

At a parallel "People's Summit" in Mar del Plata on Thursday, organized by a coalition of left-wing, indigenous and antiglobalization groups, American proposals on free trade also came in for criticism, as did Mr. Bush himself.

"We Said No and No Means No: No to Bush, No to F.T.A.A. and No to Repaying the Debt," read one large banner at the conference, held in a group of tents and classrooms on the campus of a local university. Several thousand people attended.

"We've had enough of neo-liberalism and the damage it has inflicted on our societies," said Juan Montenegro, who came from Buenos Aires to take part. "Bush is trying to destroy Iraq with bombs and guns and Latin America with an economic program that will rob us of our sovereignty."

The "antisummit" began early in the week and was expected to culminate today in mass protest marches, led by Adolfo Pérez Esquivel, the Nobel Peace Prize winner, and Diego Maradona, the soccer idol.

Christine Hauser contributed reporting for this article from New York

Testimony of Chairman Alan Greenspan
Economic outlook
Before the Joint Economic Committee, U.S. Congress
November 3, 2005

 

Mr. Chairman, when I last appeared before the Joint Economic Committee in early June, economic activity appeared to be reaccelerating after a slowdown in the spring. The economy had weathered a further run-up in energy prices over the winter, and aggregate demand was again strengthening. Real gross domestic product (GDP) growth averaged 3-1/2 percent at an annual rate over the first half of the year, and subsequent readings on activity over the summer were positive. By early August, the economy appeared to have considerable momentum, despite a further ratcheting up of crude oil prices; pressures on inflation remained elevated.

As you know, the economy suffered significant shocks in late summer and early autumn. Crude oil prices moved sharply higher in August, bid up by growth in world demand that continued to outpace the growth of supply. Then Hurricane Katrina hit the Gulf Coast at the end of August, causing widespread disruptions to oil and natural gas production and driving the price of West Texas Intermediate crude oil above $70 per barrel. Because of a lack of ready access to foreign supplies, natural gas prices rose even more sharply. At the end of September, with the recovery from the first storm barely under way, Hurricane Rita hit, causing additional damage and destruction--especially to the energy production and distribution systems in the Gulf. Most recently, Hurricane Wilma caused widespread power outages and property damage across the state of Florida. These events are likely to exert a drag on employment and production in the near term and to add to the upward pressures on the general price level. But the economic fundamentals remain firm, and the U.S. economy appears to retain important forward momentum.

Of course, the higher energy prices caused by the hurricanes are being felt well beyond the Gulf Coast region. Those higher prices resulted from the substantial damage that occurred to our nation's energy production and distribution systems. Of the more than 3,000 oil and gas production platforms in the paths of Katrina and Rita, more than 100 were destroyed, and an additional 50 suffered extensive damage. Of the 134 manned drilling rigs operating in the Gulf, 8 were lost, and an additional 38 were either set adrift by the storms or were badly damaged. At present, both oil and natural gas production in the Gulf are operating at less than 50 percent of pre-Katrina levels. Since the first evacuations of oil and gas facilities were ordered before Katrina, cumulative shortfalls represented almost 4 percent of the nation's annual production of crude oil and 2 percent of our output of natural gas.

The combination of flooding, wind damage, and a lack of electric power also forced many crude oil refineries and natural gas processing plants to shut down. The restoration of production at the affected natural gas processing facilities has proceeded particularly slowly, in part because of the lack of natural gas feedstocks and infrastructure problems. Most refineries, however, will be back on line within the next month or so, though a few may take longer.

In the interim, a greater output of refined petroleum products in other areas of the country and much higher imports, especially of gasoline, are making up for the production shortfalls in Gulf refining. The temporary lifting of some environmental regulations and the suspension of the Jones Act facilitated those adjustments. In addition, refiners have shifted the mix of production toward more gasoline and less heating oil and jet fuel. That shift has had benefits in the short run, though the longer it continues, the greater the possibility of upward pressure on distillate fuel oil prices during the winter heating season.

Releases from the nation's Strategic Petroleum Reserve relieved much of the upward pressure on crude oil prices, and imports of refined products responded rapidly to ease the price pressures stemming from the loss of refinery production in the Gulf. As a consequence, the nationwide retail price of gasoline for all grades has declined 60 cents per gallon from its peak of $3.12 per gallon in the week of September 5. Motorists appear to have economized on their driving, and gasoline demand appears to be off a bit. However, it will take time and an appreciable increase in the fuel economy of our stock of motor vehicles to fundamentally change the amount of motor fuel used on our nation's highways.

The far more severe reaction of natural gas prices to the production setbacks that have occurred in the Gulf highlights again the need to expand our nation's ability to import natural gas. In contrast to the fall in crude oil prices and the sharp narrowing of refinery margins during the past two months, natural gas prices have remained high. Moreover, judging from elevated distant futures prices, traders expect natural gas prices to edge lower but to stay high for the foreseeable future. This expectation largely reflects a natural gas industry in North America that is already operating at close to capacity and our inability to import large quantities of far cheaper, liquefied natural gas (LNG) from other parts of the world. At present, natural gas supplies appear to be sufficient to meet the near-term demands--even with some ongoing shortfall in Gulf production. However, a colder-than-average winter would stress this market, and prices will likely remain vulnerable to spikes until the spring.

U.S. imports of LNG have been constrained by inadequate global capacity for liquefaction, as well as by environmental and safety concerns that have restricted the construction of new LNG import terminals in the United States. In 2002, such imports accounted for only 1 percent of U.S. gas consumption. Despite the major effort to expand imports, the Department of Energy forecasts LNG imports this year at only 3 percent of gas consumption. Canada, which has recently supplied one-sixth of our consumption, cannot expand its pipeline exports significantly in the near term, in part because of the role that Canadian natural gas plays in supporting increasing oil production from tar sands.

The disruptions to energy production have noticeably affected economic activity. We estimate that the storms held down the increase in industrial production 0.4 percentage point in August and an additional 1.7 percentage point in September.

Except for the hurricane effects, readings on the economy indicate a continued solid expansion of aggregate demand and production. If allowance is taken for the effects of Katrina and Rita and for the now-settled machinist strike at Boeing, industrial production rose at an annual rate of 5-1/4 percent in the third quarter. That's up from an annual pace of 1-1/4 percent in the second quarter, when a marked slowing of inventory accumulation was a restraining influence on growth.

The September employment report showed a loss of 35,000 jobs. However, an upward revision to payroll gains over the summer indicated a stronger underlying pace of hiring before the storms than had been previously estimated. The Bureau of Labor Statistics estimates that employment growth in areas not affected by the storms was in line with the average pace over the twelve months ending in August.

Retail spending eased off in September, likely reflecting the effects of the hurricanes and higher gasoline prices. Major chain stores report a gradual recovery over October in the pace of spending, though light motor vehicle sales declined sharply last month, when some major incentives to purchase expired.

The longer-term prospects for the U.S. economy remain favorable. Structural productivity continues to grow at a firm pace, and rebuilding activity following the hurricanes should boost real GDP growth for a while. More uncertainty, however, surrounds the outlook for inflation.

The past decade of low inflation and solid economic growth in the United States and in many other countries around the world has been without precedent in recent decades. Much of that favorable performance is attributable to the remarkable confluence of innovations that spawned new computer, telecommunication, and networking technologies, which, especially in the United States, have elevated the growth of productivity, suppressed unit labor costs, and helped to contain inflationary pressures. The result has been a virtuous cycle of low prices and solid growth.

Contributing to the disinflationary pressures that have been evident in the global economy over the past decade or more has been the integration of in excess of 100 million educated workers from the former Soviet bloc into the world's open trading system. More recently, and of even greater significance, has been the freeing from central planning of large segments of China's 750 million workforce. The gradual addition of these workers plus workers from India--a country which is also currently undergoing a notable increase in its participation in the world trading system--would approximately double the overall supply of labor once all these workers become fully engaged in competitive world markets. Of course, at current rates of productivity, the half of the world's labor force that has been newly added to the world competitive marketplace is producing no more than one quarter of world output. With increased education and increased absorption of significant cutting-edge technologies, that share will surely rise.

Over the past decade or more, the gradual assimilation of these new entrants into the world's free-market trading system has restrained the rise of unit labor costs in much of the world and hence has helped to contain inflation.

As this process has unfolded, inflation expectations have decreased, and accordingly, the inflation premiums embodied in long-term interest rates around the world have come down. The effective augmentation of world supply and the accompanying disinflationary pressures have made it easier for the Federal Reserve and other central banks to achieve price stability in an environment of generally solid economic growth.

But this seminal shift in the world's workforce is producing, in effect, a level adjustment in unit labor costs. To be sure, economic systems evolve from centrally planned to market-based only gradually and, at times, in fits and starts. Thus, this level adjustment is being spread over an extended period. Nevertheless, the suppression of cost growth and world inflation, at some point, will begin to abate and, with the completion of this level adjustment, gradually end.

These global forces pressing inflation and interest rates lower may well persist for some time. Nonetheless, it is the rate at which countries are integrated into the global economic system, not the extent of their integration, that governs the degree to which the rise in world unit labor costs will continue to be subdued. Where the global economy is currently in this dynamic process remains open to question. But going forward, these trends will need to be monitored carefully by the world's central banks.

* * *

I want to conclude with a few remarks about the federal budget situation, which--at least until Hurricanes Katrina and Rita struck the Gulf Coast--was showing signs of modest improvement. Indeed, tax receipts have exhibited considerable strength of late, posting an increase of nearly 15 percent in fiscal 2005 as a result of sizable gains in individual and, even more, corporate income taxes. Thus, although spending continued to rise rapidly last year, the deficit in the unified budget dropped to $319 billion, nearly $100 billion less than the figure for fiscal year 2004 and a much smaller figure than many had anticipated earlier in the year. Lowering the deficit further in the near term, however, will be difficult in light of the need to pay for post-hurricane reconstruction and relief.

But even apart from the hurricanes, our budget position is unlikely to improve substantially further until we restore constraints similar to the Budget Enforcement Act of 1990, which were allowed to lapse in 2002. Even so, the restoration of paygo and discretionary caps will not address the far more difficult choices that confront the Congress as the baby-boom generation edges toward retirement. As I have testified on numerous occasions, current entitlement law may have already promised to this next generation of retirees more in real resources than our economy, with its predictably slowing rate of labor force growth, will be able to supply.

So long as health-care costs continue to grow faster than the economy as a whole, as seems likely, federal spending on health and retirement programs would rise at a rate that risks placing the budget on an unsustainable trajectory. Specifically, large deficits will result in rising interest rates and an ever-growing ratio of debt service to GDP. Unless the situation is reversed, at some point these budget trends will cause serious economic disruptions.

We owe it to those who will retire over the next couple of decades to promise only what the government can deliver. The present policy path makes current promises, at least in real terms, highly conjectural. If fewer resources will be available per retiree than promised under current law, those in their later working years need sufficient time to adjust their work and retirement decisions.

Crafting a budget strategy that meets the nation's longer-run needs will become ever more difficult and costly the more we delay. The one certainty is that the resolution of the nation's demographic challenge will require hard choices and that the future performance of the economy will depend on those choices. No changes will be easy, as they all will involve setting priorities and making tradeoffs among valued alternatives. The Congress must determine how best to address the competing claims on our limited resources. In doing so, you will need to consider not only the distributional effects of policy changes but also the broader economic effects on labor supply, retirement behavior, and private saving. The benefits of taking sound, timely action could extend many decades into the future.

 

http://www.federalreserve.gov/BoardDocs/Testimony/2005/20051103/default.htm

By THE ASSOCIATED PRESS

Filed at 12:59 p.m. ET

 

WASHINGTON (AP) -- Federal Reserve Chairman Alan Greenspan told Congress Thursday that economic fallout from the recent spate of devastating hurricanes should prove fleeting and that the economy remains sturdy.

The trio of hurricanes -- Katrina, Rita and Wilma -- is likely to ''exert a drag'' on employment and production in the short term and may aggravate inflation pressures, Greenspan said in testimony to Congress' Joint Economic Committee.

''But the economic fundamentals remain firm, and the U.S. economy appears to retain important forward momentum,'' the retiring Fed chairman said in his most extensive remarks to date on the impact of the storms.

While the Fed chief sounded optimistic about the economy's prospects, Greenspan, who leaves early next year after 18 years, made clear that the Fed is keeping a close eye on high energy prices to make sure they don't spark broader inflation.

Although Greenspan didn't specifically mention the future course of interest rates, many analysts predict that borrowing costs will climb in the months ahead as the Fed seeks to combat inflation.

''We are very firm in the notion that this country should not visit the 1970s again in the way of inflation,'' Greenspan said, referring to a period where the economy was rocked by skyrocketing prices.

Greenspan used strong language to warn Congress to get the nation's fiscal house in order. Bloated budget deficits, if not curbed, could pose a danger to the economy's long-term health, he warned.

''Unless the situation is reversed, at some point these budget trends will cause serious economic disruptions,'' Greenspan said.

The government ran up a budget deficit of $319 billion in the 2005 fiscal year that ended Sept. 30. That followed a record amount of red ink last year.

''Lowering the deficit further in the near term, however, will be difficult in light of the need to pay for post-hurricane reconstruction and relief,'' Greenspan said.

If the swollen deficits are left unchecked, they eventually will put upward pressure on long-term interest rates, Greenspan warned.

Greenspan was questioned about the support he gave in 2001 to President Bush's successful drive to get Congress to pass sweeping tax cuts that totaled $1.3 billion over 10 years. Those tax cuts are blamed by Democrats for bringing back record deficits.

Given the facts known at the time, Greenspan said he would still support the tax cuts because of projections, which later proved wrong, that the federal government was facing huge surpluses.

Committee members, noting that Greenspan had appeared before Congress many times during his nearly two decades at the Fed, praised him for the job he had done keeping the U.S. economy on track.

''Mr. Greenspan, we are going to miss you. You have done a heck of a job,'' said Rep. Maurice Hinchey, D-N.Y.

The Fed chief underscored his belief that benefits currently promised to the baby boom generation through Social Security and Medicare likely cannot be met and probably will have to be trimmed.

''We owe it to those who will retire over the next couple of decades to promise only what the government can deliver,'' Greenspan said.

On the budget front, he repeated his call for lawmakers to restore caps on spending. And, Greenspan called on Congress to pay for any future tax cuts with either increases in other taxes or reductions in spending.

Greenspan's appearance on Capitol Hill comes two days after he and his Fed colleagues decided to boost the federal funds rate by one-quarter of percentage point, to 4 percent, to thwart inflation.

Oil prices briefly shot up past $70 a barrel in late August, and gasoline prices topped $3 a gallon before moderating. But home heating costs are expected to be much higher this winter than a year ago.

''I think people are going to be quite surprised at their heating bills this winter,'' Greenspan said.

Still, the Fed chief appeared hopeful businesses would be restrained in passing along elevated energy costs in the prices charged to consumers. ''As long as the Fed is perceived to be holding inflation expectations in check ... the passthrough of energy costs will be subdued,'' he said.

Many economists are predicting the Fed will bump up rates at its next session, on Dec. 13, as well as on Jan. 31, which will be Greenspan's last meeting. Some analysts also are calling for a rate increase on March 28, which would be the first presided over by Ben Bernanke, President Bush's choice to replace Greenspan.

Bernanke has said that his first priority will be to maintain continuity with Greenspan's policies. Fed watchers say that means inflation-fighting will keep playing a prominent role.

 

http://www.nytimes.com/aponline/business/AP-Greenspan.html?pagewanted=print

Bernanke's Models, and Their Limits

By DANIEL ALTMAN

IN terms of intellect, Ben S. Bernanke may be to the Federal Reserve what John G. Roberts Jr. is to the Supreme Court. And like Chief Justice Roberts, Mr. Bernanke, the nominee to replace Alan Greenspan at the Fed, has left a paper trail worth studying. What can it tell us about the sort of Fed chairman he would be?

In general, Mr. Bernanke's work has been solidly in the mainstream - a mainstream he has helped define since he began publishing papers in major economic journals since 1981. He has written repeatedly about ways of using mathematical models of a dauntingly complex economy to set monetary policy. When he has strayed from that subject, his conclusions have sometimes raised eyebrows.

For example, in 2001 he joined Refet S. Gurkaynak of Bilkent University in Ankara, Turkey, in urging colleagues to adopt the sort of savings-driven models of the economy that the White House used to justify its tax cuts. David H. Romer, a professor of economics at the University of California, Berkeley, whose earlier work was discussed in the paper, said the statistical support for their argument was unconvincing.

In 1999, Mr. Bernanke and Mark Gertler, chairman of the economics department at New York University, wrote that financially fragile countries should not adopt fixed exchange rates, because they had been associated with crises in the past - a logic that other economists have disputed.

"Most of my American colleagues seem to go in this direction, but it's not a widely shared view around the world, and especially not in developing countries," said Charles Wyplosz, a professor of economics at the University of Geneva's Graduate Institute of International Studies. "The experience with floating interest rates is that they tend to float too much, so some sort of harnessing of the exchange-rate movements is useful for small, open economies."

These topics, however, are not at the core of what Mr. Bernanke would be concerned with at the Fed. There, his opinions about domestic monetary policy would be more important. One tenet of Mr. Bernanke's philosophy could not be clearer: that the central bank should use a model, not just hunches, to decide about interest rates and the money supply.

This is how he put it in 1997 in a paper with Michael Woodford, now a professor of political economy at Columbia: "We conclude that, although private-sector forecasts may contain information useful to the central bank, ultimately the monetary authorities must rely on an explicit structural model of the economy to guide their policy decisions."

Mr. Bernanke has examined exactly what data a central bank should use to calibrate its models. In 2003, he and Jean Boivin, an associate professor at the Columbia Business School, wrote that there was little advantage in waiting for "final" figures for government statistics, and that preliminary figures worked just as well for economic forecasts. The types of data used by the Fed could also change, said Anil K. Kashyap, a professor of economics and finance at the University of Chicago's business school.

"Greenspan was famous for looking at all these strange things like boxcar shipments," Professor Kashyap said, adding that Mr. Bernanke might prefer "indicators motivated by theoretical considerations," like banks' loan commitments.

Yet even in the "data-rich environment" that Mr. Bernanke and Professor Boivin described, models don't always encompass every possible outcome. Though models can explain various facets of the economy's behavior, even several at a time, no one has come up with a single formula that explains virtually everything.

To wit: a recent theme of Mr. Bernanke's work, one that he expounded as a Fed governor, is that the central bank should not try to prick bubbles in asset prices - mostly because it's too hard to tell when a bubble is really present. In that 1999 paper, he and Professor Gertler supplied a model to show how monetary policy should react to changes in asset prices.

Rudiger Dornbusch, the late professor of economics at the Massachusetts Institute of Technology, said the model lacked one important feature. "When it comes to monetary policy and asset price volatility," he wrote, "the interesting issue is not the gentle part of the trip but rather when it crashes." At that point, credit and liquidity can dry up.

"Neither of these considerations has a place in the Bernanke-Gertler model, which is just price-based and lacks rationing and liquidity," Professor Dornbusch concluded. The absence of liquidity and the onset of credit rationing, he argued, can be extremely important factors in forming policy at times of crisis.

Interestingly, Mr. Bernanke and Professor Gertler wrote a few years earlier that monetary policy might be most powerful during periods of tight credit, because of its effects on banks' balance sheets. But the periods of tightest credit - usually just before, during and after a crash in the markets - are the ones that are most difficult to model.

That is not to say that Mr. Bernanke would shy away from radical action in a crash. In an early version of a paper with Professor Gertler that was eventually published in 1990, they wrote that "under some circumstance, government 'bailouts' of insolvent debtors may be a reasonable alternative in periods of extreme financial fragility."

PROFESSOR ROMER at Berkeley said he believed that Mr. Bernanke would know when to discard his models. "He of course understands that even in normal times, the best model is just a guide," Professor Romer said. "If something extraordinary happens, like either Russia goes under or the stock market goes down by 20 percent, anyone with a modicum of common sense knows that the model's not going to be a reliable guide."

Despite their differences, Professor Romer gave Mr. Bernanke high marks as a potential Fed chairman. The professor's view carries some weight; in 2004, he and his wife, Christina D. Romer, also a professor of economics at Berkeley, published a paper entitled "Choosing the Federal Reserve Chair: Lessons From History."

"It's not your political abilities or who you know," David Romer said. "What does matter is your understanding of the economy and the effects of monetary policy. By that standard, Ben is the best person you could choose, basically."

NYtimes October 30, 2005

Fed expected to raise interest rate to 4%

The Federal Reserve is expected to raise interest rates on Tuesday and signal further increases, after recent speeches by Fed policymakers highlighting concerns about inflation risks.

 

While there has been no indication that the Federal Open Market Committee will change its judgment that monetary policy remains "accommodative" and that it will continue to raise rates at a "measured" pace, there is a widespread feeling that part of the statement will need to change soon.

 

A decision on Tuesday to raise rates to 4 per cent which would be the 12th consecutive quarter-point rate increase is unlikely to provoke controversy. Mark Olson, the Fed governor who voted against September's increase, is likely to fall back into line, given good recent data.

One concern is that the federal funds rate is no longer obviously well below the so-called "neutral" level, at which monetary policy neither restricts nor stimulates activity. But there does not yet appear to be a consensus on what should happen next, and the current language in the Fed's statement is seen as acceptable for now, with the FOMC likely to raise rates again in December.

 

Estimates of the neutral rate tend to put it in a range centred on 4.25 per cent. Fed policymakers rarely discuss such numbers but Janet Yellen, president of the San Francisco Fed, recently estimated the neutral rate from 3.5 to 5.5 per cent. "The current federal funds rate is toward the lower end of this band," she said in a speech.

 

The economy continued to grow at a healthy 3.8 per cent rate in the third quarter, according to the Commerce Department's advance estimate, providing further evidence to support the Fed's view that there is good momentum in spite of high energy prices. The economy's long-term potential rate is often put at 3.25 to 3.5 per cent. There has been no sign that the economy was knocked off course by the hurricanes, though high natural gas prices remain a concern.

The Fed's focus on inflation reflects in part the fact that the rise in energy prices is expected to feed into higher core inflation.

 

The Fed's favoured measure of core inflation is already at the top of the 1-2 per cent "comfort" range popularised by Ben Bernanke, the former Fed governor nominated last week to replace Alan Greenspan at the helm.

 

The FOMC will react to the incoming inflation and growth data. Key questions include inflation expectations and the extent of cost pressures from the labour market. High energy prices are a risk for both inflation and growth. With housing prices expected to level off at some point, a major uncertainty is whether business investment will pick up to take the strain if consumer spending slows.