Vol.6 No.6, 16 February 2006

Capitalism must be brought down to earth

Margaret Legum

Cape Times, Business Report, page 2
Tuesday,14 February 2006

Below is the article published in yesterday's Business Report on New Economics.

Old economics is making the world safe for capital to concentrate and multiply. New economics notices that, by that process, purchasing power is being sucked out of the productive economy globally, threatening the future of the free market economy.

Growing proportions of global wealth are being held out of productive service in the financial sector. About R2 trillion to R3 trillion constitute the reserves held out of use in South African financial institutions.

This situation carries many dangers. The money operates in a virtual economy in orbit, seldom getting involved in making and trading goods and services. It is hot money, speculatively seeking opportunities for profit margins on trading in bonds, currencies and financial instruments.

Thirty years ago hot money made up about 2 percent of international transactions; the rest was used for trade or investment in real things. Today it is variously estimated at between 92 percent and 98 percent, depending on the time it stays in one place; only 2 percent to 8 percent finances productive activity.

John Maynard Keynes said of speculative money flows: Speculators might do no harm as bubbles on the steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation - when capital development becomes the by-product of a casino.

He referred to global capital liberalisation, at the turn of the last century, that led to speculative bubbles; and, you might say, the Great Crash and two world wars.

George Soros gives a similar warning today. The private sector is ill-suited to allocate international credit: it is not concerned with macroeconomic balance. The system tends to disequilibrium. It is more dangerous to capitalism than communism ever was.

Why are savings being used in this way, rather than invested in productive enterprise? Clearly because it is more profitable. The reason for that is twofold.

First, the relative decline in effective demand, due to the concentration of wealth, means all productive enterprise must seek a bigger slice of a falling market, so margins decline and profits are harder to come by.

Second, speculation on a rising market is a sure thing, given a modicum of judgment. Stock market values automatically go up if more money goes into them.

Values on the JSE have doubled in 10 years. The same is true of property, whose prices have ballooned since it became a suitable object of speculation. But of course this is a bubble. It is not based on real increases of value, but on what speculators think others will think.

And when, as during the Asian crash, word gets about that values will fall, the rush to get out can collapse whole regions. The next time it could be global. That is Soros's disequilibrium.

Currency speculation is more complicated: it is not certain that values will go up. It is also more dangerous. It enables global criminality through money laundering. And it reduces productive enterprise's ability to plan. The rand's volatility has undone many exporters and importers, who must put up with one thumb-suck after another in explanation.
So the system is inherently unstable. It is allowed to continue only because the influence of its beneficiaries with governments is based upon their capacity to inflict great damage. Wealth and power always carry influence and the possibility of corruption of governments. In this case, even more is at stake.

The financial sector can drain a country's capital in response to policies it disapproves of.

That is intolerable if we value democracy - the right and duty of a government to take its direction from its electorate. It is also dangerous. Before the next crash, it is important that governments reassert their right to control when and how their savings leave the country, and others' enter it.

Some governments already do so, including China, and they find that the bark of the financial sector is worse than its bite. Controls are accepted, even welcomed as inducing stability.

In the meantime, governments must reverse the flow of money fom the real economy to the virtual one. The billions held up there must become useful down here. Growing demand in the consumer economy will benefit everyone, including the private sector.

First, governments could raise serious revenue from the financial sector by taxing its transactions. Up to R9 billion is traded each day on the JSE. Even a small tax on that sum would achieve two results. It would produce annual revenue in the billions.

And it would calm speculative swings in bond and share values: it would not be worth transacting if the potential profit were less than the tax. The same would apply to a tax on transactions in the currency market.

The financial sector objects to both these transaction taxes on the grounds that they would repel foreign investors. It is true they would reduce potential profits by the value of the tax. But those repelled are not investors in any useful sense.

They seldom finance expansion by taking up new share issues. They trade in existing shares: that is not investment. Their trading can increase the paper value of shares, which is good for executives whose bonuses are linked to share values; but they add little value elsewhere. And they can, and do, leave at a moment's notice.

Second, governments should legislate for a proportion of the capital held in the financial sector to be invested in the real economy.
For example, when a government builds new infrastructure for which it has to borrow, it should require that such capital be made available from, say, pension funds. The interest on it would go to pension beneficiaries rather than to banks: their money would be much safer than on the JSE.

There was agreement at the growth and development summit in 2002 that 5 percent of all investable income in that sector should be invested in one of a number of instruments that promote employment and development.

That is the right direction. It should be widely known and publicly monitored. And expanded until capital returns to earth.

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