Dominic Alexander explains why the Bank of England’s response to inflation will be disastrous, especially for workers
The Bank of England raised interest rates by 0.25% on Thursday (05/06/22), after the US equivalent, the Federal Reserve’s even more aggressive 0.5% hike the previous day. The argument is that this is necessary to control the rapid rise in inflation. The Bank of England warns that the change “will take time to work”, admitting that in the immediate term “inflation will continue to rise this year”.
In other words, things will get worse before they get better, assuming this policy works even in the long run. In the shorter term, it will make borrowing more expensive, with an impact both on indebted households and on business investment. The risk is that this pushes the economy into recession, but even if that point is technically not reached, the whole point is to slow the economy down. This means less expansion, therefore more unemployment, and downward pressure on wages. It will not be a question of curbing the windfall profits of energy companies. Indeed, it is a question of protecting the capitalist assets against the pressure of inflation, considered as the greater danger than the recession.
This is at a time when the prices of basic commodities, food and energy, are rising catastrophically, and many are already facing dire circumstances, but, as always in a capitalist economy, the orthodoxy is that the standard of living must take the hit, if the crisis is to be fixed. The explanations given to us in this case are that inflation is the result either of demand exceeding supply (Keynesianism) or that money has become too cheap, due to excessive government spending (monetarism ). Neither of the two theories is an adequate explanation of what is happening now.
It should be obvious to everyone that it is the supply problems, due to rising energy prices, logistical disruptions and now the war in Ukraine, that are currently fueling inflation. Rising interest rates will not alleviate any of these factors. So why is it presented as the answer? At one level, the reason lies in the limitations of mainstream economic theory.
Orthodox explanations for inflation
The monetary policy of central bankers has been singularly ineffective in recent years. After the crash of 2008, ever-deepening interest rate cuts and money creation (“quantitative easing”) were supposed to make investment cheaper, and thus promote growth. This did not happen, with companies preferring to hoard capital rather than risk it in a situation where returns looked likely to be low. This policy invited the derisive epithet that it was “pushing on a piece of string”, because the action had little or no impact on its object. However, it was not without effects, as it fueled the asset boom: rising stock market prices, real estate prices, etc. It’s just that these hikes were speculative rather than stimulating economic growth that would increase profitability. The growth of all this fictitious capital was underlying the economic stagnation.
Before the pandemic imposed extraordinary support measures, the economic indications were that the global economy was once again heading for an outright recession, rather than just weak growth. Measures to prevent collapse during lockdowns, inadequate as they are, have avoided that prospect, but since governments withdrew those supports, the system has begun to tip into a new crisis.
For traditional Keynesians, the current inflationary problem is the result of “pent up” demand due to covid. This is the standard theory that inflation is caused by excess demand and that suppressing demand (reducing wages and living standards) will rule inflation and solve the problem. For the monetarists, it was excessive public spending that was the problem, but it comes down to the same effect: raising interest rates to shrink the economy, so that it rebalances itself.
Note that orthodox economics, whatever its hue, always offers the same answer. Under “normal” circumstances, if an economy is growing, the danger is that inflation will jump, so to contain it, demand must be contained. Therefore, wages and the standard of living must be prevented from rising. In the opposite situation, when the economy is contracting, then it is wise to take measures that will promote inflation, to make investing cheaper. This can only work as long as wage increases do not eat away at the space for expansion of these poor beleaguered capitalists. Since capitalism is always in a cycle of upward or downward growth, there is never a time when orthodoxy does not denounce the danger of wages being too high.
The judgment of history
This is just the reality, and there is no alternative, orthodoxy will sternly reply. Yet, are the traditional explanations of inflation really valid? This is not the case, and history has already demonstrated it. In the “stagflation” of the 1970s, a supposedly impossible situation occurred; a period of weak growth was accompanied by a spectacular rise in inflation. Keynesian demand management failed and monetarism arrived as an alternative, instituting the series of attacks on workers and the welfare state that we call “neoliberalism”. However, monetarism never sufficiently explained the situation in the 1970s, any more than it does today. It simply mobilized the political and economic forces of capital to engage in class warfare that reduced the power of labor to fight for a better share of the social surplus.
To a strictly limited extent, neoliberalism succeeded in raising the rate of profit in Western economies, but this policy failed in 2008. Profit rates have not recovered since, and so investment has stagnated. The supply problems we are currently facing are partly due to the disruption of the pandemic, as well as the war in Ukraine, but they will not be a short-lived problem that can be solved with the tinkering of central banks. on interest rate policy. If profitability is low, then capitalists will not invest in expanding production, and so we have multiple sources of supply problems.
As Michael Roberts has argued, the deeper problem is the low profitability, which preceded the current crises, and probably means that we are facing another period of “stagflation”, which will not meet orthodox recipes for manipulation. interest rates, any more than the economy did in the 1970s, or in the period following the crash of 2008. However, the capitalist response to low profitability is still to attack the standard of living of the work, so despite all the obvious shortcomings of the orthodox approach, current Bank of England policy will still convince most, at least, of the ruling class.
A dissenting note will be issued by some of the Keynesian left, like Larry Elliott in The Guardian, which warns that rising rates could trigger a recession. He clearly sees the inadequacy of the standard approach: “It is hard to envision the government watching the economy sink into recession without doing something to lessen the pain. The Bank increased the pressure on Rishi Sunak to act – and act big. Elliott’s implication is that the bankers know their policy will not work and that government intervention is needed.
Elliott leaves it at that, but the precise nature of government intervention is what remains crucial. The credit creation of the post-2008 years did nothing for the economy at large, only feeding the stock market and big capital. What is needed is an action that escapes the miserable logic of the pursuit of capitalist profit. The entire energy sector must be nationalized and its benefits redistributed into lower prices and sustainable alternatives. This would be an immediately useful step, and not even incredibly radical, given that the French, for example, have a state-controlled energy sector.
However, this alone would not be enough to deal with the current crisis. There must be a broad and massive state program to build sustainable infrastructure around not just energy, but also food, transport, housing and other sectors. All of this could physically be done, even if it would outrage capital. Yet, if the capitalist system cannot provide the necessities we need to live, then another path must be taken.
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