The underlying cause of the crisis is recognized to lie in the sphere of commodity-money relations rather than in the financial sector, the most important conclusion being that this is not a financial crisis, but an economic one, which has, first and foremost, to do with supply and demand of commodities rather than availability of credit. The global wage-productivity gap, as it turned out, has been caused by – globalization!!!
My, oh, my!!! What a surprise for neoclassical economists! The miraculous remedy for the world’s economic problems of the 1970’s has turned into a major economic problem itself. But let me address that a bit later.
The report has dealt neoclassical economists a blow in the face by destroying their commonplace concept that capital and labor as factors of economic growth are separate and interchangeable. “Employment performance in [Europe and the United States] cannot be explained using a neoclassical labour market model in which labour and capital are substituted at a given level of output according to their relative prices. Such a model is based on microeconomic reasoning and ignores the macroeconomic factors that determine the demand for goods and services, and labour.” (p. 82). The report recognizes the dialectically dual nature of wages and salaries as they raise a business owner’s costs at the time of production while boosting his or her profits at the time of consumption. “Labour compensation has a dual character. On the one hand, it constitutes the largest proportion of production costs…On the other hand, labour compensation determines, to a very large extent, the level of demand of private households.” (p. 88). I hope I do not need to explain what that entails. “In addition to playing a key role in employment creation, wage incomes are also closely related to the dynamics of real productive investment and innovation. This is because profits drive investment, and the level of profits is fundamentally driven by demand rather than by a reduction in production costs.”(p. 93).
In other words, it is solvent demand that determines the possibility of further reproduction of capital. Not free market, not cheap credit, but solvent demand. I addressed that point in one of my recent articles (see the link here) – thus further ability to invest capital depends on previously paid wages as those determine demand and bring about profits. Countries, whose national economies were too poor to generate sufficient demand, and thus profits, had no other choice but resort to foreign demand on outside markets. And this is how it is related to the wage-productivity gap: “… if wage growth does not keep pace with productivity growth, the expansion of domestic demand and employment creation will be constrained, and that this constraint can only be lifted temporarily, if at all, by reliance on external demand.”(p. 77). As countries entered the globalized economy, they had to apply downward pressure on domestic wages in order to compete with low-cost imports from countries like China. And this is where the problem began – “…globalization implies that 1.5 billion workers in developing and emerging-market economies which have a small endowment of capital have been added to the existing workforce for producing goods on world markets, thereby disturbing previous labour market equilibriums and exerting downward pressure on wage levels…” (p. 77). Both emerging economies and developed countries like the US, the global consumer of last resort, had a hard time finding sufficient demand for the ever-increasing supply due to rising global productivity. In developed countries, that resulted in households relying more and more on debt to sustain their existing consumption levels. The developing ones, due to meager domestic demand, were even more eager to explore external markets for profit-making opportunities.
“Indeed, the adoption of export-led growth strategies based on the advantage of labour costs appears to have changed the nature of competition between countries. This has led to calls for protectionist measures against goods produced under low-wage conditions, and to attempts in industrialized countries to prevent an increase in wages or even reduce them in order to withstand such competition. These responses are misguided. They are based on textbook neoclassical theory, which posits that relative factor price equalization through trade is possible under perfect competition. More importantly, models used in this context fail to recognize the critical role of effective demand in shaping both current economic activity and future growth possibilities, because they do not grasp the complex dynamics of investment, productivity growth, wage formation and employment.” (p. 78).
In other words, globalization has not only failed to resolve the crisis of over-production (or over-accumulation), but exacerbated it by taking it to the global level. The first contradiction of capitalism remained unaddressed – capital owners, totally unaware of the true fundamentals of the global economy, believed they were chasing the golden calf, figuratively speaking, but they were only chasing its shadow.
While productivity was sky-rocketing, wages in most countries remain stagnant. I also wrote about that in one of my articles (see the link here) with a reference to the International Labour Organization, which on November 3, 2009 also pointed to years of stagnating wages relative to productivity gains as one of the reasons for the crisis. The solution suggested in the above-mentioned report is going to strike free-market fundamentalists dumb the very second they hear it – “…distribution of the gains from productivity growth…” (p. 85).
Boom! I can already imagine heart-attacks among radical right-wingers, who, by some weird coincidence, happened to be reading my article. People, if you believe in free market, stay away from my scribblings – they are going to hurt!
To drive the nail further into the coffin of laissez-faire capitalism, let me share the rest of the passage I have just quoted: “Whether or not aggregate demand rises sufficiently to create net employment depends crucially on the distribution of the gains from productivity growth, which in turn is greatly influenced by policy choices. The policies generally adopted over the past 25 years have sought to keep wages low, and have served to translate productivity gains either into higher capital income or into lower prices. They are based on the assumption that the demand for labour will behave in the same way as the demand for most goods (i.e. the lower the price, the greater the demand). But keeping wages low in order to generate higher profits is self-defeating, because without a stronger purchasing power of wage earners, domestic demand will not rise sufficiently to enable owners of capital to fully employ their capacity and thereby translate the productivity gains into profits. A potentially more successful strategy would be one oriented towards ensuring that the gains from productivity growth also accrue to labour: wages rising in line with productivity growth will cause domestic effective demand to increase and nourish a virtuous cycle of growth, investment, productivity increases and employment over time.” (p.85).
Did I hear it right? Did they actually use the word "distribute"? So where is the enthusiasm for a self-regulating economy? Where is the euphoria for reckless lending practices and anticipation of enormous profits as soon as the government gets off your back? Where is the servile veneration for the “golden” calf on the corner of Bowling Green Park and Wall Street? Gone!!!
Political economy has prevailed again. The report confirms that the existing economic model is unsustainable. That long-needed sustainability, it is believed, can only be achieved through stimulating domestic demand by making sure that wage growth rates keep pace with productivity growth rates. “Therefore, in developing countries, as in developed countries, the ability to achieve sustained growth of income and employment on the basis of productivity growth depends critically on how the resulting gains are distributed within the economy, how much additional wage income is spent for the consumption of domestically produced goods and services, and whether higher profits are used for investment in activities that simultaneously create more employment, including in some service sectors, such as the delivery of health and education.” (p. 87).
But there another inconvenient truth revealed in the report – the one about the United States’ inability to act as the consumer of last resort for the global markets. “It is becoming clear that not all countries can rely on exports to boost growth and employment; more than ever they need to give greater attention to strengthening domestic demand. This is especially true today, because it is unlikely that the United States’ former role as the global engine of growth can be assumed by any other country or countries.” (Overview, p. 1).
Boom! Another set of free-market fundamentalists has just received their share of heart-attacks and is being transported to the nearest hospital. What is it saying? Did I hear the word "former"?
“In the United States, a downward adjustment of consumption will be unavoidable unless wages grow strongly, which seems unlikely. For almost 10 years before the financial crisis, personal consumption in that country had been rising considerably faster than GDP despite a decline in the share of labour compensation in GDP. Greater consumer spending by reducing savings and incurring debt was possible in a financial environment where credit was easily accessible and where a series of asset price bubbles created the illusion of increasing household wealth. But with the collapse of the United States housing market, households were forced to unwind their debt positions and cut consumer spending. This trend is set to continue. Consequently, the world economy cannot count on the sort of stimulus provided by the United States in the same way as it did prior to the crisis.” (Overview, p. 10).
Wait! Is it "the Oracle of Omaha" being carried in a stretcher to an ambulance car?
“More importantly, the increase in United States household consumption was largely debt financed. Facilitated by easy consumer credit, lax lending standards, a proliferation of exotic mortgage products, the growth of a global market for securitized loans and soaring house values, burgeoning household spending created strongly growing household debt and led to a sharp decline in the United States household savings rate to almost zero. The ratio of debt to personal disposable income reached an all-time high in 2007, exceeding 130 per cent.” (p. 41).
Can you hear the sirens? Oh, that must be Alan Greenspan in that ambulance car passing by.
“Buoyant consumer demand in the United States was the main driver of global economic growth for many years in the run-up to the current global economic crisis…Given that before the crisis household consumption in the United States accounted for about 16 per cent of global output and that imports constituted a sizeable proportion of that consumption, this would imply both a reduction in world output and a decline in other countries’ export opportunities. From 2000 to 2007, United States imports as a share of its GDP grew from 15 per cent to 17 per cent, boosting aggregate demand in the rest of the world by $937 billion, in nominal terms. Moreover, as a result of global production sharing, United States consumer spending increases global economic activities in many indirect ways as well (e.g. business investments in countries such as Germany and Japan to produce machinery for export to China and its use there for the manufacture of exports to the United States). In short, the future path of United States consumption spending has macroeconomic implications, not only for economic recovery in the United States but also for global growth.” (p. 43-44)
To top it all off, there are two more quotes for you: “…the United States consumer demand is likely to shrink – not just grow slower” (p. 44), and “It is unlikely that the sharp decline in United States imports of consumer goods could be compensated by an increase in consumer spending and associated imports of consumer goods by China or any other developing country.” (p. 45).
Now you can make conclusions for yourselves.
“And it came to pass, as soon as he came nigh unto the camp, that he saw the calf, and the dancing: and Moses' anger waxed hot, and he cast the tables out of his hands, and brake them beneath the mount. And he took the calf which they had made, and burnt [it] in the fire, and ground [it] to powder, and strawed [it] upon the water, and made the children of Israel drink [of it].” (Exodus 32:19-20).