Financialization at heart of economic malaise

Anis Chowdhury and Jomo Kwame Sundaram

SYDNEY and KUALA LUMPUR: COVID-19 has exposed major long-term economic vulnerabilities. This malaise – including declining productivity growth – can be traced to the greater influence of finance in the real economy.

The deep-seated causes of the current resurgence of inflation, inequalities and contractionary tendencies have not been addressed. Meanwhile, reform proposals after the 2008-2009 global financial crisis (GFC) have been largely forgotten.

Declining productivity

Productivity growth has been declining in major economies since the early 1970s. As the World Bank noted, well “before the … pandemic, the global economy featured a broad-based decline in productivity growth”.

World labour productivity growth slowed from its 2007 peak of 2.8% to a post-GFC nadir of 1.4% in 2016, remaining under 2.0% in 2017-2018.This slowdown has hurt over two-thirds of advanced, emerging market and developing economies.

Except for a brief productivity spike in some countries around the turn of the century, labour productivity growth in developed Organization for Economic Cooperation and Development (OECD) countries was declining, with trends low, but stable after the GFC.

Why the slowdown?

For Robert Gordon, this was mainly due to declining total factor productivity growth (TFP) – or slower technical innovation, organizational improvements and labour skill growth – in recent decades, particularly in industrial nations.

For the World Bank, reduced investment and TFP growth deceleration have been roughly equally responsible for the productivity slowdown. Slowing working age population growth and limited education progress have also contributed.

The United Nations noted, “as firms around the globe have become more reluctant to invest, productivity growth has continued to decelerate”. It blamed the slowdown on reduced investments in machinery, technology, etc.

Slower transitions to more diverse and complex production have also delayed progress. Some supply shocks due to ‘natural causes’ – of which 70% were climate change related – have also hurt productivity growth.

Growing inequality has weakened demand, slowing economic and productivity growth. As workers’ spending declined with labour’s income share, demand has been sustained by more public and private borrowing.

The International Monetary Fund (IMF)’s April 2017 World Economic Outlook confirmed this trend. Productivity growth declines have lowered real incomes, reducing consumer spending, demand and growth.

A joint report of the Bank of International Settlements (BIS), OECD and IMF also blamed unconventional monetary policies – very low, even negative real interest rates, and corporate bond purchases. Thus, corporate financial fragilities have weakened investment and productivity growth, especially since the GFC.

Deeper malaise

More sustainable and inclusive growth policies can help increase productivity. But blind faith in ‘market solutions’ since the 1980s has worsened resource misallocations, sectoral imbalances and job-skill mismatches.

One-sided demand stimuli – through more deficit spending or monetary expansion, without complementary supply-side measures – have only made limited impact. Also, supply-side measures to enhance growth need appropriate regulatory reforms – not wholesale deregulation.

Deregulation has often strengthened product market oligopolies while labour’s bargaining strength has generally declined. Growing corporate power has reduced labour income shares as executive salaries have risen since the 1980s.

Paranoia viz deficits and debt has cut public spending. Public investment remained flat during the early 2000s, rising slightly after the GFC, before declining until the pandemic. Worse, public spending cuts have not been offset by more private investment.

Slower capital stock increases cut potential growth in advanced economies from the 1980s. Debt and deficit paranoia has cut public services, social protection, public education and healthcare – hurting the vulnerable most.

Negative externalities

Markets have also failed the environment, undermining sustainability. Inadequate investments in renewable energy and sustainable agriculture have resulted in food and energy shortages – now exacerbating inflationary pressures.

Financialization, tax cuts and deregulation have also encouraged speculative activities, share buybacks and other portfolio purchases. Unconventional monetary policies have also enabled unviable ‘zombie’ firms to survive.

Thus, there has been rising protectionism and harmful beggar-thy- neighbour policies – such as competing corporate income tax rate cuts while weakening environmental protection and labour rights.

Meanwhile, much needed productive investments, especially in infrastructure, technology and innovation, remain underfunded. National problems have been worsened by failure to improve multilateral economic governance.

Financialization

Declining productivity growth was due to finance’s creeping dominance over the real economy from the 1970s. With banking more internationalized and concentrated, traditional financial intermediation by commercial banks has been undermined by market allocation and ‘universal banking’, combining both commercial and investment banking services.

Financialization has thus subverted economic motives, markets and institutions, adversely affecting progress, balanced development and long-term productivity growth in various ways:

· Corporate decision-making and firm behaviour are increasingly influenced by short-term financial market indicators, e.g., share market prices, rather than medium- and long-term prospects;

· Non-financial corporations increasingly profit from financial, rather than productive activities;

· ‘Non-traditional’ financial activities (e.g., stock market investments) of commercial banks have increased their exposure to systemic, including external risks;

· The distinction between short-term speculation and patient long-term investment has become blurred;

· Executive and even managerial remuneration has been increasingly linked to short-term profitability, as measured by share prices, not longer-term considerations.

Such features have adversely affected real investments and innovation, due to finance pursuing short-term returns. Thus, financialization has negatively affected investment, technology adoption and skill upgrading, with adverse consequences for productivity and decent jobs.

Misallocation

The financial system has also undermined the real economy by syphoning talent from it, with attractive inducements. Thus, talent has gone to finance at the expense of the real economy, especially harming technological progress.

James Tobin challenged “throwing more and more of our resources, including the cream of our youth, into financial activities remote from the production of goods and services, into activities that generate high private rewards disproportionate to the social productivity.”

Then American Finance Association president Luigi Zingales showed financial growth in the last four decades has basically been rent seeking, i.e., securing profits without adding any value.

Finance has captured rents “through a variety of mechanisms including anticompetitive practices, the marketing of excessively complex and risky products, government subsidies such as financial bailouts, and even fraudulent activities… By overcharging for products and services, financial firms grab a bigger slice of the economic pie at the expense of their customers and taxpayers”.

Banking abuses have been innovative, ranging from collusion, abusive practices, market manipulation, rigging interest, exchange and other rates, passing risk to unsuspecting customers, aiding and abetting tax evasion and money laundering.

Real economy drag

Finance has thus retarded development of the real economy in various ways. First, financial development has not been conducive to intermediating between savings and real investments. Markets allocate funds by criteria other than promoting investment in the real economy.

Second, financial markets and speculation do not generate or otherwise add real value. Third, financialization and regulatory failure have generated more frequent and damaging financial crises.

Seeking to maximize returns, fund managers and their ilk mainly invest in response to short-term financial trends. Presumed to be best left to markets, actual capital formation – increasing economic output – and productivity growth have slowed, to the detriment of most.

Related IPS commentaries

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Peasants marginalized by big farmers

Vikas Rawal and Jomo Kwame Sundaram

NEW DELHI and KUALA LUMPUR: A recent Food and Agriculture Organization (FAO) study shows the largest farms cultivate a high and increasing share of agricultural land in much of the world.

Farm size concentration

World Agricultural Census data for 129 countries show about 40% of the world’s farmland is operated by farms over 1000 hectares (ha) in size. About 70% is operated by the top 1% of farms, all bigger than 50 ha each.

A rising share of farmland is in larger farms. But farm sizes in developed and developing countries seem quite different. Farms smaller than 5 ha accounted for 63% of land in low and lower middle-income countries. But such farms covered only 8% of farmland in upper middle and high-income countries.

The “share of farmland farmed on the largest holdings has increased in … several European countries (France, Germany and the United Kingdom of Great Britain and Northern Ireland) and in the United States of America.” Similarly, in recent decades, more land in many Latin American and sub-Saharan African countries is in larger farms.

Data coverage uneven

Most agricultural censuses in developing countries do not cover large scale farms well. Official agricultural statistics in many developing countries focus on farm households, often ignoring corporate farms.

Agricultural censuses typically rely on land records, usually neither up to date nor complete. Large farms often have land registered to different persons and entities, typically to avoid taxes and bypass land ownership ceilings and regulations.

Government surveys in India have not comprehensively covered large farms, understating inequality. Other data from India suggest the top fifth of farms account for 83% of land.

Even where large farms are legally recognized as commercial entities, land is often held via subsidiaries in complex arrangements. For such reasons, the extent of concentration is probably greater than what the study suggests.

Ominous trends

Despite its limitations, the study findings are ominous. Changing inequalities in farmland ownership and cultivation have reduced the smallholder or peasant share of food production.

The study suggests that ‘land grabs’, new laws and policies have enabled large (capitalist) farmers, agribusiness corporations and other commercial entities to control most of the world’s farmland.

Disparities in government support allowed by World Trade Organization and other trade agreements have enabled large farms in developed countries, like the US, to gain more advantages over relatively uninfluential peasants in the South.

More advantages to big farm capital in recent decades, particularly to large-scale commercial agriculture in the global North, have enhanced their edge. More peasant distress has pushed many deeper into debt. Many of the most vulnerable have had to migrate, seeking precarious employment elsewhere.

Under various pressures not to protect food agriculture, developing countries have cut support for peasants. Withdrawal of such assistance has forced farmers to buy inputs at commercial prices. Meanwhile, many have to sell their produce cheap to those providing credit or other facilities.

By enabling easier land takeovers, commercial farming has quickly spread in ecologically fragile areas such as the Brazilian Cerrado, various parts of sub-Saharan Africa and steep slopes subject to deforestation.

Small farms, world food

The study has triggered a controversy by asserting that ‘family farms’ is a broader category than smallholdings. These would include large family-owned or run farms.

Hence, family farms account for 80% of the total value of food produced in the world, while smallholdings account for only 35%. These estimates have been contested by several civil society organizations who have protested to the FAO Director General.

Most agricultural censuses do not provide data on production by farm size. Instead, the study divides the total market value of a country’s food output by its total farmland. It then assumes a constant food output value per hectare. But this ignores significant differences in crop output among farms of different types.

Commercial bias

In many countries, large farms produce more commercial crops, not necessarily food. These may be for manufacturing (e.g., rubber, cotton), animal feed, or to be industrially processed for consumption (e.g., sugar, palm oil, coffee).

Many smallholder peasants consume significant shares of their own farm outputs. They typically work on limited land and need to meet their own food needs, rather than maximize cash incomes. Hence, their priorities may be rather different from those of commercial farms.

More fertile regions (e.g., river deltas) tend to have greater population densities, smaller farm sizes and higher productivity. Such smaller farms often grow multiple crops yearly, while larger farms with harsher agro-climatic conditions (e.g., higher temperatures, more snow or less water availability) often only have a single crop annually.

Although not universal, and often overstated, there is evidence of smallholders having higher land productivity, inversely related to farm size, owing to differences in the way factor inputs are used by various types of farms.

By assuming constant food output value per hectare, the study ignores many important variations, and probably under-estimates the contributions of small farms to world food supply.

Peasants marginalized

The study shows how various systemic advantages and biases have enabled big capitalist farms to control more of the world’s farmland and food supplies. But the share of food supply produced by smallholder producers is far from settled.

While more pronounced in rich countries, large corporate farms have also been growing in many developing countries. Even where family farming is predominant, increasing farm sizes have been apparent.

The study rightly notes the need to consider different types of farms in making appropriate policies for family farms of various sizes. This is necessary to better formulate policies to address poverty and livelihoods, especially for smallholder producers in distress.

It even suggests the need to “hold large scale and corporate agriculture accountable for the negative externalities of their production (for example on the environment)”. Besides better farming data, farmland concentration and its many implications in various parts of the world should be more appropriately addressed.

Vikas Rawal is Professor of Economics at the Centre for Economic Studies and Planning, Jawaharlal Nehru University, New Delhi. He has conducted field research on agrarian relations in different parts of India for three decades, and works on global agricultural development challenges. Inter alia, he was lead author of The Global Economy of Pulses (FAO).

Resist inflation phobia coup

Anis Chowdhury and Jomo Kwame Sundaram

SYDNEY and KUALA LUMPUR: Calls, even screams, to fight inflation above all else are getting shriller. Thankfully, even The Economist (5 Feb. 2022) reminds all, Fighting inflation could put the world in a slump.

No inflation consensus

International Monetary Fund (IMF) Managing Director Kristalina Georgieva doubts the world faces a runaway inflation threat. She urges policymakers to carefully calibrate fiscal and monetary policies, with more “specificity”, as not ‘one size fits all’.

Widespread reversal of COVID-19 spending and low interest rates threaten recovery. Similarly, Bank of England chief economist Huw Pill stressed the central bank was not going all out to tighten monetary policy.

Instead, like Georgieva, he advocates a more nuanced approach, reasoning, “As the pandemic recedes and the level and composition of global demand and supply normalise, these inflationary pressures should subside”.

US inflation phobia

Inflation hawk Larry Summers – Clinton’s last Treasury Secretary and Director of the National Economic Council during Obama’s first two years – claims it is “wishful thinking” that current inflationary pressures will subside.

He insists, “The painful lesson of the 1960s, 1970s and the 1982 recession is that excessive demand stimulus leads not just to inflation, but to stagflation and ultimately recession, as inflation must eventually be brought under control”. But Summers’ economic history is partial, tendentious and misleading.

Draconian[PJKS1] [A2] policy prescriptions supposedly inflict ‘short-term pain for long-term gain’, but care little for their ramifications. Summers has nothing to say about how the early 1980s’ interest rate hikes pushed nations into default, triggering debt crises, and over a decade of stagnation in much of the global South.

Most governments can do little to tackle rising commodity, especially fuel and food prices. Conventional monetary tightening reduces overall inflation, typically by inflicting much unemployment, without affecting international sources of inflation.

Recent US wage growth

The recent US wages growth that Summers is obsessed with is actually very different in cause and consequence from the pay rises in the decades he decries. Europeans have also been quick to point out how different inflation on their continent has been.

First, recent wages growth is not due to workers’ collective bargaining, as in the 1960s. Or ‘wage-indexation’, linking wage growth to inflation during the 1970s.

Workers’ bargaining power has declined greatly since the 1980s, with labour market deregulation increasing casualization.

Meanwhile, foreign direct investment has accelerated offshoring, while technological changes have reduced labour needs. Many have changed to self-employment, informal work and other ‘off-the-books labour’. By 2020, there were more than two billion in informal work, mostly in developing countries.

The pandemic has greatly increased ‘gig work’, especially in higher income countries. More piecework remuneration and illusions of independence barely compensate for less bargaining power, and greater labour, work and income insecurity. Working from home increases unpaid overtime work as ‘wage theft’ becomes more widespread.

Second, apparent wage rises may be a statistical anomaly. An estimated third of the total US non-farm workforce, many low-paid – quit their jobs in 2021 for health and safety reasons while better paid workers remained in employment.

IMF research also found labour supply declined in the US and the UK as older workers and mothers with young children quit due to pandemic related challenges. This changing composition of employment has raised the average wage.

Consider a job market with three workers – A, B and C, with hourly wages of $10, $20 and $60 respectively. The average hourly wage is $30. If worker A quits, the average hourly wage – for workers B and C – will be $40. This raises the average hourly wage by $10 – not due to wage growth, but the changing workforce composition.

The higher reported US wages reflect the one-time impact of increased minimum pay, especially when paid by major employers with a nationwide presence such as Target, Southwest Airlines, CVS Health and Walgreens.

Bleak prospects

The IMF’s October 2021 World Economic Outlook saw bleak prospects for low-skilled and young workers. This seems consistent with why low paid workers are reluctant to work for a pittance at great personal risk to themselves.

Many younger workers face special difficulties, e.g., parents of young children due to inadequate childcare facilities and pandemic school disruptions. The mismatch between available jobs and what people want has also grown.

Current inflationary pressure resembles the post-World War Two situation, with pent-up demand for consumer goods unleashed before war-disrupted supplies were restored. Inflation reached nearly 20% in 1947 before collapsing.

Current consumption demand still faces supply chain disruptions due to the pandemic. But such situations are very unlike the episodes Summers cites to make his alarmist case for prioritizing inflation.

Conventional anti-inflationary policies – e.g., fiscal austerity, raising interest rates and credit tightening – are not only inappropriate for dealing with current inflationary pressures, but can be very harmful – as the IMF chief warns.

Understanding inflation

The pandemic has triggered large price increases – notably for food, clothing, fuel and communications. The mismatch between labour supply and demand in some sectors has also become more acute.

Meanwhile, US government data show US non-financial corporations raked in their largest profits ever since 1950 in the second half of 2021 despite rising labour costs. But Summers denies that monopolistic corporate behaviour has contributed to price increases.

Overall corporate profits rose 37% from the previous year while employee compensation only increased 12%, despite “the second year of a pandemic which began by wiping out 20 million jobs”.

US Senator Sherrod Brown (Democrat-Ohio) has asserted that “prices are high because corporations are raising them – so they can keep paying themselves with ever-larger executive bonuses and stock buybacks”.

Rising house prices and accommodation rentals are also raising living costs. Following the 2008-2009 global financial crisis (GFC), governments ill-advisedly abandoned fiscal recovery efforts early. Unconventional monetary policies became the main policy tool since.

This has encouraged real estate and financial asset speculation, instead of investing in productive capacity. Fiscal austerity and continued reliance on market solutions also deter government actions to address key supply chain bottlenecks.

Lack of effective coordination between fiscal and monetary authorities – e.g., in responding to the pandemic – has exacerbated such situations. Instead, commodity and real estate speculation has been much enabled.

Such perverse incentives have undermined needed investments in information and communications technology (ICT), renewable energy, sustainable agriculture, healthcare and education. Businesses have even paid out dividends and bonuses with COVID relief funds. Thus, billionaires got billions more.

Nuance and specificity

Effective coordination between fiscal and monetary authorities is vital for a nuanced approach to ensure sustainable, inclusive and resilient recovery. Fiscal-monetary policy coordination is also needed for a range of long-overdue reforms to address structural factors exacerbating inflationary tendencies and pressures.

But earlier reforms to ensure central bank independence and strict ‘fiscal rules’ in favour of market solutions have undermined government fiscal and monetary capacities to act effectively. Thus, such policies and related ones – e.g., inflation-targeting – must be irreversibly consigned to the policy garbage bin.

Knee-jerk responses to fear mongering by inflation hawks will derail global recovery which the IMF deems “disruptive”. The Fund is also concerned about “divergent” recoveries between rich and poor nations.

Instead of the new Cold War preference for economic sanctions at the slightest pretext, much better and more sustained international cooperation and policy coordination are needed. They must address global supply chain disruptions, stabilize international commodity prices and minimize harmful policy spill overs.

Related IPS commentaries

Inflation paranoia threatens recovery. 1 February 2022. https://www.ipsnews.net/2022/02/inflation-paranoia-threatens-recovery/

Inflation bogey blocking recovery. 19 October 2021. https://www.ipsnews.net/2021/10/inflation-bogey-blocking-recovery/

Central banks must address pandemic challenges. 3 August 2021. http://www.ipsnews.net/2021/08/central-banks-must-address-pandemic-challenges/

Fight pandemic, not windmills of the mind. 28 July 2020. https://www.ipsnews.net/2020/07/fight-pandemic-not-windmills-mind/

Robust global economic recovery needs coordinated policy response. 14 April 2016. http://www.ipsnews.net/2016/04/opinion-robust-global-economic-recovery-needs-coordinated-policy-response/

[PJKS1]Any link as he comes across to many as reasonable [A2]Can’t find any link specifically to Summers; but what he is saying is pretty extreme and we can level it “draconian”.