A war economy?

March 30, 2020

If all country pandemics were the same, then the figure below would be how this
pandemic will come to an end. The start-to-peak ratio of Covid-19 infections for
all countries would be 40-50 days. Many countries are not yet near the peak point
and there is no guarantee that the peak will be at the same time point, if
mitigation and suppression methods (testing, self-isolation, quarantine and
lockdowns) are not working similarly. But ultimately, there will be a peak
everywhere and the pandemic will wane – if only to come back next year, maybe.

What is clear is that the lockdowns in so many major economies have and will
deliver a humungous slump in production, investment, employment and incomes in most
economies. The OECD sums up the picture best. The impact effect of business
closures could result in reductions of 15% or more in the level of output
throughout the advanced economies and major emerging-market economies. In the
median economy, output would decline by 25%…. “For each month of containment, there
will be a loss of 2 percentage points in annual GDP growth”.

Looking back in my book, The Long Depression, I found that the loss of GDP from the
beginning of Great Recession in 2008 through the 18 months to the trough in mid-
2009 was over 6% of GDP in the major economies. Global real GDP fell about 3.5%
over that period, while the so-called emerging market economies did not contract
(because China continued to expand).

In this pandemic, if the major economies are locked down for two months and maybe
more (China’s Wuhan lockdown will not be relieved until next week; so that’s more
than two months), then global GDP is likely to contract in 2020 by more than in the
Great Recession.

Of course, the hope is that the lockdowns will be short-lived. As OECD general
secretary Gurria said, “we don’t know how long it’s going to take to fix
unemployment and the closures of millions of small businesses: but it’s wishful
thinking to talk about a quick recovery.” Clearly the idea of President Trump that
America can get back to business by Easter Sunday is not realistic.

Nevertheless, on that hope that lockdowns will be short-lived and because they have
no other choice if the pandemic is to be suppressed, pro-capitalist governments
have thrown the kitchen sink at their economies in order to avoid the worst. The
first priority has been to save capitalist businesses, especially the large
companies. So central banks have cut their policy interest rates to zero or below;
and they have announced a myriad of credit facilities and bond purchasing
programmes that dwarf the bailouts and quantitative easing measures of the last ten
years. Governments have announced loan guarantees and grants for businesses at
amounts never seen before.

Globally, I calculate that governments have announced fiscal ‘stimulus’ packages of

around 4% of GDP and another 5% of GDP in credit and loan guarantees to the
capitalist sector. In the Great Recession, fiscal bailouts totalled only 2% of
world GDP.

If we take the $2trn package agreed by the US Congress, way more than during the
global financial meltdown in 2008-9, two-thirds of it will go in outright cash and
loans that may not be repaid to big business (travel companies etc) and to smaller
businesses, but just one-third to helping the millions of workers and self-employed
to survive with cash handouts and tax deferrals.

It’s the same in the UK and Europe with the pandemic packages: first, save
capitalist business; and second, tide over working people. The payments for workers
laid off and the self-employed are only expected to be in place for two months and
often people won’t receive any cash for weeks, if not months. So these measures
are way short of providing sufficient support for the millions that have already
been locked down or have seen their companies lay them off.

It really is naïve, if not ignorant, of Nobel prize winning economists like Joseph
Stiglitz, Chris Pissarides or Adam Posen to praise such schemes as the UK’s
governments, just because it is “more generous” than the one in the US. “The U.K.
deserves credit for really reversing its austerity and being very ambitious and
coherent,” said Posen, who was a financial crisis-era policy maker at the BOE. “The
wish-list in terms of design, size, content and coordination — all is terrific.”
British arch-Keynesian Will Hutton summed up the mood: “a Rubicon has been crossed.
Keynesianism has been restored to its proper place in British public life.” Even
the erstwhile Austerians joined the chorus of praise, including former austerity UK
Chancellor, George Osborne.

The British and American public also seem to be convinced that the packages are
generous, as the latest polls suggest a pick-up in support for the mendacious
President Trump and ‘Operation Last Gasp’ Prime Minister Johnson. It seems
everywhere incumbent rulers have gained support during the crisis. That may not
last, however, if the lockdowns continue and slump begins to bite deep.

The reality is that the money being shifted towards working people compared to big
business is minimal. For example, the UK package offers an 80% of wages payout for
employees and self-employed. But that is actually no more than the usual
unemployment benefits ratio offered by many governments in Europe. The UK had a
very low benefit ratio that is now being raised to the European average and then
only for a few months. And even then there are millions who will not qualify.

Moreover, none of these measures will avoid the slump and they are way insufficient
to restore growth and employment in most capitalist economies over the next year.
There is every possibility that this pandemic slump will not have a V-shaped
recovery as most mainstream forecasts hope for. A U shaped recovery (ie a slump
lasting a year or more) is more likely. And there is a risk of a very slow
recovery, more like a bent L-shape, as is appearing in China, so far.

Indeed, mainstream economics is not sure what to do. The Keynesian view is
presented to us by Lord Skidelsky, Keynes’ biographer. Skidelsky pointed out that
the lockdowns were the opposite of the typical Keynesian problem of ‘deficient
demand’. Indeed, it is a problem of deficient supply as most productive workers
have stopped work. But Skidelsky does not see it that way. You see, he reckons
that it is not a ‘supply shock’ but a problem of ‘excess demand’. But ‘excess
demand’ is the mirror of ‘scarce supply’. The question is where do we start:
surely it starts with the loss of output and value creation, not with ‘excess
demand’?

Skidelsky tells us that “a recession is normally triggered by a banking failure or

a collapse in business confidence. Output is cut, workers are laid off, spending
power falls and the slump spreads through a multiplied reduction in spending.
Supply and demand fall together until the economy is stabilised at a lower level.
In these circumstances, Keynes said, government spending should rise to offset the
fall in private spending.”

Readers of my blog know well that I consider, that while a recession may be
“triggered” by a banking failure or “a collapse in business confidence”, these
triggers are not the underlying cause of recurring crises in capitalism. Why do
banking failures sometimes not cause a slump and why do businesses suddenly have a
collapse in confidence? Keynesian theory cannot tell us.

Skidelsky goes on that if the crisis is one of “excess demand”, then we need to
reduce demand to meet supply! I would have thought it would be better to get out
of this slump by raising output to meet demand, but there we go. Skidelsky points
out that “It is not that business wants to produce less. It is forced to produce
less because a section of its workforce is being prevented from working. The
economic effect is similar to wartime conscription, when a fraction of the
workforce is extracted from civilian production. Production of civilian goods
falls, but aggregate demand remains the same: it is merely redistributed from
workers producing civilian goods to workers conscripted into the army or
reallocated to producing munitions. What happens today will be determined by what
happens to the spending power of those made compulsorily idle.”

Really? In the war economy, everybody is still working – indeed during the second
world war, there was in effect full employment as the war machine was pumped up.
Currently we are heading for the biggest rise in unemployment in a few quarters in
economic history. This is no war economy.

Skidelsky reminds us that Keynes’s solution in the war economy of ‘excess demand’
was to propose an increase in taxation. “In his pamphlet How to Pay for the War
(1940). civilian consumption, he said, had to be reduced to release resources for
military consumption. Without an increase in voluntary saving, there were only two
ways to reduce civilian consumption: inflation or higher taxes.” “The solution he
and the Treasury jointly hit on was to raise the standard rate of income tax to 50
per cent, with a top marginal rate of 97.5 per cent, and lower the threshold for
paying taxes. The latter would bring 3.25m extra taxpayers into the income tax net.
Everyone would pay the increased taxes which the war effort demanded, but the tax
payments of the three million would be repayable after the war in the form of tax
credits. There would also be rationing of essential goods.”

Wow! So Skidelsky’s answer to the current slump is to raise taxation, even for
those at the bottom of the income scale in order to stop them spending too much and
causing inflation! He finishes by saying that the pandemic “should deepen our
understanding of what it is to be a Keynesian.” Indeed.

The current situation is not a war economy, as James Meadway says. When the so-
called Spanish flu pandemic hit, it was right at the end of the first world war.
That pandemic claimed 675,000 lives in the US and at least 50 million worldwide.
The flu did not destroy the US economy. In 1918, the year in which influenza
deaths peaked in the US, business failures were at less than half their pre-war
level, and they were lower still in 1919 (see chart). Driven by the wartime
production effort, US real GDP rose by 9% in 1918, and by around 1% the following
year even as the flu raged.

Of course, then there were no lockdowns and people were just left to die or live.
But the point is that, once the current pandemic lockdowns end, what is needed to
revive output, investment and employment is something like a war economy; not
bailing out big business with grants and loans so that they can return to business
as usual. This slump can only be reversed with war time-like measures, namely
massive government investment, public ownership of strategic sectors and state
direction of the productive sectors of the economy.

Remember, even before the virus hit the global economy, many capitalist economies
were slowing fast or already in outright recession. In the US, one of the better
performing economies, real GDP growth in Q4 had fallen to under 2% a year with
forecasts of further slowdown this year. Business investment was stagnating and
non-financial corporate profits had been on downward trend for five years. The
capitalist sector was and is in no shape to lead an economic recovery that can lead
back to full employment and rising real incomes. It will require the public sector
to lead.

Andrew Bossie and J.W. Mason have just published a perceptive paper on the
experience of that public sector role in the war-time US economy. They show that
all sorts of loan guarantees, tax incentives etc were offered by the Roosevelt
administration to the capitalist sector to begin with. But it soon became clear
that the capitalist sector could not do the job of delivering on the war effort as
they would not invest or boost capacity without profit guarantees. Direct public
investment took over and government-ordered direction was imposed.

Bossie and Mason found that from 8 to 10 percent of GDP during the 1930s, federal
spending rose to an average of around 40 percent of GDP from 1942 to 1945. And most
significant, contract spending on goods and services accounted for 23 percent on
average during the war. Currently in most capitalist economies public sector
investment is about 3% of GDP, while capitalist sector investment is 15%-plus. In
the war that ratio was reversed.

I had shown the same result in a post of mine back in 2012. I quote: “What
happened was a massive rise in government investment and spending. In 1940,
private sector investment was still below the level of 1929 and actually fell
further during the war. So the state sector took over nearly all investment, as
resources (value) were diverted to the production of arms and other security
measures in a war economy.” Keynes himself said that the war economy demonstrated
that “It is, it seems, politically impossible for a capitalistic democracy to
organize expenditure on the scale necessary to make the grand experiments which
would prove my case — except in war conditions.”

The war economy did not stimulate the private sector, it replaced the ‘free market’
and capitalist investment for profit. To organize the war economy and to ensure
that it produced the goods needed for war, the Roosevelt government spawned an
array of mobilization agencies which not only often purchased goods but closely
directed those goods’ manufacture and heavily influenced the operation of private
companies and whole industries.

Bossie and Mason conclude that: “the more—and faster—the economy needs to change,
the more planning it needs. More than at any other period in US history, the
wartime economy was a planned economy. The massive, rapid shift from civilian to
military production required far more conscious direction than the normal process
of economic growth. The national response to the coronavirus and the transition
away from carbon will also require higher than normal degrees of economic planning
by government.”

What the story of the Great Depression and the war showed was that, once capitalism
is in the depth of a long depression, there must be a grinding and deep destruction
of all that capitalism had accumulated in previous decades before a new era of
expansion becomes possible. There is no policy that can avoid that and preserve the
capitalist sector. If that does not happen this time, then the Long Depression that
the world capitalist economy has suffered since the Great Recession could enter
another decade.

The major economies (let alone the so-called emerging economies) will struggle to
come out of this huge slump unless the law of market and value is replaced by
public ownership, investment and planning, utilising all the skills and resources
of working people. This pandemic has shown that.

Posted in capitalism, economics, Profitability | 27 Comments »

Lockdown!
March 24, 2020
According to AFP estimates, some 1.7 billion people across the world are now living
under some form of lockdown as a result of the coronavirus. That’s almost a quarter
of the world population. The world economy has seen nothing like this.

Nearly all economic forecasts for global GDP in 2020 are for a contraction of 1-3%,
as bad if not worse than in the Great Recession of 2008-9. And forecasts for the
major economies for this quarter ending this week and the next quarter are coming
in at an annualised drop of anything between 20-50%! The economic activity
indicators (called PMIs), which are surveys of company views on what they are
doing, are recording all-time lows of contraction for March.

US composite PMI to March 2020

This is all due to the lockdown of businesses globally and isolation of workers in
their homes. Could the lockdowns have been avoided so that this drastic ‘supply
shock’ would not have been necessary in order to cope with the pandemic? I think
it probably could. If governments had acted immediately with the right measures
when COVID-19 first appeared, the lockdowns could have been averted.

What were these right measures? What we now know is that everybody over the age of
70 years and/or with medical conditions should have gone into self-isolation.
There should have been mass testing of everybody regularly and anybody infected
quarantined for up to two weeks. If this had been done from the beginning, then
there would have been fewer deaths, hospitalisations and a quicker dying out of the
virus. So lockdowns could probably have been avoided.

But testing and isolation was not done at the beginning in China. At first there
was denial and a cover-up of the virus risk. By the time the Chinese authorities
acted properly with testing and isolation, Wuhan was inundated and a lockdown had
to be applied.

At least the Chinese had the excuse that this was a new virus unknown to humans and
its level of infection, spread and mortality was not known before. But there is no
excuse for governments in the major capitalist economies. They had time to prepare
and act. Italy left it too late to apply testing and isolation so that the
lockdown there was closing the doors after the virus had bolted. Their health
system is now overloaded and can hardly cope.

There were some countries that did adopt mass testing and effective isolation.
South Korea did both; and Japan where 90% of the population wore masks and gloves
and washed, appears to have curbed the impact of the pandemic through effective
self-isolation without having a lockdown.
Similarly, in one small Italian village amid the pandemic, Vo Euganeo, which
actually had Italy’s first virus death, they tested all 3000 residents and
quarantined the 3% affected, even though most had no symptoms. Through isolation
and quarantine, the lockdown there lasted only two weeks.

At the other extreme, the UK and the US have taken ages to ramp up testing (which
is still inadequate) and get the vulnerable to self-isolate. In the US, the
federal government is still not going for a state-wide lockdown.

Why did the G7 governments and others fail to act? As Mike Davis explains, the
first and foremost reason was that the health systems of the major economies were
in no position to act. Over the last 30 years, public health systems in Europe
have been decimated and privatised. In the US, the dominant private sector has
slashed services in order to boost profits. According to the American Hospital
Association, the number of in-patient hospital beds declined by an extraordinary
39% between 1981 and 1999. The purpose was to raise profits by increasing ‘census’
(the number of occupied beds). But management’s goal of 90% occupancy meant that
hospitals no longer had the capacity to absorb patient influx during epidemics and
medical emergencies.

As a result, there are only 45,000 ICU beds available to deal with the projected
flood of serious and critical corona cases. (By comparison, South Koreans have more
than three times more beds available per thousand people than Americans.) According
to an investigation by USA Today “only eight states would have enough hospital beds
to treat the 1 million Americans 60 and over who could become ill with COVID-19.”

Local and state health departments have 25% less staff today than they did before
Black Monday 12 years ago. Over the last decade, moreover, the CDC’s budget has
fallen 10% in real terms. Under Trump, the fiscal shortfalls have only been
exacerbated. The New York Times recently reported that “21 percent of local health
departments reported reductions in budgets for the 2017 fiscal year.” Trump also
closed the White House pandemic office, a directorate established by Obama after
the 2014 Ebola outbreak to ensure a rapid and well-coordinated national response to
new epidemics.

The for-profit nursing home industry, which warehouses 1.5 million elderly
Americans, is highly competitive and is based on low wages, understaffing and
illegal cost-cutting. Tens of thousands die every year from long-term care
facilities’ neglect of basic infection control procedures and from governments’
failure to hold management accountable for what can only be described as deliberate
manslaughter. Many of these homes find it cheaper to pay fines for sanitary
violations than to hire additional staff and provide them with proper training.

The Life Care Center, a nursing home in the Seattle suburb of Kirkland, is “one of
the worst staffed in the state” and the entire Washington nursing home system “as
the most underfunded in the country—an absurd oasis of austere suffering in a sea
of tech money.” (Union organiser). Public health officials overlooked the crucial
factor that explains the rapid transmission of the disease from Life Care Center to
nine other nearby nursing homes: “Nursing home workers in the priciest rental
market in America universally work multiple jobs, usually at multiple nursing
homes.” Authorities failed to find out the names and locations of these second jobs
and thus lost all control over the spread of COVID-19.

Then there is big pharma. Big pharma does little research and development of new
antibiotics and antivirals. Of the 18 largest US pharmaceutical companies, 15 have
totally abandoned the field. Heart medicines, addictive tranquilizers and
treatments for male impotence are profit leaders, not the defences against hospital
infections, emergent diseases and traditional tropical killers. A universal vaccine
for influenza—that is to say, a vaccine that targets the immutable parts of the
virus’s surface proteins—has been a possibility for decades, but never deemed
profitable enough to be a priority.

I have argued in previous posts that COVID-19 was not a bolt of the blue. Such
pandemics have been forecast well in advance by epideomologists, but nothing was
done because it costs money. Now it’s going to cost a lot more.

The global slump is here. But how long and how deep will it be? Most forecasts
talk about a short, sharp drop followed by a quick recovery. Will that happen? It
depends on how quickly the pandemic can be controlled and fade away – at least for
this year. On 8 April, the lockdown in Wuhan will be lifted as there are no new
cases. So, from the emergence of virus there in January, it will be about three
months, with a lockdown of over two months. It also seems that the peak of the
pandemic may have been reached in Italy which has been in full lockdown for only
two weeks. So perhaps in another month or two, Italy will be freed. But other
countries like the UK are just entering a lockdown phase, with others still facing
exponential growth in cases which may require lockdowns.

So it seems that an end to the global supply shock is unlikely before June,
probably much later. Of course, the production collapse could be reversed earlier
if governments decide not to have lockdowns or to end them early. The Trump
administration is already hinting at lifting any lockdown in the next 15 days ‘to
get the economy going’ (at the expense of more deaths etc); but many state
governors may not go along with that.

Even if economies do bounce back in the second half of 2020 as the lockdowns are
ended, there will still be a global slump. And it is a vain hope that recovery
will be quick and sharp in the second half of this year. There are two reasons to
doubt that. First, the global economy was already slipping into recession before
the pandemic hit. Japan was in recession; The Eurozone was close to it and even US
growth had slowed to under 2% a year.

And many large so-called emerging economies like Mexico, Argentina and South Africa
were already contracting. Indeed, capital was flooding out of the global south to
the north, a process than has now accelerated with the pandemic to record levels.
With the collapse in energy and industrial metal prices, many commodity-based
emerging economies (Brazil, Russia, Saudi Arabia, Indonesia, Ecuador etc) face a
huge drop in export revenues. And this time, unlike 2008, China will not quickly
return to its old levels of investment, production and trade (especially as the
trade war tariffs with the US remain in place). For the whole year, China’s real
GDP growth could be as low as 2%, compared to over 6% last year.

With the collapse in energy and industrial metal prices, many commodity-based
emerging economies (Brazil, Russia, Saudi Arabia, Indonesia, Ecuador etc) face a
huge drop in export revenues. And this time, unlike 2008, China will not quickly
return to its old levels of investment, production and trade (especially as the
trade war tariffs with the US remain in place). For the whole year, China’s real
GDP growth could be as low as 2%, compared to over 6% last year.

Second, stock markets are jumping back because of the recent Fed credit injections
and the expected huge US Congress fiscal measures. But this slump will not be
avoided by central bank largesse or the fiscal packages being planned. Once a slump
gets under way, incomes collapse and unemployment rises fast. That has a cascade or
multiplier effect through the economy, particularly for non-financial companies in
the capitalist sector. This will lead to a sequence of bankruptcies and closures.

And corporate balance sheets are dangerously frail. Across the major economies,
concerns have been rising over mounting corporate debt. In the United States,
against the backdrop of decades-long access to cheap money, non-financial
corporations have seen their debt burdens more than double from $3.2 trillion in
2007 to $6.6 trillion in 2019.

A recent paper by Joseph Baines and Sandy Brian Hager starkly reveals all. For
decades, the capitalist sector has switched from investing in productive assets and
moved to investing in financial assets – or ‘fictitious capital’ as Marx called it.
Stock buybacks and dividend payments to shareholders have been the order of the day
rather than re-investing profits into new technology to boost labour productivity.
This particularly applied to larger US companies.

As a mirror, large companies have reduced capital expenditure as a share of

revenues since the 1980s. Interestingly, smaller companies engaged less in
‘financial engineering’ and continued to raise their investment. But remember the
bulk of investment comes from the large companies.

The vast swathe of small US firms is in trouble. For them, profit margins have
been falling. As a result, the overall profitability of US capital has fallen,
particularly since the late 1990s. Baines and Hager argue that “the dynamics of
shareholder capitalism have pushed the firms in the lower echelons of the US
corporate hierarchy into a state of financial distress.” As a result, corporate
debt has risen, not only in absolute dollar terms, but also relative to revenue,
particularly for the smaller companies.

Everything has been held together because the interest on corporate debt has fallen
significantly, keeping debt servicing costs down. Even so, the smaller companies
are paying out interest at a much higher level than the large companies. Since the
1990s, their debt servicing costs have been more or less steady, but are nearly
twice as high as for the top ten percent.

But the days of cheap credit could be over, despite the Fed’s desperate attempt to
keep borrowing costs down. Corporate debt yields have rocketed during this
pandemic crisis. A wave of debt defaults is now on the agenda. That could “send
shockwaves through already-jittery financial markets, providing a catalyst for a
wider meltdown.”

Even if the lockdowns last only a few months through to the summer, that
contraction could see hundreds of small firms go under and even some big fish too.
The idea that the major economies can have a V-shaped recovery seems much less
likely than a L-shaped one.