Download Session 12 - Economics For Everyone

Session 12
The Great
Roller-Coaster:
Stability and Instability
in Capitalism
Readings:
Chapters 23-24
Illustrations © by
Tony Biddle
Please Note
• This curriculum material is
provided to support union,
community, and non-profit
organizations to undertake
popular economics training.
• Non-commercial use and
reproduction, with appropriate
citation, is authorized.
• Commercial or professional use
is prohibited without approval
from the Canadian Centre for
Policy Alternatives, Ottawa,
Canada.
www.economicsforeveryone.com
© Canadian Centre for Policy Alternatives, 2009
Key Topics Covered
• Closing the “big circle” of capitalism
• Injections and leakages; surpluses and
deficits
• The multiplier effect
• Capitalism’s endless roller-coaster
• Recessions and how to stop them
• Long waves in the history of capitalism
Key Terms Introduced
•
•
•
•
•
•
•
•
•
income
expenditure
surplus
deficit
injection
leakage
multiplier effect
recession
depression
•
•
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•
•
recovery
consumer sentiment
supply shocks
capital flight
counter-cyclical policies
discretionary fiscal policy
automatic stabilizers
balanced budget laws
long waves
Understanding Capitalism
as a System
• Two core features define capitalism:
– production for profit, and wage labour
• Central driving force: investment spending
by private businesses
– Initiates circle of work, production, income,
consumption, reproduction, profit
– If it works, capitalist starts it all again
• This takes place within a broader context:
– Natural environment
– Government
̶ Financial sector
̶ Global linkages
A Complete Economic Road-Map
Like any map, it has 3 purposes:
1. Find out where you are
2. Find out where you want to be
3. Find out how to get there
The core cycle of
business investment,
work, production,
income, consumption,
reproduction, and
profit remains at
the centre of
the system.
Production and
consumption
occur in the
setting of
the natural
environment:
ecology,
raw materials,
Pollution.
The financial sector
provides credit to
facilitate business
investment, and
then claims a share
of the resulting
profit. Finance may
be sidetracked by
speculation.
Government
collects taxes
from both classes,
redistributing
some as transfer
payments. It
also undertakes
direct (non-profit)
production of
public goods and
services.
Global
linkages
include
foreign
trade
(X&M),
foreign
direct
investment
(FDI),
global
financial
flows, and
migration.
The map
is
complete!
Review: The Key Players
• Worker Households: 85% of population, must sell
labour to support themselves.
• Capitalists: <5% of population; major owners & top
managers, initiate and organize production.
• Environment: source of ecological benefits & raw
materials.
• Banks: special companies which create credit to
facilitate investment.
• Government: collects taxes, redistributes income,
produces public services, regulates production.
• Rest of World: linked to our economy through real
trade, foreign direct investment, financial flows,
migration, and knowledge (technology, ideology).
Review: Key Flows & Functions
• Investment: accumulation of tools by capitalist,
starts circular flow of production & income.
• Production: requires work and tools.
• Wages: compensation for wage labour.
• Profit: residual surplus kept by capitalist after all
the bills are paid.
• Workers’ Consumption: financed from wages, allows
for reproduction of workers.
• Capitalists’ Consumption: purchases of luxury goods,
paid from share of profits
• Ecological Benefits: space, air, water.
• Raw Materials: harvested from nature, then
processed.
• Pollution: waste flows back to nature.
Key Flows & Functions (cont’d)
• Debt (Credit): created by banks to facilitate
investment.
• Interest: banks’ share of capitalists’ surplus.
• Taxes: collected by government from income.
• Transfer Payments: redistribution of some tax
revenue back to households.
• Government Production: direct (non-profit) provision
of goods and services.
• Exports, Imports: goods and services produced in one
country, purchased in another.
• Foreign Direct Investment: business locates real
capital & initiating production in another country.
• Global Financial Flows: international transfers of
credit and other financial assets.
• Migration: workers crossing borders in search of work.
Key Balances
•
•
For this circular process to continue,
there must be enough demand to buy
everything produced
This can be understood by considering
three key balances which must be
maintained:
1. Income = expenditure
2. Injections = leakages
3. Sector deficits must offset each other (and
hence someone must be increasing debt)
Note to Instructors
•
The next 6 slides are
more technical than most,
and can be omitted if
desired with no loss in
continuity.
Balance #1:
Income and Expenditure
• The capitalist still must sell all their
output for the cycle to keep repeating.
• But now they have more options/markets:
– Worker consumption
– Investment goods
– Exports
̶ Luxury consumption
̶ Government
• Total incomes must still be spent to
ensure that all output is bought, and
prevent a recession.
Income = Expenditure
(p.285)
Class / Sector
Income
Expenditure
Workers
Wages (W)
less Tax (TW)
Profit (Π)
less Tax (T)
Taxes
(TW+ T)
Consumption
(CW)
Luxury
Consumption (C)
Capitalists
Government
Rest of World
TOTAL
ECONOMY
Government
Production (G)
Net Exports (X-M)
W+Π
C + I + G + (X-M)
Taxes shown are net of transfers (TP); capitalist sector includes banks.
Balance #2:
Injections and Leakages
• Injection: initial expenditure “starts the ball rolling.”
– Business investment is the most important in capitalism
– But there are others: government production, export demand
• Income resulting from the injection (and resulting
production) pays for consumption in a circular,
“multiplied” process
– Consumption depends on income, and hence needs the injection
• The money keeps traveling around the circuit until an
equivalent amount has “leaked” out (leakages), via:
– Capitalist savings (to pay for investment)
– Taxes (to pay for government production)
– Imports (to pay for production offshore)
Injections = Leakages
(p.288)
Spending Injection
Unspent Leakage
Investment (I)
Capitalist saving (Π- C)
Gov’t Production (G)
Taxes (TW+ T)
Exports (X)
Imports (M)
Total Injections:
I+G+X
Total Leakages:
(Π- C) + T + M
The “MULTIPLIER EFFECT”:
How much TOTAL income (including stimulated
consumption) is generated from an initial injection.
The weaker the leakages, the stronger the multiplier.
Balance #3:
Offsetting Deficits
• In the economy as a whole, income equals
expenditure
• But for individual sectors, this may not be true
– Borrowing can finance spending beyond their income
• Across the economy as a whole, these sector
deficits will balance each other
• Implication: All sectors in the economy cannot
reduce their deficits at the same time
– That would cause a terrible recession
– Some sector(s) must be taking on new debt to create
enough demand to purchase all output
Offsetting Deficits
(p.286)
Class / Sector
Deficit
Workers
Spend more than their wages
Capitalists
Government
Invest (and consume) more
than their profits
Spends more than its taxes
International
Imports more than it exports
Total Economy
Sum of All Deficits = 0
Understanding the Road Map
•
•
•
•
We kept it simple, but ended up with a
complex, comprehensive picture of
modern capitalism
The central “engine” of the economy is
profit-seeking business investment
Other features round out the picture
–
environment, finance, government, world
–
but in many ways still fragile
End result: a capitalist system that is
diverse, complex, flexible
Capitalism’s Never-Ending
Roller Coaster
Defining the Terms:
When’s a Downturn a Recession?
• “Official” definitions:
– Recession: two consecutive
quarters of shrinking real GDP
– Depression: a very long, deep
recession
– Recovery: when real GDP stops
shrinking and starts growing
These definitions are very arbitrary:
Unemployment and poverty can grow even if GDP is still
growing. And merely having GDP rebound after a
recession is no guarantee that people will get better off.
How a Recession Starts
•
An initial downturn occurs, in some sector of
the economy
–
–
•
Reduces spending, production, employment in that
sector or region
Usually, that initial decline alone isn’t enough to
cause a recession in the whole economy
The chain-reaction from that initial decline is
what tips the whole economy into recession
–
–
Attitudes and spending decline in other parts of the
economy
The recession spreads and grows
How a Recession Spreads
Less
Investment
Less Production
& Employment
Less
Consumption
Less
Wages
Why Capitalism is
Vulnerable to Recessions
•
•
All economies can experience decreases
in output
But capitalism is uniquely vulnerable to
repeating, cyclical patters, for reasons
inherent in the system:
1. Profit-seeking business investment is
required to put the economy in motion
2. Workers need a job to pay for consumption;
consumption spending thus depends on income
3. Each investment reflects each company’s
judgment; there’s no planning or coordination
Specific Causes of
Economic Cylces
•
•
What caused that initial decline that started
the chain-reaction of recession?
It can start for many reasons:
1.
2.
3.
4.
5.
6.
7.
8.
Investment instability
Consumer sentiment (rare)
Supply shocks that affect many sectors
Monetary policy
Banking cycles
Financial instability / meltdowns
Globalization (trade deficit, investment flight)
Government spending cuts
Great Recessions of the Past
•
•
•
•
Dirty Thirties: 10 years of depression, due to
stock market meltdown and bad government
policy.
Volcker Shock: Advent of neoliberalism with
high interest rates in late 1970s sparked a
worldwide recession.
Japan’s Lost Decade: Meltdown of real estate
bubble was followed by a decade of stagnation
and deflation.
Global Financial Crisis: financial meltdown of
2008-2009 sparked first decline in global GDP
since end of World War II. How long will this
recession last?
How a Recession Ends
•
•
Sooner or later, optimism returns and
some sector of the economy starts
growing again
Then the chain-reaction that caused the
recession to spread, reverses direction:
–
•
•
Initial spending stimulates more production,
more wages, more consumption, and still
more spending
Eventually the recovery becomes broad
Government policy can accelerate the
recovery
Government
Counter-Cyclical Policy
•
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•
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Deliberate government action can offset the ups
and downs of the market
Fiscal policy: increase spending or cut taxes in a
downturn to stimulate spending, jobs
Monetary policy: cut interest rates and allow for
easier credit to stimulate spending
Discretionary policies require pro-active
government decisions
Automatic stabilizers help to smooth out cycles
automatically
On the other hand, government can make things
worse if it cuts its own spending during a
recession (eg. balanced budget laws)
Capitalism and Long Waves
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•
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In addition to shorter-run cycles in the economy
(2-3 years), there is evidence that capitalism
demonstrates longer-run waves (lasting a decade
or more).
These reflect more lasting swings in technology,
economics, and even politics.
Recent long waves include:
Great Depression: 1930s
Postwar “Golden Age”: vibrant expansion
Neoliberalism: initial contractionary effect, more
vibrant in 1990s
What comes next??? (after the GFC)
Session #12, Student Exercise:
Capitalism’s Fear Factor
• Think about all the different ways in which you
and your family experience economic risk and
insecurity under capitalism.
• Fill out a table summarizing your family’s
experience with unemployment and dislocation.
• Fill out another table listing the different ways
instability of the economic system affect workers
and their families.
• See www.economicsforeveryone.com for copies
of the full exercise set and instructions.
www.economicsforeveryone.com
© Canadian Centre for Policy Alternatives, 2009