A Marxist Guide to Capitalist Crises
“A Marxist Guide to Capitalist Crises,” an eBook created from the key posts on the Critique of Crisis Theory blog, is currently in production. We’ll be sharing the completed chapters between our regular postings.
Chapter 5
Disproportionality
Disproportionality was a popular crisis theory among Marxists of the Second International era that preceded World War I — from Engels’ death in 1895 to 1914. It is less popular among Marxists today, at least judging from the Internet, where the seemingly incompatible “not enough” surplus value or “too much” surplus value/underconsumptionist theories are fighting it out.
The various disproportionate production theories attribute crises to improper proportions among the different branches of production. If they do nothing else, these crisis theories raise the question of how the law of value regulates the distribution of social labor among various branches of production under the capitalist mode of production.
Disproportionality and the anarchy of production
The insufficient surplus value families of crisis theories can be divided into subgroups, such as profit squeeze, class struggle, and falling rate of profit brought about by the rising organic composition of capital. Likewise, the disproportionality school can be divided into two broad subgroups. One can be called the anarchy of production theory. The other emphasizes the disproportions between the two great departments of production, Department I, which produces the means of production, and Department II, which produces the means of (personal) consumption.
In this chapter, we will examine the anarchy of production. The necessary proportionality between Departments I and II involves the question of reproduction, which we will begin to examine starting with the next chapter.
Capitalist production is unplanned and anarchic. Each producer — industrial capitalist — works for their own account. Indeed, the key question that political economy had to answer once it became a science was how, despite the anarchy, the system achieved viable proportions among the different branches of production.
Each branch of production depends on other branches for essential inputs. A garment factory, for example, needs cloth, thread, sewing machines, electricity, and buildings. Indirectly, it also depends on the production of means of subsistence for its workers. Otherwise, there would be no labor power and, therefore, no surplus value.
Another example is that of computer manufacturing. Computers need circuit boards, circuit boards need chips, and chips need silicon and other metals. The industries that produce these inputs need their own raw and auxiliary materials.
Any modern economy is a complicated system of inputs and outputs. All branches of production depend on the production of the means of subsistence in the proportions adequate for the (re)production of labor power. Therefore, for production to continue, commodities must be produced in the proper proportions both in physical terms as well as, under the capitalist system, in terms of value.
Slight disproportionality will lead to crises in production. Beyond slight disproportionality, production and, with it modern society would disintegrate completely.
Law of value regulates proportionality through anarchy
Classical political economy realized that what was really involved was the need to assign the labor available to society at any given time in the proper proportions among the branches of production that produce the different material use values that are necessary to reproduce that society. This led the classical economists to the law of labor value.
Adam Smith, in his famous work “The Wealth of Nations,” first published in 1776, explained that the fluctuations of market prices around what he called natural prices regulate production in a capitalist economy. Smith, therefore, distinguished between market prices, which are the prices you pay for commodities, and the axes around which the market prices of commodities fluctuate.
Suppose a commodity such as shoes is produced in insufficient quantities. If shoes sell at their natural price or value, demand will exceed supply. Therefore, the market price of shoes will rise above the natural price of shoes — the rise in market prices being the market’s way of reducing demand to supply. However, a consequence of the rise of the market price of shoes above the natural price will be that the rate of profit that is yielded by capital invested in shoe manufacturing will now exceed the average rate of profit.
This rise in the rate of profit above the average rate of profit for capital invested in shoe manufacturing signals the capitalists that they are deploying an insufficient amount of society’s available supply of labor in the manufacture of shoes. Since each industrial capitalist is driven by the mutual pressure — competition — that they exert on one another to make a super-profit above and beyond the average rate, a growing number of capitalists will pour their capital into the shoe- manufacturing business.
Existing shoe manufacturing enterprises are expanded and new ones are established. As word spreads among unemployed workers that the shoe factories are hiring, they seek employment in the shoe manufacturing industry.
Eventually, too many shoes will be produced, and a crisis of overproduction will develop in the shoe-making industry. Shoe production now exceeds sales at existing prices, and inventories of unsold shoes begin to pile up. At this point, the shoe manufacturers must cut prices to levels below their natural price or value. Now, capital invested in shoe-making will yield a rate of profit below the average rate or even losses.
The existing shoe-making establishments curtail their output. A portion of the existing shoe-making factories close down for good, with their owners either going bankrupt or otherwise going out of business. A portion of the workforce engaged in shoe production is laid off and forced to seek employment in other industries that are hiring, where the rate of profit is above the average rate.
Eventually, shoe production falls below the demand for shoes at the existing market price. The price of shoes stops falling and starts to rise. The market price of shoes rises from below the natural price to above the natural price. Shoe production becomes not only profitable but super-profitable, and the cycle repeats.
The ever-changing conditions of supply and demand explain the fluctuations of market prices around the natural prices of commodities, but what determines the natural price itself? The answer that classical economists found, an answer that was developed most consistently by David Ricardo (1), was that value, or natural price, was determined by the quantity of labor that is socially necessary to produce a commodity of a given use value and quality under the existing conditions of production.
Contradictions in the classical theory of value and price
Classical political economy made no distinction between what Adam Smith called natural price and value. Smith’s successors sometimes substituted the term “cost of production” or “price of production” for Smith’s natural price. Marx, after some hesitation, finally settled on the term “price of production.”
This term is superior to “cost of production” because it distinguishes between the cost to the capitalist — the cost price — and the cost to society of the commodity — the price of production. The difference between the price of production and the cost of production is the profit. And behind profit, we know, lurks surplus value, the labor performed free of charge by the working class for the capitalists, landowners, and other exploiters.
In Volume III of Capital, Marx explained how commodity values are transformed into prices of production. A commodity sells at a price that directly expresses its value when the commodity whose value is being measured and the quantity of money material that measures this value in its own use value is produced on average by equal quantities of abstract human labor. Anwar Shaikh (2) calls such prices direct prices.
Marx explained that the value of a commodity must always take the form of exchange value. The exchange value form means that value is not directly measured in terms of a quantity of abstract human labor — though that is the essence of value — but rather in terms of the use value of another commodity — the form of value.
A great deal of confusion, however, has been generated by the claim made by bourgeois economists that as a result of the demise of the Bretton Woods System between 1968 and 1973, the paper U.S. dollar has replaced gold in all its monetary functions, including its most important one — the universal measure of the value of commodities. Unfortunately, this claim has been accepted by many Marxists. In light of this situation, I think that it is necessary to replace the term “a commodity selling at its value” with the more precise term of a commodity “selling at its direct price.” In this way, we keep in mind the distinction between value measured in terms of some unit of time and price — the form of value measured in terms of some measure of the weight of gold. The use value of gold is measured by some unit of weight.
Saying that a commodity sells at its direct price is, in my opinion, superior to the more traditional terminology of saying that a commodity sells at its value.
In Marxist economics, the term value always refers to a specific quantity of abstract human labor which is measured in some unit of time. However, we cannot carry around a quantity of abstract human labor in our pocket, nor for that matter, can quantities of abstract human labor be stored in the vaults of Fort Knox.
Value must always take the form of exchange value that is expressed in the use value of another commodity. In a capitalist economy, this means that the value of commodities must be expressed in terms of the use value of the money commodity. For example, the exchange value of commodities must be expressed in a quantity of gold bullion in terms of a unit of weight. Once a money commodity emerges, exchange value becomes price. Price being a specific quantity of gold — assuming gold is the money commodity — measured in terms of some unit of weight. Therefore, at any point in time, price represents a definite quantity of abstract human labor measured by some unit of time.
MELT a common mistake
In pricing commodities, money functions as money of account. It is not physically present. Let’s assume that a pair of earphones has a price of 20 U.S. dollars. A common mistake that Marxist economists make is to assume that the value of the $20.00 is determined by the value of the earphones. According to this flawed reasoning, it is assumed that if the earphones represent x amount of hours of labor, the $20.00 also represents x amount of hours of labor. This faulty view is called the monetary equivalent of labor or MELT. If that were true, the price of earphones would always equal the value of the earphones.
But in reality, the $20.00 represents a counter-value to the value of the earphone that is potentially unequal to the value of the earphones. Indeed, Marx stressed in many places that price and value are almost never equal. If the quantity of abstract labor represented by the earphones is equal to the quantity of abstract labor represented by the gold that the $20.00 represents on the open market, then the price of earphones equals the direct price of the earphones.
Therefore, it is perfectly possible, and indeed, it is almost always the case for the quantity of abstract human labor represented by a commodity and the quantity of abstract human labor represented by its price to be unequal. If this were not the case, commodity production, in general, and capitalism in particular, would be impossible since capitalism is nothing but generalized commodity production where labor power itself is a commodity. As we have seen, it is only through the deviation of the value of the prices of commodities from the value of commodities that make it is possible for the industrial capitalists who work for their own private account to “know” when “too much” of the total labor available to society is being applied to produce a given type of commodity and when too little is being applied.
A variant of MELT is to imagine that the prices of individual commodities can differ in their values while the value of the sum of prices must at all times be equal to the value of the commodities. Commodities as a whole, therefore, act as a kind of collective counter-value to a specific commodity. This view is also false. It is perfectly possible for the sum of the values of the total quantity of commodities to differ from the sum of the total values of all prices.
When we say a commodity sells at its direct price rather than the more traditional expression of a commodity sells at its value, we are reminding ourselves of these facts. A commodity sells at its direct price when the hours of abstract human labor necessary to produce a given commodity with a given use value and quality under the prevailing conditions of production is equal to the value of the quantity of money — a given weight of gold bullion — that it sells for.
Different types of prices
As we will see, direct price is only one type of price. In addition to the direct price, we have prices of production that are defined as the prices that commodities must sell at if capitals of equal size are to realize equal profits in equal periods of time. Then, there are market prices, which are the prices at which a given commodity actually sells. There are monopoly prices that make it possible for some favorably situated capitalists to make an additional profit above and beyond the average profit.
It would be only by the rarest exception that the price of production or market prices will equal the direct price. What all these prices have in common is that they are comparing the quantity of abstract labor that a given type of commodity represents with the quantity of labor that a given weight of gold bullion represents.
If commodities sold at their direct prices, this would mean that branches of industries with above-average organic compositions of capital or with above-average turnover periods of their variable capital — like fine wines that have to be aged over many years in oak barrels — will yield to their owners in a given period — say a year — a below-average rate of profit.
The converse will be true in those industries that have a below-average organic composition of capital or faster-than-average turnover periods for their variable capital. Therefore, there appears to be a contradiction between value — Smith’s natural price — being determined by the quantity of labor that is socially necessary to produce a commodity under the given conditions of production and the tendency of competition to equalize the rate of profit among all branches of production so that capitals of equal values earn equal profits in equal periods of time.
If rates of profit are to be equalized among the various branches of production, prices of production in branches of production with a higher-than-average organic composition of capital or a slower-than-average period of turnover of variable capital must exceed direct prices. Conversely, those industries with a below-average organic composition of capital or a faster-than-average turnover period of their variable capital, must have prices of production that are below their direct prices.
Because it failed to distinguish between prices of production as a form of value and value itself, classical political economy was unable to solve this apparent contradiction between the determination of the value of commodities by the quantity of labor socially necessary to produce them and the tendency of competition to equalize the rate of profit.
In fact, prices of all kinds, including prices of production, are different than values. Values are definite quantities of abstract human labor embodied in commodities measured in terms of some unit of time. Prices of all kinds, market prices, cost prices, and prices of production are measured in terms of the use value of the commodity that serves as money — for example, a weight of a precious metal such as gold. This confusion between value and price of production was one of the factors that led to the dissolution of the Ricardian school, as Marx explained in his Theories of Surplus Value.
To solve many problems in economic theory, especially the nature and the origins of surplus value, it is necessary to either calculate directly in terms of values — quantities of abstract human labor — or in terms of direct prices. “I repeat,” Marx explained, “therefore, that normal and average profits are made by selling commodities not above, (Marx’s emphasis) but at their real values (emphasis Marx’s).” Or using our preferred terminology at their direct prices.
Also, notice that one commodity, the money commodity, has no price. The money commodity measures in terms of its own use value the value of all other commodities. Its value, in turn, is measured successively by the use value of all other commodities. The money commodity, therefore, has an expanded relative form of value, as Marx called it in Chapter Volume I of Capital, but it does not have a price.
In contrast, all schools of vulgar economics begin not with the assumption that prices equal direct prices but rather with the assumption of equal rates of profit in equal periods of time among the different branches of production — that is, that market prices, the prices you pay at the grocery store — are equal to the prices of production.
Illusions created by the equalization of the rate of profit and the transformation of values into prices of production
The transformation of values and direct prices into prices of production gives rise to a series of illusions. It seems to the capitalists and their vulgar economists that constant capital creates surplus value, just like variable capital. Ricardo’s opponents used the inability of either Ricardo or his supporters to explain the apparent contradiction between the law that determines the value of commodities by the quantity of labor socially necessary to produce them, on the one hand, and the tendency of competition to drive the economy to a point where capitals of equal value yield equal profits in equal periods of time, on the other, to bury the whole concept of labor value once and for all.
This was a great relief to the vulgar economists who were the hired guns of capital since the law of labor value inevitably led to the concept of surplus value as labor performed free of charge by the workers for the capitalists and other exploiters. It exposes capitalism as a system of exploitation, just like chattel slavery and feudalism before it.
If you begin with prices of production, it appears that capital, labor, as well as land, all produce value. The way was opened up for the marginalists, who claim that each factor of production produces “income” according to the value of its marginal product. The marginalists were then able to produce mathematical models that “show” how labor produces its wage, capital produces “interest,” and land produces ground rent. The founders of modern marginalist bourgeois economics, the neoclassical school, then claimed that assuming free competition — no “monopolies” like trade unions, for example — no factor of production can exploit another factor of production. This is the doctrine still taught to university students today.
The debates carried out between the supporters and opponents of the Ricardian theory of value in the 1820s and 1830s still echo in our own time. Today, so-called “neo-Ricardians” — generally left-wing Keynesians — claim that Marx’s solution to the transformation problem — the transformation of values into prices of production — is wrong and that the law of labor value, and with it, Marx’s concept of surplus value, is invalid. The mistake of the neo-Ricardians is that they don’t understand the relationship between labor value, on the one hand, and the form of value which is exchange value or price.
Essentially, the neo-Ricardians confuse Marx’s perfected law of labor value with Ricardo’s more primitive and contradictory version of the law of labor value. Since the neo-Ricardians don’t understand Marx’s law of value, they are attacking what is largely the pre-Marxist Ricardian version of the law of value as a kind of straw man. The rather misnamed “neo-Ricardians” end up repeating the arguments made by Ricardo’s opponents in the 20s and 30s of the 19th century, imagining they are demolishing Marx’s law of value. Their only real advance over Ricardo’s early 19th century opponents is their mathematical formalizations, which impress the “non-mathematical” public. As Anwar Shaikh showed in The Poverty of Algebra (3) Marx anticipated virtually all of their arguments.
To better grasp how the law of (labor) value regulates the division of labor among the various branches of production originally analyzed by Smith, let’s reshape the argument in the more precise language of Marx. Unlike Smith, we must not confuse the value of a commodity — abstract human labor embodied in a given commodity of a given quality under given conditions of production — with its value form — the amount of money material measured in the appropriate use value that it exchanges for under “average” market conditions. The latter is the price of production of the commodity, not its value.
Suppose a particular commodity is produced in less than the quantity necessary for the reproduction of capitalist society — not, of course, the absolute needs of every individual member of society, which is a different thing entirely. The market price will rise above the price of production. The capitalists in that branch of production will realize a super profit, a rate of profit above and beyond the average rate of profit.
These super-profits will attract additional capital, just as Smith explained. Capitalists, driven by the pressure of competition to seek the highest possible rate of profit, crowd into the given branch of production. Production of the commodity in question will then increase until the market price drops to and then below the price of production.
Once the market price falls below the price of production and remains there for a while, capital begins to flow out of that branch of production towards branches of production where market prices exceed production prices. In the real world, capital is always moving from branches of production where profits are below average — or sometimes even negative — to branches of production where prices are above the price of production and profits are above average. Individual capitalists are not seeking the average rate of profit; they are seeking to maximize their profits. However, the individual capitalists as a whole, over time, can only make the average rate of profit.
Law of value works through minor crises
It should now be clear that capitalist production can only exist through constant overproduction and underproduction among the various branches of production. A situation where capitalist production is in equilibrium, where market prices of all commodities coincide with their prices of production, never occurs in practice.
It is extremely rare for any market price to coincide with its price of production. Indeed, to compute what the price of production of a given commodity is, we have to assume that all its inputs, as well as the means of substance that are consumed by the workers who produce inputs for that particular commodity, all sell at their own prices of production. Instead, capital is constantly flowing from branch to branch, flowing out of branches that are experiencing overproduction — which is made known to the capitalists by its below-average rate of profit (or even outright losses) — and toward branches that are experiencing underproduction, which expresses itself to the capitalists as branches of industry where the profit rate is above the average. Workers are being laid off in industries where market prices have fallen below the price of production and are being hired in other branches of production where market prices have risen above the price of production and super-profits are being made.
We see that crises of overproduction are indeed necessary for the very existence of capitalism. But these crises of overproduction are partial crises, the kind of crises that are allowed even by Say’s law. These partial crises of overproduction are accompanied by offsetting partial underproduction of commodities that set in motion the flow of capital from branches of production with below-average rates of profit to branches of production with profit rates above the average.
Over time, production is kept on average in line with the actual needs of capitalist society for material use values produced in proper proportions — needs that are themselves in constant flux so that an appropriate distribution of the total quantity of labor measured in terms of time among the different branches of production is achieved.
The problem for crisis theory is to explain how these partial crises of overproduction, without which capitalism could not exist, relate to the crises of generalized overproduction that break out at quasi-regular intervals once capitalism achieves a sufficient level of development.
The industrial cycle can be empirically divided into the crisis that marks the end of one industrial cycle and the beginning of another that gives way first to the depression or stagnation phase, then to average prosperity, and finally, the phase of boom that precedes the next crisis. During the phase of average prosperity, capitalist production will present a picture of overproduction crises in some branches offset by underproduction — super profits — in other branches. It is at this point in the industrial cycle that market prices are closest to production prices, though even then, they will never completely coincide.
During the boom phase that follows average prosperity, market prices rise above the prices of production in most branches of production so that the rate of profit averaged across industries is above the long-term general rate of profit.
Under boom conditions, older high-cost factories will tend to make the average rate of profit, postponing their eventual closure, while new state-of-the-art factories make super-profits. After the next crisis, these newer factories become the new norm, making only the average rate of profit, while the older factories make losses and are shut down.
It is important to realize that the concept of the average rate of profit doesn’t simply mean a mathematical average of the individual rates of profit of the industrial capitalists engaged in various branches of production at any given point in time. To arrive at the average rate of profit, individual rates of profit must be averaged across a series of both good and bad years to include an entire industrial cycle.
Partial and general crises of overproduction
One thing that should be kept in mind is that the capitalists don’t realize that a disproportion in production exists until it is signaled through changes in prices, and what really interests them is relative rates of profit. Such signals don’t appear until the disproportion in production has already started. Therefore, industrial capitalists are always responding after the fact to the ever-changing demand for the commodities they produce.
While most of the commodity dearths and gluts that emerge from the daily anarchy of capitalist production are minor, it must be remembered that minor is a relative concept. If you are a shoe worker who is laid off due to a “minor” overproduction of shoes, the crisis may not be so minor to you and your family. In addition, when the anarchy of capitalist production interacts with the forces of nature, crises of disproportionality may no longer be so minor. They can take on a character that shakes capitalist society to its foundations.
Raw materials prices and economic fluctuations
In Volume III of Capital, Chapter 6, Marx discusses the important role that changes in raw materials production and prices play in economic fluctuations. Indeed, one theory of crises stresses the periodic underproduction of raw materials relative to finished goods. In the concrete history of industrial cycles, high prices and shortages of raw materials relative to finished goods are signs of an approaching general crisis.
Agricultural raw materials
In industry, a rise in market prices above the prices of production, assuming a certain amount of excess capacity exists, which is often the case, will lead quickly to an increase in production. However, the same isn’t true in agriculture. The natural conditions of production in agriculture generally dictate that the planting occurs at a specific time of year. Decisions by the farmers on how much of a given crop they attempt to produce, therefore, are made at planting time.
If market prices then rise due to an unforeseen rise in demand, it might take as much as a year before production can be increased. During that year, a sharp rise in the price of agricultural raw materials such as cotton could put severe pressure on the profits of the industrial capitalists who use cotton as a raw material — for example, the spinners who use cotton as a raw material to manufacture cloth. This also applies to agricultural products that enter directly into workers’ consumption.
For example, if after the planting season for grain has passed, an unexpected industrial boom begins, the industrial capitalists will expand the number of workers employed. This will increase the demand for food, for which grain is a raw material, causing food prices to rise. But there will be no opportunity to increase grain production until the following planting season.
Such a rise in grain prices will drive up food prices in general — grain is also used to feed cattle and is, therefore, a raw material in meat and leather production. Rising food prices put upward pressure on money wages, even if real wages remain unchanged or even fall. The rise in money wages, in turn, squeezes industrial capitalists’ profit margins.
In addition, unlike in manufacturing, the conditions of production in agriculture are dependent on weather conditions that vary considerably from year to year. Even if farmers plant the right amount, bad weather — for example, a drought or a spring frost, or untimely rains — might lead to a considerable shortfall in crops across the board, both of which enter into the wages of workers and those that function as industrial raw materials.
One historical example was the disastrous potato blight that hit Ireland in 1846. This not only led to widespread famine and depopulation on the island but also caused violent price fluctuations. First, a great rise in agricultural prices led to speculative demand that drove prices even higher as merchant capitalists bought up food commodities and withheld them from the market, waiting for prices to rise still higher. The speculation was then followed by a price crash when the better harvests of 1847 led to the realization by the capitalist merchant speculators that prices had peaked, causing them to suddenly dump all their hoarded commodities at once on the market with the hope of selling off their inventories before prices fell even more.
This dragged down many commercial houses engaged in the trading of agricultural commodities. The bankruptcy of these houses and the credit crisis that it helped cause played an important role in the economic crisis that hit Britain in October 1847 and then spread around the world, leading to the revolutions of 1848 in many European countries.
Disproportionate production in the extractive industries
In the extractive industries — mining, oil, natural gas, and so on — the levels of production are determined not simply by the immediate decisions made by the industrial capitalists on a day-to-day basis as prices and profits fluctuate. Levels of production also depend on long-term exploration for new supplies of ores, oil, coal, and natural gas, which are created by the processes of nature, not human labor.
If raw material prices are low for a prolonged period — which is usually the case in the wake of major economic downturns — exploration budgets are cut. Then, if demand for mineral and energy raw materials suddenly rises due to the onset of an economic boom, it is difficult to quickly increase production sufficiently to meet the suddenly expanded demands of industry. The result will be soaring raw materials prices, which means super-profits for the raw materials producers but cuts into the profits or even wipes out the profits of large sectors of capitalist industry.
Eventually, the super-profits — profits above the average rate of profit — in the extractive industries lead to big increases in the exploration budgets for new sources of raw materials, as well as the application of new technology to find additional sources of raw material or make better use of existing sources — for example, digging deeper mines.
This rush of investment and exploration, however, tends to hit the market just as demand for these raw materials is peaking or past its peak, leading to a collapse of prices and profits in the extractive industries once again. This then leads to cuts in long-term exploration budgets of industrial capitalists in these branches of production. These successive swings of over- and under-investment in raw and auxiliary materials production have major impacts on economic activity across the board.
In addition, there is always the danger that the depletion of mines, oil wells, sources of natural gas, and so on can lead to disproportionate production. Suppose that due to the depletion of oil fields, the production of oil is peaking. Society will have to find other ways to produce energy — either tar sands, coal, hydroelectric, nuclear fission (or maybe in the future nuclear fusion), biomass, solar, wind — whatever will yield the highest rate of profit to the industrial capitalists.
However, huge amounts of capital are tied up in oil refineries. Try as you will, an oil refinery cannot be used as a nuclear power plant, to generate energy directly from the sun, or to serve as a wind farm. If the movement of prices and profits indicates to the industrial capitalists that the depletion of the world’s oil fields has proceeded so far that drilling oil is no longer profitable, a major crisis for those industrial capitalists will occur.
If this happens, oil refineries will lose their material use value, oil refining, and therefore no longer function as capital. They will have to be scrapped, and these industrial capitalists will lose huge amounts of capital and face the strong possibility of bankruptcy. In the event of major bankruptcies among oil refinery owners, their creditors might very well be dragged down with them. If these creditors are major banks that function as pivots of the credit system, the crisis could spread to the sphere of credit, affecting many other branches of industry and commerce.
The effects of oil field depletion might not end there. The shortage of oil and the consequent rise in the price of gasoline would cause consumers to shun the kind of gasoline-consuming monsters traditionally favored by the Detroit-based auto manufacturers.
This is exactly what we saw during the inflationary 1970s and again during the speculative surge in oil prices that preceded the 2008 crash. Much of the value of the capital invested in factories that produced these gasoline-guzzling machines had to be written off. Many factories had to be closed down, and their workers laid off. The crisis for the automakers affected many other branches of production that depend on them for customers, such as auto parts makers.
A concrete historical example
Let’s examine how a major economic crisis can emerge from disproportionate production. Instead of giving an abstract example, let’s examine an actual historical crisis, the one that followed the Napoleonic wars — called by Marx the anti-Jacobin wars — in the years after 1815.
This economic crisis sparked a great debate about the possibility of a general glut of commodities between Sismondi and Malthus on one side and Say and Ricardo on the other. After years of war and high military spending, England’s victory in the world war that followed the French Revolution led to a sudden and considerable curtailing of military spending.
Factories that had been manufacturing arms and uniforms suddenly found themselves without orders. On top of this, there was a run of disastrous weather caused by a drop in global temperatures that is believed by scientists today to have been caused by the eruption of Mt. Tambora in Indonesia in April 1815, which temporarily reduced the sunlight reaching the earth’s surface.
The year 1816 has gone down in history as the year without a summer. Crops failed throughout North America and Europe due to abnormal rains and summer frosts. Though 1816 was the worst year, bad weather and crops continued for some years. The disastrous weather led to real famine in Europe and North America, sometimes called “the last great subsistence crisis in the Western world” (4) if you overlook the Irish potato famine of 1846.
The world capitalist economy was, therefore, hit by two major shocks. The end of the prolonged period of war meant that too much of society’s available labor was deployed in the war industries compared to the quite different needs of capitalist society in “peacetime.” At the same time, there was a massive underproduction of agricultural commodities due to disastrous weather. People had to pay a lot more for food and, therefore, had a lot less money left over to spend on commodities produced by other industrial capitalists.
The result was that commodities piled up in warehouses unsold. Workers faced layoffs not only in war industries caused by the outbreak of “peace” but also in other industries because the “price-shocked” population could no longer afford to buy what was being produced. Peace, famine, and depression marched hand-in-hand.
It was in the middle of these disturbances that Sismondi published his Nouveaux Principles, in which he expressed the belief that capitalism was producing “general gluts” of commodities.
Ricardo on the crisis
According to Ricardo, the post-1815 economic crisis was caused by a “sudden change in the channels of trade” brought about by the end of the prolonged war.
This crisis was caused by what bourgeois economists today call “external shocks.” For example, the unseasonable summer rains and frosts would have led to major crop failures even if another mode of production than capitalism had been in place. Crises such as this are not only not general overproduction crises — in 1816, it was a general overproduction of manufactured items and a general underproduction of agricultural commodities. In addition, this crisis involved accidental factors such as unusual weather patterns caused by a volcanic eruption, combined with the end of the prolonged world war that followed the French Revolution.
The end of the war brought about a “sudden change in the channels of trade,” as Ricardo put it. In any pre-capitalist mode of production, a major crisis would also have occurred due to massive crop failures. Even for a socialist economy, a natural disaster affecting large areas of the globe, such as occurred in 1816, might be a challenge. Therefore, Ricardo and Say were able to claim against Sismondi and Malthus that in the absence of “an external shock” to the economic system, a general economic crisis or glut of commodities could never occur.
But the quasi-regular succession of what began with the crisis of 1825 and continues down to the present day implies that most crises since then are not mere accidents but rather arise from some regular recurring pattern that arises from within the capitalist economy. Even in the absence of outside shocks, capitalism still experiences crises of the general overproduction of commodities at about 7- to 11-year intervals. Therefore, these periodic crises of general overproduction are not accidents, though all real-world crises are influenced by accidental factors.
The crisis of 1825 was a new type of crisis
If we look at the concrete history of business and trade before 1825, we find years of bad trade and high unemployment were generally accompanied by bad harvests. When the harvest was bad and food prices were high, most people, except for the very rich, simply didn’t have the purchasing power to buy manufactured commodities that they had bought in good years when food prices were low.
While the trend line of business was far from smooth, and years of recession and higher-than-usual unemployment occurred, the fluctuations were tied to alterations of good and bad agricultural years. Early capitalism’s economic crises were not caused by a general overproduction of commodities but rather by an underproduction of agricultural commodities. They can be traced back to causes external to the capitalist economy, such as bad weather causing crop failures.
The crisis of 1825 versus the crisis of 1815–1816
The crisis of 1815-16, which is the last of the “old type of crisis,” was traceable to the sudden reduction of military spending at the end of the Napoleonic war, followed by the 1816 “year without a summer” and the resulting harvest failures. In contrast, the crisis of 1825, according to Wikipedia, “has been referred to as the first modern economic crisis not attributable to an external event, (emphasis added -SW) such as a war, and thus the start of modern economic cycles.” If we can find no external cause for the crisis, it must be internal to the capitalist economic system.
Though changing levels of production and prices of agricultural commodities and other raw materials continued to play an important role, drops in industrial production were observed at the end of both World War I and World War II that were clearly associated with the end of wartime military spending, crises from 1825 onward are not so closely associated with harvest failures. Instead, the new type of economic crisis follows periods of exceptional prosperity — booms — in capitalist industry.
Crises, both crises of overproduction of some commodities backed up by crises of shortages of other commodities, occur on a virtually daily basis under the capitalist mode of production and appear to be random, accidental events. Indeed, without these daily partial gluts and partial dearths, the law of value could not function, and therefore, capitalism could not exist at all. Even Say admitted as much.
But how do general crises of overproduction emerge as part of a regularly recurring pattern from the anarchy of production? Many Marxists have tried to answer this question by looking not at the accidental daily gluts and dearths of particular types of commodities but rather at the relationship between the two main departments of production as defined by Marx — Department I, which produces the means of production, and Department II, which produces the means of consumption. This brings us to the question of reproduction.
(1) Adam Smith was already well aware of what is called today the “transformation problem.” The “transformation problem” refers to the contradiction between the view that the exchange value or natural prices of commodities are determined by the quantity of labor that is, on average, necessary to produce them and the tendency of competition to equalize the rate of profit between the various branches of production so that capitals of equal size earn equal profits in equal periods of time.
Smith denied the existence of constant capital, reasoning that if you go back far enough, all capital could be reduced to what the 20th-century economist Piero Sraffa (1898-1983) called “dated labor.” Therefore, according to Smith, all capital is in the final analysis of what Marx called variable capital. However, Smith was well aware that capitals in different branches of production had different turnover periods.
Smith’s “solution” to the transformation problem was to assume that the determination of exchange value by the quantity of labor socially necessary to produce a given type of commodity applies only to simple commodity production.
Under capitalist production, a different law must determine exchange value. Smith wavered in exactly what the law that determines exchange value under capitalism was. In some places, he said it was the “labor commanded” — the amount of variable capital that it could purchase — by a commodity that determined its exchange value, and in other places, he assumed that a commodity’s exchange value could be determined by adding up the three types of revenues — wages, profits, and rent — that are paid out of the proceeds its sale.
Ricardo, though not unaware of the “transformation problem,” was guided by his extremely logical mind to always seek simple, logically consistent answers. He thus upheld the view that the exchange value of commodities was determined solely by the quantity of labor socially necessary to produce commodities not only under simple commodity production but under capitalism as well. He admitted that he could not explain the apparent contradiction between his law of labor value and the equalization of the rate of profit brought about by competition but believed that the answer would eventually be found. See “The Disintegration of the Ricardian School” in Marx’s Theories of Surplus Value: https://www.marxists.org/archive/marx/works/1863/theories-surplus-value/ch20.htm (back)
(2) Marx’s Theory of Value and the ‘Transformation Problem,’ Anwar Shaikh (back)
(3) The Poverty of Algebra, Anwar Shaikh (back)
(4) See the book with this title, The Last Great Subsistence Crisis in the Western World, John D. Post, Johns Hopkins University Press, 1977. (back)
A Critique of Crisis Theory 