On July 21, President Joseph Biden announced he was dropping his reelection campaign. He endorsed his vice president, Kamala Harris, as the next Democratic nominee for president of the United States. Top leaders are rallying behind Harris to stop any challenge from another Democrat.
The closest thing to this in modern history was President Lyndon Johnson’s announcement that he would not be a candidate for the Democratic presidential nomination for the 1968 election. In June 1968, the leading candidate, Senator Robert F. Kennedy, was assassinated. This led to the nomination of Johnson’s vice president, Hubert Humphrey, who lost to Richard Nixon.
Due to his advanced age, Biden was originally supposed to serve only one term, but somewhere along the way, he decided to run for a second. The Democratic Party seemed ready — with little opposition from its leaders — to nominate him at its national convention, scheduled for August 19 through 22 in Chicago.
Biden has problems beyond his 81 years. Since Israel’s Gaza genocide began last October, the Biden administration has done little to restrain it, on the contrary, sending billions of dollars to finance the genocide. It’s provided weapons, including 2,000-pound bombs. The massive bombing destroyed the bulk of what was Gaza’s housing stock, hospitals, and schools. It also involves a starvation policy cutting off food and water, causing infectious diseases — especially harmful to the very young and the elderly — taking many lives, though the total number is unknown.
Between October 7 and the end of June, waves of protests swept campuses, and hundreds of thousands demonstrated in Washington, D.C. Not since 1968 has an incumbent Democratic resident faced such mass opposition.
We know what happened in 1968. Johnson dropped out of the race, and Republican Nixon was elected president. The war against Vietnam and other peoples of Indochina dragged on for years, with millions of people killed. There were mass demonstrations against the war throughout the world. The year 1968 saw the assassinations of Martin Luther King, Jr., and then Robert F. Kennedy.
Biden’s final downward spiral begins
On June 27, Biden debated Donald Trump. The so-called debates do not involve serious discussions of policies but rather engage in political demagoguery. At times, Biden seemed totally out of it, stating at one point, “We beat Medicare.” Speculation mounts that he is suffering some sort of progressive dementia.
Democrats had second thoughts about his candidacy. Already gravely weakened by defections of young people — and some not so young — as a result of his support of the Gaza genocide (earning him the Genocide Joe nickname), he now faced defections from those who believe he doesn’t have the physical or mental strength to run the White House for another five years.
At the debate, the 78- year-old Trump, though his usual vicious lying self, appeared to be in command of his faculties. Relative to Biden, he appeared to be a robust and commanding leader.
The Gaza genocide hasn’t hurt him because, though generally supportive of it, it hasn’t happened on his watch — yet. Trump is not dependent on the votes of Arab and Muslim Americans in the way Biden is.
The Democrats had a new fear. If Biden ran, he could lose by such a large margin that Democrats could lose seats in Congress, state legislatures, governorships, and other offices. The Party of Order, made up of leading Democrats and Republicans who have dominated policymaking since the U.S. emerged as the seat of a world empire after World War II, saw their last hopes of preventing Trump’s triumphant return to the White House melting away.
The big money tells Biden it’s time to go
As July began, more Democratic politicians demanded Biden withdraw. Of decisive importance was the decision of wealthy donors to withhold their money. In a capitalist society, the people with the money have the final say. Behind the scenes, powerful politicians such as former President Barack Obama and former Speaker of the House Nancy Pelosi pressured Biden to withdraw.
As Biden entered the final downward spiral of his long political career in the service of finance capital, Trump was shot at a Pennsylvania campaign rally on July 13. The bullet grazed his ear, doing little damage, but could have killed him only days before the July 15-18 Republican Convention nominated the convicted felon as its candidate.
Trump has many enemies, some in high places, and is despised by perhaps most people in the U.S. The shooter has been identified as a 20-year-old white man named Thomas Matthew Crooks. Crooks, killed immediately by Trump’s Secret Service bodyguards, was a registered Republican. Why a young Republican with an interest in science and technology and reportedly right-wing political views with a bright future ahead of him wanted to assassinate the Republican presidential candidate is presently unexplained.
Some rally attendees, noticing Crooks on a rooftop with a rifle, tried to get the attention of police, but both local and federal cops failed to take action until Trump was almost killed. Another rally attendee died from a bullet presumably fired from Crooks’ rifle.
Marxists are opposed to individual terrorist attacks on even the most notorious political figures. The evils of capitalist society and the incredible crimes capitalists commit stem not from individual leaders but from the fundamental contradictions of the capitalist mode of production.
By producing noxious political figures, capitalist society encourages some to commit acts of individual terrorism. These individuals wrongly believe that removing a particular political figure can remove at least some of the evils of capitalist society. The results of such assassinations, whatever the motive, are reactionary.
If the bullet had killed Trump — that could have easily happened — we can be sure that another political figure would take his place. After all, Trump is an old man, so his departure from the political scene will happen soon anyway.
The July 13 attack strengthened Trump. As blood ran out of the superficial wound on his ear, Trump raised a clenched first salute and yelled to the audience, “Fight!” This performance contrasted his image as a strong, decisive, and fearless leader even more strongly with that of a senile Biden unable to put two sentences together. After the attack, all remaining hope of the Party of Order that Biden might triumph over Trump vanished. Biden had to go.
The current crisis of leadership of U.S. imperialism reflects a more profound process: the decline of a social system — capitalism — in its monopolistic phase. It increasingly offers no solutions for the problems that confront us. The world needs new leadership, not only new individual leadership but in a more profound sense.
The world needs new leaders of another class, the working class. The working class can solve the problems confronting us as a species, such as creating a new energy system to meet our material needs and end the increasingly dangerous problem of global warming.
In this blog, I am especially interested in capitalism’s economic contradictions. There are parallels between the late 1960s and 1970s and today’s situation.
Then, as now, the global capitalist economy totters between accelerating inflation and deep recession. While realizing that no two economic or political situations are identical, what happened then gives us clues on what likely lies ahead. This month, I’ll examine what happened with the bottoming of the 1973-75 recession in March 1975 and the appointment of Paul Volcker to the chairmanship of the Federal Reserve System in August 1979.
The most important event of 1975 was the victorious end of Vietnam’s long struggle against U.S. imperialism. On April 30, Saigon was liberated and became Ho Chi Ming City. Just beforehand, the 1973-75 economic crisis had bottomed out. From March 1975 onward, economic activity began to rebound.
Though the immediate crisis was over, both unemployment and inflation were still elevated. In 1975, the official rise in the cost of living rate was 6.90%, while in 1976, it was still at a high of 4.90%. Official unemployment peaked at 9% in May 1975 and still averaged 7.8% in 1976.
In the past, a recession of the scope of 1973-75 — and even a milder one — would stop inflation and lower prices. For workers, the crisis was far from over; their standard of living was under pressure from mass unemployment and inflation. Between the end of World War II and the early 1970s, capitalists lived in fear of a repeat of the 1930 Great Depression. Today, there is still fear of a new Depression but with a return of the stagflation that combines mass unemployment with high inflation and interest rates.
The year 1976 was an election year. The Republicans ran Gerald Ford, a former Michigan Congressman chosen by Nixon and confirmed by the Senate, to replace his disgraced vice president, Spiro Agnew. The Democrats nominated Georgia Gov. James (aka Jimmy) Carter. Carter was the last Democrat to carry the formerly Jim Crow/slave states that helped him carry the popular vote and the electoral college. His victory is usually attributed to Gerald Ford’s pardoning Nixon for any crimes he may have committed as president. But, the still weak economy and the fresh memory of the vicious recession doubtless played a big and decisive role.
Carter was sworn in as president on January 20, 1977. The success of his presidency largely hinged on whether the falling trend of inflation and unemployment that began in 1975 could be maintained.
Franklin Roosevelt was sworn into the presidency on March 4, 1933, the nadir of the Depression. Though unemployment remained at double digits throughout his two peacetime terms, the general trend was upward, except for the sharp, brief 1937-38 recession.
If the economic indicators had continued to improve, the Carter administration might have been considered a success from the viewpoint of U.S. monopoly capitalism/imperialism — like Roosevelt’s — and Carter would have probably won a second term.
But that wasn’t to be. Let’s examine why.
After World War II, the market prices of commodities measured in gold terms had stayed above the price of production for an extraordinarily long time due to the accelerated rate of the accumulation of money capital in the form of gold that occurred during the Depression years combined with stagnation in the accumulation of real capital. (1)
WWII again drove golden prices of commodities above the prices of production, though less than WWI. When WWI broke out, prices were already above the price of production — we know that because of the stagnation in gold production on the eve of the war. The market prices of commodities then radically increased due to the war. The rise in market prices above the prices of production, to an extent unprecedented in the entire history of capitalism, sharply depressed gold production. After the deflationary recession of 1920-21, the gap between the market prices and the prices of production of commodities was considerably reduced but hadn’t disappeared altogether.
Gold production increased somewhat but remained below the levels before World War I. This was at a time when prices were higher than before World War I, and the production of commodities in terms of use values was higher, as was the circulation of commodities. So, more money was needed to circulate commodities throughout the capitalist world, but less money material was being produced to support the rising circulation of commodities than before World War I. This is the fundamental reason the Depression of the 1930s was so extreme compared to all other depressions in history.
The Depression reduced the golden prices of commodities below their production prices. This again simulated gold production, which had been stagnant during the 1920s but increased during the Depression decade. As the accumulation of real capital flat-lined, the accumulation of money capital in the form of gold bullion accelerated. The stagnation o of real capital combined with the accelerated accumulation of money capital caused interest rates to decline to the lowest levels in the history of the capitalist mode of production up to that time. This is the situation that precedes a sudden expansion of the market. Therefore, the post-war economic upsurge proceeded according to the economic laws that govern the capitalist mode of production.
After World War II, these trends reversed. The accumulation of real capital surged, while the accumulation of money capital in gold slowed down. Since the accumulation of real capital progressed faster than that of money capital, interest rates reversed direction. In 1946, they began to rise.
However, the rise in interest rates started at a very low level, and the increase was gradual because of the great excess of money capital relative to real capital. This, combined with slowly rising gold production, meant that though the money market was tightening, it wasn’t tightening fast enough to force a major crisis before the end of the 1960s. This enabled commodity prices to remain above production prices for an unusually long period.
However, by keeping the growth rate of the world gold supply below that of non-money commodities, the law of value was once again working toward a fall in non-money commodity prices measured in the use value of the money commodity. The demand-pull inflation of the Vietnam War years sharpened the conflict between the rising commodity market prices and the value — direct prices — and commodity production prices, though not to the extent that World War I had. (2)
By the beginning of the 1970s, the law of value dictated that the contradiction between market prices and prices of production had to be resolved by a fall in commodity market prices in terms of gold’s use value. If the Bretton Woods System built around the dollar gold-exchange standard were to be saved, commodity prices in dollar terms would have to be lowered.
One thing economists and policymakers thought they had learned from the Depression was that commodity dollar prices should not be allowed to fall. The central bank — the Federal Reserve — should create whatever additional dollars are necessary to keep prices rising and, if necessary, create dollars not backed by gold (either gold in the official reserves or in the hands of private gold hoarders). If a large enough quantity of dollars is not backed by gold, prices in terms of dollars would keep rising, avoiding deflation. However, this meant the dollar’s depreciation against gold was inevitable, even as commodity prices fell in terms of gold.
Whether Keynesian or Friedman monetarists, bourgeois economists believed incorrectly that the dollar could replace gold as the measure of the value of commodities and profit (the sole motive of production under the capitalist system).
After the 1975 crisis, the Treasury announced it would sell small amounts of gold on the open market. I quote the official announcement of April 19, 1978: “The Department of the Treasury announced that it is requesting the General Services Administration to initiate a series of monthly public auctions of gold beginning on May 23, 1978. Approximately 300,000 ounces of gold will be sold at each of the first six auctions. … These sales of gold will have the effect of reducing the U.S. trade deficit, either by increasing exports of gold or by reducing the imports of this commodity. The sales will also further the U.S. desire to continue progress toward the elimination of the international monetary role of gold.” [emphasis added -SW]
They believed that gold is world money because governments treat it as such. If government treasuries and central banks sell all their gold, it ceases to be world money, replaced by the dollar. Just like gold in its role as world money is backed by the commodities produced by the capitalists of the world, the dollar as the world currency is backed by the commodity production of the entire capitalist world. (3)
It was claimed that the dollar would be the measure of a commodity’s value as well as the measure of profit instead of gold. Without a money commodity, periodic commodity overproduction relative to the money commodity would be a thing of the past.
Instead, the dollar will be backed by all commodities. Commodities as a whole cannot be overproduced relative to themselves. The Fed will ensure that there will be enough non-commodity money in dollar form for adequate circulation on the world markets. Dollars will back lesser currencies, and gold will be just another commodity.
The grand experiment in establishing world non-commodity money got off to a rocky start with inflation and the economic crisis of 1973-75. However, Keynesian economists argued that this was because of unfortunate developments such as the Arab oil boycott and the consequent high oil price. In the future, we will have a smoother ride. The success of the new Carter administration was tied to the attempt to establish the dollar as non-commodity money.
In August 1976, just before Carter was elected, the dollar price of gold fell back to $100 from around $195 an ounce at the end of 1974, at the height of the 1973-75 crisis. Policymakers hoped that perhaps their claims of gold ceasing to be world money were sinking in. But that was as low as the dollar gold price got.
By the end of the year, the price had returned to around $138. In 1977, the price approached $178. This was not as high as the $195 of 1974, but it was approaching it. In 1978, the price broke right through the previous peak set during the 1973-75 crisis, hitting $255 at the beginning of November and closing out the year at $235.
At the end of July 1979, the price reached $320. The price fell back to below $300, but not for long. In August, a new chairman of the Federal Reserve Board nominated by President Carter and confirmed by the Senate took office. His name was Paul Volcker. (1927-2019).
The federal funds rate continued to drop after the recession bottomed out in March 1975, reaching a low of 4.66% in January 1977, around the time that Carter assumed office. After that, the federal funds rate began to rise steeply. By August 1979, as Volcker moved into his new office at the Federal Reserve Board, the
Fed funds rate was already above 11%.
Despite this rise in the Fed funds rate, the dollar price of gold was at times above $300. Of course, the price wasn’t supposed to matter much anymore because gold was no longer money but just another commodity and not a very important one.
As we have seen, the official rise in the cost of living dropped to 4.90% in 1976. But in 1977, the official rate of inflation increased to 6.70%, hit 9.0% in 1978, and was 13.30% in 1979. Whatever Volcker might have thought about the high dollar price of gold, he could not ignore double-digit dollar inflation.
This created a crisis for Keynesian economic theory, which had dominated economics since the 1930s. According to the theory, high unemployment is supposed to lower money wages, slow inflation, and even induce deflation.
That was not happening in 1979, with inflation in double digits and accelerating. With inflation and the federal funds rate already in double-digit territory, if Volcker further increased the Fed funds rate, it would send official unemployment from a high of 6% in 1979 even higher. If he tried to drive down interest rates by creating more dollars not backed by gold, inflation would accelerate. Suddenly, Keynesian economics was, at best, irrelevant.
The Rise of Milton Friedman
The rival school of capitalist economics gaining steam during the 1970s was inspired by Milton Friedman (1912-2006), a neoclassical economics professor from the University of Chicago. Friedman was a friend of large capitalists and landowners everywhere.
He supported capitalists against the workers and the land owners against the peasant farmers, all in the name of freedom. He supported Barry Goldwater’s ultra-right Republican campaign for the presidency in 1964. For decades, Friedman had been developing a critique of Keynes’ amendments to neoclassical economic theory from the right. He aimed to make neoclassical economics what it had been before Keynes. He used the quantity theory of money, so his views were dubbed “monetarism.”
Friedman held that it was a mistake for the central bank to target interest rates, as Keynes and his successors urged the central bankers to do. Instead, Friedman said that the central bank should target the growth rate of the quantity of money. As Volcker took over the Federal Reserve, it was announced that it would no longer target interest but the growth rate of the quantity of money, as Friedman had been urging it to.
What was monetarism, and where did it come from?
The quantity theory of money from David Ricardo to Milton Friedman
The original quantity theory of money held that the quantity of money relative to the quantity of commodities in circulation determines the general price level. Fluctuations in the quantity determine the nominal level of prices and wages but do not affect the real economy. The theory is linked to Say’s Law, which claims commodities are used to purchase commodities. Money is treated as a mere technical mechanism to overcome the double coincidence of wants. (4)
Money can be abstracted. If we abstract it, there can be no general commodity overproduction, only an overproduction of some commodities relative to the underproduction of others. Say’s Law and the quantity theory of money naturally go together.
Since the theory’s supporters claim that the quantity of money affects only nominal prices, wages, and profits but has no effect on real wages and real profits, money is considered neutral. Closely linked to this is the theory of comparative advantage, first developed by David Ricardo. This claims that while absolute advantage determines the winners of competition in the home market, comparative advantage determines the winners in world trade. We’ll briefly examine Ricardo’s comparative advantage and how it and the quantity theory are closely linked.
Suppose Britain runs a deficit in its balance of trade. Gold flows out, causing the British domestic money supply to contract. According to the quantity theory, the falling money supply causes wages and prices to fall. Falling prices of British commodities combined with rising prices among its trade partners bring Britain’s trade back into balance.
Ricardo said industrial capitalists who need more labor to produce a given commodity can win the battle against competitors of a different country if that country has more gold — a higher money supply — and consequently higher prices. When it comes to international competition, the global supply of gold distributes itself such that industrial capitalists with a comparative advantage but not necessarily an absolute advantage can undersell their competitors in international trade.
On the world market scale, comparative advantage keeps trade among all the trading nations more or less in balance. Slight imbalances are adjusted through gold flows that lower prices in deficit countries and raise prices in surplus countries, preventing any major imbalance.
Comparative advantage has another consequence. It claims free trade is equally in the interest of industrially developed and underdeveloped countries. Even if a given country has a higher cost of production — in Ricardian terms, uses more labor to produce a given commodity — that nation will still win the competition, as gold will distribute itself around the world in a way that the industries least behind the world average will win in world trade.
Ricardo believed capital will always be fully employed because only by doing so would industrial capitalists obtain the highest profits. Most of a country’s money supply will be in circulation at the highest velocity technically possible. Capitalists receive money by successfully selling a commodity at the average profit rate and immediately throwing the money back into circulation to earn more profit. In the 19th century, this situation was called full circulation.
Ricardo’s political economy held that the value of commodities is determined by the quantity of labor necessary to produce them. It was crowned by the trinity of Say’s Law, comparative advantage, and the quantity theory of money.
In the decades following his death in 1823, Ricardian economics split in two. One part was taken up by the champions of the working class, first by Ricardian socialists and then by Marx. Socialists criticized political economists from a pro-working perspective. Political economists held that capitalism was the final form of human economic and social organization, while the socialists offered ideas for a future society that, in the interests of the workers, went beyond capitalism.
Socialists retained the Ricardian theory of value, which states that the value of commodities is determined by the quantity of labor necessary to produce them. This theory was useful to socialists because it meant that the incomes of the landowners (rent) and the capitalists (profits) arose from the unpaid labor of the working class. Eliminate this unpaid labor, and rent and profit would disappear, so in a future society, nobody would be able to live off the unpaid labor of another.
This led to Marx’s concept of surplus value arising from the unpaid labor of the working class. Marx showed — his greatest discovery in economics — that there was no contradiction between the exchange of commodities at their value and the existence of profit and rent by distinguishing between labor and labor power. It is not our labor that we sell to the capitalists but rather our ability to work — labor power. During the workday, we spend some time replacing the value of our labor power sold to the capitalists (wages) and the rest of the day laboring free of charge for the capitalists. This unpaid labor produces surplus value that becomes profit and rent.
The post-Ricardian political economics — called vulgar economics by Marx — took on the task of defending profit and ground rent. They were forced to abandon the Ricardian theory of labor value. Its only possible replacement was that use values acquire exchange value because they are scarce relative to human needs. This evolved into the modern Austrian and neoclassical school of economics based on the marginal principle, a mathematical way of analyzing scarcity. This is what you are taught in university economics departments. (5)
Marxist economics retains and improves on Ricardo’s concept of value as determined by the quantity of labor necessary to produce commodities, while neoclassical and Austrian economics retained Ricardo’s trinity of the quantity theory of money, Say’s Law, and the theory of comparative advantage.
Neoclassical economics went beyond Ricardo’s claim that all capital is always fully employed, claiming that a capitalist economy’s only possible equilibrium state is the full employment of capital and workers. The marginalists say workers receive in wages the full value their labor creates. The problem was that Ricardo’s theory of value made it impossible to explain profit and rent (surplus value) on any other basis except the unpaid labor of the working class, and post-Ricardian political economy had to reject the Ricardian theory of value.
After stumbling around for a few decades, political economists with the so-called marginalist revolution settled on the view that commodities have exchange value because they are scarce relative to human needs, forming the foundation of neoclassical economics. Following this logic, if workers insist on a wage higher than the value their labor creates, they won’t be able to find work. Improving on Ricardo, the neoclassical school claims that in the absence of temporary shock and assuming a free labor market, capital and all workers are fully employed. Any unemployed workers are either voluntary or frictional people between jobs or have just entered the labor market.
The quantity theory of money and the currency school
The first modern economic crisis hit the world market in 1825; a second came in 1837. The post-Ricardian economists — Ricardo having died in 1823 — blamed these crises on British prices being too high relative to their trade partners, undermining British exports while stimulating Britain’s imports. This swung their balance of trade and payments into deficit, which resulted in a gold drain from the Bank of England, forcing it to raise the rate at which it (re)discounted commercial paper.
The sudden rise of interest rates soon attracted gold from abroad, ending the gold drain. However, it threw the domestic money market into crisis, leading to a wave of bankruptcies, production cutbacks, and rising unemployment.
According to Ricardo, these two crises should never have occurred, creating a problem for the reigning post-Ricardian political economic theory. It said that Say’s Law ruled out a general overproduction of commodities. The quantity theory of money and the theory of comparative advantage ruled out any possibility of British prices being too high relative to world market prices.
According to the Ricardo-inspired currency school, as soon as the balance of payments turned against Britain and its money supply began to fall, the decline in the quantity of money should produce a decline in prices, preventing a balance of payments and crisis-breeding gold drain.
What went wrong? The currency school claimed the problem lay with banknotes. A pure gold circulation would have prevented a crisis.
By the early 19th century, banknotes dominated British circulating media. (6)
More banknotes were being created than the growth in the quantity of gold in the Bank of England’s vaults. This allowed British prices to rise above the prices of their trading partners since banknotes, as well as gold coins, functioned as money. This led to a balance of payment crisis that threw Britain into recession in 1825 and 1837. To prevent a repetition, the currency school proposed that the quantity of banknotes be strictly tied to the quantity of gold in the Bank of England’s vaults.
Under the Bank recharter act of 1844, the currency school’s reform was implemented. The Bank of England was divided into two departments: the issue department and the banking department. The issue department’s job was to collect gold and stand ready to exchange it for Bank of England banknotes when they were presented for redemption. The banking department was to carry out a straight commercial banking business without the authority to issue banknotes. When it needed banknotes to purchase or discount — commercial paper — it had to ask the issue department to provide them. The issue department could only provide banknotes as determined by how much gold it had. If gold was low, there were fewer banknotes to purchase the commercial paper being presented to it. This forced the banking department to reduce the price paid for commercial paper, raising its (re)discount rate.
When this reform went into effect, as soon as prices rose in Britain relative to prices in other countries, the issue department would not be able to fully meet the demands of the banking department for additional currency, which would reduce the number of banknotes in circulation. The school predicted that the fall in the number of banknotes in circulation would immediately lower British commodity prices before any recession, causing a balance of payments crisis to develop, similar to those of 1825 and 1837.
In late 1847, Britain was hit by a new crisis, forcing the suspension of the 1844 Bank Act, authorizing the Bank of England to issue additional banknotes in excess of the issue department’s gold. This promptly ended the crisis without any additional banknotes having to be created because as soon as the public realized what could happen, the demand for banknotes dropped. Ten years later, the crisis of 1857 forced another suspension of the Bank Act. This time, some extra banknotes had to be issued for a short time. The 1866 crisis ended like the one in 1847, without additional banknotes. Instead of ending crises, the Bank Act intensified them.
How did the defenders of the quantity theory of money explain the failure of the Bank Act of 1844? They blamed commercial bank-created credit money. They claim no crisis would have occurred if Britain had a pure gold circulation in 1825 or 1837. Since banknotes, as well as gold, circulated as money, the problem lay in the fact that banknotes not only replaced gold coins, they constituted additional money in circulation. This extra money drove up British prices, resulting in a crisis. Tying the quantity of banknotes to gold was supposed to fix this.
After 1844, the chief form of credit money shifted from banknotes to checkable deposits created by commercial banks. Then, instead of issuing a banknote, commercial banks created imaginary deposits. These deposits circulated as money in place of both gold and banknotes.
Credit money had not been eliminated by the 1844 reform; it had merely changed its form. They held that once checkable commercial, largely imaginary, bank deposits replaced banknotes, it was clear British prices relative to those of other countries could rise to a rise in deposit money, leading to the balance of payments crises in 1847, 1857, and 1866. The quantity theory of money supporters claimed the 1844 reform failed because one form of credit money — banknotes — was simply replaced by another — checkable bank deposits.
The University of Chicago and the crisis of 1929-33
The trinity of Say’s Law, the quantity theory of money, and the theory of comparative advantage was passed on to neoclassical economics (and the closely related Austrian school, also based on the marginal principle) beginning in the closing quarter of the 19th century. Neoclassical economics, claiming the Ricardian mantle, came to dominate by the beginning of the 20th century.
Milton Friedman was an economics student at the University of Chicago during the super-crisis of 1929-33. The department was a stronghold of neoclassical economists. During the super-crisis, it was clear that more than a mere balance-of-payments crisis was involved. A chain reaction of bank runs thoroughly paralyzed the banking and payment systems in the world’s capitalist economies between 1931 and 1933.
Checking deposits then, as now, are not legal tender currency but rather a promise by a bank to pay the account owner in legal tender currency on demand. These deposits are transferable from one person to another by check. The only difference between the early 1930s and today is that checkable deposits are transferable not only by the traditional check but also by credit and debit cards and smartphones.
Back then, commercial bank-created credit money was confined to large transactions, while today, credit money is used in most petty retail transactions as well. The problem with this system of commercial bank-created credit money — called fractional reserve banking because legal tender money covers only a fraction of the deposit liabilities of banks — is that there is a much larger sum of commercial bank-created deposit money — where about 80% of the deposits are imaginary — than there is legal tender currency to pay off the owners of bank deposits if they all demand payment in cash at the same time.
Usually, this causes no problems, but in a crisis, depositors panic and attempt to withdraw all their money at once, fearing that their deposits might not be paid back. The banks scramble to raise cash by halting all loans and calling in existing loans. Credit vanishes, and the demand for commodities collapses. Here, we see money’s role as a means of payment coming into conflict with its role as a means of circulation during crises.
During the banking panics of 1931-1933, money was demanded in the form of legal tender cash. Bank deposits — commercial bank credit money—were no longer acceptable. Commodities became difficult to sell except at prices below the cost price, replacing profits with losses. As profits dried up, orders evaporated, and workers were laid off in unprecedented numbers.
Chicago economists proposed a reform that resembled the 1844 Bank Act but went beyond it. Under the Bank Act of 1844, Bank of England banknotes were covered almost 100% by gold. The Chicago reformers wanted a monetary system whereby checkable bank deposits would be covered 100% by legal tender currency in the form of green dollar bills and legal tender coins.
There would be no more imaginary deposits that could circulate as money. This way, even if every bank depositor demanded their money back at once, the banks would have it on hand to pay every last one of them to the last cent. This was called 100% money.
To achieve this, the Chicago reformers proposed dividing the banking system. Deposit-taking banks would store money in a safe place and settle payments through checks but would not be allowed to make loans. Other separate institutions would make loans with their own money but would not be allowed to take deposits. (7)
This would abolish bank-created credit money. Under the existing fractional reserve banking system, as long as the number of new loans granted grows faster than the loans being paid back, the quantity of money, including imaginary deposits, will keep growing. If the loans being paid back exceed the new loans granted, the quantity of money will shrink.
Following the quantity theory of money, the Chicago economists claimed that if the fractional reserve banking system were replaced by 100% money, this would give the monetary authority issuing legal tender money the ability to determine the quantity of money precisely. Under the fractional reserve system, the monetary authority cannot do this because, according to the definitions of money, the monetary authority creates only about 20% of the total money supply. The commercial banking system creates the rest through imaginary deposit-creating loans.
In all developed capitalist countries, the bulk of the currency consists of commercial bank-created deposits, a form of credit money. The limits of the quantity of credit money the commercial banking system can create are determined by the total quantity of legal tender money issued by the monetary authority. Legal tender money is called high-powered because it sets the upper limits of the total money supply, including imaginary deposits created by commercial banks. The ratio of high-powered money and imaginary bank deposits — credit money — can vary greatly. It is the ability of commercial bank-created credit money in the form of imaginary deposits to expand beyond the base of legal tender money created by the monetary authority and then contract when credit is shaken, which, according to the Chicago economists, is what creates the possibility of crises.
If fractional reserve banking were replaced by 100% money, expansions followed by contractions of the quantity of money would be eliminated. Prices and wages would adjust to whatever is required by the needs of circulation. The monetary authority would be able to control the general price level — though not the prices of particular commodities — through centralized control of the money supply.
As long as the monetary authority keeps the growth rate of the quantity of money stable, the economy would, the Chicago economists claimed, operate like the neoclassical economists said it should, with a stable and predictable general price level and the full employment of all capital and workers. Like their currency school predecessors, the Chicago economists sought a remedy for crises in the sphere of circulation without changing the mode of production. These ideas form the starting point of Friedman’s monetarism.
Chicago, Keynes, and the quantity theory of money
John Maynard Keynes began as an orthodox neoclassical economist. From 1921 onward, Britain suffered mass unemployment that could not be dismissed as voluntary and/or frictional unemployment. How could neoclassical economics explain why unemployment was so much higher after World War I than before?
In his book “The General Theory of Employment, Money, and Interest,” Keynes modified the neoclassical theory to account for the unemployment of the 1920s and 1930s that should not have occurred but clearly did.
He said the problem was that interest was too high relative to the profit rate. He defined interest rates differently than the neoclassical economists, Marx, and most other economists. He said interest is the return on loan money capital. Keynes invented a new term for profit — the marginal efficiency of capital, defined as the return the real capital owners expect on a unit advanced of real capital.
Keynes believed interest rates and the marginal efficiency of capital tend toward equality. If interest rates are lower than marginal efficiency, some money capitalists become industrial or merchant capitalists. If interest rates are higher, capital is withdrawn from the real economy and invested in the money market, causing the real economy to shrink.
As long as interest rates are lower than the marginal efficiency of capital, some of the loan money capital flows into the real economy, causing it to expand. When the interest rate equals the marginal efficiency of capital, the economy is in equilibrium, with the economy neither expanding (boom) nor contracting (recession).
Keynes believed economic growth was necessary as long as scarcity existed, although he foresaw a time when scarcity would not exist. At this point, the interest on loan money capital and the marginal efficiency would fall to zero. Capitalists who run industrial and commercial enterprises would still earn large incomes — though not as large as today — but the incomes would be the wages of the working capitalist. Keynes imagined a future where nobody would be able to live off interest and dividends without working.
Keynes believed, however, that positive profits and interest rates were still necessary, even if both the marginal efficiency of capital and interest rates tended downward due to declining scarcity. Keynes believed the mass unemployment of the Depression was caused by interest rates becoming sticky at low levels and that interest rates and the marginal efficiency of capital were tending toward equality at high levels of involuntary unemployment.
Neoclassical theory held this was not supposed to happen, yet it plainly did. Keynes gave various reasons for this. One was that the dominant banking interests of the Bank of England were not creating enough money to prevent the rates from falling further. Another reason was that low interest rates, by definition, mean high bond prices. Bond speculators were unwilling to buy bonds at prevailing high prices, fearing they would fall in the future.
Neoclassical theory argued that as long as the economy remained depressed, prices would drift lower. Even without expanding the money supply, the real money supply would expand, driving down interest rates. Eventually, the rate of return on loan money capital would fall sufficiently below the rate of return on real capital to allow full employment to return. Neoclassicals claimed a capitalist economy cannot be at true equilibrium until involuntary unemployment disappears — assuming no monopolies (such as a union) in the labor market.
Keynes said that even if this was true, it would take a long time for the return of full employment. Britain had experienced mass unemployment since 1920. If it was proving impossible to lower interest rates sufficiently to move the economy back to full employment soon, the government should borrow money and use it on useful public works projects — though war spending would work just as well.
If the government borrowed and spent enough money, the pace of business would pick up, allowing the marginal efficiency of capital — the profit rate — to rise above the level of interest rates, and the economy would move toward equilibrium. Neoclassical economists conceded that increased government spending and borrowing might be needed to avoid further radicalizing the working class, even as they insisted that the economy would eventually return to full employment on its own.
Keynes rejects the quantity theory of money
The quantity of theory of money holds that for a given quantity of commodities for sale, the price level will be determined by the quantity of money. Keynes believed that price level is determined by money wages, and the velocity of money circulation is highly variable. If money wages rose, prices rose, the velocity of money circulation increased, or money lying idle in the banks would be drawn into circulation. He concluded that changes in money quantity would affect interest rates but not the general price level. On this point, Keynes agreed with Marx, though Marx, like Ricardo before him, rejected the claim that money wages rule the general price level.
Neoclassical economists insisted that wages had to be reduced during the Depression if full employment was to return. They said that mass involuntary unemployment showed that wages exceeded the value that the workers’ labor could produce. Keynes agreed that hourly wages had to be reduced, but he stressed that what had to be reduced were real, not money wages.
According to Keynes, a cut in money wages forces lower prices, but cutting money wages doesn’t cut real wages. To reduce real wages, it was necessary to encourage price increases by increasing demand through cutting interest rates — monetary policy and, if that were not enough — large-scale central government deficit spending — fiscal policy.
This brings hourly real wages back into line with the value the workers’ labor is capable of producing, bringing full employment. Without this, the capitalist economy might get stuck in an equilibrium where interest rates equaled the marginal efficiency of capital — the rate of expected profit on real capital — indefinitely, which would have dire effects on the future of capitalism.
Many economists who grew up during the Depression went even further, saying monetary policy was not working at all. By historical standards, interest rates were very low, yet mass unemployment persisted, and it got worse during the 1937-38 Roosevelt recession.
The road back to full employment was to engage in more deficit spending, which would have the added benefit of addressing social problems like homelessness by expanding public housing, building new schools, and public works in general. Progressive politics could be married to economics, something that’s not possible with traditional neoclassical economics.
Milton Friedman’s monetarist counterrevolution against Keynes
Like Friedman, Paul Samuelson was an economics student at the University of Chicago in the early 1930s. He constructed what he called a grand “neoclassical synthesis,” merging traditional neoclassical economics and Keynes’s economics of the General Theory. In contrast, Friedman wanted to restore neoclassical economics to what it was before Keynes. In the 1970s, Samuelson and Friedman were the most influential economists in the United States.
Central to Friedman’s project was the restoration of the holy trinity of neoclassical economics inherited from Ricardo: Say’s Law, the Quantity Theory of Money, and the Theory of Comparative Advantage in international trade (8).
To do this, Friedman had to explain away the Great Depression and lesser crises punctuating the history of capitalism since 1825.
Though anything but a supporter of labor unions, Friedman believed in the quantity theory of money and didn’t believe high wages cause inflation. On this point, he agreed with Ricardo and Marx. Nor did he believe that the rise of the price of one commodity, like oil, could cause a general rise in prices. Only a rise in the quantity of money relative to the quantity of commodities could do that.
Friedman believed that a capitalist economy is stable unless some sort of outside shock occurs (such as the COVID shutdown of 2020, for example). Other examples include wars, blockades, the sudden end of wartime spending, and harvest failures. Such shocks might cause a surge in unemployment like the COVID shutdown did, but once it passes, the free market should correct the situation.
For example, suppose a hurricane leads to a shortage of commodities in a city that the hurricane passes over. Taking advantage of the situation, speculators hoard scarce commodities and hike prices. Should the government act against the speculators or impose price controls to keep prices down?
Friedman said no, the government should do nothing to help the people. High commodity prices cause other capitalists, hoping to make a killing, to inundate the stricken city with the commodities in short supply. Friedman agreed that these capitalists are only motivated by profit. However, as previously scarce commodities inundate the city, their prices tumble, and the shortages disappear.
Another example is the mass unemployment caused by the COVID shutdown, which caused even official numbers to soar to the highest rates seen since the Great Depression.
Had he been alive, Friedman likely would have urged the government not to shut down production. People should be free to choose whether or not to risk getting COVID-19 if they return to work or hunker down at home to avoid getting sick while forgoing income in the form of wages.
The government ordered shutdowns, resulting in a depression with double-digit unemployment. But as soon as businesses could reopen, capitalist enterprises begged workers to return. Help-wanted signs were everywhere, and even email services were flooded with unsolicited employment offers as capitalists scrambled to rebuild their workforce. Friedman would have seen this as an example of how capitalism recovers from an outside shock if the government keeps its hands off.
But what about cyclical recessions? What about the 1930s Great Depression, when mass unemployment lasted more than a decade? Are cyclical recessions the result of an outside shock, or are they from the inner contradictions of capitalism? Friedman made it his life work to prove that recessions resulted from outside shocks, primarily government interference with the free market. By “government,” Friedman included the central bank, the Federal Reserve System.
According to the quantity theory, money is neutral in that fluctuations in the money supply affect only nominal wages and prices, not the production of real wealth (determined by the growth in labor productivity and population growth). As a monetary economist, Friedman distinguished between high power money — legal tender money — and commercial bank-created credit money that dominates all big transactions in the business world and much of today’s retail trade — through credit and debit cards. When held in commercial bank reserves (vault cash plus commercial bank deposits), high-powered money forms the base of commercial bank-created credit money.
Friedman claimed that in the long run, the relationship between high-powered money and commercial bank-created credit money used to settle the bulk of transactions and the velocity of money’s turnover is stable. But during crises, the ratio of high-powered money to commercial bank-created credit rises, and the velocity of money’s circulation declines.
Keynes used these fluctuations to show that the quantity theory of money is invalid. Friedman claimed they occur due to external shock. In their absence, the ratio and velocity of circulation would be stable, and the quantity theory of money would be correct.
Economic crises are followed by a rise in the ratio of high-powered money to bank-created credit money and a slowdown in the velocity of circulation of the currency. Using banking statistics assembled largely by Friedman associate economist Anna Schwartz (1915-2012), he pointed out that cyclical economic downturns are preceded by a slowdown in the growth rate of the money supply, defined as both legal tender currency in circulation and bank-created credit money. Money gets tight just before a cyclical recession.
Under the gold standard, such a tightening might be caused by gold production fluctuations. Friedman was as much a believer in non-commodity money as Keynes. Once central banks get control of the high-powered money supply (gain a monopoly over the issuance of legal tender currency), if the central bank keeps the legal tender currency growth in line with labor productivity plus the population growth (absent outside shocks like the COVID shutdown), there will be no inflation and no crisis.
In the absence of crises, the relationship between high-powered money and bank-created credit money is stable, as is the velocity of money turnover. Then, the relationship between the quantities of money and commodities in circulation rules the general price level.
The remaining sources of instability are variations in the labor productivity growth rate that depend on the development of science and technology and population growth. Friedman assumed these variations could not be predicted but were stable over time. Since the central bank can’t make such predictions, he suggested it follow a monetary rule: Figure out the average labor productivity growth rate over several years, do the same thing with population growth, and add the desired inflation rate (for example, 2% a year). Put these together and increase the money supply by that rate year after year.
Occasionally, the central bank insufficiently increases the money supply when labor productivity and/or population growth exceed the long-term average, leading to a slight recession. When labor productivity and/or population growth is less than average, inflation rises above the target rate. However, barring some enormous and improbable outside shock that reduces the size of the working population, for example, a war or pandemic, there will be no major crises.
For Friedman, major crises occur when the monetary authorities allow the money supply growth rate to fall or, worse, allow it to contract. Major inflationary episodes occur when they allow the money growth rate to accelerate more than labor productivity and population growth, such as occurred during the 1970s. When this happens, society has to learn either to live with high inflation or the money quantity growth rate must be reduced — leading to recession. When inflation accelerates beyond the tolerable level, recession becomes inevitable.
Unlike Keynes, for Friedman, what is important is not interest rates but the growth rate of the quantity of money. He urged the central banks to forget about fluctuations in interest rates and instead stabilize the growth rate of the quantity of money by stabilizing the growth rate of high-powered money that the central bank controls. Since he believed that the ratio between high-powered money and bank-created credit money and the velocity of circulation is stable, all the monetary authority has to do is control the legal tender growth rate—high-powered money—it creates. (9)
This analysis and policy recommendations were dubbed monetarism in the 1970s.
A Marxist critique of monetarism
The periodic failure of the growth in the quantity of money to keep up with the growing needs of commodity circulation reflects the internal contradictions of capitalist commodity production, including those between use value, exchange value (measured in terms of the use value of a particular money commodity), and the contradiction between the independent value form of commodities — money — and other commodities that assumes extreme forms in crises. The periodic failure of money to grow as fast as commodities is another way of saying the periodic overproduction of commodities.
The periodic overproduction of commodities reflects the contradiction between the increasingly socialized nature of production and the continued private appropriation of the product that imposes the commodity form on highly socialized production. This is entirely beyond the comprehension of a neoclassical economist like Milton Friedman.
Friedman and Keynes did not understand that money must be a commodity. (10) The most high-powered money is not the legal tender currency created by the monetary authority but the commodity that serves as money. This commodity is produced in a decentralized way by industrial capitalists who are motivated only by profit.
Since the commodity functioning as money is the measure of the value of all other commodities in terms of its use value, it is also the measure of profit. Profit is the money used to purchase the commodities that constitute the surplus product, but it is not itself the surplus product but only its monetary form. While it would be impossible to have profits without a social surplus product, it is possible to have a social surplus product without profits.
Because values and profits are measured in the money commodity, rising prices and profit rates of commodities mean a falling profit rate for the industry producing money. When the capitalist economy is rapidly expanding, the profit rate in the industry producing money falls relative to other branches of production.
Capital flows out of the money industry into more profitable ones. The expansion of the total quantity of money relative to the production of non-money commodities measured by their price inevitably lags behind commodity production. This lag continues until a crisis breaks out.
Bourgeois economists of the Friedman type consider the money created by the monetary authorities to be high-powered. Assuming gold is the money commodity, it is gold that should be called high-powered money. The total quantity of gold never shrinks, but its production periodically lags behind other commodities measured by price. These prices are themselves measured in gold. During times of prosperity, the production of additional money material — by necessity — lags behind the production of other commodities. This is part of the order that emerges out of the disorder of capitalist production.
The developing money famine that Friedman and Schwartz documented preceding every cyclical crisis is not an accident or the result of bad monetary policy but a necessary consequence of capitalism. Periodic inevitable money famines are another way of saying inevitable periods of general commodity overproduction because they are the two sides of the same coin.
Friedman treats these shortages as outside shocks independent of capitalist production. He then abstracts these shocks, concluding capitalist production is stable. But he was wrong, as capitalist production is very unstable because the periodic monetary famines that precede crises are the inevitable result of capitalist production. (11)
Friedman versus Keynes
Friedman and Keynes built their theories on stabilizing capitalist production using non-commodity money. Keynes saw capitalist investment as unstable, rising from the psychology of the capitalists. During booms, the animal spirits of the capitalists get the better of them, and they spend more money on new plants and equipment that can be sustained. When business slumps, the capitalists fall into unrealistic pessimism, slashing capital spending to the bone for years on end. Personal consumption is far more stable. A capitalist can postpone plans to build a new factory indefinitely if business conditions warrant it. But nobody can postpone the purchase of food for long.
Keynes hoped that by issuing enough non-commodity money, the central bank could keep interest rates low enough to avoid downturns in the trade cycle. As in the 1930s, when business investment slumped, Keynes advised the central government to use deficit financing to pursue public works projects. These would compensate for weak investment by the capitalists and fuel recovery. In contrast, Friedman believed capitalist spending was stable as long as external shocks were avoided. He also believed that the main source of outside shocks was incorrect central bank policies. As long as the monetary authority keeps the increase in the quantity of money stable, business investment will also be stable. The ratio of high-powered money to bank-credit money would also be stable, and so would prices and the growth of employment.
The differences between Keynes and Friedman became important in the 1970s. Keynesians believed the Federal Reserve should keep interest rates from rising. Friedman urged the Fed to ignore interest rates and instead reduce the rate of growth of the quantity of money as the only way to end the accelerating inflation. Friedman conceded such a policy would trigger a recession by causing a money famine, but the alternative was to accept an accelerating rate of inflation, which was not a viable policy.
In 1979-80, the rise in the dollar price of gold suddenly accelerated and with it the rate of dollar inflation.
Next month, we will examine the role that Friedman’s monetarist policies played in the Volcker shock of 1979-82.
(1) The accelerated rate of new gold production during the Great Depression was reflected in the expansion of the commercial banks’ reserves. The expansion of the reserves was not caused by the Federal Reserve’s creation of dollars but by the inflow into the Treasury of newly mined gold and gold flowing in from Europe after Hitler’s fascist dictatorship came to power. Gold was sold to the Treasury at $35 per ounce in exchange for checks. When the checks were deposited in a commercial bank, the bank deposited them in its account with the Federal Reserve, thereby expanding its reserve. The swollen reserves of the commercial banking system financed World War II without a rise in interest rates, and after that, the post-war capitalist economic upswing. (back)
(2) This process was repeated, in a milder way, during the Vietnam War. At a time when the market prices of commodities were already high, the war drove them higher. This transformed a stagnant level of gold production into a declining one between 1970 and 1975. (back)
(3) Currencies functioning as local national currencies would be backed by dollars. (back)
(4) I own a pair of shoes and say I desire a table. Unless I find another person who has a table and wants a pair of shoes, no exchange can take place. This is called the double coincidence of want. If we treat silver as money, all I have to do is sell my shoes for a quantity of silver. I find a person selling the type of table I want, and I can be sure they will take money (the silver) in exchange for the table, solving the problem of the double coincidence of wants.
Once I sell my shoes for silver, I can always hold onto the silver for a while before I purchase the table. As long as the exchange doesn’t rise above the level of barter, a general overproduction of commodities is not possible — only an overproduction of some commodities relative to an underproduction of others. The agreement to use silver as money not only solves the problem of the double coincidence of wants but makes the possibility of a general overproduction of all commodities except for silver relative to the money commodity (in this case, silver). This is the fatal flaw in Say’s Law. (back)
(5) Originally, marginalist economists held that it was not a commodity’s utility that determined its value but the marginal utility. Marginal utility is defined as the additional utility a person will receive from an additional unit of the commodity. Marginal utility dominated late 19th-century and early 20th-century bourgeois economics. The problem was that nobody could reduce the subjective utility a person experiences from consuming a commodity to a common social substance. Eventually, the term was abandoned and replaced by mathematical graphs representing declining demand for additional commodities as their supply increases relative to the subjective desire for them. (back)
(6) Banknotes were promissory notes issued by commercial banks in exchange for commercial paper, payable on demand in gold coin to the bearer. They were passed hand to hand, becoming the principal circulating media in large transactions. Over time, the Bank of England acquired a growing monopoly in issuing banknotes, emerging as Britain’s central bank. (back)
(7) The proposed Chicago reform that was never implemented should not be confused with the separation of commercial and investment banking created by the New Deal and repealed under the Clinton administration. Under the New Deal reform, banking institutions had to choose between deposit-taking and underwriting corporate stocks and bonds. Banks that take deposits were not allowed to underwrite corporate securities, and those that underwrote corporate securities were not allowed to take deposits. There was no attempt to separate deposit-taking from loaning money or abolish bank-created credit money. Instead, the New Deal established a federally backed bank insurance scheme where a fund of money was created to pay off the deposits of failed banks up to a certain amount. This fell far short of what the Chicago reformers desired. (back)
(8) In the post-gold standard world, to explain comparative advantage, Friedman replaced the fall in the quantity of money induced by a gold outflow with a fall in the exchange rate of a currency. If a currency’s exchange rate falls in response to a negative trade balance, the prices reckoned in prices of the country’s trade partners fall. Similarly, if a country runs a balance of trade surpluses, its exchange rate will rise. This causes the prices of its commodities to rise compared to the country’s trade partners.
Friedman advised the countries to eliminate their remaining reserves of gold and foreign currencies. They should allow currencies to float freely, and governments and central banks should stay out of foreign exchange markets. This would allow the law of comparative advantage to operate. Today, contrary to the advice of both the followers of Milton Friedman and modern monetary theorists — we have a dirty float with governments and central banks intervening in foreign exchange markets by selling and buying foreign currencies. All contrary to the advice of both Friedman and modern monetary theory supporters, governments and central banks maintain considerable reserves of foreign currencies and gold. (back)
(9) This was a retreat from the Chicago school’s support of 100% money, which aimed to abolish bank-created credit money entirely. No serious policymaker considered trying to split banks’ deposit-taking functions from their money-lending functions. So, as Friedman’s career as an apologist for capitalism blossomed and he rubbed shoulders with some of the world’s most powerful people, he retreated from such ideas. In his later years, Friedman claimed that a combination of steady and predictable creation of legal tender money by the Federal Reserve combined with federally supported deposit insurance would be enough to bring out the natural stability of the capitalist system. (back)
(10) Recently, a reader asked what would happen if gold mining was nationalized. Wouldn’t the state then be able to mine gold in sufficient quantities to circulate the growing quantity of commodities in circulation, making it possible to avoid overproduction crises? Our reader is imagining a situation where a capitalist state gets control of the entire world and then nationalizes gold production, subjecting it to a common plan. Any private production — mining, and refining — would be banned. Otherwise, capitalism would remain unchanged. What would be the result? While we can’t experiment to see what would happen, we can apply the ideas of Karl Marx to get some idea.
Gold is not, by nature, money. Money is a social relationship of production that must be represented by a given commodity but not necessarily gold. If gold were produced in a centralized way by the state, it would lose its character as a commodity and as money. Some other commodity would take its role. This would wipe out all the money capital represented by gold that’s accumulated since the beginning of capitalism and even earlier because the accumulated gold would no longer represent money capital. The results would not be pretty. The same would happen if a cheap way of producing gold were discovered. (back)
(11) Of course, bad monetary or banking legislation can make things worse. So can outside shocks, such as World War I, which radically increased the general price level when commodity prices were already above their production prices. However, even in the absence of all outside shocks, periodic crises of overproduction are inevitable under the capitalist mode of production. (back)
A Critique of Crisis Theory 