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US Locomotive Losing Steam

by Joachim Bischoff Friday, Mar. 16, 2007 at 8:56 AM

In 2006 after the crash of the New Economy boom, we are again witnessing irrational excess in the credit system and in the prices of assets and property titles.


By Joachim Bischoff

[This article published in: Sozialismus 1/29/2007 is translated from the German on the World Wide Web,]

In 2006, the global economy began its cyclical downturn. Will there be a “soft” or “hand” landing? Joachim Bischoff discusses the different factors.

The slackening capital accumulation and the economic growth in the US and Japan were partly compensated by the prosperity in Europe and an economic boom in China. How this weakening will turn out and how economic possibilities will be affected is seen differently. In Europe – and Germany – the upward business cycle trend has strengthened. The economic upswing is stable in Southeast Asia – above all in China and India.

The downturn is caused by the US economy’s cyclically conditioned weakness. The downturn economic slide is determined firstly by factors in the US. The conduct of private households and the real estate market are central. The change in perspectives for industry and the savings rate in America and the movement on the financial markets are consequences of the fact that we are involved with a finance-driven accumulation in the main capitalist countries. The accumulation process of past economic cycles was marked by the development of finance market capitalism. Through neoliberal economic policy, the tendency of increasing market prices of (property) assets and one-sided financial policy should be stabilized. This dominance of the interests of financial investors, shareholders and property owners is a malformation or undesirable trend of capitalist accumulation. Finance-driven accumulation destroys capital and is hostile to investment and innovation in the medium term. Instead of consistently higher value creation and boundless development of productive forces, a mis-calculation of capital occurs more and more in favor of unproductive uses. The productive activity of the economy is sacrificed.


In the US, the private savings rate measured by available income has been declining disproportionately since the beginning of the 1980s. Since the end of 2004, private households on average have incurred debts to organize their personal reproduction and satisfy their shopping frenzy. The high consumption in the US in the past economic cycle was strongly favored by people refinancing their mortgages to convert the increased worth of their property into cash. In general, the neoliberal economic policy through tax cuts aims at raising the net income. In a rich society that is deeply divided socially, citizens are encouraged to property ownership. New fields of investment for capital are created through privatization of public enterprises and services. Through pension funds or other actors on finance markets, a changed power structure is enforced that is guided by the imperatives of shareholder value. The share of labor income in total production declines; the share of profits and property income rises correspondingly. With the enormous growth of property- and ownership titles, an extensive branch of financial actors, property managers, brokers etc. develops that has growing problems profitably investing the accumulated savings. For the US, we see this trend in connection with old-age provisions. While less than a third of US families owned shares directly or indirectly through funds in 1989, the percentage is 50% or 60% today. [1]

Neoliberal thinkers moved to a democratization of capital ownership when social security long based on the transfer principle or a tax base was destroyed or replaced by forms of capital-covered claims. Business leaders are certainly subject to rigorous control and pressure to increase profits. Still “shareholder capitalism is not democratic… The bank share is replaced by a regime of assets owners.” [2] The distribution of assets and property titles is increasingly unjust even if some better-off employees buy funds to secure their old-age provisions. Instead of a democratization of businesses, we see increased economic risks and instability.

Private consumption climbed 3-4% since the last recession in 2003 although available household incomes stagnate or decline slightly. The consumer dynamic can be explained from the assets growth of securities and property values. The real estate boom resulted on one hand from higher investment of financial capital in this area and on the other hand from the price effect produced by excess demand. The Federal Reserve and other financial institutions have watched this real estate bubble very closely since a possible price decline could reveal a constellation of over-indebtedness with a large part of private households. This is a graphic example for the “wealth-driven economy.” Net assets increase even though household incomes stagnate and part of the assets growth is used for higher consumer spending. With this imbalance between consumption, assets growth and savings, the US economy forms structures for purchasing a large part of the goods and services from the rest of the world.

Since the collapse of the New Economy boom in 2000, private households were motivated to assets income through low interest rates and tax cuts so part of the increase in value of private assets would be invested in consumption. For the first time since the fourth quarter of 2000,private households have taken less mortgage credits than necessary to finance active housing construction investments. In the third quarter of 2005 (projected for the year), accounting profits of 5 billion were realized. Half of these profits flowed into consumption according to estimates of the Federal Reserve. Falling house prices and high short-term interests could also prove to be obstacles for greater borrowing in the real estate market.

In the meantime, the supply situation on the real estate market is tight. An over-supply exists that affects prices and the new construction business. A permanent trend change in house prices will have consequences for the present negative savings rate. Since December 2006, the Federal Reserve has spoken of worsening framing conditions and a “substantial cooling of the real estate market.”

Most observers agree the gentle slackening of the accumulation dynamic can suddenly change into a recessive development through economic dislocations on the housing market and striking trend changes. Consumers in the US will not continue their negative savings rate during the real estate recession. This can have drastic effects on the whole economy.

The growth of the US economy cooled down in the first three quarters of 2006. This fomented the worldwide anxiety about an economic collapse. Current data could suggest a “soft landing” succeeded in the US. Industrial production rose 0.4% in December compared to the previous month. Capacity utilization climbed to 81.8%. Industrial production in 2006 rose 4.1% compared to 2005. That was the strongest growth in the current economic cycle. While the US economy expanded in the first quarter of 2006 at a comparatively high rate of 5.6% (on an annual basis), the expected slowing down of growth started in the second and third quarters. The long-term production potential of 3% will not be reached even with an increase of the gross domestic product (GDP) of 2.6% (second quarter) and 2% (third quarter). This weakening tendency will continue in 2007.

The cooling of the US economy in the third quarter of 2006 goes back to greater imports and a rapid investment decline in housing property. A further investment decline of 19% in the third quarter was added to the 11% decline in the second quarter. This investment reserve can be ascribed to a negative growth of 1.2% of the GDP in the third quarter alone.

The decisive reason for the growth weakness is the trifling increase of the private consumption of US citizens. An even stronger cloudiness of the consumer climate could be avoided by the beginning downward slide of worldwide raw material prices. The price drop on the oil market led to considerable cost-savings in energy consumption and created additional purchasing power for private households. While US consumers increased their consumer spending 3% in 2006 compared to 2005, this increase will only be 2% in 2007 and thus an obstacle for expansion of the economy.

Another factor for the noticeable economic cooling in the US results from the restrictive monetary policy of the Federal Reserve (FED) in the last two years. The effect of past interest hikes to 5.25% will first impact the economy in the first six months of 2007. A “soft landing” of the economy assumes a loosening of the monetary policy reins by the FED in the second half of 2007. The interest relief could slowly stimulate both consumption and investments.

In the last months, the US dollar clearly lost value despite the higher interest rate in the US. This devaluation could bring a reversal in the US balance of payments deficit, which represents one of the great risks for the future of the global economy. In 2005, the US balance of payments deficit showed a record minus of 0 billion or 6.4% of the US gross domestic product (GDP). Cumulatively a shortfall of over trillion resulted for the 1980-2005-time period. A great shortfall is also expected for 2006 although the foreign trade deficit fell to a lower level in the last months owing to cheaper oil. The US will register the greatest deficit of all times for 2006; the deficit amounted to 1.6 billion up to November. The weakening US economy is reflected in lower import rates and – strengthened by a further devaluation of the US currency and a change in the trend in foreign trade and in the balance of payments trade – hinders the stronger growth of the export-oriented German economy.

The shortfall in the US trade- and balance of payments deficits is seen with great concern on the markets. To finance the deficits, the US needs massive capital infusions from abroad. If these infusions diminish, an intense dollar devaluation threatens with corresponding effects for the world economy. The United States appropriates the large share of international liquid and investment-seeking finance capital. Direct investment – productive capital investments or takeovers of production facilities – decline and indebtedness to foreign financial investors increases without changing productive resources


As in past decades, the situation remains stable as long as the economic elites of other countries are ready to invest a large part of their financial assets in the US. While the state of health of the US economy deteriorates, the debt-financed foreign trade deficits are an important factor for stimulating the economy in Europe and Asia. Consequently the US is still in the role of locomotive of the world economy and economic growth lies between 2-3% in the case of a “soft landing.”

In the case of a recessive development triggered by the collapse of the real estate market, the creeping devaluation of the US currency would speed up. Economists look at the mounting differential between the US economy and the rest of the world economy with some uneasiness or alarm. The debt policy of the US has reached a dangerously high level in that a majority feel a change in the trend in the balance of payments deficit could occur with the dollar’s continuing loss in value. On the other side, such a change in the trend hides the danger that even greater turbulences could affect the world monetary system and the world economy.

Euro-Space and Germany as Beneficiaries

In 2006, Germany realized a strong growth in exports: +12.4%. These higher exports can be explained by the greater price competitiveness of businesses achieved through wage reserve. Piece-labor costs fell again in 2006. Unlike past years, the economic dynamic in Germany is greater than in most other countries in Euro-space. Germany and the other Euro governments forego an economic stimulation of the domestic economy so a slight decline in economic growth at 2% is registered.

Even if the world economy is somewhat weakened, economic research institutes say businesses can expect a strong increase in their exports on account of their price competitiveness. That the domestic German economy will decline is controversial since the divergent development continues between wage income and profit- and assets-income through taxes and social fees.

The structural weakness of the US economy increases the possibility of greater instability for European economies. On principle, the world economy moves toward a finance market-driven bubble for corporate financing and private households in the US. In 2006 after the crash of the New Economy boom, we are again witnessing irrational excess in the credit system and in the prices of assets- and property titles: the phenomenon of the new record in business takeovers and mergers, over-valued assets, the greatest total indebtedness of the post-war epoch, the most grotesque credit-financed consumerism, lowest savings, lowest net investments of the post-war period, largest foreign trade deficit, greatly increased foreign indebtedness, massive differences in income and assets, and a financial system strained by leverage.

The uneasiness about this finance-driven accumulation and the corresponding economic policy of a “stock market or asset price Keynesianism” is nourished in that the gravitational laws of the economy are temporarily relativized. Financial results are ultimately grounded in social value creation and can only be restrictedly applied for economic stabilization. Little is left for real investments through the growing claims of finance market actors. Certainly, the total surplus is raised when funds and holding companies force businesses to reorganize their production, redistribute capital to more profitable firms, join in the spread of technologies across sectors and provide liquidity to new enterprises with risk capital. These are new impulses for the value creation and exploitation process. The financing tends to a “soap-bubble economy” producing snowball systems to realize ever-greater speculative profits. When the bubble on the real estate- or finance markets bursts, the weaknesses of the economy become blatant. The challenge of a radical social reform consists in gaining social control of production and distribution.

Economic ups and downs have marked capitalism for 200 years. The accumulation of capital occurs on one side as a qualitative expansion on a given technical-organizational foundation and on the other side as a revolutionary change of its features. Since the machine system has formed on the micro-plane of the business (factory), we can speak of the hegemonial role of a social mode – with all the diversity of the forms of operational value creation and business organization. The term social mode refers to the connections between the technological-organizational structure of the value creation process and labor organization.

Capital never views the given forms and organizations of production and labor as definitive. Capitalism develops an unparalleled elasticity on the basis of fixed capital. The cyclical nature of the accumulation process is intensified by the formation and deepening of the international division of labor in which the operation of big industry and Fordism are typical for metropolises while the countries of the periphery are transformed mainly into raw material suppliers for the industrial centers. Development of productivity, equalization of profit rates, the movement of interest rates etc. – all this occurs in the rhythm of economic movement as a more or less periodically recurring succession of average vitality, prosperity, over-production, crisis and stagnation.

This economic cycle can be stabilized and controlled. The conventional control levers come from the time of the worldwide economic crisis and the Fordist age after the Second World War. Instead of a modernized regulation and control, we have increased economic-financial instability through the neoliberal policy. The central problem of developed capitalist countries is the unequal distribution of income and assets through hindered economic growth for some and undermined social security systems created in the post-war decades for others. With the tax cut policy for the well to do, the chronic over-accumulation has increased. The economy could open up a higher level of social reproduction for all members of society through a new framework for public goods and services on one hand and modernization of public enterprises on the other. Thus the effects of “wealth-driven” accumulation are mixed. The far-reaching change of the banking and financial areas intensifies the concentration and centralization of businesses and accelerates the changes in the system of social security.

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