Marxist economics views class, power, conflict and instability as central features of human society, and capitalism in particular. It is not alone in this, and there are other radical schools of thought which accept them. But the dominant neoclassical mainstream starts from a position assuming equilibrium and harmony. More modern variants introduce market ‘imperfections’ which can purport to explain why the economy departs from these. But they neglect history and politics, which Marxist approaches incorporate and use to show that capitalism is a historically specific economic system. Neoclassical approaches are something of an apology for capitalism, and are in this sense uncritical.
It should therefore come as no surprise that when times are good and the economy prospers, neoclassical economics sees no reason to question its own basis. When major crises erupt, alternative ways of thinking about things often get a new, if temporary, lease of intellectual life, and may even inform policymaking, until the worst is over.
Now is definitely a time of global instability, with war, inflation, climate change and uneven patterns of economic development to the fore. Although I should say right now that I don’t think that the answer to our problems is traditional socialism, progressive reforms which improve the resilience and general functioning of capitalism are, I think, as vital as ever.
Although the worst of the inflationary shock which followed in the wake of the pandemic is over, it remains somewhat sticky in the US, and in many other advanced economies has yet to fall back to the targets set by central banks.
The problems which beset the global economy have me referring back to some of the Marxist literature on inflation, and an article from the 1970s by distinguished economics professor at Cambridge University Robert Rowthorn. Rowthorn was for a time a committed Marxist, and has written on a range of issues over the years. His ideas on inflation can be found in a published collection of his papers from that time, Capitalism, Conflict and Inflation. The 1970s was of course a time of high inflation across the advanced economies in the wake of the end of the post-war economic boom (known to some as the Golden Age). This was triggered by two oil shocks during that decade, and entrenched in some economies as productivity slowed and trade unions displayed increasing militancy over wages. In countries with stronger but relatively cooperative unions, such as West Germany, inflation fell back relatively quickly, while in the UK, with its more dysfunctional system of wage bargaining, inflation stayed higher for longer.
Rowthorn’s writings from that time on inflation under capitalism remain extremely relevant to today’s events, so I thought that sharing some of his most pertinent insights, which I have partly done in previous posts, would be helpful. So here are five lessons from his Marxist theory of inflation.
1. Growth, development and inflation under capitalism
Economic growth proceeds unevenly over historical time and geographical space. For Marx, the prospect of the profitable sale of the produced output of goods and services is the key motivation for companies to invest and expand, and also provides much of the financial resources to do so. During an episode of growth, and particularly during a boom, when more firms are producing closer to full capacity, many will invest to expand that capacity, and hire more workers, so that employment increases. A buoyant product market will make it easier for firms to raise prices, and a tighter labour market will strengthen the hand of workers, who will find it easier to push for higher wages, especially so if trade unions are powerful and well organised.
For Marxist theory, contradictions in the form of imbalances, production bottlenecks, and other barriers to growth will arise in the course of an economic upturn. Higher wages may squeeze profits from below. While they may to some extent boost consumption on the demand side, and incentivise firms to become more productive on the supply side, at some point these processes will reach their limits, and lower profits will reduce the ability and desire of capitalists to continue increasing investment. Growth will slow, potentially leading the economy into a recession, unemployment will rise, weakening the hand of workers, and reducing wage inflation. The least profitable firms may go out of business and others may scrap the least efficient parts of their capacity. At some point the economy’s average profitability will be restored, and firms will step up investment, driving a new phase of growth.
When it comes to inflation, Rowthorn’s Marxist approach argues that it is one way for the state to prevent private sector profitability from falling even as wages rise. To do so, they may expand aggregate demand by cutting interest rates, cutting taxes or increasing government expenditure. Policymakers may not see it in these terms, rather it could be a way to keep unemployment from rising in response to an economic slowdown. This is a typical Keynesian policy response. But if it prevents the industrial restructuring that is apparently necessary to drive a new phase of growth in output and productivity, then there are limits to this process, at least in the absence of complementary policies.
Rowthorn points out that the state is far more interventionist today than it was in Marx’s time. It can respond to falling average profitability in three ways. Firstly it can expand demand every time the economy slows down and profits fall, or unemployment rises. This will put off the day of reckoning when restructuring must take place in order to sustain longer run growth. Stagnating productivity and rising prices will mean there is less room for wages to rise without either squeezing profits or igniting inflation. Secondly, the state can intervene directly in the economy to force industrial restructuring, reduce costs, and increase productivity and profitability. It will in this way attempt to remove the barriers to further profitable economic expansion. Finally it can adopt a laissez-faire approach by allowing a crisis or recession to occur, or it can itself foster a crisis by tightening monetary and fiscal policy. In both these cases, it may hope that ‘market forces’ will themselves promote the required restructuring of the economy.
In practice the state may employ a mixture of intervention and laissez-faire, depending on its capabilities, and the economic, political and social context.
2. Capital and labour
For Marxists, capitalism is characterised by an inevitable conflict between the two social classes, capital and labour. This is reflected in Rowthorn’s model of inflation, which argues that sustained and even rising inflation is only possible if the total claims of the two classes over their share of the national income, in the form of profits and wages, amounts to more than the national income itself. The national income in nominal terms is regulated by aggregate demand, which is in turn influenced by the state via monetary and fiscal policy.
Today’s inflation was largely initiated by supply shocks to energy and food markets which raised prices as the economic crisis due to the global pandemic subsided. It has been well documented that many large firms took advantage of this shock to sharply increase profit rates by raising prices far more than they increased workers’ wages. Thus in the conflict between capital and labour, the former seem to have won this time around, exercising far more power to increase and sustain their income than the latter.
However, the enormous fiscal and monetary stimulus enacted in the advanced countries during and after the pandemic to sustain incomes likely provided the demand-side ‘space’ for the incomes (profits) of some capitalists to increase dramatically by price increases. If labour had been more powerful and better organised, it could have pushed for faster wage rises to keep up with rising prices. This would have squeezed profits if the relevant fractions of capital had been less powerful and less able to raise prices. A tighter monetary and fiscal stance by central banks and governments could have reduced the inflationary impulse and shortened its duration. However, powerful capital and relatively weak labour would have meant that the likely weaker resulting economic recovery would have hit wages and employment harder than was the case.
3. The US versus the EU and the limits to expanding demand
Relative to the rest of the advanced world today, the US economy is booming, thanks in part to its large and sustained fiscal stimulus. One possible effect of this is that inflation has recently been stickier downwards than across much of the EU, where fiscal policies have generally been tighter, resulting in slower growth. The loose fiscal policy of the US creates a more buoyant market for firms, likely making it easier for them to raise prices. It will be interesting to see how any changes to the fiscal and monetary stance over the next year or two impact inflation and growth. An expansion in aggregate demand is necessarily split between an increase in output and an increase in prices at home, and an increase in the same two factors in the rest of the world with which it trades, as part of the increased demand leaks abroad. If US-based firms as a whole respond to an increase in demand solely by increasing output rather than prices, then inflation is more likely to be stable and economic growth stronger. But if they only raise prices and not output, and continue to respond in this way, then inflation will be higher and the economy stagnant, an unhappy situation known as stagflation.
The limits to expanding demand in order to improve economic performance may only become apparent after some time, as explained in section 1 above. In the absence of additional policies which ensure that firms invest productively, it may prevent average profitability from falling and the periodic industrial restructuring that this can stimulate. In the longer term, higher inflation and weaker growth may be the result, until some combination of economic crisis and state intervention initiate the necessary change.
4. Industrial policy
Industrial policies involve state interventions which increase the productive capabilities of the economy as a whole. They can encompass changes to tax rates, subsidies and regulation, as well as the impact of macroeconomic policies which influence demand. The capabilities of the state itself and its relationship with other economic agents such as firms and workers are important elements in its effectiveness over time.
US President Biden has enacted a range of policies intended to boost domestic industry. While factory construction has been booming, manufacturing productivity remains relatively sluggish, as it has for some years. But these are early days, and the impact of the expansion of productive capacity on the overall economy takes time. If inflation is to fall back to target even as the economy continues to do well, then the expansion of output will need to be more responsive to rising demand than a rise in prices. Productive investment to more rapidly expand the capacity of the economy will need to be sustained over many years. Biden’s fiscal policy is surely supporting demand, while his policies on improving the nation’s infrastructure and manufacturing capacity are intended to enable a stronger response of supply, which will ultimately help to keep inflation down in the longer run.
5. Prices and incomes policies
An alternative response by governments to the inflationary supply shocks would have been to intervene more directly in price and wage setting, to prevent the price-gouging and profit-taking deemed to be excessive, in order to ensure that real wages fell less sharply. Countries with stronger and more cooperative trade unions could have enacted a wages policy. This would attempt to balance fairness and efficiency by accepting the reduced real incomes resulting from the supply shocks while preventing increased wage inflation from becoming embedded in the economy, and sustaining profits at some desired level. The success of such a corporatist solution would have been more likely in countries with a history of political and social consensus, which is more common in some of the states of Northern Europe. It might also have been more successful taken together with an effective industrial policy intended to restructure the economy, expand productive capacity and raise economic growth.
In conclusion
These lessons from an account of a Marxist theory of inflation point towards the objectionable nature of certain elements of capitalism, despite its undoubted power in raising living standards. Periodic economic crises can create the conditions for further advance, but they can also destroy lives and livelihoods. They suggest that today’s turn among the advanced economies back to industrial policy amid a fragmentation of the global trading system are likely to represent a longer term return of the state to greater intervention in the economy than has been the case in the last few decades. In truth the state never really went away. Perhaps it only did so in some branches of neoclassical theorising. However, the ways in which it is now choosing to intervene in the wake of multiple global shocks and existential problems are significant. Drawing on Marxist thinking in an attempt to understand these processes seems to me to be fruitful.
The Political Economy of Development 