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On Instability

di - 22 Dicembre 2009
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1. The economy in which we live – the capitalist market economy – is a formidable, incomparable growth machine (Baumol).
Since its birth with the Industrial Revolution in Britain modern capitalism has been capable of multiplying the material welfare of humanity, which had remained practically unchanged during the preceding “malthusian” millennia. Per capita world GDP in real terms (PPP) today is ten times the level of 1820 (Maddison). In 1820 it was no more than 40 per cent higher than at the time of the first Roman emperors. It is remarkable that this extraordinary average per capita increase coincided with the explosion of world population, from 1 billion people in 1820 to more than 6 billion nowadays. It is no less remarkable that two thirds of the 60-fold increase in world GDP was due to knowledge, innovation, technical progress, higher productivity. Only the remaining third was due to additional quantities of labour, capital, and the other inputs employed in the production of goods and services.
The potential growth of output and productivity – “Modern Economic Growth” (Kuznets) – apparently outweighs the negative features of the capitalist system. This explains the prevalence of the market economy over other “modes of production” and its diffusion wordwide, especially after the failure of the planned economies since the 1970’s.
Besides being unfriendly towards the environment – provoking pollution, warming of the earth, melting of the ice surface, rise of the sea level, etc. – the capitalist system is inegalitarian, and increasingly so, in the distribution of income and wealth. Even the poorest section of world population is economically better off today than two centuries ago. Nonetheless, the disparity between the rich and the poor is presently enormously wider. It is so both within each economy – among the citizens of single nations – and when we consider the distribution of income within the entire population of the world. Considering the latter, the Gini index was 0.50 in 1820; it is near 0.70 today (Bourguignon and Morrisson). The richest 1% of world population (60 million people or so, gets a share of world income equal to that recevied by the poorest half of humanity (3 billion people) (Milanovic).
No less worrisome is the third drawback which afflicts the market system: instability in economic activity and finance.
Since we evoked world GDP in real terms, its fluctuations around the trend can convey a first, impressionistic, idea of the systemic nature of the instability of capitalism. Specifically, dramatic negative deviations from trend – -5% or more – took place for shorter periods in the XIXth century and for longer periods in the aftermath of the two World Wars, in 1929-33 during the last century, and again in 2009. Overall, over the last two centuries we find at least seven major contractions in global economic activity (GDP, but also investment, employment, consumption, social welfare).

2. It has to be emphasized that instability can be not only “real” but monetary and financial as well. Inflation and deflation of consumer prices and of asset prices, currencies appreciation and depreciation, financial manias, panics and crashes, failures of banks and other intermediaries: the frequent occurrence of such phenomena adds another dimension to the instability of capitalism. Monetary and financial disorders are particularly relevant for their random but pervasive repercussions on the distribution of income and wealth, as well as for the sense of uncertainty and the social tensions they generate.
It should already be clear that I am not referring to the recurrent bad harvests in the mainly agricultural economies of the XIXth century. Similarly, I am not referring to the quasi periodical “business cycle” nor to the minor fluctuations in the rate of growth of production which have been experienced mainly in the second half of the last century.
We shall concentrate our attention on the most serious, albeit less frequent, real and/or financial crises.

3. As to the present crisis, the most recent estimates and projections of the IMF for 2009-2010, made under the supervision of Olivier Blanchard, depict one of the deepest contractions in the history of modern capitalism.
Before the crisis, in 2007 the growth rate of world GDP was 5%. The IMF forecasts that in 2009 GDP will fall, by more than 1%, for the first time since 1950. A six percentage points deceleration implies an irreplaceable loss of four thousand billion dollars in world potential output. Vis a vis 2008, the contraction of GDP (- 4%) is concentrated in Western economies and Japan, while China is still growing at the rate of 9% per annum.
After 70 years of inflation, consumer prices will be stable, or slowly falling, this year. The value wasted on “subprime” loans, “toxic” financial assets and stock exchanges could imply for banks and other financial intermediaries four thousand billion dollars of overall losses, equivalent to nearly 1/3 of US GDP and to another 6% of world GDP (bank losses would amount to 2.7 thousand billion dollars (4% of world GDP).
The disaster started in the U.S. and U.K. financial markets, then spread to Europe, Japan and other parts of the world. It happened in spite of the fact that central banks injected huge amounts of monetary base in the money markets (even more than doubling their balance sheet) and governments widened their budgetary deficits, offered guarantees to weak financial institutions, and recapitalized quasi insolvent banks with huge amounts of public money.
According to the IMF, assuming that monetary and fiscal policy continue to support aggregate demand, 2010 should be a year of moderate recovery of production (not of employment). Price deflation will be avoided. The financial industry would return to profit. Several banks could be re-privatised.

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