Happy 200th Birthday, Karl Marx!

Most Marxists and anti-Marxists alike probably fail to realise that the highest praise for capitalism is to be found in Marx and Engels, Manifesto of the Communist Party (1848), that readily recognised that the capitalist system promoted urbanisation, industrialisation, technical progress, economic growth and prosperity on an unprecedented scale:  

“The bourgeoisie, during its rule of scarce one hundred years, has created more massive and more colossal productive forces than have all preceding generations together. Subjection of Nature's forces to man, machinery, application of chemistry to industry and agriculture, steam-navigation, railways, electric telegraphs, clearing of whole continents for cultivation, canalisation of rivers, whole populations conjured out of the ground—what earlier century had even a presentiment (of) such productive forces . . . The bourgeoisie, by the rapid improvement of all instruments of production, by the immensely facilitated means of communication, draws all, even the most barbarian, nations into civilisation.”

At the same time Marx viewed capitalism as a form of systematic labour exploitation. Primitive societies were not exploitative because they exchanged goods roughly embodying the same amount of labour. Slavery was less exploitative than it seemed, for slaves’ consumption allowed them to recover some of their own labour that looked entirely unpaid. Feudalism was openly exploitative, for the amount of work performed by labourers for themselves and for their feudal masters was clearly stipulated and visible; whereas capitalism does not look exploitative at all, since all labour is paid for, but workers perform more work than is embodied in their means of consumption and a surplus of unpaid labour is appropriated by capitalists.

 

Marx neglects altogether entrepreneurship, uncertainty and risk and their rewards: on that basis a positive share of profits is sufficient to infer exploitation, without the unnecessary detour of his labour theory of value.

The replacement and growth of fixed capital would be necessary in any mode of production (including socialism, Pareto 1890): exploitation should be restricted at most to capitalists’ consumption. But Marx regarded all profits, consumed or re-invested, as equally exploitative as originating in “primitive accumulation” ultimately rooted in theft, robbery, war, conquest and other forms of violence.

Inequality of wealth and incomes was recognised as a defining feature of capitalism. Its redeeming feature was the financing of investment and growth: “Accumulate, accumulate! This is Moses and the Prophets” (Capital, Vol,I, ch.24).

Marx modelled intersectoral flows and equilibrium conditions for a stationary and a growing economy in his schemes of simple and enlarged reproduction (with two vertically integrated sectors producing consumption and investment goods respectively). However he exaggerated the instability of a capitalist system by assuming that profits necessarily would have to be reinvested in the same sector in which they originated, while in any capitalist economy re-investment is never subject to such an arbitrary restriction (Lange 1970 amplified unreasonably this presumed instability of the system maintaining this undue sectoral restriction in a multi-sector model).

Marx regarded capitalism as a totally chaotic and anarchic system, naturally generating unemployed labour and under-utilisation of other resources, as well as costly fluctuations and economic crises. However he neglected automatic processes of economic adjustment, operating imperfectly, often either too fast or too slowly, but typical of the operation of markets in a capitalist system.

These automatic processes are: in the short-term, for a given level of production, the Walrasian adjustment of prices to any positive or negative excess demand; in the medium-term, when production levels can vary, the Marshallian adjustment of enterprise output to price relatively to its marginal cost; as well as the transmission to other sectors of the inputs requirements corresponding to their output change (activating what Goodwin 1949 calls “the multiplier as matrix”). In the longer term, when productive capacity can vary, there is a gradual adjustment of the actual capital stock to the level desired by enterprises in consideration of the demand level they experience - an upwards adjustment via investment in new capital or downwards through the non-replacement of excess capital. These adjustment processes are rooted in the maximisation of profit on the part of enterprises operating in a system of markets, whose owners appropriate profit to their own advantage. And we need to stress that these adjustment mechanisms auto-regulate production, prices, intersectoral transactions and productive capacity but naturally they do not regulate themselves as institutions (in a process that would amount to “autopoiesis”); thus their creation, regulation and guarantee remain fundamental functions of the state even in a fully de-centralised market economy.

Goodwin (1947, 1951a and 1953) likens the adjustment mechanisms operated by markets to homeostatic mechanisms, such as for instance a thermostat, that records the actual temperature, compares it to a pre-fixed desired temperature and automatically activates heating or cooling systems in order to reduce the difference between actual and desired temperatures (see also Leijonhuvfud 1970).

This kind of logic is less cogent and much more controversial in the case of financial markets. Financial intermediation creates value by modifying the size, time horizon and riskiness of assets demand and supply, but their continuous operation is associated to phenomena of both euphoria and panic. Financial markets contribute to economic growth at the cost of a greater vulnerability and potential instability. Keynes believed that financial investment should be indissoluble like marriage (or better, we should say that investment divorce should be equally costly and traumatic). Derivative products, whose value depends on the value of underlying assets, which they amplify and multiply, can contribute to the increase of total risk instead of its distribution among a large number of agents. This is why Buiter (2009) proposed to reserve derivatives transactions to agents who could justify them on the basis of an underlying insurable interest.

The alternative to markets seen as automatic thermostats is the manual regulation of temperature or of equivalent processes; manual control – in economic terms – corresponds to central planning. The desirability of self-regulating market mechanisms with respect to central planning depends on the speed of reaction of the system, on its tendency to reduce or to amplify the possible divergence between objectives and reality, from the stability or otherwise of such processes. There can be circumstances in which manual control (planning) is preferable to the automatic control (markets). My favourite example, which I used to inflict on my students, is taken from Star Wars: when Luke Skywalker is trying to strike at the heart of the Empire with a single shot, he disactivates the automatic aiming mechanism and choses to do it manually. But he is justified by exceptional circumstances: there is only one target, which he can either hit or miss without intermediate degrees of success, and ... the Force is with him.

The automatic adjustment processes discussed here, built into a market system, in spite of their imperfections have made the capitalist system more flexible, at the same time exposing it to the risk of possible episodes of much greater unemployment, instability and stagnation than would have been the case otherwise.

One of Marx’s main contributions to political economy is an evolutionary theory (“Darwinist”, according to Engels in his Speech on Karl Marx’s Tomb) of modes of production, understood in the modern sense of economic systems, as institutional setups that regulate the production and exchange of economic goods.

For Marx labour acting over nature leads to the development of production forces (natural resources, accumulation of physical and human capital, the state of technical knowledge). This development leads to the emergence of contradictions between the productive potential of society and the prevailing production relations (e.g. rules about ownership, production organisation, etcetera). Production relations then are modified as a result, in such a way as to eliminate such contradictions, realising the “law of the necessary correspondence of production relations to the character of productive forces” (Lange, 1963, ch. 2).

Further contradictions arise between the economic basis (or production relations) and the superstructure of society, understood as the social relations and social consciousness (religion, ideology, culture, etc.; Lange gives the example of the support to capitalism implicit in the protestant ethic), which contribute to the legitimation of the existing mode of production. Conflicts and contradictions between the various elements of the system and their resolution guide its evolution, according to the “Law of the necessary correspondence of the superstructure with the economic basis”. Productive forces and production relations define a mode of production, though at any time a mode of production coexists with residuals of former modes and embrios of the superstructure of future societies (Lange, 1963).

In his original approach to the evolution of economic systems, in any case, Marx made three major errors: he believed that: 1) there would be a final point of arrival for such an evolutionary course, i.e. full communism (with prevailing free goods, distribution according to needs, no state, and abundance of economic goods) without classes and therefore non-antagonistic, under which there would no longer be conflicts and contradictions; 2) there would be a linear progression of economic systems, from primitive societies to slavery to feudalism to capitalism (with a possible diversion represented by the Asiatic mode of production), followed by socialism and full communism; 3) that system evolution would be dominated by an extreme form of dialectical materialism, or economic determinism, with an exclusive role for economic factors. On the contrary we know today that full communism has always remained an objective never realised; that in the 1990s socialism was re-transformed back into capitalism, and moreover into an extreme form of hyper-liberal capitalism; and that economic factors are only a part, though important, of the multiple causes of system transformations.

One prediction that Marx did get right was the progressive relative immiserisation of the proletariat: while in absolute terms economic progress has raised living standards immensely and reduced poverty beyond the most optimistic expectations, in relative terms especially in this century the share of income and wealth of the rich has been increasing at unprecedented rates to record levels. According to Oxfam (2016) in 2015 the 62 richest individuals had increased their wealth by 44% with respect to 2010, matching the same total wealth of the poorest 50% of the world population, which on the contrary impoverished itself by 41% in the same period (in 2010 it took the 388 richest individuals to match the wealth of the poorest  50%).  Since 2008, the wealth of the richest 1% has been growing at an average of 6% a year – much faster than the 3% growth in the wealth of the remaining 99% of global population: should that trend continue, by 2030 the top 1% would hold two/thirds of world wealth, $305tn – up from $140tn today (The Guardian, 13/4/2018).

Reports of the death of both Marx and God have been grossly exaggerated.

Markets can be expensive

In Central Eastern Europe and the Former Soviet Union the transition to an open market economy was accompanied by the rise and persistence of unemployment, the rise of inequality and of poverty. These phenomena were particularly serious because they meant a drastic reversal of earlier conditions of full employment, greater equality and low poverty incidence. Moreover higher inequality could not be justified as the reward for efficiency, as in normal market economies, but – particularly in Russia – was mostly the result of unrestrained pillage by privileged operators.

Before the Fall

The traditional, pre-Transition, Soviet-type system was characterized by full employment of labour, indeed by over-full employment: excess demand for labour at the prevailing wage rate. While full employment was obviously desirable, it was not the result of a specific policy but the by-product of persistent repressed inflation, i.e. excess demand for commodities at artificially low prices below equilibrium, which translated into excess demand for labour. Of course there was nothing positive about over-full employment, which was only a cause of high labour turnover and inflationary wage drift, which in turn contributed to the perpetuation of a state of excess demand for goods.

Wealth was almost entirely in public hands (in Albania even private ownership of cars was forbidden); the little that remained private was a source of direct satisfaction rather than income. By itself, this made distribution of income among the population more equal than in a market economy where income is derived also from private wealth (which is always more unequally distributed than labour incomes). There were also factors making for greater equality across Soviet republics and countries within the bloc: the emphasis on industrial development in every country, regardless of efficiency considerations; the socialization of enterprise profits and their re-distribution via the state budget; large scale subsidies via the All-Union Soviet budget, and via the under-pricing of raw materials and oil within the USSR and Comecon.

By World Bank standards of poverty – equivalent to $2.15 per head per day at 1996 Purchasing Power – in the socialist countries of Europe and Central Asia in 1988 on average fewer than 4% of the population lived in such absolute poverty.[1]

Unemployment

The initial prolonged recession of the early 1990s was naturally accompanied by shrinking employment and the rapid emergence of labour unemployment, converging to similar average values and dispersion typical of European Union countries. The many queues for goods typical of the old, typical shortage economy were replaced by a single but much longer queue for jobs. In the CIS, however, there were lower rates of job loss and limited job creation, leading to an increase in under-employment and reductions in real wages.[2]

Table 1 provides data for unemployment rates and employment ratios for 1998–2006. While unemployment remained high in Central and Eastern Europe, it tended to decrease in the rest of the area. Employment ratios did not have a clear trend, with several countries remaining under 60% and only a few being close to the Lisbon target of 70% for the EU member states. Employment rates tended to be higher in the CIS countries than in CEE countries, but this partly reflect higher under-employment and lower unemployment benefits.
The global economic crisis of 2008–2009 has already raised unemployment and reduced demand for migrant labour.

Table 1. Unemployment rates and employment ratios in CEE/CIS


Source: UNICEF (2006), TransMONEE data bank, updated 2009, Florence.
Note: Results from national Labour Force Surveys, except for Albania, Belarus, Armenia, Azerbaijan, Kazakhstan (2004 and 2005), Kyrgyzstan, Tajikistan and Uzbekistan, which are official data. The different sources may use different criteria, for example for registering unemployment, working activities in the informal sectors, temporary jobs.

Inequality


Egalitarian ideals associated with socialist ideology should not be exaggerated. First, there was significant residual real inequality due not so much to monetary income differentials but to privileged access to goods for the Party nomenklatura: this was no small matter, as it affected access to housing, motorcars, holiday facilities, health and education, foreign travel, imported and luxury goods as well as simple items of daily consumption which were in scarce supply for the ordinary citizen. Second, in 1931 Josef Stalin in person had condemned the “leftist leveling of wages” (uravnilovka), and urged the introduction of sharp wages differentials between skilled and unskilled and between difficult and easy jobs. And there were prizes for managers for plan-fulfilment and over-fulfilment, discretionary prizes for workers, money to be made by mediators (tolkach) in the informal semi-legal exchange of materials among enterprises, in the black and grey markets among consumers, the reliance on "pull" (blat’) through "acquaintances" (znakomstvo) to obtain scarce goods and services; a few legal markets, such as kolkhozian food markets and flea markets (barakholki). Bribes and large gifts (prinoshenie) were also common. All these factors distorted the significance of the degree of inequality as measured through official monetary incomes.



Subject to these qualifications, pre-transition measures of inequality, such as the Gini coefficient (=0 for absolute equality; 1 for absolute inequality, a situation in which one subject takes all) were impressively low in the Soviet Union and Central Eastern Europe, about 0.25-0.30. From 1989 to 2004 Gini coefficients increased significantly nearly everywhere in the transition, to around 0.35-0.40. Indeed, in many countries especially in the CIS they soon surpassed the degree of income inequality normally found in western market economies. The exceptions are the Czech Republic, where the Gini coefficient was and still is lower, though rising from 0.198 to 0.235; Belarus, with a similar trend; and Slovenia where it fell slightly from 0.265 to 0.243 between 1991 and 2004 (see UNICEF 2006).

“In recent years inequality has either increased at a much slower rate, or – in some cases – even declined. For example, in those CIS countries, where levels shot up in the mid-to-late 1990s, there have been signs of reductions; while in the Central European countries, where levels increased less dramatically in the 1990s, rates of increase have continued to be slow but steady. However, in most of the region, levels of inequality have remained high in the period of economic recovery, suggesting that growth has not always been inclusive in nature” (UNICEF, 2009).


An apparently similar degree of income inequality – Russia in 2007 had a Gini coefficient of 42%, i.e. a more equal income distribution than China’s 47% – can conceal a profound diversity. In China, and in “normal” capitalism, income inequality depends mostly on entrepreneurial success and is the price to be paid for efficiency; in Russia it depends primarily on the pillage of national resources during the transition and therefore it is a form of inefficient inequality.

Table 2. Trends in disposable income inequality, selected countries, 1989-2006

Figure 1. Gini coefficient of income distribution in China and Russia, 1978-2006[3]
Source: Popov (2009).

Poverty

Post-socialist transition, by itself and together with the associated deep and protracted recession, brought about a drastic increase in poverty. By 1998 it was estimated that, in the transition countries of Europe and Central Asia, one out of every five people survived on less than $2.15 per day (at 1996 Purchasing Power), whereas a decade earlier “fewer than one out of twenty-five lived in such absolute poverty” (World Bank, 2000). “There is little doubt that poverty has increased dramatically in the region. Moreover, the increase in poverty is much larger and more persistent than many would have expected at the start of the process.” By 1998 the people living in poverty had reached 20%. Poverty began to fall after 1998, with the generalized resumption of economic growth; by 2003 the poor represented only 12% of the population.[4]

With respect to the predicament of the poor in developing countries, the material hardship associated with poverty in the transition was made much worse by the drop from earlier achieved levels and expectations, and the loss of security. Sudden large scale unemployment, prolonged nonpayment of salaries, unpaid or decimated pensions, hyperinflation and loss of savings, the loss of free or subsidized social services “made people feel unusually vulnerable, powerless, and unable to plan for the future.” For most of the new poor, transition brought “the destruction of "normal" life and accustomed social patterns.”[5]

“The highest levels of absolute poverty are in poor countries of Central Asia”: Tajikistan (70 percent), and the South Caucasus (with Georgia with a poverty rate of 50 percent in 2003). “Yet most of the poor and vulnerable in the transition countries of the Region are in large middle-income countries such as Kazakhstan, Poland, Russia, and Ukraine.” Those most at risk are “the young, residents in rural areas and in secondary cities. The unemployed, people with little education, and those belonging to underprivileged minorities, such as the Roma are also at great risk. Most of the poor are working poor”.[6]

Russian $-Billionaires

Conversely, in the early 2000s Russia saw a spectacular increase in the number of dollar billionaires. In the Soviet era there might have been, at most, a dozen dollar-millionaires in the shadow economy. In 1995 there were no billionaires in Russia. In 2007, according to Forbes, Russia had 53 dollar-billionaires, in third place after the US (415) and Germany (55), but in second place in terms of their wealth, which in Russia totaled $282 billion ($37 billion more than Germany’s billionaires). In 2008 the number of billionaires in Russia increased to 86, with a total wealth of over $500 billion, corresponding to one third of a year’s GDP. Russia’s “primitive accumulation” took the form of privileged access to natural resources at prices lower than in the world market, to subsidized credit and to privatized assets also on privileged terms.


Trends in the current recession


In a recession such as that of 2008-2009 it is plausible to conjecture that initially inequality falls – because the rich lose proportionally more than those who have less to lose – and poverty rises because the poor cannot afford to lose what they have (viceversa in a boom). This is probably what has been happening in transition economies, though it is too early to tell. If the crisis lasts, losses among the poor – primarily through unemployment – become more substantial, and inequality as well as poverty may increase.

Lack of markets can be expensive. But so can the operation of markets. Is this an integral part of the human condition?

[1] World Bank (2000), Making Transition Work for Everyone: Poverty and Inequality in Europe and Central Asia, Washington D.C.
[2] UNICEF (2009), Innocenti Social Monitor 2009, Florence.
[3] Popov Vladimir (2009), “The long road to normalcy: where Russia now stands”, Conference Paper, UNU-WIDER, Helsinki, 18-19 September 2009.
[4] Alam Asad, Mamta Murthi, Ruslan Yemtsov, Edmundo Murrugarra, Nora Dudwick, Ellen Hamilton, and Erwin Tiongson (2005), Growth, poverty and inequality – Eastern Europe and the FSU, World Bank, Washington.
[5] World Bank 2000.
[6] Alam et al., 2005.