Sunday, June 11, 2006

The ecosystem of globalization

"The ecosystem of globalization" is a condensed version of my "Speculative capital and the ecosystem of globalization" paper. The new paper focuses on globalization and the environment in general, and has a lot less detail on speculative capital.


Tuesday, June 06, 2006

Speculative capital as dominant sector

The concept of a "dominant sector" of capital is based on the idea that power is not distributed evenly throughout a class. One or more sectors may contest for political control; political control provides that sector with the ability to re-align, or even reorganize the economy through government spending, tariffs, taxation, law enforcement, military action, regulation and all of the other instruments of political power.

While wealth is the basis, ultimately, of capitalist power, more important is the control of wealth. This was implied by Lenin in his definition of finance capital as the merger of industrial and bank capital under the control of the banks. This distinction is important because, although finance, and in particular, speculation, does not produce value, it may control the sectors that do, and through that control, dominate (in the sense of setting the political agenda) the class and the economy. Here is an attempt to answer some questions about the concept of "dominant sector" today.

First, how does speculative capital come to be the dominant form of capital in the age of electronics? It does this by coming to control wealth.

1. Globalization (transnationalized production) requires hedging in order to maintain a stable production environment. Hedging is the participation in speculative capital markets to protect assets. Speculative capital comes to control larger pools of capital as a result.

2. Idle money is not capital (it is no longer being used in the self-expansion of capital). Banks historically have provided a way of keeping that money working as capital, by taking the industrialists money and lending it to other industrialists. The faster that money can be loaned out, or, if speculated with, the faster and cheaper and more frequent the transactions, the busier and more profitable that capital can be. Because modern speculation is based on digital networks operating at nanosecond speeds, modern speculation allows that capital to always be active in financial trading. And because of this hyperactivity, the opportunity for additional profit exists, attracting capital to speculation. (This profit is not generated by speculation per se, rather it is re-distributed from producers of values to speculators. Speculative capital attracts and accumulates surplus value produced elsewhere in the economy.)

3. Speculative capital offers a means of gaining a higher return on investment, so money flows into speculation and speculative capital comes to control more wealth. Capital seeks the highest return on investment. In a period of low interest rates, low rates of return, and large pools of money capital (it can't be invested in current production techniques because, with the productivity of robotics et al, investment in production will only flood the market with commodities), companies put that money to work in speculation. As financial observer James Grant said in the recent (6/12/06) Business Week article, "The world is stretching for return."

4. Within the financial sector, speculative operations are more profitable, causing a shift in the focus and activity of finance capital. The tail comes to wag the dog. "Investors argue that trading is booming now while most traditional banking businesses are languishing. Big firms can no longer subsist on underwriting or stock and bond trading as the combination of more rivals and cheap electronic trading drives down profit margins. 'Wall Street doesn't get paid to not take risk anymore,' says Merrill Lynch & Co. financial-services analyst Guy Moszkowski." (6/12/06 Business Week).

5. Through leverage, speculative capital controls sums of capital far in excess of actual holdings. Leverage is basically borrowing money to invest.

According to a Business Week chart (from the 6/12/06 issue), every $1 of major security firm equity controls $18 of assets. This underestimates the reach of speculative capital though: When the hedge fund Long Term Capital Management's troubles became public in 1998, its leverage ratio (that is, the amount of the capital it was investing compared to its own capital) was 28-1 according to a GAO report (Saber, in his Speculative Capital, said it was 50-1). That is the equivalent of a bank lending someone $2.8 million, or $5 million, depending on whose figures you use, using a $100,000 house for collateral. Which of course in normal financing for production a bank would never do. Saber argues that because arbitrage, the heart of speculation is in theory a "riskless investment", that there is a certain rationale to leverage ratios like that. LTCM's leverage ratio according to the GAO report was not out of line with other securities firms; Goldman-Sachs leverage ratio was 34-1 at the time, according to the GAO report. (Due to differences in calculating the ratio, these numbers may not jive with the Business Week numbers above). One additional note on leverage: according to Saber, as the spread on arbitrage shrinks due to competition and better technology, more leverage is required to maintain the same returns.

6. Speculative capital is also the arena in which speculation takes place -- the exchanges, the traders, the computer systems -- and speculative capital accumulates capital via the trading fees it charges everyone to participate in the mayhem.

Second, how does speculative capital exercise that dominance? Control over the economy is exercised in several ways.

1. Through influence on money market funds, speculative capital wields tremendous power over national currencies, which affect the cost of imports (in particular oil, priced in dollars) and exports, and access to money for production. See, for experience of various Asian countries in the Asian financial crisis in 1997. Through the speculative financial markets, capital can quickly flow into and out of markets and financial instruments -- is what is meant by "hot money", or the "instant plebiscite" that Walter Wriston talked about in his 1996 Wired interview.

2. Through stock markets, speculative capital (in the form of hedge funds) can affect the fortunes of companies by affecting their stock price, which can affect the ability of companies to raise additional money, or force shareholder activity to boost share price, or play a more active role as a company shareholder. Although traditionally connected to production only abstractly, in some cases speculative capital is taking a more hands on approach (see, e.g., "How U.S. Firms Are Pulled To the Mat by Hedge Funds", 2/11/06).

3. In a similar way, speculative capital, through hedge funds, is playing a more active role in private equity, that is financing start-up companies. See the 6/12/06 Business Week article, also the 4/5/06 WSJ article "Need Cash? Call a Hedge Fund". Speculative capital also provides sources of capital for venture funds, and ways for investors to speculate on new technologies.

5. As capital involved in the trade of commodity futures, speculative capital wields power over commodity pricing -- e.g., historically corners on the grain market; and more recently Enron and other energy traders and the California electricity crisis.

6. Control of wealth enables speculative capital to push for particular solutions that benefit it. Enron, which was transitioning in the 1990s into a speculative trading company, lobbied for the Kyoto protocol, in part because it focuses on the trading of pollution permits as the solution to global warming.

7. Control of wealth enables speculative capital to push for general policies that provides a climate in which it can thrive: free capital flows, controlled inflation and low interest rates, privatization and commodification (more trading opportunities), open capital markets. (E.g., Robert Rubin, Treasury Secretary under Clinton and also a Goldman-Sachs alumnus, used the Asian currency crisis to force open the relatively closed South Korean financial system.) What Hank Paulson does at Treasury after his expected confirmation may provide some indication as to what an "agenda of speculative capital" looks like.

Third, what is the relationship of speculative capital to other sectors of capital?

1. The production of use values, as always, is the foundation of the economy. The source of profit, as always, is surplus value expropriated during the production of values. Speculative capital "only" re-distributes this surplus value -- that is the source of gain from the trading of stocks and options and other kinds of derivatives. Speculative capital cannot exist independent of productive capital. But like the Old Man of the Sea, speculative capital rides on the shoulders of productive capital, overseeing and controlling it.

2. As capital becomes more mobile, all capitals are quickly merged into a big digital ocean of capital. To a great extent, this is made possible by the technology of finance. As soon as cash is deposited in a bank, that money becomes available to the bank for speculation. The boundaries between productive sectors like agriculture, industry, and transportation melt as their capitals mix in finance and become employed as speculative capital. Every industry must keep its capital active when not used for production, whether because expanded production is not feasible (e.g., how many more factories can Toyota build?), or because reserves are needed for future contingencies. Speculative capital puts that capital to work trading financial instruments.

3. Speculative capital works in the same way as finance capital in general, pooling individual capitals under its control. The main difference is that classic finance capital is directed back into production -- loaned out to expand production. If that capital cannot find a place in production (again, because production opportunities are constrained by hyperproductive new technologies and exhausted markets), it is put to work in speculation.

4. Speculative capital is the culmination of the process of the formation of a general rate of profit, the overall system of capital that Marx talked about, where all capitalists partake in the exploitation of labor even if they do not directly produce use values.

5. Speculative capital permeates all sectors of the economy, as a kind of spirit (Hilferding referred to finance capital as the holy ghost of capitalism; speculative capital is the perfection of that permeation) in and behind and around production, connecting everything together. Because it profoundly affects raw material prices and interest rates, speculative capital affects the daily operations of production and transport. Through complex derivatives and other kinds of hedging, speculative capital dissolves boundaries between sectors in other ways connecting distant markets in the same commodities as well as markets in different commodities. The complexity of these financial interconnections is not feasible without computers and digital communication networks.


Sunday, June 04, 2006

Mr. Speculative Capital

President Bush nominated Henry Paulson, CEO of investment bank Goldman-Sachs as secretary of the Treasury Department last Tuesday (May 30, 2006). The June 12, 2006 Business Week called it "Mr. Risk goes to Washington." Mr. Speculative Capital that is.

I have argued that speculative capital -- capital involved in the trade of financial instruments -- is a subset of finance capital in general, but comes to dominate not just finance, but capital in general during the stage of capitalism known as "globalization." (For more on see a paper on speculative capital, also a paper of networks and globalization which has more on this.) The transition of Goldman-Sachs from private partnership investment bank -- making its money primarily from advising corporate clients, helping companies go public, and facilitating mergers and acquisitions -- to speculation powerhouse underscores the dynamics of how speculative capital rises to the position of control. As a companion Business Week piece (" Inside Wall Street's Culture Of Risk" by Emily Thornton) noted:

Investors argue that trading is booming now while most traditional banking businesses are languishing. Big firms can no longer subsist on underwriting or stock and bond trading as the combination of more rivals and cheap electronic trading drives down profit margins. "Wall Street doesn't get paid to not take risk anymore," says Merrill Lynch & Co. financial-services analyst Guy Moszkowski. The big investment banks add value by 'absorbing the risk that their clients are looking to get rid of.'"

The article quotes financial market historian James Grant: "The world is stretching for return." Speculation can achieve that, while traditional banking activities can't. (Another aspect of speculative capital's clout is the number of Goldman-Sachs alumni in positions of political power: see "The Leadership Factory", another Business Week item.)

I think it is also important to note that large volumes of risk cannot be managed without the aid of computers and digital networks; or, speculative capital can only come to the fore with the introduction of electronics into production. E.g., according to Thornton's article,

Yet for all the risks they're taking on, banks insist they're safer than ever. They've hired many of the greatest mathematical minds in the world to create impossibly complex risk models...

The bank [Bear, Stearns & Co. -- the transition is happening throughout the financial industry - jd] has built such powerful computing systems that Alix [chief risk officer at Bear, Stearns] can reevaluate every day the risks of thousands of positions across the firm's trading businesses under various stressful scenarios to be sure the firm doesn't hold too much of any risky investment at any one time. That type of analysis used to take a week to complete. "The machine works," he says. The degree to which risk management has evolved in the past few decades is astonishing, say analysts.

The transition at Goldman-Sachs from old-line banking services to speculator was overseen by Paulson, including investing mightily in the technology that required to successfully manage the risk. According to a May, 2000 Forbes cover story on Paulson and G-S, "Goldman Sachs will by year's end have spent $5 billion in five years on all this technology, building an arsenal aimed at making money whichever direction the market goes. So long as it goes somewhere. 'Volatility is our friend,' Hank Paulson says serenely. 'If it wasn't for volatility, why would you need Goldman Sachs? Why would you need to take positions or risk?'". Michael Mandel, in Business Week noted that "Goldman, under Paulson's leadership, became one of the greatest and most profitable risk-taking machines ever built."

So what does Paulson's nomination to head up the Treasury Department mean? Because Paulson is such a big deal on Wall Street, the general assumption in the news of the nomination is that Paulson was guaranteed a seat in Bush's inner circle and more clout in domestic and international economic policy than his two predecessors. Paulson's nomination might help calm jittery markets, the "Rubin effect" as Liz Moyers reported on Through G-S dealings with China, Paulson might have influence on economic relations with China, including moving them to a market-based currency exchange rate. As a big-time conservationist (Paulson is chairman of the Nature Conservancy) he might bring some sanity to the government's policy on climate change.

Michael Mandel argues that Paulson brings to Washington is the ability to explain to Congress and the public the nature of risk in the new economy. This can be translated into explaining why the sources of risk for most people -- cuts in government programs, "free trade", job flight, downsizing, market volatility, etc. -- are good. Neoliberalism is creative destruction of the old bureaucratic, timid ties that bind, freeing up the entrepreneurial risk-taking adventurous spirit blah blah blah. The two previous secretaries of the Treasury came out of old-economy industry (aluminum and railroads), where debt and risk are "bad". In new-economy terms, growth means risk, risk means debt, and no risk, no reward. Goldman-Sachs increased its long-term debt five-fold from 1999 to 2005 ($20 billion to $100 billion). Looked at in "new economy" terms, the U.S. national debt, trade deficit and currency weakening can be seen as "leveraging up" -- taking on risk for big rewards down the road. Paulson will be able to explain why this is good. And maybe he will be able to explain why privatizing social security will be ... ummm ... good. Mandel writes, "Within Goldman, Paulson is known as an exceedingly effective communicator. If he can translate Wall Street's language of speculation into something the public and politicians understand, the President's gamble in appointing him will pay off for everyone."

Paulson has been a supporter of Bush (helping to raise over $100,000 for his campaign in 2004). As a Wall Street Journal article by Deborah Solomon the day after the announcement noted:

Mr. Paulson has generally taken positions that hew closely to the Bush administration's. He has called for open markets, favored Bush economic policies and said deficit reductions should come through spending cuts, not tax increases. In an op-ed article in this newspaper in 2003, Mr. Paulson said the Bush dividend tax cut would spur growth and said the notion that such a reduction "somehow favors the wealthy at the expense of the poor harkens back to an earlier era when only the rich held equities." Last year, Mr. Paulson said that while he was "concerned" about the deficit, he viewed it "as being a necessary and understandable side-effect of what needed to be done to stimulate the economy."

However, the economic policies listed above are not that much different from Clinton's policies. They describe the general neoliberal program of the past 25 years. And one could argue that Bush's actual policies -- the cost of establishing the police state, the cost of the war in Iraq, Congressional pork -- run counter to the neoliberal agenda.

Another, entirely (pardon me) speculative thought: Speculative capital requires some degree of stability in the underlying world economy -- volatility yes, but not so much that it reaches a systemic tipping point. And the Bush administration is making a total mess of things, from the war in Iraq to oil prices to climate change to China to budget deficits and trade imbalance, that "Wall Street", or the representatives of speculative capital, are saying "Enough!" And Paulson is stepping up to try and restore some order.

Time will tell.