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The dog that didn’t bark: inflation and power in the contemporary capitalist state

Maximilian Krahé

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More than a decade after the global financial crisis, inflation in major capitalist economies remains very low. This tells us something important – and disturbing – about the weakness of social democracy in the twenty-first century.

‘All levels of inflation, high and low, are the outcomes of political conflicts'1

Inflation in Western Europe and North America has been low and stable since the early 1990s (chart 1). Like the dog that did not bark, this is a significant and under-appreciated event. It reveals something surprising about the political economy of contemporary capitalist states. Despite a surge of activism online and in the streets, despite the electoral upheavals in the UK and elsewhere, there is still no hard distributive conflict in the countries of the capitalist core. In the context of spectacular rises in economic and social inequality and insecurity, this finding is astonishing. It tells us that, for all the energy and enthusiasm invested in it, much of the political and social activism over the last decade has been ineffective and perhaps misdirected.

 

How could such a stark conclusion be deduced from so benign a trend as low and stable inflation? The pivotal causal claim, defended below, is the safety valve theory of inflation: under certain conditions, this claim goes, inflation acts as a safety valve on distributive conflict, and thus as a kind of crisis management tool.

If this is correct, and if the valve emits no steam, it follows that there is little pres- sure in the underlying boiler. In other words, despite the misery of austerity and crumbling public services, of rising inequality and falling life expectancy, of zero- hour contracts and rising rents; despite the injustice of golden parachutes among industrial ruins, of bank bailouts among benefit cuts, of stock market records among wage stagnation; all this notwithstanding, the activism and the tactics of the last decade have failed to raise the pressure in the boiler.

Why should we view inflation as a safety valve for distributive conflict? While a fuller explanation will be given below, the argument can be summarised using a different metaphor, involving four boxers and a cake.

Distributive conflict arises when there is more demand for cake than there is cake to go around. Assuming that baking more cake has already been tried, adjudicating this conflict means denying a sufficient number of claims until the remaining claims match the amount of cake available.

So far, so good. But now consider a scenario where four professional boxers, burly men and women all, are in a rage because they have not yet gotten what they consider theirs. They all demand one third of the cake, but there is only one cake to go round. In that case, might it not be easier for an adjudicator to write four vouch- ers, for a third of a cake each, and mail them from a safe distance? The one-third vouchers might only be good for a quarter-cake in the end – this is where inflation comes in – but if the process of translating vouchers into cake is sufficiently complicated, the adjudicator might escape the wrath of the boxers, who might, for example, turn on each other instead.

Where distributive conflict is intense, in other words, governments may prefer to grant or recognise all demands, knowing full well that this will cause inflation, rather than having to face the wrath of those parties whose demands it would otherwise have to reject explicitly. In this manner, tolerating inflation can act as a safety valve, for it permits (and is caused by) writing more vouchers than there is cake to go round.

The remainder of this essay proceeds in three steps. First, drawing both on the safety valve theory and on contemporary financial data and press statements, I show why inflation could reasonably have been expected to increase after 2008. Second, diving further into the political economy of inflation, I explain why inflation nevertheless remained quiescent. Third, I draw out the implications of this account for our understanding of power in contemporary capitalism.

Why was it reasonable to expect inflation post-2008?

Dogs bark. Inflation increases in response to monetary stimulus. Thus went common sense in the late 2000s and early twenty-teens:

‘The Federal Reserve’s aggressive rate cuts in the last 10 days are having one unpleasant side effect: they’re boosting bond investors’ concern about inflation’.2

‘Significant inflation is on the horizon ... Many economists and bond market commentators complain that inflation is on the horizon’.3

‘Because the Fed will be printing money, for a lack of a better description, some inflation is expected’.4

‘The planned asset purchases risk currency debasement and inflation’.5

In addition to verbal inflation expectations, certain financial trends pointed in a similar direction: between 2008 and 2013, the price of gold, a traditional inflation hedge, increased from approximately $840 per ounce to nearly $1700.6 Consumer expectations of inflation, too, spiked periodically, reaching highs of more than double the prevailing inflation rate in June 2008 and again in the spring of 2011.7

The absence of inflation was surprising not just because it did surprise a lot of people. It was and is also surprising because it should surprise us: based on convinc- ing theories of the political economy of inflation, it was reasonable to expect an inflationary surge after 2008.

Economists agree that the main driver of inflation is monetary expansion, i.e. growth in the money supply.8 However, this explanation is only proximate:

‘Economic factors ... can explain how inflation happens, but economic factors alone cannot explain why’.9 To understand the why of inflation, the why behind monetary expansion, we have to dig deeper.

Historically, most cases of monetary expansion resulted from a ruler’s desire to raise revenue. For weak states with low tax capacity – i.e. most states for most of history
– this was among the easiest ways to command real resources: ‘In an age when the imposition of direct taxes remained a logistical and economic challenge for many [states], the levying of seigniorage by the manipulation of the monetary standard represented an invaluable source of revenue’.10

But this explanation falls short today: modern states can procure greater revenues in a less disruptive and more legitimate manner, through outright taxation and the issuance of bonds. Except in times of war, advanced capitalist states in the twentieth century have largely refrained from inflationary monetary financing.

Yet, as chart 1 shows, the 1970s and 1980s did see significant inflation, at rates ten to fifteen times higher than today. The end of inflation as a furtive tax, then, was not the end of inflation tout court.

Why? Because inflation has another use: where distributive conflict is intense, governments can use it as a safety valve. This theory, outlined in brief above, was first formulated by Maier, Goldthorpe and Hirsch in the 1970s.11 More recently, it was integrated into a larger framework of post-war capitalism’s political economy by Wolfgang Streeck.12 As Streeck notes:

... democratic capitalism [is] a political economy ruled by two conflicting principles, or regimes, of resource allocation: one operating according to marginal productivity, or what is revealed as merit by a ‘free play of market forces’, and the other based on social need or entitlement, as certified by the collective choices of democratic politics. Under democratic capitalism, governments are theoretically required to honour both principles simultaneously, although substantively the two almost never align.13

In the frequent case where these two principles do not align, inflation offers governments a way out. Instead of directly denying the distributive claims of any one group – such as workers’ demands for higher wages, firms’ demands for higher operating surpluses, or investors’ demand for higher profits and returns – govern- ments can choose to grant or recognise them all. Governments grant additional claims on resources when they directly inject purchasing power into the economy through monetary creation. They recognise additional claims when they give banks the right to private money creation and accept the money creation decisions that banks then make. If, in this way, more claims on society’s resources are recognised than there are resources available, inflation (mediated through an increase in the money supply) is the result. Simply put, ‘[t]he granting of price and wage claims [as well as credit claims] beyond the given money value of the national product pro- duces inflation’.14

From the perspective of government, the advantage is clear: avoiding direct refusals and granting (in their sum excessive) claims deflects distributional conflict away from politics and back into civil society and the market place. Here, the identifica- tion of a target against which to mobilise is difficult, since causal links are opaque and responsibilities unclear. Even where mobilisation succeeds, government is less likely to be the target, with protesters instead more likely to focus on non-state actors, such as banks and multi-national corporations from the point of view of workers, or unions from the point of view of capitalists and the bourgeoisie.

This does not mean that every bout of significant inflation is intentionally engi- neered by government actors – just as often, it may be the result of explicit or implicit negotiations where all other outcomes are vetoed, and inflation is then tolerated. But it does mean that, when inflation occurs, it is usually as a result (intended or merely tolerated) of intense distributive conflict.

We should therefore expect modern governments to permit inflation whenever, in their judgement, the expected political costs of additional inflation are lower than the expected political costs of directly denying enough claims (starting with the claims of the politically weakest groups) to make the total sum of remaining claims compatible with available resources. The more powerfully and the better the weakest groups are organised, and the lower the costs of an extra dose of inflation, the more likely that governments will turn to inflation.

Inflation, of course, is not the only safety valve available to governments in response to distributive conflict. Turning again to Streeck, we can read the history of advanced capitalism after World War II as so many stages in the conflict between the two principles of allocation described above, and the successive use of so many safety valves to manage this conflict. When the post-war boom abruptly ended in the early 1970s, governments were faced with distributive claims that in their sum exceeded the now smaller-than-expected pie. In a context of strong trade unions and historically low rates of profit, directly denying unions was politically suicidal. Denying investors was expected to lead, given already low rates of profit, to an investment strike. At first, governments accommodated both, and inflation was the result. For a while, this safety valve delayed the day of denying either unions or investors their claims.

However, as investors and unions fought each other to a stalemate in the late 1970s, the political costs of continuing to tolerate inflation mounted and mounted, until eventually they became prohibitive. With inflation now politically unavailable, but the sum of demands still exceeding available resources, governments turned to a second safety valve: public debt. This allowed governments to grant additional distributive claims, without causing inflation and without increasing taxes in the short run.

As the safety valve of public debt, too, was eventually exhausted, the 1990s saw an across-the-board reduction in public deficits, particularly in the United States. This was accompanied (and made possible) by a turn to a third safety valve, aptly titled ‘privatised Keynesianism’: the deliberate creation or toleration of opportunities for private citizens to finance additional consumption through private debt.15 Individual debt replaced public debt; private demand ‘took the place of state-governed collective demand in supporting employment and profits in construction and other sectors’.16 This last safety valve was widely recognised as the origin of the 2008 financial crisis.17

What this brief history adds to the safety valve theory of inflation is the following addendum: governments will only turn to inflation if the expected costs of tolerating or fostering inflation are lower than the costs of using other available safety valves, in particular those of public or private debt.

With this understanding in place, we can now see why it was reasonable, at the time, to expect inflation to rise. Rising inequality and the sharp, possibly secular, slow-down of growth made an intensification of distributive conflict likely. The recession implied that the sum of past demands, unless revised downwards, would exceed the sum of present resources. The tremendous increase in inequality before the crisis meant that any further downwards revisions, certainly at the bottom of the income distribution, would cut into flesh, not fat. Even though labour was weakened by decades of anti-union legislation and jurisprudence, it was reasona- ble, in this light, to expect a re-assertion of working-class demands, even if initially in inchoate form.

And indeed, it looked like the downtrodden did demonstrate power after 2008. New movements did emerge. Public places were occupied, a new generation of activists mobilised themselves and took to the stage. Indeed, more than a few luxury cars or boutiques were torched, whether in Ferguson, Hamburg, London or Paris. Radical left-wing parties did score election victories, and even where they failed to do so, they left their mark on their opponents and on public discourse. If inflation remained quiescent, the people did not.

Concerning the other safety valves, private debt levels had reached historic highs in the run up to the Great Recession, while, driven by bank bailouts, public debt quickly shot up after 2008.18 At the same time, inflation remained low and stable – see chart 1 above – suggesting that the costs of tolerating or granting additional claims on output were moderate at best. Indeed, more than low-cost – in the context of an over-leveraged population, an inflationary strategy would likely have brought net gains for the economy as a whole: through redistributing wealth from (low

propensity to spend) creditors to (high propensity to spend) debtors, it would have increased aggregate demand, and thus brought into operation workers and resources that were otherwise idled. Finally, governments being major debtors themselves, they had a direct, material interest in pursuing or permitting a higher rate of inflation, as this would have lowered the real value of their debts, too.

Since it is states – through their governments, parliaments and central banks – that pursue, permit, or prevent inflation; since a context of high leverage and idle resources would have made a burst of inflation macroeconomically productive; since the other safety valves for managing distributive conflict were already at full capacity; and since distributive conflict, at least superficially, appeared to intensify, it seemed eminently reasonable to expect governments to act and legislate in ways that would lead to higher inflation. If not during the crisis itself, then in its increasingly bitter aftermath, as the initially inchoate efforts of those at the sharp end of rising inequality and insecurity would, one might have expected, coalesce into a powerful challenge.

And indeed, perceptive observers such as Streeck pointed out this potential dynamic at the time: ‘Others may be secretly hoping for a return to inflation, melting down accumulated debt by softly expropriating creditors – which would, like economic growth, mitigate the political tensions to be expected from austerity’.19

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