World economy: The threat of financial meltdown mkII

This is an update on the world economy, a brief supplement to the CWI statement "Crisis of global capitalism", dated February 1998.

In that statement we pointed out that the " world economy is moving into a, synchronised downturn. This is a turning point in the post-Stalinist period… this is "not simply an ’Asian crisis’; it is a crisis of global capitalism which will cause economic, political and social instability all over the world.: The latest events in Asia, Russia and other countries have confirmed that analysis.

A combination of economic as well as political changes together with social upheavals will aggravate all the present contradictions inherent in world capitalism.

In 1997, the acute problems already led to the downfall of the governments in Thailand and South Korea. The revolution in Indonesia is the first, but certainly not the last, mass revolt sparked off by the crisis that first erupted in Thailand in July 1997.

Even bourgeois commentators are forced to admit that: "Asia is poised on the brink. A deadly deflationary spiral has started in Japan and China… People in the U.S., Japan and Europe who think they can dodge this bullet are dreaming. The global economy is at risk." (Editorial in the US Business Week 1 June 1998).

Recent developments in Asia, especially the beginning of the Indonesian revolution, the threat of a deflationary crisis in Japan and the strike movement in South Korea, are showing that the structural crisis of world capitalism has entered a new phase.

On 27 May all the main stock markets in the world experienced a synchronised drop after receiving news of a recession in Hong Kong and the worsening of the banking crisis in Japan. This was just a small indication of what can happen in the course of a deepening crisis in Asia and further depreciation of the yen as the Japanese economy continues to decline.

Asia is moving into a deep recession. South Korea’s and Thailand’s economies will probably contract by 6 per cent to 7 per cent and Indonesia’s by 20 percent. (IMF predicted 3 per cent growth in Indonesia in October last year.) .

Financial Plague

More money is moving around the world than ever before, in more complicated ways and at ever-faster rates. The process of globalisation of production, trade and service, and particularly financial transactions is spreading the impact of the worsening economic difficulties in Asia from one continent to another more rapidly than ever before.

The financial collapse in Russia, the further downward pressures on the Australian, New Zealand and Canadian dollars, and the South African rand are just some examples of an impending global recession.

The main source of instability today is the threat that the weakness of Japanese capitalism and the crisis in Asia will turn into a global recession. The US economy has reached its peak and will in anyway begin to slow down during 1998. A worsening of the crisis in Asia will accelerate that process. The US current account deficit is already soaring and profits in the US are being squeezed. Further decline in the value of the yen and a new wave of competitive devaluations in Asia will lead to a further profit squeeze and the present overvaluation of shares in the US (Wall Street) cannot be sustained without profit growth. The value of the stock market is bound to come down in the coming 12-18 months and that will mark the beginning of a recession in the US. This will lead to a dollar fall, which in return could create further instability on the financial markets and lower growth in Europe. Even the IMF has been forced to issue the warning "that with current account deficit of the US expected to widen substantially this year, the risk of reversal in attitude towards the dollar at some future stage is obvious."

The seriousness of this crisis can be summed in the following words from one of the more far-sighted bourgeois economists Brian Reading, director of Lombard Street Research, has pointed out that: "Global crisis run in series not in parallel. Trouble ricochets from country to country and from region to region over months, if not years. Events in Asia today are in many ways reminiscent of those among primary producers in the late 1920s and where the seeds of the 1930s depression were sown… and when the package (Japan’s latest fiscal package) is foreseen to fail the yen, Nikkei’s share price index and Japanese government bonds are certain to plummet. The Asian crisis will become global. China will be forced to devalue. Shock waves will spread cross the Pacific. Over-extended Wall Street valuations imply a large downward correction, sending the American economy into recession."

New world disorder

The nuclear tests in India and Pakistan have caused further instability in the region and are showing that the "new world order" has become a new world disorder. Different powers, alone or in temporary alliances with other powers, are trying to expand their spheres of influence and establish regional hegemony.

The new government (led by the BJP, the Hindu-nationalist party) wanted to show Pakistan, as well as China and the US that the country was an atomic power and its interest in the region should not be ignored. In the words of the BJP’s (India’s ruling Hindu-nationalist party) defence spokesperson: "We have long-term interest and long-term strategist concerns (in the region) and you (the West) should be sensitive to this." After India detonated five devices, it was only a question of time before Pakistan was going to show India and the rest of the world that it also could produce and deliver a nuclear bomb. The military rivalry between India and Pakistan, and the devastating social and economic effects of the tests, particular in Pakistan, could lead to an eruption of armed conflict between the two countries in the disputed territory of Kashmir. "Kashmir, parcelled out between India, Pakistan and China is the most likely flashpoint for a confrontation between the newly nuclear states of India and Pakistan. Tensions in the already volatile region, like the rhetoric on Kashmir, has soared since New Delhi set off its first nuclear explosion", reported The Guardian in Britain on 30 May 1998.

Immediately after Pakistan’s first bomb test (28 May) the president declared a state of emergency in order to try and stop a flight of capital. The Pakistani economy will be worse hit by sanctions and the ban on new loans imposed by Western imperialism after the tests than India. The stock market in Karachi has already lost almost a third of its value since India’s first test and the Pakistani rupee is in a state of "free float". Pakistan could be the next country to threaten to default on its foreign debt.

The nuclear explosions by Pakistan and India are another failure in US foreign policy. The idea of a "Pax Americana" where the US alone could control the world has been shattered.

Over the last month, the US has moved towards taking a greater regional role in order to fill the vacuum created by the crisis in Asia and the weakening of ASEAN (the eight-member of the Association South East Asian Nations). This, together with the growing power of China in the region, has built up new geopolitical contradictions in Asia and the nuclear tests have to been seen in that context.

Russia on the brink

What took place in southeast Asia at the end of last year, when these countries experienced a huge flight of capital, is now repeated in other so-called emerging markets. The turmoil on the Russian market signifies that the speculators have lost their appetites for emerging markets, which explains the flows into safe havens, at this stage, primarily the US dollar.

The collapse of the Russian stock market – the second-worst performing stock market in the world this year after Indonesia – and the third speculative attack against the rouble in seven months is striking a new blow against the world bourgeoisie and the illusions built up in "emerging markets".

Russia is in a serious economic and political crisis, reinforced by social unrest and strike actions by, for example coal miners and teachers. Yeltsin’s response to the crisis — further cutbacks in government spending and sky-high interest rates – have strangled the economy. The number of unemployed will increase and the unpaid wages and pensions will remain unpaid. This is a recipe for a bitter struggle on the part of the workers and mass hatred towards the present rulers in Moscow. The miners have already announced that they will take strike action.

The undermining of Russia’s public finances, the drop in commodity prices, especially in oil, and the amount of short-term debts are going to give rise to further turmoil and financial contagion. The sharp fall in commodity prices (over the last 12 months commodity prices have dropped 20 per cent on average), is reducing Russia’s exports earnings. Energy (gas and oil), metals and mining account for three-quarters of Russian exports. The international oil price decline alone represents a $3.5bn loss in annual foreign exchange earnings relative to 1997.

The political system in Russia is in a permanent state of disarray and the weak and corrupt bourgeoisie is utterly incapable of stabilising the situation. All of these factors pointed in the direction of a rouble collapse, despite the new loans from the IMF. A devaluation of the rouble "could cause a new round of currency contagion. The economies of eastern Europe are most at risk… A collapse of these economies would have a serious impact on Europe – 15 per cent of euro-zone exports are destined for central and eastern Europe", (from an editorial "The emerging crisis" in Financial Times 30 May 1998). German and Austrian capitalism would be hardest hit. German and Austrian exporters and banks are more exposed to Russia and eastern Europe than those elsewhere. Germany exports nearly 11 per cent of its output to Russia and eastern Europe, and Austria more than 15 per cent. Only 1 per cent of US exports are destined to that region.

Japan is heading towards a slump

The increasing problems facing Japanese capitalism, the second biggest economy in the world, are bringing forward the perspective of a world slump before the end of this millennium. A financial meltdown in Japan could have similar disastrous consequences on the world economy to the Wall Street crash in October 1929. After all, Japan is the biggest lender to the rest of Asia. Japanese money has also fuelled the upswing in the US and financed the soaring US deficits Japanese banks and insurance companies provide about 40 per cent of loans in the US.

A sudden crash like 1929 cannot be ruled out. There are many factors that point in the direction of a crash; the financial crisis in Japan, a new wave of competitive devaluations, the bubble economy in the US at the same time as corporate earnings are tending to fall and factory output is slowing down. However, how deep the crisis will be and how fast it will develop is still an open question, but there is a decisive turn in the development of the capitalist curve and the process towards a global recession or slump has accelerated.

On 1 June 1998 the yen slid to Y139 to the US dollar, its lowest level for seven years. A further depreciation of the yen could trigger off a new wave of competitive devaluations in Asia; such a development could pave the way for a world-wide crisis on the financial market.

Anyway, the yen will continue to fall given the weakness of the Japanese economy. "The question is no longer whether the Japanese authorities can halt the slide – they almost certainly cannot – but whether they can control the speed of its decline. Only last month analysts were talking privately about the possibility of reaching Y150 late this year. Now some even mentioning a figure of Y180." (British Financial Times 28 May 1998).

In mid April the Japanese government was forced to spend at least $17 billion, nearly a tenth of its foreign-exchange reserves, in order to halt the slide of the yen. But that intervention had hardly any effect.

Priming and pumping – no effect

Despite pumping hundreds of billions of dollars into the declining economy and an expansionary monetary policy (printing more money), the Japanese economy is slowing down. The latest report from the Bank of Japan (in May 1998) painted this picture: "public-works spending had bottomed out, the growth in exports had peaked, the capital investment was in decline and consumer spending shows no sign of improvement." In April Japan’s unemployment rate reached a post-World War II high of 4.1 per cent and male unemployment in the 15 to 24 age group is now 9 per cent.

The Japanese government has been compelled to implement some Keynesian measures, including public works, in order to prop up demand, with little result so far. Consumption and investment in Japan is still falling and people are saving instead of spending. Why invest when the problem is surplus capacity and a falling rate of profit?

Other governments could be forced to do the same when the world recession is starting to hit production and consumption. Even a section of the bourgeoisie in the West has started to question the policy of neo-liberalism, deregulation and the capitalist laissez-faire policy. This change is going to be more significant when the economies in the US and Britain, the so-called successful models of labour flexibility, start to crumble. The outlook and the consciousness of classes and sections of the society are going to be changed under the impact of a new world crisis and social turmoil.

Over the last months Japan has experienced a large capital outflow. Japanese speculators are sending their money abroad because of the weakness of the yen, a low rate of profit, the falling value of stocks and yields on 10-year Japanese government bonds dropping to record low levels, (Japanese yields are set at 1.4 compare to 4 to 5 per cent in the US and Germany).

This outflow of capital from Japan and other Asian countries has pumped up stock markets to a record high in the US and western Europe. However, the fall on world stock markets on 27 May has shown the hollowness of the recent bonanza. The present trend upwards on the stock markets in the US and western Europe can easily be reversed when Japanese capitalism starts to bring back their reserves from abroad or transform their dollar holdings into other foreign currencies. What comes up will also come down. The bigger the bubble grows, the bigger the burst. That is the lesson from Japan in the 1980s, when the Nikkei reached 39,000 at one stage and is now down to 15,000.

However, capital flight to the West means that there is less money to spend on investment, re-capitalisation and reconstruction of banks and industries in Asia at the same time as more and more companies and banks are going into the red. The credit crunch affecting the domestic economy has meant that on average 320 companies in Japan go bankrupt every week. The tidal wave of corporate failures, distrust in the banking system and uncertainty caused by rising unemployment and pensions could cause a situation where people in Japan start to withdraw their savings. That has already started to happen, (house safes are the fastest selling consumer item in Japan at the moment).

Sending capital abroad will offer no escape road for the debt-ridden Japanese banks, financial institutions and companies. Japan’s banking system is in "a state of slow-motion collapse" according to the credit agency Moody’s latest report. The bubble economy in Japan during the 1980s (the biggest bubble in history) was based on an exceptional expansion of cheap credit. The steady growth in Japan during the late 1980s, the massive outflow of capital from Japan into the US together with Japanese investors increasing their dollar holdings were the main reasons why the global effects of the Wall Street crash in October 1987 were postponed for two years. But on Christmas Day 1989 the bubble burst and Japanese capitalism reached an impasse. What took place during the late 1980s cannot be repeated today.

Neither Japan nor the other Asian economies can act as an engine for world growth and capital spending any longer. On top of that the financial crisis in Japan has reached an unprecedented level, at least in modern times. At a certain stage, Japan’s capitalists will be faced with the alternative of bringing back their holdings from abroad or risk going bust. This situation will arise, despite writing off bad loans or state intervention or maybe even the nationalisation of banks.

Japanese capitalism is bound to try to increase its share of markets in Europe and the US after losing money and markets in Asia, particularly after a possible Asian meltdown Mark II and a new wave of competitive devalutations, including in Hong Kong and China. If the yen weakens to 150 to the US dollar, the Korean won is likely to be devalued in an effort to make Korean industry more competitive. Korea competes with Japan in steel, cars and ships. "Now, as Tokyo lets the yen slide, the Chinese suddenly are feeling queasy. Chinese exports to Japan and the rest of Asia have fallen, while domestic companies are fighting to stay competitive against a flood of cheaper imports. If Japan’s action starts a cascade of competitive devaluations across Asia. Beijing will come under pressure to let the renminbi slip… If the Korean won were devalued, it would mean increased competition for Chinese companies already struggling to fend off the Koreans at home and in other markets. In China’s steel industry, for example, profits are down, partly because of new competition from Koreans. That’s also true in the petrochemical industry, a sector were prices have dropped 20% since October." ( Business Week 1 June 1998).

A deflationary spiral in China and Japan

The Chinese economy has slowed down. Economic growth is expected to fall below 5 per cent by the end of this year, compared to 9 per cent in 1997. Every percentage-point fall in the growth rate creates 2 to 4 million more unemployed and the number of unemployed in China has already exceeded the 100 million mark. The World Bank has given China a warning that growth below 5 per cent would have serious consequences for social stability.

Two-fifths of Chinese export are to other parts of Asia and Asian nations have provided 80 per cent of China’s foreign direct investment. Exports to the rest of Asia have already started to decline and foreign direct investment has dropped 19.4 per cent on an annual basis. A deflationary spiral has started in both China and Japan. Falling prices driven by chronic oversupply have not only led to a profit squeeze (Japanese multinational Nissan, one of the world’s largest car companies, recorded a 96.7 per cent fall in profit last year) but also to cutbacks in production and investment.

Deflation or disinflation (a lower inflation rate) is caused by overproduction of goods and property, lower demands, in the case of the US the strong dollar, and a crash in the markets for commodities. Metals and agriculture prices have dropped a quarter since 1995,while energy prices have fallen more than a third since the end of 1996. And. At this stage, there is the start of deflationary spiral in some countries, particular in Asia. But it cannot be ruled out that deflation will become a reality if the world economy moves into a slump accompanied with a sharp fall in asset prices. A period of deflation would mean: lower consumption, falling prices and wages, bigger debts and impoverishment of a huge section in society, including the middle class.

However, the deflationary or disinflationary pressures are bigger today that the threat of inflation. That is the reason why an increase in the money supply in Japan or the expansion of credit in the US together with a world-wide asset inflation is not fuelling a general inflationary spiral.

Tensions are building up

Japan’s exports to the US rose by more than 7 per cent in April and exports to Europe were up 16 per cent. At the same time Japan’s exports to Asia fell by 18 per cent (exports to countries such as Korea, Thailand and Indonesia were down 40 per cent!).

On the other hand the latest US trade figures reveal a deficit of $13 billion, the worst on record. US exports to Pacific Rim economies were down 15 per cent over the year, but imports from this region were up 11 per cent.

Japan’s trade surplus has increased 50 per cent over the last 12 months. In April imports to Japan fell by nearly 14 per cent. In the first 10 days of May, imports into Japan collapsed 28 per cent year-on-year.

Tensions are building up in the world market and sooner rather than later competitors from abroad will start to demand actions against Japan’s drive on exports and its shrinking imports. "The new phase of the Asian crisis could be a prelude to a trade war – initiated by protectionists in the US Congress – and a major set-back on Wall Street. In that event, the sudden disappearance of considerable amounts of stockmarket-generated wealth, the triumph of the American model, will surely follow the Asian tiger economies down the memory hole of history." ( The Guardian 27 May 1998).

Impact on Europe and the US

The crisis has now spread to "Europe’s backdoor" (Russia and eastern Europe), according to one commentator. The advanced capitalist states in western Europe are also running the risk of catching the financial plague at the same time as European industries are facing tougher competition from both Asia and the US.

The US trade deficit with Japan and the rest of Asia is going to worsen in the course of the coming months as Asian countries slash imports and try to put their goods on sale. Lower demand or in fact collapsing markets in south East Asia will undoubtedly give rise to a slow down in US manufacturing. That factory output has slowed sharply in the first four months of 1998 is a reflection of the drop in US exports during the first quarter, the first decline in four years.

Neither can Europe replace the role the US has played as the main buyer of last resort nor can European finances take over the role that Japanese money has played in international finance and lending. The EU-countries are expected to grow 2.7 per cent this year and 2.8 per cent next year. At the end of this recovery Europe will experience a slight increase in its growth rate, thanks to a rise in exports, increased domestic demand and a recovery in investment. But unemployment will remain high, 12 per cent in the 11 countries that make up the "Euro-zone". Nevertheless, if Europe is going to act as a locomotive in the world economy much higher growth will be needed and it has to be sustained over years. Europe’s exports have up to now been boosted by the depreciation of the western European currencies against the US dollar and the British pound, but the trends have been reversed during 1998. The deutschmark has regained strength against the US dollar and the British pound is set to fall as the country moves into a recession this year.

The experience from Asia shows that it is one thing to peg the national currency, in these cases the US dollar, when the value is low. It is another thing to hold the peg when the boat is rocked by an opposite trend. The US dollar reached its lowest level for many years in May 1995, but since that the dollar has risen and Asia’s exports shrank and the peg collapsed. Now the EU-countries have decided to set up the world’s biggest peg on the basis of a superficial economic convergence. The looming world recession will put enormous pressure on that peg and the problem facing the "Euro-zone" is that if the countries try to uphold "Strong fiscal discipline" (more cuts, further reductions in debts, etc.) they run the risk of restraining the recovery. A new world recession, political and social unrest in Europe itself, will tend to blow the continent’s currency union apart.

The emerging bubble economy in the US poses a new danger to world capitalism. Soaring share prices, merger mania and rising prices for property and art indicate that the US is developing a bubble economy at the same time as "the economic squeeze in Asia is beginning to take its toll on American business. And after years of restructuring and productivity improvements companies appear to be running out of ways to expand their profit margins." (US International Herald Tribune 13 March 1998.) This position is contradictionary and unstable, it cannot be sustained. Especially when the crisis in Asia has gone from bad to worse.

Back to Marxism

The bourgeois triumphalism that followed the collapse of Stalinism can be summed up in the words of George Bush, the US president at the time, who proclaimed that "We know what works. Free markets work." In the beginning of the 1990s the "emerging markets" in southeast Asia became the model of modern capitalism. This has now turned into its opposite. That "model" is no more and the world bourgeoisie is facing a crisis of confidence.

Massunemployment, impoverishment of tens of millions and an upsurge in the class struggle has replaced steady growth in the region. The social ferment in southeast Asia and the revolutionary upheaval in Indonesia have brought a new generation of students and workers into the arena of struggle.

The heroic struggle of the students in Indonesia has coincided with the 30th anniversary of France ’68. Revolutionary struggles on the part of the youth, of the students, has on many occasions marked the beginning of a revolutionary process. In the next phase of the Indonesian revolution the industrial working class, nearly 11 million strong, is going to play a more prominent role.

Workers in Europe have also shown their willingness to fight and take advantage of the present conjuncture. In April the Danish workers were prepared to go on an eleven-day strike, against the wishes of the TU leaders, in support of a sixth weeks paid holiday. The French workers have taken advantage of the coming World Cup and are out in strike action for wages and better working conditions. "There may already be a winner in this year’s World Cup – France’s trade union", wrote The Guardian, 30 May 1998. The experience of the 1990s and the failure of the so-called free market system will have a profound effect on the consciousness of workers and youth. The re-emerging of an anti-capitalist mood is on the agenda.

There is a thirst for ideas, explanations and a programme that can take the struggle forward. Even amongst the intelligentsia there is a growing interest in studying the writings of Marx and suddenly even the bourgeois commentators are saying "that Marx and Engels already in the Communist Manifesto described how capitalism in 1848 would be transformed into a modern, global capitalism" or "that Marx understood how capitalism was working". The present period of capitalist decay will also give way to the rebirth of revolutionary Marxism and the need to struggle for a socialist transformation of society.

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June 1998