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Principles of Political Economy

By James H. Nolt

This is my 100th blog in this series. I use this milestone to summarize eight principles that distinguish my polarized political economy from textbook economics and finance theory. 

Capitalism is a two-party system

Capitalism is always a dynamic social system, because it perpetually polarizes capitalists (investors) into opposing camps. A critical division throughout the history of capitalism is bulls versus bears. Bulls invest in rising asset values. Bears position their capital to profit from falling asset values. Most people understand bulls. Indeed, there is a famous bronze statue of a bull on Wall Street. But far too few understand the equally important bears. The boom and bust business cycle is caused by the perpetual strategic interaction between bears and bulls in the context of credit-driven investment. This struggle ensures both that there are loose limits to the extremes of the business cycle, but also that it endures and cannot be regulated out of existence as long as potential bears have at least one weapon at their disposal: the private power to withhold or liquidate their capital.

The bear-bull struggle is not the only polarization within capitalism. There is also the closely related, but not identical debtor-creditor bifurcation. Most creditors eventually tend to be bears, but when business is booming, creditors differentiate across a spectrum from the most bullish to the most bearish, depending on how bullishly they lend and when they expect the next asset crash. Likewise, debtors are typically bullish, but investors may also borrow to finance bearish positions.

Other endemic polarizations are also important. Until the postwar triumph of business internationalism (see Part IV of my book International Political Economy: The Business of War and Peace), the struggle between business nationalists and internationalists (a.k.a. protectionists and free traders) has typically polarized capitalists as well. At some critical junctures, for example, during the Great Depression, many internationalists were bearish and nationalists were bullish, but these alignments need not coincide.

Not just Karl Marx, but also numerous political economists including Adam Smith, David Ricardo, James Madison, and John Stuart Mill, argue that capitalism is always polarized between workers and capitalists in the struggle over wages, working conditions, and unemployment. The first mass political parties, social democrat and socialist, were created during the 19th century to fight for worker rights within the political arena while labor unions conducted a similar fight in workplaces. Often complex and shifting alliances emerge between such labor elements and one or another faction of capital.

Forms of private power

There are many private powers that are largely ignored by textbook economics. Economics has developed since the 1870s largely by inventing what I call “the myth of the market” that imagines private markets as a realm of pure freedom wherein no power intrudes. This is nonsense. Léon Walras, one of the founders of modern economics, entitled one of his books Pure Economics. What was “pure” about it was that “the market” was abstracted from any residue of private power.

There are three key private powers. Credit or financial power tends to dominate strategically. It is the power to advance or withdraw credit and to direct it to alternative uses. Pricing or market power (the only one of these openly acknowledged in textbooks, though still much neglected) is the power to set prices. It may be greater or less depending on the legal powers of businesses and the degree of competition or collusion among them. Employment power is the power to hire and fire workers and determine their wages and working conditions. Insofar as it involves setting wages, it is also a species of pricing power. All prices are political in the sense that all reflect the exercise of private power.

Strategic method

Once we recognize that private powers are real and that capitalism tends to polarize opposing powers, the next step is to reject all studies of social dynamics that rest entirely on mechanical or statistical models. While these may have some use heuristically, they obscure the interacting strategic intent of rival parties. My emphasis on strategic method is vital to understanding decisive turns in society or the economy, most notably the boom and bust business cycle. Put simply, economies are like battlefields. Decisive battles occur there too, but often more obscure from popular attention than the battles in war. Don’t get me wrong, statistical studies are important and necessary, but not sufficient. One way to put it, borrowing concepts from the ancient Chinese strategist Sun Tzu, is that statistical methods can at best elucidate “ordinary forces,” those that are regular and recurring. The strategic method identifies “extraordinary forces” originating in the innovative strategic intent of private strategists.

Objective theory of value 

Value is the underlying basis of price. Modern textbook economics treats value as purely subjective. In other words, things are valuable according to consumers’ desire expressed as demand. All modern textbooks prioritize subjective value by teaching demand before supply. The concept of “consumer sovereignty” also embodies this. This takes the whims of consumers as all powerful, whereas the ambitions of capitalists are largely ignored. 

Classical political economy, culminating in John Stuart Mill’s treatise, Principles of Political Economy, starts with production, not consumption, because he and other classical political economists understood that prices are based fundamentally on the social costs of production, not on consumer preferences (which in any case are shaped by the strategic action of capitalist marketing plans). The labor theory of value was invented to express this objective reality, but the concept of objective value is broader than any particular way of measuring value. Another way of conceiving it is that commodities arrive at the marketplace with prices already attached. The economics textbook says that prices are determined in the marketplace by supply and demand. But if prices are determined by strategic marketing plans prior to any sales, then objective costs (plus competitive power) determine prices, not consumer demand. 

If commodities arrive at the marketplace and the sales are less than expected at the given price, the textbook gives one and only one answer: Prices will fall until supply and demand reach equilibrium. This textbook answer ignores two other options of real capitalists. Instead of cutting prices to sell more, capitalists are free to cut output to sell what they can at existing prices. In fact, this is often what happens as capitalists try to cover their objective costs. This difference can have a huge impact on macroeconomic outcomes, since reducing output can unleash vicious cycles resulting in an economic slump. The third option is that capitalists can increase marketing efforts to sell more at existing prices. Having multiple options is also a clue to the fact that capitalists exercise real power. Consumers are more passive and acted upon than they are strategic actors in their own right, unless they organize and become a self-conscious social movement.

Next week I will complete this list with four more principles, including that credit determines the value of money, the business cycle is endogenous to capitalism, and the duality of capital as both money capital and physical capital or means of production. Finally, I will consider the boundary between capitalism as a system of private power and public power in the form of governments or “the state.”

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James H. Nolt is a senior fellow at World Policy Institute and an adjunct associate professor at New York University.

[Photo courtesy of Eva K.]

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