Milton Friedman, a Nobel prize winner in economic sciences, made a clear conclusion that a wise economic monetary policy is a determinative factor for economic development. If the national economy does not develop efficiently, the cause should be sought in a mistaken monetary policy or in an inefficient financial system.
The current crisis demonstrates that modern possibilities of the real economy have pushed beyond the capability of the existing monetary system to regulate it. The result of the modern financial system operation is the disruption of the balance between demand and supply. There is no monetary tool in the economy which is capable of restoring it.
If the system fails regularly and on a wider scale each time, it means that there are serious faults in it. The fault lies not only with the financial and economic system but also with the political system of the society. It is clear that the modern state system, which allows the development of crises that are dangerous for the society, is not sufficiently effective and has serious flaws in its organizational structure.
One should not forget either that the process is dynamic – the economy develops similar to a growing organism. And there is always a growth period, when existing rules, which created necessary incentives for economic development under previous conditions, become a deterrent pushing it to decay. If the state political system is well-tuned, it must be the first to react to such ‘clinical’ changes in the economic sphere.
Russia in the pre-crisis years has been accumulating budget surpluses (up to 3.8 trillion roubles). The money was not used to modernize the economy, about 2/3 was invested in ‘securities’ of western countries, meaning it was exported. As a result of the crisis, the securities can lose all their value within weeks, while the budget surplus roots in excessive taxation of business or households.
If one looks at accounts of any commercial enterprise, we’ll see that over 40% of profit goes to taxes. Thus, on the one hand, the payroll, or the households’ purchase ability, shrinks. On the other hand, competitiveness of goods declines, which means it is not the national product whose output is stimulated, but purchases of goods abroad. Such economic conditions push businessmen to earning money via intermediary services.
The central bank policy of an artificial strengthening of the rouble rate when the official inflation of the national currency exceeds inflation levels in western countries, creates incentives for taking money outside the country. (ref. Dengi magazine, #6, dated Feb. 16, 2009, by N. Petrakov http://www.kommersant.ru/doc.aspx?DocsID=1113254). The Russian economy is like an ill man whom doctors (financiers) constantly bleed and keep saying: “Hold on, you’ll soon be better.” But the guy is so bad from the loss of blood that he is unable to move.
In the crisis, the highbrow management of the International Monetary Fund (IMF) gives the same recommendation to states which found themselves in a financial deadlock: increase taxes and cut social programmes. The IMF promises financial support only on condition that the recommendations are implemented. What the implementation of the recommendations is fraught with we’ve already seen in Greece and other states, where it led to social upheavals, mass protests and demands that governments resign.
On the whole, economic development makes no sense with time if the level of social guarantees is not constantly increased. In a financial and economic system which develops positively, there must be a direct correlation between the growth of taxes and social guarantees. Only under such conditions the technological advancement (industrial automation) will not lead to an artificial (financial) effect of overproduction, which is not backed with sufficient demand.
The Chinese government, having understood that the IMF acts solely in interest of its management, ignores its recommendations systematically and acts the other way round. The logic of the Chinese government is simple and obvious. When external demand shrinks pushing exports down, it is necessary to create conditions for internal demand. This is done through the lowering of taxes for startups, increasing incomes of low-paid households as well as wide-scale investment injections in industrial and agricultural regions.
When investment in industry development increases with the help of emission instruments (by printing money), there is no inflation growth, while the mass of commodities grows in real and nominal (money) terms, exceeding money supply of the investment capital by at least 15-20%, which is the best means against inflation.
As a result of wide-scale anti-crisis measures, gross domestic product in China expanded by over 7% in the second quarter 2009 compared with the same period of 2008. In Russia, GDP slowdown amounted to 11% in the same period.
The central bank of Russia increased its refinancing rate, when western capital ran from the country in great quantities (caused by the crisis of the American financial system), while western central banks acted differently. The Russian central bank did not even take any significant steps to save commercial banks. It was the Russian government which was engaged in the saving of the banking system and strategic enterprises at the expense of the national reserve funds. The central bank only spent gold and hard currency reserves to prop up the rouble, which it used to do before the crisis.
Why did the central bank behave unduly during the crisis and why did the government fail to influence it? The answer is obvious – as a result of reforms of the 90s, which were done to IMF recommendations, a central bank, which is independent from the government but dependent on the IMF, was created. Central bank’s gold and hard currency reserves are kept with the IMF with the bulk of them turned into U.S. ‘securities’ (which are doomed for a default in the foreseeable future, as leading financial analysts believe), and the Russian government, in fact, has no access to them. Moreover, under current legislation, the central bank does not even have the right to give loans to the Russian government unlike the Federal Reserve System of the U.S.A. (ref. Article 22 on the Law on the Central Bank of the Russian Federation). And accordingly, there is no such mechanism of money injection in the economy.
The central bank is not involved in crediting commercial banks (unlike the Federal Reserve System), and as a result commercial banks are forced to take credits from western banks becoming dependent on them (which is fraught (during a crisis) with commercial banks becoming the property of foreign banks. Accordingly, the central bank does not participate in investing in (crediting) the Russian industry.
The law says the central bank is involved in supporting the rouble rate against the dollar. Rouble printing by the central bank is tightly tied to the volume of purchases of foreign currency (by the central bank) from the currency market. In fact, the Russian financial system is a regional branch of the Federal Reserve and wholly depends on it (ref. http://malchish.org/index.php?option=com_content&task=view&id=308&Itemid=31 “Is the Russian Financial System Sovereign?”)
A large-scale development of national industry in Russia is impossible with such a system, as (money supply) needs of the national economy fully depend on exports. As much oil is sold, so much money there is in the economy. It may seem that under such an unfavourable system for the domestic market we could buy modern western capital goods and technology. But firstly, the IMF will not allow our government to spend the gold and foreign currency reserves on this. Secondly, there is no much sense in this for the bulk of Russian population because GDP growth (done on imported equipment) will not be backed by a corresponding money supply, there will not be enough funds for the internal turnover, and one cannot sell the goods locally.
The goods could theoretically be exported thanks to the fact that there are no such (specifically Russian) limits to money supply. But the western market already has more than enough producers. They already have the overproduction crisis artificially created by the outdated financial system.
The mass media now massages the state project of creating and adopting innovative technologies, and foreign investors are being attracted for it. But under the current evil circumstances on the international market, raising significant investment is unlikely. The paradox is in the fact that even if the technological innovations are created, they will still be meant for exports. This is the way business is – goods go wherever the demand is. A commercial company will earn money on this, but the Russian population which has no money will feel no impact.
Russian consumers are unable to buy already produced imported new goods in good volumes because of their low incomes. As a result of raw materials exports, there are ‘too many’ dollars in the economy, rouble emission takes place in line with the dollar inflow, it is not supported by GDP growth, internal mass of goods (as there is no investment in industry). There is no effective demand in the country to buy significant amounts of imported goods. This is the core reason for inflation. The situation is obviously absurd – there is money, goods are there too in the country, but there is no demand because households are poor.
Russian households’ incomes are five times below those in the U.S.A. Accordingly, their purchasing ability is as low. For instance, Russia’s automobilization level per capita is five times lower than in the U.S.A., which is confirmed by the income proportion. The huge traffic jams in some Russian metropolises do not reflect the situation in the whole country but demonstrate the state’s poor infrastructure.
Having analyzed the principle of the financial system operation, one may make a simple conclusion that there can be no independent development of the internal production and consumption on the Russian market without foreign investment injections. There is talk about it in mass media, of course, but practically it is impossible. And we have to be fully dependent on oil because this is what the current financial system was created for and legally approved.
As for western investment, the rest of the world will not help us. The European Union is on the brink of a technical default itself. Leading western banks will invest neither in our private assets, nor in state bonds. The Finance Ministry has already shelved foreign borrowing plans. Private foreign investment flees emerging markets, which is proved by the Russian stock market indicator (ref. Russia May Repeat Greece’s Fate by N. Krichevsky in Moskovsky Komsomolets dated May 24, 2010).
In conditions of the absence of significant local or/and foreign investment as well as demand, one may give up hopes of Russian entrepreneurship development aimed at local production capacities growth. Milton Friedman said: “Money matters.”
To see it, one only has to model the situation roughly but graphically. Let’s say, that loads of new houses were built on the internal market (in accordance with real demand of the population) using only local physical resources. Exports are down to a zero, meaning western money supply growth to replenish the gold and hard currency reserves is absent. It will be impossible to sell the houses and get profit on the local market because the corresponding money supply will not be emitted and distributed among consumers. In other words, real GDP growth will not be backed with the corresponding money supply. This example shows that restrictions to the entrepreneurship are artificial, meaning such conditions of operations are imposed by the financial sector of the economy.
Russia has turned into a colony (with a purely raw exports role) of states with more developed economies. In fact, it is a hostage to the international financial system with the management core located in the U.S.A.’s Federal Reserve. From the financial point of view, the U.S.A. is not a sovereign state either because its government is deprived of the right to control Federal Reserve’s money emission. The U.S.A., like Russia, is a hostage to the financial system, namely private banks, which do not have a national identity.
The artificially created financial cause of the international financial crisis can be seen with a naked eye. It is absolutely clear that the crisis cannot be overcome without a drastic modernization of the outdated and vicious financial system aimed at servicing the venal interests of its management.
The bulk of modern investment money, distributed by the financial system in the form of banking credits, is created as a result of an uncovered emission. The Federal Reserve swaps government debt for new, recently created currency units, and the Federal Reserve itself has no material goods to back the new money. The government automatically becomes Federal Reserve’s debtor, meaning the government becomes dependent on decisions of the Federal Reserve management. Formally, the money is covered by the U.S. state debt, which will soon be equal to its GDP, while GDP does not belong to the government but to individuals and representatives of the producing sector of the economy.
Modern investment is just figures in the computer (if money is not cash) or a piece of paper costing about 6 cents per note (if money is printed). Investment credit money is filled with real goods content in the process of its turnover. This means that the bank gives its debtor figures in a computer (or a piece of paper) and gets money covered with a mass of goods (which the debtor has sold), or his private belongings or production facilities. Under the current scheme of financial flows creation and distribution, uncovered and in fact illegal exploitation of the society by the financial system takes place. Such a financial system is not only immoral and illegal, it also leads economy to a systemic crisis (as it develops), like it is happening now.
The global economic crisis, which arrived here from America, happened because of artificially created (uncovered by demand) overproduction, as well as because of overproduction of credit money in the form of debt. Under the current artificially created financial relations between the technical progress and demand, there is an inverse negative relationship. The growth of automated equipping of production facilities leads to lower purchasing ability of households. The growth of credit (debt) burden on the population also leads to lower purchasing ability, ensuing shrinkage of production and employment with time.
As a result, a conundrum is created in the economy – there are all real industrial resources to satisfy needs of the population, but they cannot be implemented due only to artificially created financial reasons. Instead of giving absurd recommendations to cut social guarantees and to increase the tax burden on households during a crisis, the IMF and the World Bank must receive recommendations from the international community on how to modernize the financial system in interests of the households. It means time is ripe we change the very principle of forming and distributing money flows.
The principle of covering money supply with debt is not only vicious from the ethical point of view, but it has fully discredited itself from the point of view of the monetary system efficiency. The Federal Reserve, as the key financial supplier on the world market, has got into the Procrustean bed of economic reality. The current financial system can operate efficiently and help the development of the real (producing) sector of the economy only on condition of a permanent growth of markets for the credit money supply. In the U.S.A., the market has long been satiated and there is nowhere to develop it. The development of markets for investment money in other countries leads to a wide-scale growth of competition to national goods (China as an example).
Under the current scheme of financial flows distribution, a situation is inevitable with time when there is no one to give credits to and production growth is not covered with a simultaneous growth of demand (ref. Classic Pattern of Crisis Development). But the production of new money supply (in growing volumes) is impossible to stop because this is required by state guarantees of repaying debt of the U.S. government, which means the production of new money is required to service (to repay) old debt. When there is no market to sell investment money in the producing sector, it flows to the market of bourse speculation with ‘securities’. The economy lapses into super-speculation, where superprofits is created via financial bubbles.
It is the power of the financial system over the government and society which led to the global economic crisis. There is only one way of overcoming the fatal situation – to remove the primary source of money flows from control of financiers. Supply must be originated by demand, not vice versa. Money supply created in an emission must be covered by demand, not state debt, which cannot be repaid without injections of empty money into the economy. This principle can be fulfilled if the initial stimulus for investment flows creation and movement comes from intending consumers of the goods – households, from those, who are the raison d'etre for the existence and development of the economy, not from the usurious financial system. Banks must provide households with investment money in line with demand for it, meaning it must serve the society, not exploit it (ref. Financial Democracy at Work ).
The development of technical progress with time inevitably leads to a wide-scale production growth with simultaneous cuts in labour contribution. The development of social and economic formation must happen in line with the technical progress. By installing innovative technologies, producers attain production volume growth in a unit of time, which (as costs are recuperated) leads to lower production costs and boosts profits. But the essential condition for profit growth is a corresponding growth of demand from households.
It is under such conditions that is reasonable to use the progressive taxation system. The additionally collected funds must be used to increase social guarantees, including to create and improve the basic purchasing ability. If households are not provided with the growing purchasing ability, then with time as automation of production expands, the technical progress loses sense, because it will lead to the phenomenon of artificial overproduction, which is not covered with demand.
Under the current financial system, demand growth is covered mainly with credit institutions. As the example of the United States shows, this is a deadlock, which leads to overproduction of debt with an ensuing decline of demand and lower production of material values, which pushes the economy to collapse.
Why are heads of government systems not involved in the development and introduction of vitally necessary financial and economic mechanisms in interests of the society? Why are causes of the illness not removed, but attempts are made to cure the consequences? It is the same as to lay compresses on an ill man who sits in an ice hole up to his waist.
The problem is that the state executive power headed by the president depends on IMF’s actions, has neither the necessary authority, not sufficient political will to make decisive steps. As for the legislative power (deputies, the senate), it is heavily lobbied by the financial system management and passing laws on the central bank or the Federal Reserve happens to one and the same scenario in Russia and the United States – the corruption scenario (ref. “The Unknown Policy of the Bank of Russia” by V. Martynenko). Especially since financiers, in conditions of the monopoly right for money emissions, have practically unlimited possibilities to lobby their venal interests.
If people do not wish to be under the predatory oppression of financial structures, it is necessary to take decisive and concrete steps aimed at modernizing the financial system in interests of households. The reality is that it is only the consolidated effort of the civil society which can break the situation, which is fatal for the civilization and help create new economic and financial conditions, where social development of the mankind will be prior to purely commercial interests of individual financial corporations.
If the existing financial system is not modernized, the world will develop to a destructive scenario, like in Georgy Daneliya’s film Kin-dza-dza!, where the situation is reduced to absurdity and is shown grotesquely and clearly, how a business-oriented management system leads to economy of the planet to a collapse, the society to moral degradation and gradual extinction. Residents of the planet say:”We do not want a violinist,” because he does not produce instantaneous profit and you cannot take money from him.