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Jan Toporowski

The book is partly a thoroughly revised and extended version of an earlier book, Theories of Financial Disturbance An Examination of Critical Theories of Finance from Adam Smith to the Present Day. That book put forward a threefold distinction between theories of finance in which finance merely reflects events in the real (non-financial) economy; theories in which finance is part of a general equilibrium (without any causative implications); and critical theories in which finance disturbs the economy. Since the publication of that earlier book, there has been a major crisis in the financial system, and further research has caused the author to revise his views, in particular on Marx, Kalecki and Minsky. The present book therefore represents a new, more nuanced view of the role of finance in the economy.

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Jan Toporowski

In preparing himself for writing his Capital Marx rejected the notion that the capitalist business cycle was a monetary phenomenon that could be regulated by appropriate monetary measures. The ebbs and flows of capitalist production are caused by changes in real production and exchange. However, the capitalists that Marx observed chronically short of financial resources and hence reliant on bank borrowing. Under the gold standard this meant that the banking system was subject to ‘drains’ of reserves, and these therefore played a part in the business cycles that Marx observed.

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Jan Toporowski

Marx observed the extension of long-term securities to the financing of industry after he had published volume 1 of capital, and after he had written his drafts of volumes 2 and 3 of Capital. The possibility of long-term finance eased the financial difficulties of industrial capitalists who no longer had to worry about rolling over their short-term debts, but ushered in a new kind of financial crisis set off by crises in the markets for long-term securities. It was Hilferding who recognised the new possibilities of long-term finance for the creation of corporations with monopolistic power over the markets in which they operate. Long-term finance then becomes the foundation of finance in the theories of Keynes and Kalecki, with Minsky being unable to distinguish between the banking crises of classic capitalism and the new kind of crises.

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Jan Toporowski

Rosa Luxemburg took up the theme of finance capital, the term used by Hilferding for the collaboration between industrial capital and banking that allowed corporations to manage their markets. Faced with constraints on the ability of capitalists to monetise their profits from production, Luxemburg argued that banks would facilitate such monetisation by loans to finance the export of capital equipment to colonies and the underdeveloped world. When the profits of the new industrial enterprises required to repay the loans failed to materialise, the loans would be transferred as liabilities to the governments of the poorer countries, effectively taxing the traditional economy to repay the debts on the modern sector of the economy. This was in contrast to Marx and his more orthodox followers, who saw the finance that emerged with capitalism as ‘subordinated’ to industrial capitalism as ‘fictitious’ capital. But Luxemburg anticipated Minsky in recognising that finance capital allowed the socialisation of risks in a way that could not happen in classic capitalism.

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Jan Toporowski

Ralph Hawtrey is most famous as the author of the ‘Treasury View’ that attempted to deal with the 1930s depression by orthodox policies of fiscal austerity and monetary control. However, he was in his time an influential proponent of the monetary business cycle whose main lever was supposed to be the central bank’s policy rate of interest. Behind this was a belief that credit is unstable, and therefore likely to destabilise the economy. Credit had to be controlled and the economy managed with short-term interest rates. Hawtrey clashed with Keynes not only over fiscal policy, but also because Hawtrey criticised the importance attached to the long-term rate of interest by Keynes. In his monetary business cycle, Hawtrey espoused a view similar to that of Wicksell, and his view on the importance of bank reserves illustrates some of the dilemmas of emerging markets at the end of the twentieth century.

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Jan Toporowski

Irving Fisher argued that the way in which credit and finance disturb macroeconomic equilibrium is through the effect of debt on current production and exchange. Price adjustments in such production and exchange affect the real value of debt. Increases in investment are financed by debt. But if indebted units start to repay debts, the reduction in the value of credit money circulating in the economy causes prices to fall, and this increases the real value of debt. This problem of a ‘swelling dollar’ can only be overcome by fiscal policy.

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Jan Toporowski

In his early work, Keynes leaned towards a monetary credit cycle view, which he derived from the works of his teacher Alfred Marshall, but also Henry Emery and Frederick Lavington. Keynes’s view of the credit cycle combined an Austrian belief that business cycles were caused by over-investment, in turn caused by loose monetary policy. Associated with this was a Marshallian criticism of the gold standard which required monetary policy to be used to manage reserves, rather than the business cycle. By the Treatise on Money Keynes had adopted a Wicksellian business cycle, but argued that it was the long-term rate of interest that influenced the level of investment, and that long-term rate could be regulated by open market operations. However, the seemingly intractable economic depression raised doubts as to the effectiveness of such policies.

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Jan Toporowski

In his General Theory of Employment Interest and Money Keynes dug deeper into the apparent problem of the ineffectiveness of monetary policy in dealing with the economic depression. He now abandoned the quantity theory of money and put forward the rate of interest as being determined in the short run by the liquidity preference of financial investors. Uncertainty was introduced as a factor in explaining the failure of business investment to revive in response to lower interest rates, along-side speculation in the markets for stocks and shares. In this situation fiscal policy, along-side monetary policy, comes to play an essential part in the ‘socialisation’ of investment that is the key determinant of the short-period equilibrium.

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Jan Toporowski

Marek Breit was a Polish monetary economist who came to work with Micha_ Kalecki in Warsaw. Breit had completed a doctoral thesis on the rate of interest in Poland. In this thesis he enunciated a ‘free banking’ view according to which economic instability was due to a government monopoly on the note issue, bank cartels, and the government’s manipulation of the rate of interest, preventing the emergence of an equilibrium rate. After working with Kalecki, Breit published a seminal paper that explained the failure of low interest rates to stimulate economic activity. In Breit’s view this was because firms’ credit-worthiness is assessed on the basis of the reserves of liquid assets that they possess. As they borrow more, the risk of non-payment, and the liability to creditor rises. So the rate of interest charged rises on successive additional tranches of borrowing.

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Jan Toporowski

Micha_ Kalecki took up Breit’s idea of rising interest rate margins relative to a firm’s reserves to show that this not only limited the amount of borrowing that a firm could undertake. Extended to the capital market it also limited the size of a firm. In this way it reinforced his argument that ownership of money capital (rather than means of production, or business aspiration) is the precondition for becoming a capitalist. So the short-term rate of interest could not be a factor in determining investment, while the stability of the long-term rate of interest indicates that it too cannot be a factor in determining the business cycle, as Keynes had argued. Investment is self-financing in the sense that it creates the income and saving required for its financing.