Why are stock markets so volatile? – Michael Hudson
A serious depression is pending as a result of austerity, says Prof Michael Hudson. The following is the transcript of a RealNews Network interview of Michael Hudson by Sharmini Peries on Oct 17.
SP: Two days ago (Wed 15th October), the S&P 500 index took a dive and then partially recovered itself in what stock market watchers call a sell-off scare.
To talk about the background of the volatility is our regular guest, Professor Michael Hudson. Thank you so much for joining us, Michael.
MH: It’s good to be back.
SP: Michael, if you heard stock market reporting yesterday or saw The New York Times’ business section today, you would have thought we were in another stock market plunge. What’s behind this fluctuation?
MH: Well, the markets are obviously confused, because there are two sets of forces on the market, one positive and one negative. One aspect is that we’re going into a real serious depress- ion as a consequence of the austerity that has been imposed in the United States and in Europe. And for the last six years – since 2008 – almost all of the gains have been going only to the top one percent. This is creating large- scale unemployment.
And so economists in Europe and America are saying that this the best opportunity we’ve had in a century. Here is a chance to do what they call reform. A century ago, reform meant increasing wage levels and increasing living standards and taxing the rentiers, but right now reform means, in Europe, breaking the labor unions, lowering wages, and putting the squeeze on labor. And all of that is supposed to be good for profits.
SP: But, Michael, just last week the Bureau of Labor Statistics in the U.S. announced that unemployment is the lowest it has been in a very long time. Why? This seems contrary to what you’re saying.
MH: Well, it’s true that the unemployment rate among people searching for jobs is low, but there’s been a large movement out of the market for a number of reasons. Number one, fewer people are even looking for work. They have given up. Number two, many of the jobs that are being created are very low wage jobs – either at the low end of the spectrum or they’re part-time jobs. If you work part time, or if you have given up looking for work, then you’re not considered to be unemployed.
So even though some of the wage levels have been raised, like the minim- um wage in Massachusetts and out West, this simply means that families who have been living on food stamps while working at McDonald’s or other low-wage companies no longer qualify. So there’s been very little change in actual family budgets.
The markets were expected to sort of somehow take off with higher profit if there was a business cycle recovery. But it’s become apparent that we’re really not in a business cycle anymore. We’re at the end of a longer 50-year cycle dating from World War II, in which debts have risen to such an extent that all of a sudden the economy can’t be financed by debt anymore. And if the economy can’t be financed by debt, that means that markets can’t grow. So all of a sudden what was fuelling the growth and consumer demand that’s been producing increased profits has come to an end. This is especially apparent in Europe. So, basically, what people thought was supposed to be good news turns out to be quite bad news.
SP: Michael, the World Bank and the IMF adjusted the global growth rates last week, which has been a trend – you know, they’ve done it consecutively for a number of years now where their long-term projections aren’t just turning out the way they had planned and projected. Why is that happening?
MH: Well, when the World Bank and other people attempted to forecast a future trend, they thought it appropriate to take past growth rates as they were up to 2008 and just assume that the previous growth trend would somehow continue to occur automatically. But what they did not seem to understand is that fuelling all of this growth was the creation of debt, largely by inflating real estate prices in tandem with bank credit creation, as well as by government deficit spending.
In order to grow at this rate, economies need credit and they need income. The credit can come from running a government budget deficit or it can come from bank lending. But at the IMF meetings last week, it was clear that – as far as Europe is concerned – the banks have not recovered yet. The banks are not lending. And American banks are not lending. There has not been any lending in Europe or in the United States for new capital investment. And it’s capital investment that’s needed for building factories, and to make the new means of production which employs labor.
So you have this whole source of employment that was fuelling the global economy since World War II coming to an end. The only capital investment that’s occurring really is in the BRICS countries, not in America and not in Europe. So the kind of employment that existed in the past has not been creat- ed since 2008. What we have been experiencing is a form of survival on the corpse of the economy that was left in 2008 and we are basically now in an economic shrinkage process. There’s no infrastructure spending. The infra- structure is aging. There’s no corporate industrial investment. That stopped. There’s simply services trade in the military.
SP: Michael, the only thing that held up yesterday were some of the transportation stocks. Why is that? And you also said to me that 91% of the S&P 500 earnings are spent on stock buybacks and dividends. What does that mean?
MH: Well, in 2008 the Federal Reserve here and the central bank in Europe lowered interest rates to almost zero. It’s one-tenth of a percent in the United States. That means that banks can borrow reserves from the Fed in order to make loans. And what they’ve been lending for are for corporate takeovers and for stock buybacks. In the stock market during the past year, one third of all stock transactions in the United States were stock buybacks. That means the S&P 500 corporations have used, I think, 54% of their earnings to buy back their own stock, and they’ve been using another 40 percent or so to pay dividends. That has left only 9% of S&P 500 earnings available for new investment. Never before has this ratio been so low.
In the past, most companies used their earnings to reinvest and expand. But in recent times that hasn’t been occurring at all. They’ve been using earnings basically to give stock options to the managers. The manager say, okay, I’m paid according to how much I can increase the price of the stock. I’m not going to use my corporate earnings to build more plant, I’m going to use it to push up the stock so that I get more in my stock option. And you have activist stockholders who have been raiding Apple and other companies, like Carl Icahn. They have been pressing their companies to borrow not to invest – as the textbooks suggest – but rather to buy back their own stocks. So you have companies that are actually going into debt to buy their own stock.
The current low level of interest rates, which according to economic theory are supposed to make it more profit- able for companies to invest and employ more labor and grow, are now having the opposite effect. Thus the low interest rates are creating a new stock market bubble, which is why the stock market has gone up so much since 2008. But this rising stock market bubble has only been in the price of the stock. Stocks are rising without any new capital investment, without any new hiring, and, in fact, with downsizing and outsourcing. So they’ve turned the traditional textbook model of economic recovery inside out.
And gradually the investors and the hedge funds have been realizing that this isn’t your textbook kind of recovery; this is a kind of recovery that’s only occurring in the financial sector and insurance and real estate (the FIRE sector). It’s not occurring in the economy at large. And if all of these Wall Street earnings are not recycled in the economy at large, then markets are going to shrink, there’s not going to be much of a rental income for commercial space, and with shrinking markets you’re not going to have companies earning more profit on investment, even if they’re holding down wages.
SP: Michael, does this have anything to do with the murmurs that interest rates might actually increase?
MH: There was a fear in the markets that the Fed was going to stop quantitative easing. They’ve been saying, hey look, we can hold down interest rates forever. While at the IMF meetings last week, Europeans were expressing worry that these low interest rates will spur a financial bubble.
Now, if interest rates go up, that means that all of a sudden all of this borrowed money that’s gone into stocks is going to disappear. People are going to say, okay, we can’t make money borrowing to buy stocks, we can’t make money borrowing for real estate, so we’re not going to pay back the bank loans. We’re going to stop gambling.
All of this has been exacerbated by the new U.S. Cold War against Russia. Essentially the United States has been encouraging Europe to engage in a trade war with Russia. So European countries have imposed sanctions, and Russia has retaliated with even harder sanctions. The consequence has been a shrinking of the European economy and a fall in the euro. The Eurozone is now turning into a dead zone, and the Europeans are moving their money into the United States, which is pushing up the dollar.
Now, if the Fed were to raise interest rates at this point, this would not only bring down the stock market and the bond market, but it would also bring so much money into the dollar, because Europe cannot raise its interest rates, that this would price American goods out of world markets. And that would shrink the market for American Indus- trial exports all the more. So the United States has painted itself into a corner where it really can’t increase interest rates. Even though investors worry that the Fed is going to raise interest rates, the Fed knows that it can’t raise interest rates without crashing the market.
SP: Michael, thank you so much for joining us.
MH: It’s always good to be here.
Michael Hudson is Professor of Economics at the University of Missouri, Kansas City. His latest books are The Bubble and Beyond: Finance Capitalism and its Discontents and Killing the Host: How Financial Parasites and Debt Bondage Destroy the Global Economy.”Know someone interested? Please share