BEFORE we proceed, however, we should recall that Karl Marx had to take leave of the international proletariat before he could systematically work up a comprehensive theory of capitalist crisis. Capital Volumes II and III, Theories of Surplus Value and Grundrisse were not made ready for publication in his lifetime; nor could he take up his plans for investigating various other facets of capitalist economy and polity. Naturally there is a wide array of differing interpretations of Marx’s theory, with Luxembourg for example differing with Lenin, and Ernest Mandel arguing against Paul Sweezy and others. Available space does not permit us to review the rich and continuing debate among these schools; we can only present here in barest outline what we believe to be the basic Marxian approach towards understanding capitalist crises.

The Ultimate Reason

Take a look at the quotation from the Communist Manifesto with which this pamphlet begins. Marx and Engels talk of an “epidemic of overproduction”. This is overproduction of commodities relative to effective demand: more is produced than can be sold. Thanks to inadequate purchasing power of the masses, a big chunk of commodities remain unsalable and drag their owners (producers/traders) down to ruin. This characteristic feature of capitalism led Marx to remark, “The ultimate reason for all real crises always remains the poverty and restricted consumption of the masses as opposed to the drive of capitalist production to develop the productive forces as though only the absolute consuming power [as distinct from purchasing power – A Sen] of society constituted their limit.” (Capital Volume III p. 484)

The problem thus appears simply as a realisation crisis and prompts one to ask: why on earth do practical men of business commit the folly of producing more than they can sell?

Going deeper, we find that crises occur not because capitalists are fools, nor do they fall from the blue. They are produced in course of trade/business cycles resulting from a complex interplay of several partially independent variables, the most important being movements in the average rate of profit. As Marx showed in Part Three of Volume III of Capital, over a period of time and in the economy as a whole, this rate tends to fall. Here is how, in brief.

The Tendential Fall in the Average Rate of Profit

We all know that capitalists are prone to use more and better machinery to boost production and save on labour costs. In Marxist economic theory this is known as increasing the ratio of constant capital (plant and machinery, raw materials, various fixed assets, etc) to variable capital (capital expended on purchasing labour power – “variable” because this part, unlike the “constant” part, grows beyond its own value, i.e., creates surplus value in the process of production) – a ratio which is called the organic composition of capital. Since live labour is the source of surplus value or profit, replacing labour by machinery means a proportionate decrease in the rate of profit for every unit of total (constant plus variable) capital employed. Suppose a capital worth Rs. 100 crore comprised Rs. 60 crore in constant and Rs. 40 crore in variable capital and the rate of surplus value was 50%. The amount of surplus value was therefore Rs. 20 crore (50% of Rs. 40 crore expended on variable capital) and the rate of profit (calculated on total capital of Rs. 100 crore) was 20%. After say 10 years, the organic composition is increased – constant capital is raised to Rs. 80 crore and variable capital slashed to Rs. 20 crore. The rate of surplus value remaining the same, the amount of surplus value would be Rs. 10 crore (50% of Rs. 20 crore) and the rate of profit 10%.

The illustration is deliberately simplified, but the fact remains that increase in the organic composition of capital and a downward tendency of the average rate of profit, conditioned by the former, are the general laws of development of the capitalist mode of production. However, reduced rate of profit can go hand in hand with increased mass of profit if the total magnitude of capital on which profit is earned is sufficiently increased. And that is what usually happens in real life. As Marx puts it,

“…the same development of the social productiveness of labourIncreased organic composition of capital entails higher productivity of labour insofar as the same number of workers in the same time period “convert an ever-increasing quantity of raw and auxiliary materials into products thanks to the growing application of machinery and fixed capital in general." (ibid, p 212) It should be noted that this also means greater intensity of exploitation, i.e., increased rate of surplus value. expresses itself … on the one hand in a tendency of the rate of profit to fall progressively and, on the other, in a progressive growth of the absolute mass of the appropriated surplus-value, or profit; so that on the whole a relative decrease of variable capital and profit is accompanied by an absolute increase of both. This two-fold effect… can express itself only in a growth of the total capital at a pace more rapid than that at which the rate of profit falls.” [Capital, Volume III, p 223]

This has another consequence that has acquired much practical-political importance in the current context of development debate:

“… as the capitalist mode of production develops, an ever larger quantity of capital is required to employ the same, let alone an increased, amount of labour-power. Thus, on a capitalist foundation, the increasing productiveness of labour necessarily and permanently creates a seeming over-population of labouring people. If the variable capital forms just 1/6 of the total capital instead of the former 1/2, the total capital must be trebled to employ the same amount of labour-power. And if twice as much labour-power is to be employed, the total capital must increase six-fold.” [ibid, emphasis added]

We thus see that the tendential law of falling rate of average profit does not operate in a simple, linear fashion. It is realised only in course of cyclical movements of capital, through breakdowns and restorations of equilibriums. It has its own “internal contradictions” and unleashes a slew of countervailing forces or “counteracting influences”, such as more intense exploitation of labour, depression of wages below value, cheapening of the elements of constant capital, relative over-population (the “reserve army” of unemployed), foreign trade (skewed terms of trade and imperialist super profits), expansion of share capital – and to this list prepared by Marx we must add more modern techniques like monopoly pricing. We should therefore view the law “rather as a tendency, i.e., as a law whose absolute action is checked, retarded and weakened by counteracting circumstances” (ibid, pp 234-35).

Other Causes and Contradictory Tendencies

Our stress on the tendency of the average rate of profit to fall – which Marx regarded as “in every respect the most important law of modern economy and the most essential for understanding the most difficult relations” (Grundrisse, p 748) – should not lead one towards a monocausal understanding of economic crises and business cycles. Crucial other causes are also there, such as anarchy of the capitalist mode of production which, inter alia, periodically upsets the conditions of equilibrium between the two main sectors – one producing consumer goods and the other producing capital goods – of capitalist economy. Marx also discussed several auxiliary factors which influence the specific courses and peculiar features of particular crises. More important among them are: movements in wage levels, competition among capitalist concerns, fluctuations in raw material prices, expectations (or “confidence”, to use a more modern term), movements in interest rates and financial turmoil, trends in international trade, and so on. A composite study of all these, and of other factors discovered in post-Marxian experience and research, is needed for seeking out the truth from the mountains of facts and data that are easily available; what we are attempting here is only an initiation.

The exposition of “the internal contradictions of the law” takes Marx to a discussion of certain “contradictory tendencies and phenomena” which “counteract each other simultaneously”. He mentions a number of such contradictory features – such as falling rate of profit alongside the growing mass of capital, enhanced productivity alongside higher composition of capital – and declares,

“These different influences may at one time operate predominantly side by side in space, and at another succeed each other in time. From time to time the conflict of antagonistic agencies finds vent in crises. The crises are always but momentary and forcible solutions of the existing contradictions. They are violent eruptions which for a time restore the disturbed equilibrium. …” (ibid, p 249, emphasis added)

Here we have the most concise description of the essential role of crises as an inbuilt mechanism of capitalism that, up to a point, prepares the way for a new upturn, just as a forest fire can prepare the woodland for a new period of growth. To explain how, Marx makes another move ahead in his exposition.

Over-accumulation and Depreciation/Destruction of Capital

Where bourgeois economists see the surface phenomenon of commodity glut during depression, Marx lays bare the deeper substance of overproduction/over-accumulation of capital and shows how this comes about:

“A drop in the rate of profit is attended by a rise in the minimum capital required by an individual capitalist for the productive employment of labour… Concentration increases simultaneously, because beyond certain limits a large capital with a small rate of profit accumulates faster than a small capital with a large rate of profit. At a certain high point this increasing concentration in its turn causes a new fall in the rate of profit. The mass of small dispersed capitals is thereby driven along the adventurous road of speculation, credit frauds, stock swindles, and crises. The so-called plethora of capital always applies essentially to a plethora of the capital for which the fall in the rate of profit is not compensated through the mass of profit — this is always true of newly developing fresh offshoots of capital — or to a plethora which places capitals incapable of action on their own at the disposal of the managers of large enterprises in the form of credit. This plethora of capital arises from the same causes as those which call forth relative over-population, and is, therefore, a phenomenon supplementing the latter, although they stand at opposite poles — unemployed capital at one pole, and unemployed worker population at the other.

“Over-production of capital, not of individual commodities — although over-production of capital always includes over-production of commodities — is therefore simply over-accumulation of capital.”(ibid, p 250-51; emphasis added)

Such a situation naturally leads to an unseemly scramble among capitalists:

“So long as things go well, competition effects an operating fraternity of the capitalist class … so that each shares in the common loot in proportion to the size of his respective investment. But as soon as it no longer is a question of sharing profits, but of sharing losses, everyone tries to reduce his own share to a minimum and to shove it off upon another. The class, as such, must inevitably lose. How much the individual capitalist must bear of the loss, i.e., to what extent he must share in it at all, is decided by strength and cunning, and competition then becomes a fight among hostile brothers. The antagonism between each individual capitalist’s interests and those of the capitalist class as a whole, then comes to the surface … (ibid, p 253; emphasis added)

In the age of imperialism this is replicated on an international scale, with nation states engaged in fierce battles over who is to bear the brunt of the huge losses. Costs of crises are spread differentially according to the economic (including financial), political and military prowess of rival states. Imperialist war – being the fastest method of this destruction – appears on the horizon as a real or potential ‘solution’ to capitalist crisis.

In whatever manner and through however fierce a struggle the losses may be distributed among individual concerns (and among different states or trade-and-currency blocs on the international plane), the overriding need for returning the system to some kind of equilibrium has to be fulfilled. And that is fulfilled through destruction of part of capital values:

“…the equilibrium would be restored under all circumstances through the withdrawal or even the destruction of more or less capital. This would extend partly to the material substance of capital, i.e., a part of the means of production, of fixed and circulating capital, would not operate, not act as capital… The main damage, and that of the most acute nature, would occur … in respect to the values of capitals. That portion of the value of a capital which exists only in the form of claims on prospective shares of surplus-value, i.e., profit, in fact in the form of promissory notes … is immediately depreciated by the reduction of the receipts on which it is calculated. … Part of the commodities on the market can complete their process of circulation and reproduction only through an immense contraction of their prices, hence through a depreciation of the capital which they represent. The elements of fixed capital are depreciated to a greater or lesser degree in just the same way. … definite, presupposed, price relations govern the process of reproduction, so that the latter is halted and thrown into confusion by a general drop in prices. This confusion and stagnation paralyses the function of money as a medium of payment, whose development is geared to the development of capital and is based on those presupposed price relations. The chain of payment obligations due at specific dates is broken in a hundred places. The confusion is augmented by the attendant collapse of the credit system, which develops simultaneously with capital, and leads to violent and acute crises, to sudden and forcible depreciations, to the actual stagnation and disruption of the process of reproduction, and thus to a real falling off in reproduction.” (ibid, pp 253-54)

But all this does not, by itself, mean the end of the world. Once the necessary devaluation has been accomplished and over-accumulation eliminated, ‘normal’ accumulation can go on:

“…the cycle would run its course anew. Part of the capital, depreciated by its functional stagnation, would recover its old value. For the rest, the same vicious circle would be described once more under expanded conditions of production, with an expanded market and increased productive forces.” (ibid, p 255)

But what is normal need not be permanent. Expanded capitalist reproduction is intensified reproduction of all its contradictions and within the recurring cycles reside the seeds of violent destruction of the system:

“The highest development of productive power together with the greatest expansion of existing wealth will coincide with depreciation [devaluation] of capital, degradation of the labourer, and a most strained exhaustion of his vital powers. These contradictions lead to explosions, cataclysms, crises, in which by momentous suspension of labour and annihilation of a great portion of the capital, the latter is violently reduced to the point where it can go on.... Yet these regularly recurring catastrophes lead to their repetition on a higher scale, and finally to its violent overthrow” (Grundrisse, p 750, emphasis added).

Credit and Crisis

As noted earlier, credit plays a dual role in the process of production and circulation. Drawing attention to a basic contradiction of capitalist accumulation, Marx observed: “The credit system appears as the main lever of over-production and over-speculation in commerce solely because the reproduction process, which is elastic by nature, is here forced to its extreme limits, and is so forced because a large part of the social capital is employed by people who do not own it and who consequently tackle things quite differently than the owner, who anxiously ways weighs the limitations of his private capital in so far as he handles it himself.”

A very realistic explanation of why the financial institutions behave so irresponsibly with their customers’ money, isn’t it? Marx goes on:

“This simply demonstrates the fact that the self-expansion of capital based on the contradictory nature of capitalist production limits an actual free development only up to a certain point, so that in fact it constitutes an immanent fetter and barrier to production, which are continually broken through by the credit system. Hence, the credit system accelerates the material development of the productive forces and the establishment of the world-market. …At the same time credit accelerates the violent eruptions of this contradiction — crises — and thereby the elements of disintegration of the old mode of production.” (ibid, p 441, emphasis added)