From bulls to bears

In the last month or so, the world's stock markets have taken a huge tumble, down about 20% on average. Of course, prices of shares in most markets are still way above where they were five years ago and even still above levels of 18 months ago. After the excitement of the US stock market index, the Dow, going over 10,000, it seemed there was no stopping the boom. The Dow hit 11,500 and the NASDAQ index, which combines the prices of all the new high-technology and Internet company shares (like Yahoo, Cisco, Microsoft and Amazon), rose to an amazing 4,500 from just 1,000 only two years ago. There was even talk of the Dow going to 36,000 within a few years! But the trend now is clearly downwards. The Dow has fallen back to just above 10,000 as I write and the NASDAQ is back to 3,000. The casino capitalism of the stock market is in what they call a bear market."

In the last month or so, the world's stock markets have taken a huge tumble, down about 20% on average. Of course, prices of shares in most markets are still way above where they were five years ago and even still above levels of 18 months ago. After the excitement of the US stock market index, the Dow, going over 10,000, it seemed there was no stopping the boom. The Dow hit 11,500 and the NASDAQ index, which combines the prices of all the new high-technology and Internet company shares (like Yahoo, Cisco, Microsoft and Amazon), rose to an amazing 4,500 from just 1,000 only two years ago. There was even talk of the Dow going to 36,000 within a few years!

But the trend now is clearly downwards. The Dow has fallen back to just above 10,000 as I write and the NASDAQ is back to 3,000. The casino capitalism of the stock market is in what they call a bear market.

It's not too difficult to see why the previous super-optimism about the prospects for capitalism has turned sour. In the last month, the big US companies have been reporting their profits to their shareholders. And all is not well. The growth in profits is slowing in nearly all cases and is certainly less than the investors in the stock market boom are hoping for. Profits are not actually declining yet and the big companies are not suffering losses, but the trend is downwards.

And much more to the point, the rate of profit is falling. By that I mean, the return on each dollar of investment in new technology and more labour is falling from say 12c to under 9c. That means the gains from making such huge investments in the Internet and computers are not producing the extra profit at the same rate.

Marx explained how this would happen under capitalism. Capitalism is system of production that only produces more if the private owners of the means of production (land, plant, equipment and employers of labour) make more money than they invest. But each individual capitalist is in competition with others to buy labour and equipment at its cheapest and to gain the biggest share of the market for products and services at the highest bearable price. Competition tends to drive up the cost of inputs into production and drive down the price of sale of what is produced. The way to maximise profits is to invest in better technology that undercuts rivals.

Since 1995, US capitalists have been engaged in the most competitive struggle to increase productivity through new technology and the Internet economy. There has been a huge growth in investment in new equipment at an unparalleled rate of 8% a year, not matched since 1965. At the same time the growth in extra labour has been kept to a minimum, just 1% a year. That has boosted output per worker dramatically, from just 1.4% a year between 1973 and 1995 to 3% a year now. No wonder profits have rocketed.

But as Marx explained, this cannot continue indefinitely under competitive capitalism. More and more companies have been trying to get into the new technology/Internet sector. Start-up firms, as they are called, have been appearing by the day. Nearly all of capitalist investment went into the new technology sector, with investment rising at 25% a year, while investment in the old traditional companies like chemicals, motor cars etc. rose at only 3% a year.

Now there is a great debate among the capitalist economists about whether all this new technology investment is really raising the productivity of capitalism across the board or not. Professor Robert Gordon argues all the productivity gains are just in the computer sector itself as the cost of computers falls. There has been no real boost in productivity in the rest of industry. The Federal Reserve Bank is America's most important financial institution. Its economists have rejected Gordon's arguments, saying that new technology has indeed boosted the rest of the economy. Other economists say, even if it has, it's only because workers are slaves to their computers. They put in more hours outside of normal time (at home, at lunch time etc.) and in this way there is a boost to productivity.

Whoever is right, what is clear is that huge amounts of money capital were thrown at these new technology companies with the aim of making huge profits quickly. These companies ate more and more capital but most have not got huge sales or profits in return. The money has started to run out, these firms are going bust and the investors are losing their money. The mood of optimism is changing.

And it's not just the small companies that are proving bad investments. The big new technology companies are now saying that the prospects don't look so good. More interestingly, if you analyse the profits results of these companies you can see the seeds of disappointment ahead.

Cisco Systems is the world-wide leader in providing networks for the Internet. This is a huge company that has appeared from nowhere in the last five years. It is the epitome of the new economy. It recently produced results that showed a jump in profits from just under $1bn a quarter in 1999 to $1.5bn in the quarter ending July 2000. Pretty impressive, so all is well? No, because these figures left out two important aspects. The first was the buying up of other new technology companies. When the cost of that is included, the net profits actually fell from $850m to $820m. In other words, Cisco had to keep buying up competitors or companies with important technologies to stay ahead. In doing so, its profits fell. Of course, Cisco made profits from these acquisitions worth $344m. Adding that in boosted profits. But increasingly, Cisco's profits are not coming from its own businesses but from investment in the shares of others. If the stock market goes down, so will the profits of Cisco. And if the profits of Cisco go down, then investors in the stock market will sell everything. That's started to happen.

There has been a stupendous investment in computer technology. Production of semiconductors up 77% this year. This spells overcapacity, especially as each extra bit of investment is producing less of bit of profit - the rate of profit is falling. So far, that means a slower growth in overall profit. Soon it will mean an actual fall in profit. Then the crisis of over-investment will turn into a crisis of overproduction.

The US economy is slowing. Instead of racing ahead at 5% a year, it is slipping back to around a 3.55 rate. The big question is: will it fall even harder towards zero and thus drag down the rest of the capitalist world into recession or slump. There are several trends that suggest it will. First, if investment slackens off because the rate of profit is in decline, then the productivity growth in industry will also fall back. Slower growth of productivity will mean production costs will rise squeezing profits further.

Second, the shock of high oil prices is beginning to drive up costs of production as well. And with petrol and heating costs rising, workers in America and Europe are demanding either relief or they will want higher wages. That will not mean higher prices so much because of the intense competition among capitalists for market share, particularly in the Internet sectors. The result will be another squeeze on profits.

Third, the bear market in stocks and shares will hit the real economy too. In 1998, shares were equivalent to over 20% of all the savings of American households. Sucked in by the huge boom in share prices since 1995, never have American middle class families' futures depended so much on the Dow and the NASDAQ. If share prices keep falling, households will feel poorer and stop spending. And capitalist markets will die because of the lack of consumption. And a falling stock market will also hit further investment by capitalists as their income that companies like Cisco get from stock market investments disappear.

This year the global capitalist economy will have grown by about 4% overall. That's the best result since before the Asian crisis. And it's a big improvement over 1999's 2.8% growth, when there was talk of a new recession. But without the US growing at a breakneck pace of 5%, world growth would have been a lot less. The US is not going to repeat that next year. Indeed, it is more likely to head into less than 2% growth. Europe's growth already seems to be peaking as a weak Euro and rising oil prices bite into investor confidence. Japan remains weak and Asian economies seem to be slipping back into a pool of political strife (Indonesia), corruption (Philippines) and debt (Korea and Thailand). Sub-2% growth is on the agenda next year and it could be worse.

Oil prices rising, a Middle East crisis, a falling rate of profit amid an apparent boom in the world economy - it all looks much like 1973, just a year before the most widespread slump in capitalism since 1929-30.