• Andrew O'Brien

How will the Conservatives react to a capital strike?

Updated: Oct 19

The German political economist Wolfgang Streeck is probably not at the top of the reading list for Conservative Ministers or advisors, but it should be. In particular his book, How Will Capitalism End? should be mandatory reading.

In this collection of essays, Streeck lays out his thesis that the past fifty years has seen the emergence of what he calls consolidation state. This is a state where the primary stakeholder is not its citizens, but the financial markets that hold their debt. The consolidation state essentially exists only to service debt, delivering the bare minimum of services to keep people on side and paying their taxes. The consolidation state is caused by three long term trends “declining growth, growing inequality, and rising debt – public, private and overall.” Sound familiar?

But what caused the emergence of the consolidation state?

Streeck’s view is the post-war settlement was undermined by a ‘Kaleckian reaction’, effectively a withdrawal of business confidence. Capital wanted to break free from the ‘straightjacket’ of the post-war system. This led to a secular decline in business investment that reduced growth and productivity. Just as workers can go strike, investors and owners of firms can go on strike too.

The two main causes of this loss of confidence are generally identified as the global economic slowdown combined with the oil shock of 1973, the former which squeezed business as workers continued to demand wage increases and the latter which saw inflation rise dramatically in a short period of time, spiking further wage demands.

Whilst the period was uncertain, the profitability of UK firms did not diminish but actually increased relative to the proceeding period. The gross operating surplus of UK firms increased by 18% between 1960 and 1970, but by 46% between 1970 and 1980 – in real terms. Gross operating surplus also takes into account pay to employees, so it is not right to say that all this profit was eaten up by higher wages. According to the OECD, the UK was the only major economy where the rate of return on capital (once interest payments and taxes were taken into account) actually held steady between 1960 and the early 1980s.

GDP growth was also not insignificant. Yes, it was slower than in the 1960s (UK GDP increased by 32% between 1960 and 1970 in real terms), but not that much slower (28% between 1970 and 1980). The economy also grew slightly faster in the 1970s than in the 1980s.

So, if profits were rising (or were at least stable) and the economy was growing, why the ‘Kaleckian reaction’?

The 1980s provides an interesting parallel because although GDP performance was not strong, nor did investment grow as a % of GDP and there were significant levels of unemployment, one thing did increase. Profits. Gross operating surplus for UK firms increased by 100% during the 1980s, double the rate of growth in the 1970s. The rate of return for UK firms also steadily increased in the 1980s and 1990s. In Streeck's analysis, the capital strike was driven by a demand for higher profits. The limits on capital developed after the war would be junked to enable a significant increase in profitability and wealth accumulation. The owners of capital, the rich, wanted out.

Streeck and his supporters would say that this was enabled by three things. Firstly, a significant reduction in taxation for businesses and the wealthiest (which made paying out dividends worthwhile). Corporation taxes were cut by 15% for the smallest companies and slightly more (17%) for the largest firms, for example. The significant reduction in personal taxes is well known. Secondly, deregulation and privatisation created the space to maximise profits. Thirdly, the breaking of the unions and collective bargaining reduced the ability of workers to demand higher wages.

Social and political demands for rising living standards remained, however. But business would leave this to the state to deliver. This required higher levels of spending on welfare, to keep up living standards, but global tax competition also meant that countries could not raise taxes to pay for public services without fear of capital flight. This created the “consolidation state”, where deficits became permanent and appeasing the bond holders became increasingly important.

Why go through all this history? Well, during the 1980s, the Conservative policy and “the market” (for want of a better term) were on the same side. The Conservatives wanted to enable profit and enterprise, so did the markets. Apart from a slight blip in the 1990s during the ERM (a policy of inflation targeting supported by businesses, but open to attack by speculators), the Conservatives and the market have been in lock-step.

However, in recent weeks the heirs of Thatcher who wanted to carry out what they perceived to be the Iron Lady’s policies, including unfunded tax cuts (remember the Conservatives ran a budget deficit in every year bar 1988/89) found themselves in the midst of a capital strike. The market said no. No to corporation tax cuts. No to cuts in income tax for the wealthiest. Why? They supported it in 1979, why not 2022?

At present it is hard to say. Concerns about affordability (and ultimately inflation) are the proximate cause. However, as we have seen higher levels of inflation do not necessarily lead to a reduction in profitability or the rate of return. Higher levels of inflation, if matched with proportionate wage increases and tax increases can also significantly shrink the levels of public debt in real terms. The bigger concern appears to be that this borrowing spree could undermine the whole economic model, the “consolidation state” that Streeck identified, where profits are high, public debt is plentiful and burdens on business remain low.

The choice for Conservatives, for the first time since Ted Heath’s tenure (and the infamous Barber Budget), is what to do about this capital revolt.

Interestingly, the Heath experience paved the way to Thatcher. In future, the Conservatives had to be on the side of business rather than trying to appear voters and workers. This time, the Conservatives were trying to do what they thought business wanted, even if it was opposed by workers. It is one thing to suffer a capital revolt when you are perceived to be squeezing business, quite another when you wanted to help it.

Ironically, it is the Conservatives’ success in 2019, winning a larger proportion of working class voters, which has created a much greater concern with living standards and levelling up which has driven a focus on higher levels of growth. Do the Conservatives turn their back on this electorate? Labour appear to want the mantel of custodians of the “consolidation state”, where does that leave the Conservatives? Waiting for the next crisis to emerge, as in 2008/2009? Or developing a new model to bring the needs of capital and the mission to “level up the country” into alignment?

Only time will tell.

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