Inflation, Financial Crash, or Recession?

What’ll it be? A brief overview of the contradictions of capitalist crisis policy using the United States as an example

Tomasz Konicz, 06.03.2024. Translation by OlIver Blackwell

It’s party time! The U.S. stock markets recently set off a veritable display of fireworks.[1] On November 3, U.S stock markets closed out their best trading week of the current year after dismal U.S. employment figures were released. The U.S. economy added only 150,000 jobs in October, down from 297,000 in September, and the unemployment rate rose from 3.8% to 3.9% over the same period. This complete slowdown amounts to a halving of job growth, which points to a serious economic slowdown, perhaps even a recession. If that isn’t cause for celebration on the trading floor!


This seemingly absurd reaction of the financial markets, which are actually celebrating rising unemployment, certainly has a crisis logic to it. The markets are simply speculating on an end to the central banks’ high interest rate policy, which has been used to combat inflation. Fewer jobs and rising unemployment suggest that wage growth is slowing down and consumer demand is weakening, which should further weaken stubborn inflation. The aim is to prevent an inflationary wage-price spiral in which rising prices and wages feed off each other. The wave of inflation can only be contained if more wage earners can afford less – that is the simple speculative calculation behind the price fireworks.

The Fed’s job will now be much easier, Reuters noted, as wage growth slowed to 4.1%, the lowest since June 2021.[2] This would make further rate hikes, which had been discussed (the Fed does not want to talk about any rate cuts for the time being), unlikely. And this is exactly what the financial markets have been speculating on in the bull market that began in November of 2023. Rising interest rates, the main tool in the fight against inflation, are also poison for the financial sector. Although the central banks’ restrictive monetary policy has at least succeeded in curbing inflation, it is also putting pressure on the financial sector of the over-indebted late-capitalist core countries, whose market players are speculating on an end to interest rate hikes.

The same crisis policy that is being used to fight inflation is also destabilizing the financial sphere. At some point, “something is going to break,” as Mohamed El-Erian, Chief Economist at Allianz, described the shattered state of the financial sector in early October, given the central banks’ continued policy of high interest rates.[3] The September jobs report, which showed the creation of nearly 300,000 jobs, was “good news for the economy,” but it was “bad news for the (financial) markets and the Fed.” But, one might ask, what exactly can “break” in the bloated financial superstructure of the over-indebted core countries?
An Unstable Bond Market

First and foremost, this refers to the bond markets – the bedrock of the global financial system[4] – which were at the center of the last “financial quake” in March 2023,[5] when a number of banks got into trouble or even had to be liquidated after the high interest rate policy led to a decline in the market value of government bonds. Bonds of core countries such as Germany or the U.S. are held as low-yielding collateral until they mature at par, but their market value falls when interest rates rise (because they have lower interest rates), which can put even large market players in distress once they suddenly have to sell bonds. This was the case with Silicon Valley Bank last March – it was forced to make emergency bond sales, leading to its insolvency and triggering a banking crisis.

Interest rates and bond prices are therefore inversely related: when interest rates fall, bond prices rise, and when interest rates rise, bond prices fall. The stress and pressure on the financial sector from the fight against inflation and high key interest rates can therefore be seen in the interest rate trend for U.S. government bonds. At the beginning of October, the ten-year U.S. bond yielded 5%, the highest level since the global financial crisis in 2007.[6] The market value of long-term bonds has fallen by an average of 46% since their peak in 2020.[7] And these high bond rates are having a ripple effect throughout the financial world, including public finances – it is no longer just a matter of fire sales by struggling banks that find themselves in trouble because of the falling market value of their bonds.
Bond Interest Rates and Budgetary Burden

However, the high interest rates and the falling market value of U.S. government bonds (“Treasuries”) are not only due to the central banks’ fight against inflation, but also to the government itself. According to Reuters, the U.S. government’s increased borrowing is leading to “increasing bond sales,” which also makes the government’s debt servicing more expensive (the increased “supply” of government debt can only be sold at higher interest rates, when it is more attractive).[8] As a result, Washington has to spend more and more to service its debt. The rise in interest rates cost U.S. taxpayers $625 billion in the first nine months of this year,[9] an increase of 25% over the same period last year. By the end of the year, interest payments are expected to cost more than $800 billion.[10] By comparison, Washington’s budget line item for defense in 2022 amounted to $877 billion.[11]

What’s more, the U.S. Federal Reserve is shrinking its bloated $8.9 trillion balance sheet as part of its fight against inflation by sharply reducing the bond and securities purchases that were customary in the era of the liquidity bubble,[12] so that the new purchases are less than the value of the maturing securities.[13] Previously, Washington could rely on the Fed simply buying government bonds with freshly printed money to finance the budget deficit. This money printing, which had inflated the Fed’s balance sheet from less than one trillion in 2008 to nearly nine trillion in 2022, is being thwarted by inflation. Washington can no longer simply print new money to keep the cost of the national debt down. The Financial Times speaks of an “oversupply” of Treasuries, which is accelerating their loss of value.[14]
The Financial Sphere and Key Interest Rates

The high interest rates used by central banks to fight inflation is having a knock-on effect across the financial world, including the hot U.S. housing market, where mortgage interest rates have at times risen to eight percent, the highest level in 20 years.[15] Two years ago, the average mortgage rate was still around three percent.[16] The exploding costs mean that fewer and fewer wage earners can afford to buy a home at all, further accelerating the social erosion in the United States (home ownership is the central social protection for the middle class in the U.S.). It now takes an average annual income of $115,000 to afford a home, about $40,000 more than the average wage.[17] Furthermore, the proportion of wages that homebuyers would have to put toward their loan has risen to 40%, up from around 25% 35 years ago. Not only is this effectively blocking the rise to the middle class, but the risk of another real estate crisis and economic downturn in the U.S., as is already happening in Germany, is rapidly increasing.[18]

Wherever large liabilities have accumulated in the financial superstructure, something is about to “break.” Take credit card debt, which will exceed $1 trillion for the first time in 2023, or corporate debt, some $3 trillion of which will come due in the next few years. The volume of the market for the highest rated U.S. corporate debt is $8.4 trillion – the interest rate here has risen to just over six percent, compared to just two percent in 2020.[19] Finally, high interest rates are also destabilizing the stock markets, which will continue to be volatile (a good jobs report caused the Dow Jones Industrial Average to drop 430 points in early October),[20] as long as bond interest rates remain high.[21] As a result, the market highs mentioned at the beginning of this article are unlikely to be sustained over the long term. The era of prolonged financial market bubbles is over for the time being.

Falling interest rates would quickly reduce this crisis pressure, which is weighing on the entire financial system. The risk of something “breaking” immediately would be reduced. This leads to the seemingly absurd constellation in which poor labor market data, which could indicate an end to the high interest rate policy, is greeted with goodwill by the stock markets. For the time being, the actual inflation rate cannot serve this purpose. In fact, it has risen slightly in recent months[22] – and at 3.7%, is still far from the 2% target of monetary policy. After peaking at 8.6% in May 2022, the Fed was able to push inflation down to 3% in June 2023 due to high interest rates and the end of its money printing through bond purchases, but inflation has since accelerated again. Inflation is essentially accelerated by external factors resulting from the ecological barrier of capital,[23] which are simply beyond the Fed’s control.[24]
Impending Recession in The Crisis Trap

The only way to fight inflation is by reducing consumption through an increase in unemployment and a de facto fall in wages (real wages have risen slightly more than inflation in recent months). However, the markets’ jubilation over the poor jobs numbers was immediately mixed with skepticism. The New York Times (NYT), for example, headlined that the report had sparked a “mix of concern and calm,” as worries about an inflationary “overheating” of the economy could turn into fears of a recession.[25] According to a recent survey of economists cited by the NYT, a narrow relative majority of 49% of respondents expect a “recession in the next 12 months,” while 42% believe a “soft landing” of the economy is still possible.

The business media even warned that the markets would literally stage a “rally into recession” as fundamental indicators pointed to a contraction.[26] For one, the strong growth in the U.S. (1.2% in the third quarter of 2023 compared to the second quarter) is due to private consumption, which is being generated by the reduction in savings that were accumulated during the pandemic. In addition, the once broad U.S. middle class has melted away to such an extent that a long credit-financed consumption boom, as was common in the era of neoliberal financial bubble economics, is no longer possible. According to the latest data, some 62% of wage earners in the “booming” U.S. are unable to build up any significant financial reserves.[27] They live from paycheck to paycheck. The famous, broad “middle class” in the U.S. is thus virtually a relic of the past.[28] Added to this is the increase in government spending over the past two years (which, as mentioned, is now leading to a heavy interest burden on the U.S. budget).[29]

The United States, which – not least due to protectionist measures – had the best economic performance of all Western industrialized countries after the end of the pandemic, is actually facing a recession in the medium term. The fear of inflation and the threat of financial collapse is turning into a fear of recession, which, if deep enough, could also have a destabilizing effect. This is simply a manifestation of the fundamental crisis trap[30] in which late-capitalist economic policy finds itself.[31] With the onset of inflation, it is no longer possible to keep capitalism, which is choking on its productivity, in a kind of zombie existence by taking on debt within the framework of the financial market-driven bubble economy.[32] Consequently, politicians can only choose what path they want to take to crisis: Recession, financial crash or inflation? Even in the U.S., which has so far been able to decouple itself somewhat from the development of the crisis in the eurozone thanks to the protectionism of the Biden administration, this crisis dynamic can only be postponed.[33]


































Originally published on on 11/10/2023

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