What is the role of credit under capitalism?

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Economy Class

When the credit crunch hit in 2008 and governments bailed out banks with trillions of pounds so they didn't collapse many people recognised that this was because of the huge amounts of debt in the system. Banks had loaned money to people and companies with no idea if they'd be able to pay it back, and these debts had then been sold on and bets taken on their future value.

So if the crash was caused by credit and debt, is it the fault of the banks for lending money, or people for borrowing? And couldn't we just regulate the system to get rid of this toxic aspect?

The system of credit and debt is not just something added on to capitalism that could be removed. It is an important part of the system that allows it to expand beyond its own limits, but ultimately contributes to its instability.

During a boom there is a frantic scramble for capitalists to invest and grab a bigger share of the market from their rivals. But sometimes an individual capitalist or company might not have the capital up front which they need to invest to keep ahead, whereas other capitalists may have surplus value from past rounds of production that they need an outlet for. Banks play an important role in mediating between these two possibilities, lending the profits of one capitalist as capital for another to invest.

This allows capitalists to accumulate more rapidly, driving capitalism forward. However, it relies on the confidence that the money lent can be repaid. And as the boom reaches its peak and people realise all that has been produced cannot be sold, and that therefore profit might not be made, the debts are called in. In this way the system of credit and debt that fuelled the boom also accelerates the crash and ultimately adds to its destruction.

So the credit system lubricates the accumulation process. Capitalists do not have to wait for one round of production to be finished before they can begin another, and have an outlet for surplus value they have accumulated that they do not wish to invest directly in production.

Through this process capital also appears to generate profit as banks pay interest on surplus value they hold, and charge interest on money they lend.
The rate of interest is irrational, depending on the supply of and demand for credit, not actual production.

But it is still important for the capitalist. The rate of interest still needs to "make" more money for the capitalist sat in a bank account than it would invested in production.

This leads capitalists to see money itself as self-expanding rather than value coming from the exploitation of workers.

Sometimes as well as borrowing capital from banks, a capitalist who needs money to invest might sell bonds in a company. The people who buy bonds are promised a share of the money that the company makes - providing a profit is made.

These bonds that promise a share of future surplus value can be traded at a price way above their original value if traders believe it will guarantee them an income in the future.

But it also means they can become worthless as the market crashes and people no longer believe the company will make enough surplus value to pay out.

These shares and bonds are described by Marx as "fictitious capital" because they are not capital themselves but merely the promise of future earnings. If they lose their value no capital has been destroyed - money has simply been transferred from the shareholder to the company.

It is not just capitalists who borrow money. Increasingly over the last 30 years workers have been encouraged to buy on credit, resulting in huge amounts of personal debt. This allowed capitalists to raise the rate of exploitation of workers, without affecting the number of goods and services a worker could buy, thus helping to maintain their profit rates.

These debts too can be traded and gambled on in the belief that they will be repaid in the future. This further ties the workers into the system and exposes them to the disorder of the financial system. As Marx put it, "Banking and credit thus become the most potent means of driving capitalist production beyond its own limits - and one of the most effective vehicles of crises and swindle."

So despite major economic crises invariably involving crashes of the banks and financial institutions it is wrong to blame finance, the banks or money itself for the crisis. These are essential elements of the capitalist production process and it is capitalism itself that is prone to crisis by its chaotic and unplanned nature. Credit and debt intensify both the boom and the slump, but do not ultimately cause either.

Next month: What is the tendency of the rate of profit to fall?