It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.
The accumulation and structure of finance capital
Before we start, we must note that the process accumulation of industrial and financial capital differs in each case. Industrial capital’s accumulation can be captured by the synthetic circuit M – C – M+MΔ, where M is money, C is commodity, M+ΔM the initial sum of money plus a profit. Financial capital operates differently: here we have no commodity mediating between our initial capital and the revenue of ventures. Here, accumulation is produced by employing money in financial markets with the objective of producing a bigger quantity of money in very little time. In this case, our circuit becomes M – M+ΔM.
The ways in which financial enterprises present themselves is manifold.
On the one hand, we have big companies, predominantly in the bank and insurance sectors, which are able to control hundreds of other companies, a clear example of finance capital in the classical definition Hilferding used: “capital at the disposition of the banks which is used by the industrialists”. An entire network of these control most of the global economy, as pointed out in another article too. Examples of these are bank holding companies, investment banks, etc.
On the other hand, we have institutional investors, such as pension funds, hedge funds, common investment funds, etc. These investors are one of the largest components of the global economy today, commanding more than 60 trillion dollars, and their importance is shown by the fact their investment strategies influence (and in other cases, determine) both corporations, banks and states. They control more than half of the stock markets.
Financial markets can themselves be subdivided in regulated finance and shadow finance. Regulated finance is the one we’re all familiar with: credit and stocks. Despite commanding great sums, it represents a small part of global finance, as shadow finance is the dominant activity in this sector of the economy, commanding over hundreds of trillions of dollars. In the realm of shadow banking operate thousands of companies constituted by banks with the objective of throwing off-balance sheet assets that should be instead included, and mediators, who sell complex obligations to institutional investors and public agencies. Shadow and regulated banking are linked to each other by daily exchanges of money and assets.
A substantial amount is deposited in banks. To give some numbers, it is estimated that pension funds worldwide hold over 20 trillion dollars in assets, according to Morgan Stanley, and every day they buy and sell hundreds of thousands of obligations and shares emitted by the financial system. It is impossible for financial and industrial corporations alike to ignore the demands of institutional investors. At the same time, hedge funds buy shares and entire companies with money lent by banks in quantities that surpass many times the actual capital owned by these funds. Interests leveled on these loans. By 2007, value of global financial assets was 194 trillion dollars, equal to 343 percent of the global GDP, and it’s predicted that by 2020 they will reach 317 trillion dollars. Over-the-counter (OTC) derivatives, the ones exchanged directly between privates and outside of the stock market, went from 92 in 1997 to 683 trillion dollars in 2007, 1260% of the global GDP in 2007. The many kinds of debt securities and their numbers are usually aggregated in single collateralized debt obligations (CDOs).
Derivatives spring etymologically from “derivation”, which means the value of the derivative comes from that of a represented entity, which is a commodity. A derivative is a contract in which one part agrees to sell commodities, and the other to buy them, at a given future time at an agreed price. Derivatives provide to both parties confidence that the price for the commodity will not change in time, so naturally they are favored types of financial instruments.
With the rise of neoliberalism and the abolition of the gold standard in the 70s, derivatives underwent qualitative changes, becoming highly speculative instruments. Hand in hand came their rapid increase in numbers, making them one of the main reasons for the recent instabilities in the financial system as a whole. The qualitative change of derivatives from instruments of guaranteeing an exchange to instruments of speculation happened with the outspread of the underlyings of derivatives to many and various forms, such as interest rates, the value of money, stock market indexes, prices of commodities, etc.
In 2007, Citygroup’s derivatives were 24 times their assets, Bank of America’s were 20 times their assets, Goldman Sachs’ derivatives were 250 times the value of their assets (they became 330 times the value of their assets in 2009). These securities change hands all the time, from the original issuer to banks to institutional investors to public agencies etc., each of which, at some point, draw a profit from these exchanges. At the end of the chain, the total profit generated is times the original value of the physical commodities the derivatives represented.
An important type of derivative is the credit default swap (CDS), certificates that protect creditors from the risk of insolvency, making them de facto a form of insurance. During the 2008 crisis, 57 trillion dollars worth of CDSs were issued: the global economy employed a year’s global GDP to save itself from collapse.
Economic tendencies of finance capital?
1 – While industrial capital mainly draws its finances from its own profits and credit, finance capital operates and accumulates inside its own borders.
2 – Financial capital’s profits come less and less from loans to productive capital. In the US, the assets created through loans to commercial or industrial activities of the 18 largest banks went from 20.6% of total assets in 1992 to 10.8% in 2008. At the same time, off-balance sheet activities have been constantly increasing, going from 7% of total assets in 1980 to 44% in 2007.
3 – The concentration and centralization of capital happen in finances too. In 2007, the number of banks was 7,000, half of what they were in 1992, and the assets of the largest 18 were 60% of all American assets. Out of 30,000 pension funds globally, the largest 300 controlled 60% of all the capital (12 trillions of 17.5 trillions). The 10 largest financial institutions of the world controlled half of the world’s capital accumulated in investment funds (13 trillion of 26 trillion).
4 – The rise of institutional investors pushed banks to create their own networks of investment funds. Hence, today the largest Euroamerican banks control hundreds of investment funds.
5 – The pressure from institutional investors forces large enterprises, of which the institutional investors control shares, requires rates of profit usually 4 or 5 times higher than GDP growth (often around 15%). This creates a tendential diversion of productive capital’s profit from investment, research and development, wages, etc. to financial investments, contributing to the general stagnation we see in Transatlantic (European and American) imperialist economies.
6 – Finance capital gives rise to speculation and arbitrage (80% of around 120 trillion dollars annually exchanges in the stock market are entirely speculative). We hence see a rise in merchant practices in finances, having investors buy securities at a low price and selling them at a higher price.