8.5 The Drivers of Economic Growth

 

 

8.5 The Drivers of Economic Growth

If this is so, what drives the current fixation of (un) economic growth? One aspect of the answer is that growth appears to avoid the need to address a variety of problems – because with more growth, it is argued that greater income and wealth in the future can be devoted to dealing with poverty and even environmental problems. The so-called “Environmental Kuznets curve” appears to show an improvement in environmental conditions as societies become richer. However, it turns out that this is largely an illusion because as they become richer countries they ‘offshore’ their dirty industries to poorer countries like China and then import the products produced with environmentally destructive technologies instead of producing them themselves.

What particularly drives the growth process is, however, a debt based money and banking system. For centuries most societies regarded money lending against collateral and the payment of interest as unethical and socially corrosive. In pre- industrial economies which do not grow repayment of loans with interest compounded each year would transfer greater proportions of national income to money lenders and be destabilising. However, when lending occurs to industries and people whose production and incomes are growing there is an increment of income and production to be shared with lenders. Larger scale production, involved purchased inputs and paying wages with a time gap until later product sales brought money in from distant markets – this frequently necessitated money to be advanced to cover the gap.

The finance sector evolved to serve this need. But now the economy had to keep on growing to repay loans and pay the interest too. If and when the economy did not grow this lead to insolvencies. It also put the solvency of the finance sector at risk if loans could not be repaid.

An insolvent bank sector would have further implications for aggregate demand and markets in the economy. Although most people probably think that it is created by governments 97% of the money in circulation is in the form of deposits created out of nothing when banks make loans. If lending slows down, or goes into reverse with loans being paid back, then the money supply falls. A self reinforcing vicious circle occurs. With unemployment and bankruptcies increasing, households and companies hold back on discretionary spending on themselves or on investment projects. Expenditure falls even more. The growth economy based on debt money does not have a reverse gear. It grows or collapses.

Only the state can save the economy in these circumstances. Faltering economic activity typically means that taxation revenues will fall while some state expenditure like social welfare and unemployment benefit will rise. So the state tends to fill the deficit in demand but at the expense of a budget deficit. The state (or the central bank) may also step forward to bail out important “too big to fail” institutions like the banks.

All of these processes mean, however, that a crisis of private sector finances arising from too much debt in relation to faltering economic growth gets turned into a crisis of state finances as state revenues fall, and expenditures rise, leading to a rising deficit.