Central Banks as market makers? (1)

As Adam Tooze and Joscha Wullweber show in their new books, in the year 2020 the functions of central banks were strengthend by their new role as market makers. As Daniela Gabor puts in a paper: „Indeed, central banks have quietly upgraded the holy trinity of inflation targeting – price stability as the primary goal of the central bank; central bank independence as the institutional arrangement; and the short-term interest rate as the operational targe with a fourth dimension: large-scale interventions in government bond markets (or monetary financing). These purchases aim to ease private financing by backstopping sovereign bond market liquidity (aprudential or market-maker of last resort function), and by lowering yields via QE (a macro- driven intervention).“ And she goes on: „One such challenge is the relationship between lender of last resort and market makerof last resort. Although the potential channels of interaction between the two are not very
well understood, the experience of the ECB during the sovereign debt crisis demonstratesthat excessive reliance on the LOLR can reinforce liquidity pressures on collateral markets– including sovereign bond markets – and undermine financial stability until MMLR is acti-vated (as Mario Draghi did with his “whatever it takes” commitments). Thus, it is not entirelysurprising that central banks have responded to the COVID-19 crisis overwhelmingly throughdirect bond purchases, with the exception of the ECB.“

When financial markets around the world collapsed on March 9, 2020, the U.S. Federal Reserve (Fed) responded immediately and with concentrated force. It launched a historic emergency program and provided loans totaling $2.3 trillion to support the economy. The Bank of England, the Bank of Japan, the Swiss National Bank and the Bank of China launched similar programs. And while all other European institutions were paralyzed or simply had no effective means, the European Central Bank (ECB) also stepped in with all its might.
In an unprecedented move, it launched a 750 billion euro emergency pandemic purchase program in mid-March 2020, which was later increased to 1,850 billion euros. These funds were used in particular to purchase government bonds issued by member states. In addition, the asset purchase program was expanded immensely, to 140 billion euros per month.

Unlike the fiscal policy of governments, which can directly support companies and consumers, the monetary policy of central banks does not directly reach the real economy. It has to take a detour via the financial system, for example by buying securities. At present, however, this means that these measures do not reach the real economy. Instead, money is used by financial players primarily to invest within the financial system. The support of repo transactions through central banks directly promotes the shadow banking system. We present this in the second part of the essay, starting with some general remarks on the role of central banks.

Central banks no longer perform the function of a „lender of last resort“ without being challenged, because a high share of national and transnational operations of financial capital (commercial, investment and shadow banks) is executed independently of the central bank, whereas, on the other hand, the governmental intervention power of central banks always remains dependent on the price movements of derivative monetary capital. However, it is precisely in times of economic crisis that the use of the security device „central bank“ is then called upon again by endangered financial capital units themselves. Central banks constantly link their operations such as minimum reserve formation, liquidity protection and interest rate policy with the strategies of private financial capital. Moreover, it is precisely the establishment of central banks as the „fourth estate in the state,“ the legal disengagement from the executive and legislative branches, and the transformation of the central bank toward a quasi-autonomous practice of governance that confirms the alignment of central banks with the dynamics and necessities of financial capital accumulation. (Vogl 2015: 192ff.) Without directly naming the massive influence of financial capital on the governmental actions of the state and the central bank – Vogl always speaks of the „financial markets „4 without defining their function for capital more precisely – he points out several times that it is precisely through the hinge of the central bank that the economic factor of „cyclical accumulation of money capital“ has become an integrative part of political and state governmental practices. (Ibid.: 162) Central banks thus remain more strongly tied than ever to the cyclicality of capital accumulation, as evidenced by the fact that central bank interest rates have tracked the market-dominated rise in money market rates in almost all of the FRG’s economic cycles. However, in the course of the policy of „quantitative easing“ (QE), the withdrawal of central bank interest rates in particular strongly promoted and accelerated the expansionary developments on the money markets, without any striking improvement in the investment dynamics of industrial capital being reported to date (see the relevant statistics; Krüger 2015: 459). At present, short-term interest rate changes no longer have any cyclical influence due to the QE policy, because companies tend to deleverage rather than borrow during recessions, which means that the key interest rate also loses its steering and allocation function for (industrial) capital accumulation, at least gradually.

An important new characteristic of the regulatory framework within the financial sphere itself is definitely the rapid development of the extra-bank system. These companies mostly finance their activities through non-traditional sources of credit. The financing models found in today’s internationalized markets have as their premise the global „securitization“ of debt and the international mobility of real-financial capital, that is, a global space for multiple investments that, among other things, translates certain workings and requirements of modern finance into extended consequences of the markets. In the process, global financial markets have differentiated into complex, multidimensional systems that include not only money, investment, stock or foreign exchange markets, but also derivatives markets and markets for all kinds of security. (Cf. Sotiropoulos//Milios/Lapatsioras 2013a: 118ff.) In this framework, derivatives themselves are to be understood as capital forms of financial innovation if they accomplish the following on an international level: 1) The overcoming of frictions due to national borders. 2) The opening of national economies to foreign competition. 3) The overcoming of the sluggishness of classical production. 4) Improving the role of modern finance in promoting competition.

Today, a globally circulating capital has emerged, which is permanently in search of reasonably safe profits. „Safe profits“ means that risk management (the probability of realizing an expected profit) is gaining fundamental importance in financial markets. In this context, the workings of the financial system include not only the capitalization of speculative investments, but also the components of a control mechanism that „regulates“ and, if possible, promotes the respective mobility of individual capitals by constantly recreating the conditions for competition. By exposing individual capitals to national and international competition and financing their activities, one simultaneously creates methods to reward profitable capital and punish unprofitable capital.

In this context, the transformation of the activities of the traditional commercial banks is also taking place, and this due to the change in the correlation between the commercial banks and the money and capital markets. The author team Sotiropoulos/Milios/Lapatsioras summarized this in the following points (Ibid.):

Assets and equities are both considered "securities." However, in order to advance comprehensive financing, new forms of debt "securitization" have definitely had to be developed in recent decades. The "securitization" of debt has become an important process that has had a massive impact on the traditional credit system and its crises.

The various non-bank systems operating in the international money and capital markets are largely unaffected by the regulatory restrictions to which the traditional commercial banks are subject, and they are thus permanently empowered to lend money at extremely low interest rates. This in turn has consequences for the structure and functioning of the entire banking system. The new arrangements and strategies of the shadow banks have reduced the profits of the traditional commercial banks and thus changed their internal compositions of accounting. Thus, commercial banks must now also focus much more on the processes of securitization. When a bank borrows, it is forced to insure a certain amount of the money it borrows in order to meet its lingering obligations in the event of a failed recovery. However, this reduces its prospects of borrowing further, as it is also forced to hold a certain amount of equity. But if the bank resells the loan, then no insurance is needed at this point, and thus the bank is able to withhold some of its cash flows to post new collateral while tapping new sources of profit, which in turn depend on the expansion of lending. Nevertheless, these processes also involve a number of restrictions. There is also a new combination of innovations taking place in the "real sector" and eventually in the whole social field, and those in the financial capital sector involving derivatives and financial services. In this process, new market and adaptation imperatives are emerging for companies, which are associated with the destruction of traditional technological and economic structures. For example, the processes of securitization, the securitization of loans that can be traded on markets (cf. Hartmann 2015: 72f.), have contributed to the breakup of old banking structures via the creation of enormous liquidity potentials and the reorganization and unleashing of risks with the help of virtual machines. Securization is to be understood as a technology used in particular by shadow or investment banks to overtake the traditional big banks in competition. In this process, standardized loans and securities are bundled, pooled (and re-tranched), and sold on special markets to serve as collateral for further borrowings and their sales (the sales are often linked to repurchase promises). The derivatives bundled into specific units are divided into classes of securities with different risks and origins, and based on these, further securities (securities) are sold by newly constructed institutions (SPVs). (See Szepanski 2014b: 194f.) Compared to the old banking system, depositing and lending are now decoupled, insofar as investment banks no longer collect savings to lend as loans, but finance loans directly by selling securities. The institutional buyers, who are the first to do so, now bear the associated risk, but at the same time gain new positions of power vis-à-vis the banks through the mechanisms of the financial markets. Through the workings of financial markets, financial capital differentiates itself in terms of its sectors, areas of power, instruments and technologies.

3) The liberalization of financial markets has led to an excessive expansion of very specific large banks that are involved in the international chains of transactions in an outsized way, thus being considered systemically important not only in terms of the scale of their transactions, but also in terms of the links and nodes they form and create within the networks of the international financial system.

4) The development of over-the-counter (OTC) markets, various offshore centers, special purpose vehicles (SPVs), various money and capital markets with their instruments (bonds, securities, swaps, etc.) or, in other words, the general development of the financial regime as a network of transactions and monetary capital flows, together with the activities by which certain organizations are able to circumvent supervisory authorities and oversight, make the global financial system as a whole much more complex and complicated. The development of new forms of finance (derivatives) has given rise to complex models of pricing and risk assessment that depend on structures and parameters for which reliable data are still not available.

Particularly in Europe, a kind of ad hoc reserve structure has been created in the last few years, with which European-wide law is constantly circumvented in order to intervene directly in the budgetary policy of sovereign states – such as Greece – and to put together various bailout packages, the course of which to this day remains necessarily tied to the requirements of financial capital and its derivative instruments. (Varoufakis 2012: 239ff.) Vogl speaks here of a new intensity of interconnectedness and density of organization between financial-economic, state, and transstate structures and institutions, at the systemic (coordination of state government practices and economics), technical (alignment of fiscal policy with capital), and personnel levels. He writes of the co-evolution between state structures and private power mechanisms/economic dynamics, of the co-evolution between states and financial markets, in which mutual dependencies are constantly intensifying and a new specific type of power is emerging. While Vogl goes on to emphasize the current dominance of the financial regime over states, he relates this mainly to the problem of neoliberal governmental rationality and the economization of governance, which manifests itself in the coupling between state institutions and financial capital, „in the efficient linkage of market and power.“ Vogl writes: „Sovereign is he who is able to transform his own risks into dangers for others and places himself as creditor of last resort.“ (Ibid.: 251) This, however, does not fully meet the current unilateral dominance of financial capital, since this kind of dominance is characterized precisely not only by neoliberal governmentality, but by the immanent determination type of capital itself, not only vis-à-vis the state, but as the superimposition of the money capital flows of the various fractions of capital under the dominance of financial capital. This does not at all mean, however, that one has to speak of an independence or decoupling of financial capital vis-à-vis „real capital“ but, on the contrary, of an ever stronger interlocking and integration of the various forms and fractions of capital as well as of the state under the dominance of financial capital. Vogl, on the other hand, repeatedly emphasizes in his book Sovereignty Effects that he is not primarily concerned with economics, but mainly with the question of what an efficient and capital-conforming neoliberal government policy could mean today. Here, Vogl explicitly refers to Foucault and his questioning of how to govern the population, which is produced by various biopolitics, in the way it wants to be governed. Vogl is thus concerned with the governmental or governance dimension of finance.

If financial capital, with its conditions of exploitation compared to the rates and ratios of industrial profits, sets the conditions for the economic growth of national economies more strongly than ever, then it also decisively influences the level of national GDP. GDP as the total value of all goods and services in a year is valued in monetary terms (the aggregate production value at constant prices) and divided into the components of gross and net value added, national income, corporate income and property income. (Cf. Krüger 2015: 14) The various transnational and state economic policies, the policies of QE in the U.S. and the U.K. and more recently by the ECB, the bank bailouts and illiquid company bailouts by states, the deployment of the ESM bailout umbrella in the European Union in combination with the SMP program – all of this shows by its sheer magnitude that financial capital has significantly gained in influence and power vis-à-vis states and all other capital fractions on a global scale. One may well address in this context the new functions of state government policies, which can be characterized as „insurance protection“ for private capital. The policy of QE consists of central banks – first and foremost the FED – enormously expanding the money supply by, among other things, buying securities such as government bonds on the secondary markets in the order of hundreds of billions, although it is now by no means certain that commercial banks will be able to pass on this kind of swapping at all, because in a recession neither companies nor private households want to borrow money, but are primarily trying to reduce their own debts. The key question here is whether we are dealing with a structural weakness in investment or an over-accumulation of capital, especially among industrially oriented companies, while it is clear that private households are quite obviously not in a position to take out new loans due to stagnating or, in some cases, falling real wages. The policy of QE does not automatically lead to higher economic growth; rather, in times of recession, it effectively acts as a monetary incentive system for private speculative capital to engage in risky transactions and to counter the tendency to minimize profit rates by increasing speculative risk stakes.5 It is also important to note that the phase-by-phase sharp increase in liquidity on the financial markets (including the constant possibility of liquidity problems arising at short notice), the multiplication of derivative instruments, expanded risk management and money creation by commercial banks tend to make any control of money supply (M1 to M3) by central banks obsolete.

This means that the ECB must inevitably orient itself to the price movements of financial capital, which is now itself gaining ever greater influence also on monetary and fiscal policy, or, to put it another way: if European central banks can buy government securities issued in Europe precisely only on the secondary markets, the EU member states and their fiscal policy will remain more closely tied than ever to the price movements of the financial markets, and this in turn will intensify the debt competition between the EU states. (Varoufakis 2012: 207f.) One can trace here a stream of money flowing from government budgets via commercial banks and private speculators back to central banks, so that quasi-autonomous central banks have to share the dependence of government budgets on financial markets. The coupling of government debt and financial capital, for which central banks served as a crucial hinge until the end of the 20th century, today enables a further drift toward financial capital in power-economic terms. As it gains power, the regulatory role of central banks becomes more fragile in any case. Vogl speaks of central banks as security disposals for commercial banks, financial markets and monetary systems. (Vogl 2015: 196) This indicates precisely not only the stabilizing function of central banks for money capital movements, but demonstrates their involvement in those movements and thus also their dependence on the monetary circulation of money capital and the development of profit rates and the investment ratios of private enterprises, which are closely related to it.

Vogl writes of central banks as „efficient converter(s) of government power, transforming their independence from governments into an increasing dependence of governments on financial markets.“ (Ibid.: 198) It is precisely the explicit orientation of central banks to monetary and price stability6 that binds them in the long run to the accumulation mechanisms of financial capital and structurally promotes its speculative profit production (inflationary processes lead to the weakening of creditors, to the redistribution from creditors to debtors, if interest rates are not adjusted). The liquidity management and credit policy of commercial banks, as well as the management of monetary capital flows, were effectively escorted by central banks through their money supply policies until the mid-1970s. The assertion of new forms of speculative money capital, the expansion of financial markets and the shadow banking system have loosened the linkage of central banks to credit systems and, more generally, to global derivative price movements. Credit money creation by commercial banks while their lending volumes have declined, increased liquidity provision by the shadow banking system, and growing lending by nonbank institutions have increased the agency and mobility of financial capital while weakening the impact of central bank instruments such as policy rates. The financial regime, with the help of the large volumes of transactions and with its high degree of interconnectedness, now „regulates“ to a greater degree global lending, interest rates, price movements and foreign exchange itself. For example, the value of currencies is now determined by interest rates, which are largely regulated by the financial markets themselves. The price movements of derivatives, interest rates and credit volumes in global financial markets are thus partially removed from the grasp of central banks, which, conversely, must increasingly focus on their open market policies and operations in the money market.

1 At this point, it is worth recalling Deleuze/Guattari, who argue that non-state societies and those with a state form are not simply manifestations of the tendencies of deterritorialization and reterritorialization, but actualizations of these tendencies. The diagrammatics enacted by and in states is then to be thought of as the internal incursion of deterritorialization into reterritorialization.

2 Until the 18th century, a capitalist meant a person who owned bonds, investment funds, mobile capital and, precisely, state bonds.

3 Two institutions were created: the fiscal state, which established the cycle of tax financing and debt servicing, and the central bank, which was supposed to provide legal security for creditors. The Bank of England originated from the association of private financiers who were promised to receive interest or tax monopolies for providing public credit. Public finance and debt service were defeudalized and became the business of the constitutional state. The next step of consolidation occurred with the establishment of central banks in the 20th century. The Federal Reserve Bank in the U.S.A. – unlike the Bank of England – no longer emerged out of fiscal policy interests, but as a safeguard for the money capital markets themselves. It was no longer primarily a matter of financing sovereigns and government debt, but rather of generally safeguarding commercial banks and the financial and credit system.

4 Financial markets are money capital collection and exchange points, the most important elements of which are institutional investors such as insurance companies, pension funds, etc., generally any kind of fund (hedge funds) as well as investment banks and sovereign wealth funds. These markets are not about lending, but about speculation in securitized corporate bonds, land funds, CDOs, CDSs, etc., on a transnational scale. The institutions of the knowledge economy integrated into this structure, which perform the valuations of the players and the derivatives, are composed of rating agencies, consulting departments of the large companies and independent consulting firms.

5 However, the policy of QE, insofar as it concerns the purchase of government bonds by the central bank, is not an operation of money printing. Commercial banks maintain reserve accounts with the central bank responsible for them, in which they hold their deposits or bank reserves. The reserve accounts are also used for interbank transfers. For commercial banks, reserve accounts fulfill a similar function to current accounts for private households or companies. If a central bank buys government bonds on the secondary market, it credits the commercial banks‘ reserve accounts with the corresponding amounts of money. Ultimately, an asset swap takes place: Government bonds held by private capital are exchanged for additional bank reserves and thus change hands; they now belong to the central bank. When the central bank acquires securities of all types from banks, it grants them additional overdraft facilities that can be lent to other entities but do not have to be lent. At best, then, QE is an attempt to create money, but it is not currently working.

6Often we speak of the magic square of economics: price stability, employment, growth and external equilibrium. The focus on price stability has a political economy dimension. While most Western countries primarily aim to increase employment and growth with their monetary policy, the FRG, the most productive nation in the EU and therefore a strong exporter, focuses on price stability.

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