Finance, speculation and the crisis
We have seen that the profits of productive capital are the main source of the funds that the banks have at their disposal for lending, and that the productive capitalists' need for funds for accumulation is a major source of borrowing from the banks. This means that the cycle of expansion and contraction of new investment is accompanied by a cycle of expansion and contraction of lending. But the two cycles are not fully in phase with each other.
Credit expands as the boom begins to take off, with some capitalists keen to lend rising profits and other capitalists keen to borrow, all convinced that there will be no problems of repayment with interest. But eventually a point is reached where the frenzy of investment begins to exceed the funds coming from pools of previous profits. Firms outbid one another as they try to get access to these pools, raising the level of interest they are prepared to pay to get credit. Rising interest rates cut into profits just as rising raw material prices and money wages do so as well. They add to the pressures tipping the system from expansion into crisis. The contraction that follows makes firms and banks much less willing to lend-they fear they may need every penny themselves as their revenue from sales threatens to decline. But contraction also increases the need for many firms to borrow if they are going to make up the shortfall in their sales incomes and not be forced into bankruptcy by unpaid bills. Interest rates continue to rise for a time, despite the shortage of profits to pay them, and add to the downward forces in the system.
Fluctuations are intensified because of something else that happens at the height of the boom. Firms and banks see that lending is a quick way to boost their profits. They offer credit through "financial paper" (in effect promises to pay) of various sorts far in excess of their cash reserves on the assumption that other people and institutions will trust in such "paper" and accept it as payment for commodities without trying immediately to turn it into cash. In effect, credit created by the banks comes to be treated as a form of money-and as "credit money" is counted in certain measures of the money supply.
The Dynamics of the System
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