Perspectives on the U.S. financial crisis
September 22, 2008
The U.S. financial crisis: some views from Monthly Review
The Greed Fallacy: By Arthur MacEwan, Dollars and Sense
Hard Truths About the Bailout
Free market ideology is far from finished: By Naomi Klein
Crisis of Capitalism and the Left: By Emir Sader
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The U.S. financial crisis: some views from Monthly Review
Just over a year since the beginning of the worst U.S. financial crisis since the Great Depression, and only six months after the federal bailout of Bear Stearns, the seizing up of credit markets continues.
The failure of eight U.S. banks this year, including IndyMac, and the recent instability that struck the two government-sponsored mortgage giants, Fannie Mae and Freddie Mac, requiring a special government rescue operation, has had the entire financial world on edge. Mortgage-related losses by themselves “could cause a trillion dollars in credit to vaporize,” according to a special July 28, 2008, Business Week report. The downside effects of financial leveraging (the magnification of results associated with borrowed money) mean that each dollar lost by financial institutions could lead to reductions in lending of fifteen dollars or more, creating a shockwave so massive that it could reveal structural weaknesses throughout the economy. Already the economy is reeling, with faltering growth, a deep slump in housing, massive job losses, rapidly rising oil and consumer goods prices, and a falling dollar.
Yet, the good news from the standpoint of capital is that the financial system has been stabilized somewhat (though the crisis is far from over) as a result of repeated government rescue operations, essentially socializing the losses of private investors, on the principle that the financial entities concerned are “too big to fail.”
The Federal Reserves Board’s assets in June 2007 consisted almost entirely (92 percent) of Treasury securities. Now these amount to just 54 percent of the Fed’s assets, and have been replaced by, among other things, loans to financial institutions whose shares have been falling. Moreover, as a result of the Bear Stearns rescue and subsequent Fed interventions, the public now bears the risk on a lot of collateralized mortgage obligations, i.e., largely worthless paper assets—a further cost to the taxpayers.
This raises an important question: “Why No Outrage?”
This is the title of an article by longtime gold bull James Grant, editor of Grant’s Interest Rate Observer, writing in the July 19, 2008, issue of the Wall Street Journal. Why is it, Grant asks, that “America’s 21st century financial victims,” the general public, “make no protest against the Federal Reserve’s showering dollars on the people who would seem to need them least?….Have the stewards of other people’s money not made a hash of high finance? Did they not enrich themselves in boom times, only to pass the cup to us, the taxpayers, in the bust?” Why, he asks, is there no populist outburst, in the historic tradition of U.S. society? Further, why, in the context of a 2008 presidential contest, are the candidates of the two major political parties virtually silent on the extent of the robbery taking place, and even on the financial crisis itself? “The American people,” he writes, “are famously slow to anger, but they are outdoing themselves in long suffering today.”
The fact that such questions are being asked in the leading U.S. financial paper by a noted financial analyst should give us reason to pause. Moreover, the answers that Grant gives to his questions are as interesting as the questions themselves: “Possibly, in this time of widespread public participation in the stock market, ‘Wall Street’ is really ‘Main Street.’ Or maybe Wall Street, its old self, owns both major political parties and their candidates. Or, possibly, the $4.50 gasoline price has absorbed every available erg of populist anger, or—yet another possibility—today’s financial failures are too complex to stick in everyman’s craw.”
Grant’s own preferred explanation is that the populists really won in the days of the New Deal and later, and now, due to the expansion of the state’s role, Wall Street has become so “hand-in-glove with the government” that the space for political opposition within the system has evaporated. To be sure, he writes, “government is…—in theory—by and for the people.” But even that, he suggests, is not enough to explain the lack of public angst, which remains largely a mystery.
Although we have long been opposed (and remain so) to views that place monetary policy at the heart of explanations of the course of modern capitalism—a perspective that Grant is identified with—we nevertheless agree with his assessment here that the state and finance are in bed with each other (or have at least closed ranks in the crisis, representing a common ruling-class viewpoint). This also extends to the two major political parties and their candidates. And it includes the media, which ought to be raising a stir. The silence in the context of a general election speaks volumes. We also find ourselves in accord with Grant’s conclusion that in the end there seems to be no completely satisfactory explanation for lack of popular protest over a series of ad hoc grants showering hundreds of billions of dollars of public money on the masters of finance, collectively the richest group of capitalists on the planet. And that raises the question: Is this outrage present nonetheless, growing underground, unheard and unseen? Will it suddenly burst forth, like some old mole, unforeseen and in ways unimagined? That too, we think, is a possibility.
The July 28 Business Week, through Michael Mandel its chief economist,offers this hopeful perspective from a ruling-class standpoint: Nothing will happen until after the election and then the next president will most likely act immediately to initiate a massive bailout of the entire mortgage-based financial system. A new president, Business Week presumes, will have sufficient political clout to socialize private losses even more fully at the expense of the taxpayers, without generating a public revolt. The truth is that the last thing that the capitalist class wants is an explosion of outrage and the destabilization of what for them is a good thing indeed…vast profits from speculative bubbles, plus the government’s increasing absorption of losses on the downside: all paid for by an acquiescent or oblivious public. It is win-win for capital, and lose-lose for everyone else. In 2006 the richest 1 percent of the U.S. population received their highest share of the nation’s adjusted gross income in two decades, and maybe since the 1929 stock market crash, while their average tax rate fell to the lowest level in eighteen years or more (Wall Street Journal, July 23, 2008). Needless to say, the object of capital as a whole is to keep this game going as long as it can.
This editorial appeared in Monthly Review
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The Greed Fallacy
By Arthur MacEwan
You can’t explain a change with a constant.
Various people explain the current financial crisis as a result of “greed.” There is, however, no indication of a change in the degree or extent of greed on Wall Street (or anywhere else) in the last several years. Greed is a constant. If greed were the cause of the financial crisis, we would be in financial crisis pretty much all the time.
But the financial markets have not been in perpetual crisis. Nothing close to the current crisis has taken place since 1929. Yes, there was 1987 and the savings-and-loan debacle of that era. The current crisis is already more dramatic—and threatens to get a good deal worse. This crisis emerged over the last decade and appeared full-blown only at the beginning of 2008 (though, if you were looking, it was moving up on the horizon a year or two earlier). The current mess, therefore, is a change, a departure from the normal course of financial markets. So something has to have changed to have brought it about. The constant of greed cannot be the explanation.
So what changed? The answer is relatively simple: the extent of regulation changed.
As a formal matter, the change in regulation is most clearly marked by the Gramm-Leach-Bliley Act of 1999, passed by the Republican-dominated Congress and signed into law by Bill Clinton. This 1999 act in large part repealed the Glass-Steagall Act of 1933, which had imposed various regulations on the financial industry after the debacle of 1929. Among other things, Glass-Steagall prohibited a firm from being engaged in different sorts of financial services. One firm could not be both an investment bank (organizing the funding of firms’ investment activities) and a commercial bank (handling the checking and savings accounts of individuals and firms and making loans); nor could it be one of these types of banks and an insurance firm.
However, the replacement of Glass-Steagall by Gramm-Leach-Bliley was only the formal part of the change that took place in recent decades. Informally, the relation between the government and the financial sector has increasingly become one of reduced regulation. In particular, as the financial sector evolved new forms of operation—hedge funds and private equity funds, for example—there was no attempt on the part of Washington to develop regulations for these activities. Also, even where regulations existed, the regulators became increasing lax in enforcement.
The movement away from regulation might be seen as a consequence of “free market” ideology, the belief as propounded by its advocates that government should leave the private sector alone. But to see the problem simply as ideology run amok is to ignore the question of where the ideology comes from. Put simply, the ideology is generated by firms themselves because they want to be as free as possible to pursue profit-making activity. So they push the idea of the “free market” and deregulation any way they can. But let me leave aside for now the ways in which ideas come to dominate Washington and the society in general; enough to recognize that deregulation became increasingly the dominant idea from the early 1980s onward. (But, given the current presidential campaign, one cannot refrain from noting that one way the firms get their ideas to dominate is through the money they lavish on candidates.)
When financial firms are not regulated, they tend to take on more and more risky activities. When markets are rising, risk does not seem to be very much of a problem; all—or virtually all—investments seem to be making money. So why not take some chances? Furthermore, if one firm doesn’t take a particular risk—put money into a chancy operation—then one of its competitors will. So competition pushes them into more and more risky operations.
The danger of risk is not simply that one investment—one loan, for example—made by a financial firm will turn out badly, or even that a group of loans will turn out badly. The danger arises in the relation between its loans (obligations to the firm), the money it borrows form others (the firm’s obligations to its creditors) and its capital (the funds put in by investors, the stockholders). If some of the loans it has made go bad (i.e., if the debtors default), it can still meet its obligations to its creditors with its capital. But if the firm is unregulated, it will tend to make more and more loans and take on more and more debt. The ratio of debt to capital can become very high, and, then, if trouble with the loans develops, the bank cannot meet its obligations with its capital.
In the current crisis, the deflation of the housing bubble was the catalyst to the generally crumbling of financial structures. The housing bubble was in large part a product of the Federal Reserve Bank’s policies under the guidance of the much-heralded Alan Greenspan, but let’s leave that issue aside for now.
When the housing bubble burst, many financial institutions found themselves in trouble. They had taken on too much risk in relation to their capital. The lack of regulation had allowed them to get in this trouble.
But the trouble is much worse than it might have been because of the repeal of the provisions of Glass-Steagall that prevented the merging of investment banks, commercial banks, and insurance companies. Under the current circumstances, when trouble develops in one part of a firm’s operations, it is immediately transmitted throughout the other segments of that firm. And from there, the trouble spreads to all the other entities to which it is connected—through credits, insurance deals, deposits, and a myriad set of complicated (unregulated) financial arrangements.
AIG is the example par excellence. Ostensibly an insurance company, AIG has morphed into a multi-faceted financial institution, doing everything from selling life insurance in rural India to speculating in various esoteric types of investments on Wall Street. Its huge size, combined with the extent of its intertwining with other financial firms, meant that its failure would have had very large impacts around the world.
The efforts of the U.S. government may or may not be able to contain the current financial crisis. Success would not breathe life back into the Lehman Brothers, Bear Stearns, and who knows how many other major operators are on their deathbeds. But it would prevent the financial crisis from precipitating a severe general depression; it would prevent a movement from 1929 to 1932.
The real issue, however, is what is learned from the current financial mess. One thing should be evident, namely that greed did not cause the crisis. The cause was a change in the way markets have been allowed to operate, a change brought on by the rise of deregulation. Markets, especially financial markets, are never very stable when left to themselves. It turns out that the “invisible hand” does some very nasty, messy things when there is no visible hand of regulation affecting the process.
The problem is that maintaining some form of regulation is a very difficult business. As I have said, the firms themselves do not want to be regulated. The current moment may allow some re-imposition of financial regulation. But as soon as we turn our backs, the pressure will be on again to let the firms operate according to the “free market.” Let’s not forget where that leads.
This article appeared in Dollars and Sense, September 2008. Arthur MacEwan teaches economics at UMass-Boston and is a Dollars & Sense Associate.
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Hard Truths About the Bailout
The fifth major federal bailout this year — after Bear Stearns, Fannie Mae, Freddie Mac and the American International Group — is now in the works. Taxpayers have every right to be alarmed and angry. The latest plan is not necessarily a bad one, and officials had to move quickly to prevent credit markets from seizing up.
But make no mistake, this crisis could have been avoided if regulators had enforced rules and officials had dared to question risky lending and other dubious practices.
If done right, this bailout could succeed where the others have failed and remove the threat of a systemwide financial collapse. But the upfront cost will be enormous. So will the risk of losses in the long run — on top of the risks already incurred.
The new plan would commit taxpayer money to buy hundreds of billions of dollars of troubled loans and other mortgage-related securities from banks and Wall Street firms. It is based on the reasonable premise that as long as institutions are stuck with those assets, the flow of credit, the economy’s lifeblood, will be constrained, or as in the past week, all but frozen.
Congress, with one eye on this week’s volatile Dow and the other on November’s election, could authorize the plan as early as next week.
It is painfully clear that the financial system will not rebound on its own from the excessive lending and borrowing of the Bush years and the credit collapse in their wake. The one-bailout-at-a-time approach hasn’t worked. And modest steps are no longer an option.
Lawmakers and administration officials must be prepared to tell Americans the full, hard truths about this plan:
(1) What is this going to cost the taxpayers and who decides? It’s generally believed that many of the troubled assets that the government would buy will, in time, be worth more than they can fetch in today’s chaotic markets. That’s far from a sure thing. The assets are tied to housing, so their value will depend on how far prices fall, how many people end up defaulting and how long it takes before housing rebounds — all big unknowns.
For those reasons, it’s important for Americans to know who is going to decide what is the right purchase price for these assets. Wall Street will have a role, of course, but outside experts should be allowed to analyze the results. Americans also need to know how the process will be monitored to ensure that taxpayers’ interests are protected. If the government gets the price right, the upfront outlay could be recouped when it later sells. If it overpays, the taxpayer is stuck with the loss.
(2) How will Congress balance the bailout of Wall Street and the needs on Main Street? If financial markets stabilize, all Americans will benefit. But Congress must do more to provide direct help to struggling American families. Lawmakers should use the bailout legislation to also extend unemployment benefits, bolster food stamps and provide aid to state and local governments to provide health care and other services that are especially important during tough times.
(3) The administration and lawmakers also need to tell Americans that the era of cheap and easy money is over and that there are more tough times to come. Whose taxes will have to go up? How will the government help to create the jobs of the future? How will the most vulnerable Americans be protected? And they need to explain that the cost of the bailouts will compete with other spending.
(4) Finally, Americans need to be told a more fundamental truth: This crisis is the result of a willful and systematic failure by the government to regulate and monitor the activities of bankers, lenders, hedge funds, insurers and other market players. All were playing high-stakes poker with the financial system, but without adequate transparency, oversight or supervision.
The regulatory failure, in turn, was grounded in the Bush administration’s magical belief that the market, with its invisible hand, works best when it is left alone to self regulate and self correct. The country is now paying the price for that delusion.
If lawmakers and administration officials really want to restore confidence, the bailout must be only a first step. The hard work of establishing and enforcing the regulations that are needed for a truly trustworthy financial system, still lies ahead.
This editorial appreared in The New York Times
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Free market ideology is far from finished
But with Wall Street rescued by government intervention, there’s never been a better time to argue for collectivist solutions.
By Naomi Klein
Whatever the events of this week mean, nobody should believe the overblown claims that the market crisis signals the death of “free market” ideology. Free market ideology has always been a servant to the interests of capital, and its presence ebbs and flows depending on its usefulness to those interests.
During boom times, it’s profitable to preach laissez faire, because an absentee government allows speculative bubbles to inflate. When those bubbles burst, the ideology becomes a hindrance, and it goes dormant while big government rides to the rescue. But rest assured: the ideology will come roaring back when the bailouts are done. The massive debts the public is accumulating to bail out the speculators will then become part of a global budget crisis that will be the rationalisation for deep cuts to social programmes, and for a renewed push to privatise what is left of the public sector. We will also be told that our hopes for a green future are, sadly, too costly.
What we don’t know is how the public will respond. Consider that in North America, everybody under the age of 40 grew up being told that the government can’t intervene to improve our lives, that government is the problem not the solution, that laissez faire was the only option. Now, we are suddenly seeing an extremely activist, intensely interventionist government, seemingly willing to do whatever it takes to save investors from themselves.
This spectacle necessarily raises the question: if the state can intervene to save corporations that took reckless risks in the housing markets, why can’t it intervene to prevent millions of Americans from imminent foreclosure? By the same token, if $85bn can be made instantly available to buy the insurance giant AIG, why is single-payer health care – which would protect Americans from the predatory practices of health-care insurance companies – seemingly such an unattainable dream? And if ever more corporations need taxpayer funds to stay afloat, why can’t taxpayers make demands in return – like caps on executive pay, and a guarantee against more job losses?
Now that it’s clear that governments can indeed act in times of crises, it will become much harder for them to plead powerlessness in the future. Another potential shift has to do with market hopes for future privatisations. For years, the global investment banks have been lobbying politicians for two new markets: one that would come from privatising public pensions and the other that would come from a new wave of privatised or partially privatised roads, bridges and water systems. Both of these dreams have just become much harder to sell: Americans are in no mood to trust more of their individual and collective assets to the reckless gamblers on Wall Street, especially because it seems more than likely that taxpayers will have to pay to buy back their own assets when the next bubble bursts.
With the World Trade Organisation talks off the rails, this crisis could also be a catalyst for a radically alternative approach to regulating world markets and financial systems. Already, we are seeing a move towards “food sovereignty” in the developing world, rather than leaving access to food to the whims of commodity traders. The time may finally have come for ideas like taxing trading, which would slow speculative investment, as well as other global capital controls.
And now that nationalisation is not a dirty word, the oil and gas companies should watch out: someone needs to pay for the shift to a greener future, and it makes most sense for the bulk of the funds to come from the highly profitable sector that is most responsible for our climate crisis. It certainly makes more sense than creating another dangerous bubble in carbon trading.
But the crisis we are seeing calls for even deeper changes than that. The reason these junk loans were allowed to proliferate was not just because the regulators didn’t understand the risk. It is because we have an economic system that measures our collective health based exclusively on GDP growth. So long as the junk loans were fuelling economic growth, our governments actively supported them. So what is really being called into question by the crisis is the unquestioned commitment to growth at all costs. Where this crisis should lead us is to a radically different way for our societies to measure health and progress.
None of this, however, will happen without huge public pressure placed on politicians in this key period. And not polite lobbying but a return to the streets and the kind of direct action that ushered in the New Deal in the 1930s. Without it, there will be superficial changes and a return, as quickly as possible, to business as usual.
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Crisis of Capitalism and the Left
by Emir Sader
A new crisis of capitalism, in the style of 1929. The theories of casino capitalism are confirmed. The US government contradicts itself again and heavily intervenes, demonstrating that its confidence in the market isn’t as great as its propaganda displayed. Neoliberal capitalism spills its guts, and the theories of the Left — Keynesian or anti-capitalist — critical of neoliberalism are corroborated.
Our theories about the anti-social and perhaps terminal character of capitalism borne out, we leftists smile, rubbing our hands, eager for social and political consequences of crises.
Should we? Or perhaps should we ask ourselves how prepared we are to confront this new crisis with left-wing alternatives? Not just with theories, but with the social, political, and ideological force to contest hegemony in crisis. Are we ready to ask ourselves if the measures taken by governments wouldn’t mean more suffering for the poor, more desperation, abandonment, unemployment, and precarious labor, without people being able to see alternatives?
If we are to merely play an intellectual role of being critics of capitalism, the new crisis is a great feast. We can rejoice and churn out, day after day, week after week, new articles that foresee — “as we have written already” — the end of capitalism in short order.
But every catastrophism is self-deceiving. In the 30s, the Communist International subscribed to the theory of economist Eugen Varga, who revisited Lenin’s theory to diagnose that the crisis of 1929 brought capitalism, finally, to its final stage. As the New Deal rescued capitalism from itself, the category of the “second phase of the final stage of capitalism” was introduced. By now we must be in the fifth or sixth phase.
Giovanni Arrighi recalls that, in the 70s, the debate was not about the end of capitalism but about when, where, and how capitalism would end — the subject that was apparently accepted by even theoreticians in favor of capitalism.
Nevertheless, as Lenin himself reminds us, capitalism doesn’t collapse, nor will it ever collapse, unless it gets defeated — as shown by the revolutionary processes that ended up with capitalism, temporarily or definitively. It doesn’t collapse on its own, and it even demonstrates capacity for recovery. Who knew that the homeland of Lenin, of the first worker-peasant revolution in the history of humanity, would see restoration of capitalism, in a gangster version?
Who knew that the United States, “mortally wounded” by the crisis of 1929, would preside over the longest and deepest cycle of expansion of capitalism in its history — its “golden era” according to Hobsbawm — after WW2, pressuring the USSR and defeating it technologically and economically, before facilitating its political implosion?
I’m not saying this to be characterized as a propagandist of apologetic visions of capitalism or to encourage demoralization, but to perform a salutary affirmation of Brecht, who said that “we must attack the strongest flank of the enemy,” so as not to deceive ourselves about the real conditions of the battle against it, so as not to underestimate its forces, and, above all, so as not to overestimate our forces.
Every crisis that the Left faces with hand-rubbing glee leaves it even more defeated than before, for such a Left is one content with contemplating the last days of a capitalist Pompeii, which however persists and survives thanks to the lack of alternatives — theoretical and political — on the Left, the very Left that appears to believe that finally one day, in the not too distant future, peoples of the world will be persuaded of its apocalyptic theory, without it having made its theory real as an economic, social, political, and ideological force.
For the time being — as Marx said of the petit bourgeoisie — it seems that the people are not yet mature enough to understand the theory of a Left that is satisfied with itself, with our marvelous theory that tells us that, whether in the long, medium, or short term, inevitably history will reveal that it’s advancing toward socialism.
The turns — both revolutionary and counter-revolutionary — of the 20th century have taught us nothing if we are still waiting for the corpse of our enemy to turn up, rather than meticulously preparing to make our dreams and utopias a reality, as recommended by Lenin’s revolutionary realism.
This article appeared in MRZine
