[OPE] Financial crisis: working people will pay

From: <glevy@pratt.edu>
Date: Mon Sep 22 2008 - 09:37:51 EDT

Financial crisis: working people will pay | Links†

Financial crisis: working people will pay
By Dick Nichols

September 20, 2008 -- ‚&euro;&oelig;Will my superannuation
[pension] fund be next?‚&euro;Ě ‚&euro;&oelig;Are my savings
safe?‚&euro;Ě As working people in the developed economies watch the
assets of one financial institution after another vaporise into
nothingness, tens of millions are asking these dreadful questions.

Yesterday‚&euro;&trade;s AAA assets are now junk
and yesterday‚&euro;&trade;s
‚&euro;&oelig;risk-free‚&euro;Ě investments are losing money.
No-one, not even the world‚&euro;&trade;s central bankers, who are
spending sleepless nights arranging rescue bailouts and emergency
injections of trillions of dollars into a financial system frozen with
fear and distrust, can answer them with 100% certainty.

Last
fortnight‚&euro;&trade;s actions by US Treasury secretary Henry
Paulsen tell us why: on September 12 he refused to bail out Wall Street
investment bank Lehmann Brothers, preferring to let firms that had dealt
extensively in financial assets based on worthless subprime mortgages go
to the wall or be taken over by others. But on September 17, faced with
the collapse of the American International Group, Paulsen and Federal
Reserve chairperson Ben Bernanke decided that the risks of letting the
world‚&euro;&trade;s largest insurance company sink were too great.
AIG was too large ‚&euro;&rdquo; and too enmeshed in global
financial markets ‚&euro;&rdquo; to fail.

So, in the
free-market, Republican-run US, the state is becoming the owner-operator
of a collapsing finance system, with the losses funded by the taxpayer.

Paulsen, Bernanke and their counterparts in Europe, Japan and
Australia too will increasingly face this sort of choice: do they let the
next stricken financial monster die or put it on government life support?
And how do they decide, when no one knows where the rest of the toxic
financial waste is buried, where interbank lending has nearly dried up and
where, according to economic historian Harold James,
‚&euro;&oelig;it is impossible to know what solvency
means‚&euro;Ě?

Fictitious capital

To
understand how the system has arrived at its worst crisis since 1929, it
is necessary to consider some basic features of capitalism and how these
have operated over the past 30 years.

Confronted with the
decision as to where to invest its money, any business has to make a basic
choice: invest in production or in financial assets (shares, bonds, etc).
The decision will be influenced by the expected rate of return on each and
its riskiness.

The more that individual firms invest in new
production, the greater the overall (economy-wide) rate of investment will
be, and ‚&euro;&rdquo; on condition that production gets sold
profitably ‚&euro;&rdquo; the greater the mass of new value and new
profit added. However, when firms invest in purely financial assets they
are deciding to invest in claims on new value and profit, which in itself
adds nothing to the mass of value added.

Conventional
economics blurs this distinction, but for socialists Karl Marx and
Frederick Engels it was central to understanding the boom-bust cycle of
capitalism. They called these claims on future profit fictitious capital.
For example, share certificates are simply ‚&euro;&oelig;marketable
claims to a share in future surplus value production‚&euro;Ě and the
share market is ‚&euro;&oelig;a market for fictitious
capital‚&euro;Ě.

Setting up a market for any type of
fictitious capital is the equivalent of setting up a casino
‚&euro;&rdquo; a place where people can speculate in these claims on
future profit. During boom times, as the expectation of profit growth
drives financial markets higher, the total nominal value of fictitious
capital in circulation always grows more rapidly than the actual mass of
profits. The less this gambling is regulated, the more manic it becomes.

However, a point is always reached where more is produced than
can be sold profitably. The mass of profits then shrinks and the prices of
the claims on profit shrink even more.

Over the past 30 years,
bursting financial bubbles have become more frequent as we have
experienced the biggest ever festival of fictitious capital. In 1980,
world financial assets (bank deposits, government and private securities,
and shareholdings) amounted to 119% of global production; by 2007 that
ratio had risen to 356%.

This state of affairs was the result
of the wave of financial deregulation that began in the early 1980s under
British PM Margaret Thatcher and US president Ronald Reagan, and then
spread out across most of the world. With every act of deregulation, new
financial markets and instruments ‚&euro;&rdquo; new casinos
‚&euro;&rdquo; became possible. They opened up opportunities to
speculate on the future movement of any financial market, to increase
borrowing on the basis of expected rises in asset values, and to bundle
various forms of fictititious capital into increasingly complex packages.

The economic justification for financial deregulation was
that, provided essential standards were maintained, deregulation made it
easier to mobilise the world‚&euro;&trade;s savings for investment
and consumption, resulting in greater growth than would otherwise have
been the case.

Deregulation also changed the traditional role
of big financial firms like Lehman Brothers from intermediaries acting on
behalf of major players, like pension funds and insurance companies, to
investment bankers acting on their own behalf. They were joined by
commercial and savings banks after the 1999 repeal of the Glass-Seagall
Act (passed in 1933 to stop such banks from gambling away
people‚&euro;&trade;s savings!).

As deregulation
gathered pace, it also created a world where the greatest profit went to
those who traded the most financial instruments, pressuring everyone to
play the same game. Traders, money managers and financial advisers flogged
as much financial product as they could manage, ignoring its dubious
quality. A long period of rapid growth, low inflation and low interest
rates ‚&euro;&rdquo; created by the Federal Reserve Bank to counter
the 2001 dot.com crash ‚&euro;&rdquo; boosted complacency and
willingness to take risks.

>From bursting bubble to
recession?

But beneath this orgy of fictitious capital, the
wellsprings of real profit began to dry up as mortgage defaults began to
rise. Another reality expressed by Marx was coming into play:
‚&euro;&oelig;The ultimate reason for all real crises always remains
the poverty and restricted consumption of the masses as opposed to the
drive of capitalist production to develop the productive forces as though
only the absolute consuming power of society constituted their
limit.‚&euro;Ě

Credit, especially home mortgages, had
extended ‚&euro;&oelig;the restricted consumption of the
masses‚&euro;Ě for a while, but increasingly the credit
couldn‚&euro;&trade;t be repaid, undermining the value of all
financial instruments based on it. Just before the bubble burst, the
credit default swap market (insuring against credit default) swelled to a
notional value of $6.2 trillion before imploding.

And worse is
yet to come. Before the system can begin to recover, asset prices will
have to fall massively, producing a further chain of bankruptcies,
bailouts and restructurings as the survivors pick over the corpses of the
bankrupt. Tens of thousands of people will lose their jobs. The
potentially bankrupt finance sector will have to be recapitalised, mainly
at taxpayer expense.

More seriously still, as consumers are
forced to wind back their debt levels, the credit-fed consumption levels
of the US will fall, slowing the main motor of the world economy in the
2000s as the economy enters a long repayment period.

More
alarming scenarios cannot be discarded: At present there are more than 100
banks on the watch list of the Federal Deposit Insurance Commission, the
body that insures the bank deposits of the mass of working people in the
US. Will the US Treasury be forced to bail out this agency if the poison
spreads into the savings bank sector, as in the Great Depression?

How much will protecting ordinary people‚&euro;&trade;s
savings and recapitalising the finance sector cost the taxpayer? To fund
bailouts to date the Federal Reserve Bank has had to run down its own
holdings of US treasury notes by more than $300 billion. This dwarfs the
$124 billion spent on rescuing the savings and loan industry in the 1980s.

Former IMF chief economist Kenneth Rogoff says,
‚&euro;&oelig;It is hard to imagine how the US government is going
to succeed in creating a firewall against further contagion without
spending five to 10 times more than it has already, that is, an amount
closer to $1000 to $2000 billion‚&euro;Ě (one to two times
Australia‚&euro;&trade;s annual output). In the end, working people
will pay massively for this crisis, either because they will lose part of
their savings or because taxes will have to increase and/or social
spending decrease to fund the gargantuan rescue package.

In
the midst of the wreckage some hard-nosed neoliberal economists still dare
to argue that the forces of ‚&euro;&oelig;creative
destruction‚&euro;Ě should be allowed to play themselves out as
quickly as possible. They point to the consequences of rewarding bad
financial behaviour, and to the stagnation that ongoing financial bailout
produced in Japan‚&euro;&trade;s economy after the 1980s property
bubble exploded. For these proponents of shock therapy, working people
will just have to grit their teeth and bear the factory closures,
unemployment, house dispossessions and descent into poverty
that‚&euro;&trade;s involved.

However,
it‚&euro;&trade;s a pretty good sign of the depth of the present
crisis that a pillar of financial orthodoxy like the Financial Times is
allowing discussion of a third option: nationalisation of the finance
sector. FT columnist Willem Buiter from the London School of Economics
wrote on September 17: ‚&euro;&oelig;Is the reality of the modern,
transactions-oriented model of financial capitalism indeed that large
private firms make enormous private profits when the going is good and get
bailed out and taken into temporary public ownership when the going gets
bad, with the taxpayer taking the risk and the losses? If so, then why not
keep these activities in permanent public ownership?‚&euro;Ě

Why not, indeed.

[Dick Nichols is the national
coordinator of the Australian Socialist Alliance. For references used in
this article contact national_office@socialist-alliance.org. This article
first appeared in Green Left Weekly.]

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Received on Mon Sep 22 09:43:27 2008

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