financial crisis
15 Oct 2008
Apparently the Emperor is Wearing Clothes Again
Kevin Rudd's fiscal stimulus package reveals how little power national governments now have in the face of global capital markets, writes Ben Eltham
You can gauge the kind of month it has been on the world's financial markets by the ecstatic relief that greets a confident day's trading. But that was yesterday. Today it looks like poor individual performances and the fear of a recession is going to remove quite a lot of yesterday's gains.
There has scarcely been a period on markets like this in decades. Sub-editors have worn out their stock of disaster metaphors, while TV economists have repeatedly been called on to explain why this is the worst banking crisis since 1929.
In previous articles, I've explored how a combination of poor regulation, cheap money and a shared belief by rich world policy makers in the elixir of efficient markets led to the current crisis. Although it had its roots in the wild excesses of US subprime mortgage lending, in time this will be seen as only the proximal cause. The real cause of our current predicament is the ramified interconnectedness and vast leverage of western financial institutions, and the arcane derivatives they trade in stupefying quantities. World markets had outgrown their national boundaries, and no-one was supervising them particularly closely. The worst predictions of the critics of globalisation came true. Not only was global capital uncivilised, it wasn't even particularly well-capitalised. In fact, it was a huge edifice built upon debt.
Much as the killing of Archduke Franz Ferdinand of Austria was merely one of several possible triggers which in the early years of the 1900s were likely to lead to war between armed and tense European alliances, so too will subprime mortgages eventually be seen as only one of the possible causes of this crisis. Indeed, as Brad DeLong wrote recently, most economists were expecting a different crisis — one triggered by the huge imbalance in savings and trade between the United States and China.
The novelty of the current disaster — a run on banks by themselves, instead of their ordinary depositors — left policy makers entirely flat-footed. In the beginning central bankers and finance ministers like Ben Bernanke and Henry Paulson misdiagnosed the problem as one of liquidity, and therefore could not understand why flooding the markets with billions of dollars wouldn't restore confidence. Failing institutions could be bailed out on a case-by-case basis. Policy-makers were unable to grasp that the problem might be much more systemic.
In fact, the problem was much more serious: a crisis of solvency. As the insane levels of leverage of institutions like Lehman Brothers began to unwind, banks all over the world suddenly realised they didn't understand their own products. Credit default swaps were meant to insure against this current crisis. But if you can't be sure the institution holding your credit default swaps is solvent, then those positions suddenly becomes a huge possible risk. Banks began refusing to lend to each other. Panic gripped the markets. The emperor was wearing no clothes.
This crisis in financial markets has also revealed just how impotent national governments have become in the face of global capital flows. Although the crisis began in Florida and California housing markets, it spread inexorably to Wall Street, London and then European financial institutions. Amongst the worst affected countries have been Russia and Iceland. The age when national governments could control their own economy has ended — indeed, it is now clear it ended decades ago.
The result has been a transfer of sovereignty: from national governments which are at least elected, to international markets which are not. The economic policies of governments across the rich world are now as much controlled by hedge funds, massive multinational banks and unelected central bankers as they are by elected ministers and parliaments.
This is why Keven Rudd and Wayne Swan, who were initially adamant that the Australian banking system was sound, were quickly forced to move to guarantee the entire domestic deposit base. Similarly, yesterday's $10 billion fiscal stimulus package announced by Rudd has been forced on his government by the disastrous course of recent economic events. At least most of this money will go to pensioners and families, rather than to bank shareholders.
The other amazing factor of the current situation is the sheer scale of the rescue packages being announced. The US has already promised just under $US1 trillion in bailouts, including the $US700 billion package that passed Congress on its second attempt. The UK is nationalising large chunks of its banking sector and the Eurozone governments have pledged an estimated 2 trillion euros These amazing spending sprees were not voted on. They have been forced on governments by a power base more important than voters: global capital markets.
If there is any good news to be found in the current situation, it is that it might alert ordinary citizens to the magnitude of the power shift away from representative democracy in favour of the power of money. It's not as though no one saw this crisis coming. In fact, many economists of different persuasions predicted it: including Joseph Stiglitz, Nouriel Roubini and Steve Keen. But the irrational majority preferred to party like it was 1929.
Has anyone noticed the comparison between the financial crisis, and the far broader and more dangerous rolling crisis represented by global climate change? For decades, governments and economists in the sway of fossil fuel industries have told citizens that we could not afford a rapid, costly decarbonisation of our economy. The current crisis has revealed they were lying, as governments of all persuasions have printed monopoly money to bail out banks and mortgage companies. As George Monbiot writes in The Guardian, the coming crisis in natural ecosystems will dwarf the current problems caused by over-generous banks:
"[The] two crises have the same cause. In both cases, those who exploit the resource have demanded impossible rates of return and invoked debts that can never be repaid. In both cases we denied the likely consequences. I used to believe that collective denial was peculiar to climate change. Now I know that it's the first response to every impending dislocation."
Shares were up yesterday. And even as they go down today, the market seems relevant again, connected to some kind of useful reality. But the leaders of the free world are not breathing a sigh of relief. Doomsday has been temporarily averted. There's a chance for governments to catch up a bit and plan for the longest term goals that democracies can manage these days: the next election.
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If anyone wants a heads up as to how long governments can keep doing the whole "bailout thing" - Micheal West (The Age) has written a timely piece about the solvency of the US Fed and the actions of our own financial regulator APRA:
http://business.theage.com.au/business/fed-cred-on-the-line-20081015-50z…
Disaster? Crisis? Recession? What is everyone talking about? Gold has rallied beautifully! In fact it is up by almost 40% this year alone!
Sorry Ben, couldn’t resist it!
These have been fantastic articles so far Ben, and I hope I am not banned from NM before you finish the series.
Poor old Rudd, they really are going to blame Great Depression II on him and Obama you know.
Another great article Ben. The timing of the present crisis may have been somewhat of a surprise but that it would happen at some point was surely a no brainer.
Although a depression will hurt a lot of people the current system already causes ongoing and devastating harm (famines, poverty, disease, inequality – within and between countries – and global warming etc) and needs to be resolved in conjunction with (or in order to mitigate against) climate change.
The left have been going on about the undemocratic nature of the global capitalist system (or ‘globalisation’) for years and, like you, I hope that this will hammer the message home to the mainstream of affluent societies.
On nation-states’ sovereignty, I think you put the cart before the horse again Ben. That would be like putting the US sub-prime mortgage contract before the global CDS, which still seems a rather fashionable approach elsewhere, though I note how you dispel such a specifically misleading notion here.
To review one of your sentences: "The economic policies of governments across the rich world are now as much controlled by hedge funds, massive multinational banks and unelected central bankers as they are by elected ministers and parliaments."
I think you meant: "The economic policies of governments across the rich world are now as much controlled by hedge funds, massive multinational banks and unelected central bankers as elected ministers and parliaments are controlled by hedge funds, massive multinational banks and unelected central bankers".
Therefore, I remind you that nation-states did not somehow lose their sovereignty as if after a war against free-market swindlers. While the institutions of the nation state remain, so does its sovereignty, even though the state’s caretakers ("receivers"?) prefer to not exercise the state’s sovereignty.
State leaders have been corrupted by near-blatant bribes, and threatened with the triple extortion of media tyranny, terror and "free market" embargoes, currency runs, etc. State leaders do not have to kowtow to the monetarist tyrants, but they have usually done so, just like their pioneering predecessor and free-market toy-boy Soeharto, for example.
Such mechanics of crime and abused power are straightforward, just as resistance and combat against them do not demand much complex thought or deep contemplation. If people wish to abolish the monetarist tyranny and reclaim sovereignty, then they can.
There will be distractions along the way, like rockjaw’s magic show of Newtonian alchemy and similar quackery of Empah. Perhaps Mr Crapulent’s green-lined stormclouds pose a similar, though more toxic distraction e.g., Flannery’s blankets of sulphur pumped into the planet’s atmosphere?
Warning, conspiracy theory to follow.
"My goal is to cut government in half in twenty-five years, to get it down to the size where we can drown it in the bathtub."
Grover Norquist.
I read an article, that I have lost the link to, that said it was not a mistake that right wing governments claim to have fiscal responsibility and then drain the treasury with some folly like a war. The intention is to ‘starve the beast’ so that when the vote drifted left, the cupboard was bare and so they were stuck with asset sales and cut backs to social programmes just to try to balance the books.
As many other people have noted, this money could have done amazing things but all it has done now is prop up the hard right. Can we really believe that the masters of the universe didn’t know what they were doing?
I wonder if John Howard has been castigated in back rooms in the US for leaving so much money around for the commie Rudd to play with.
Oh Ben, I have been meaning to ask, can you recall that "Goldilocks economy" which all you economist types were all so hot and bothered about not so long ago?
Can you remember the one? She was the one with the "robust economy" and the really nice "soft landing"?
Well, my question is, whatever happened to her? Did she die? or did she receive the Nobel Price for economics and fade into insignificance?
It would be really great if she had also given us a few warnings hey ben?
Now that last one was real suckers rally!
Yeah, but it’ll be OK now that there’s an election contest between a great big turd and a giant douche - a la South Park. Even as the derivatives write-downs loom over all, they’re talking about trivial monetarist trickery still: tax cuts, energy projects, more efficient government programs, etc.!
Btw NM, why has Bruce Haigh’s article been de-linked ("access denied" - see: http://newmatilda.com/2008/09/30/tragedy-costellos-new-job). It still has a cached version on Google (see: http://209.85.173.104/search?q=cache:s4WQdXNi2HwJ:newmatilda.com/2008/09…).
Did NM and/or Haigh get a bollocking because both Costello and the World Bank got briefly torched there?
douglas jones
If the science is right the power of money and inability ( so stated!) of governments to behave as citizens might when informed not fed spin, like, will, be even less when warming intensifies.
We have had or are having a re run of the 1920’s and much of the proposed fixes are similar to those applied by economics pre Keynes. That is we knew. As did the perpetrators and governments and to say they were in the latter case blinded by belief in the market is a lame excuse. The martket was similar yeasr ago!
We knew it was happening, yes not just the references you cite but many others including Edward M Gramlich a former member of the Board of Governors of the Federal Reserve and by many others, there were even pieces in Open Democracy and similar sites.
So how is democracy failing how are the moneyed ruling us? Meanwhile as the system implodes we, as you point out, ignore the next ‘melt down’ maybe literally, global warming.
What happens if we, the world (ah immediately it is unlikely for the world says vested interests but just suppose—) the world said we have an emergency we must discard all thought of finance except in so far as needed to allow exchange of goods and money and devote our effort to combating climate change, which we are told will cause most of us to die and maybe make the world uninhabitable, deficit funding to access NOW, currently available methods of reducing CO2-e production, depending on these when funded to negate the threatened unemployment. Like hot water house sealing etc and etc theirm are so many things we could do now.
Okay all suffer we no longer can have our current life style, though I am sure as in WW2 some the wide boys will find ways of cheating just as finance and spin has cheated us into believing no controls are necessary or the first war for resource, Iraq to be fought.
Excepting sex outside prescribed limits and murder particularly of the upper class, what we define as terrorism (different from ours!) and denial of ownership including that garnered as CEO or Board member or just well heeled buyer of stock, and similar.
However I blather!
How then is control to be made in the forecast dark days ahead? Do we all co operate or continue to compete? Do we provide baubles medal of honour VC OBE etc to those who behave in a selfless manner thus encouraging us all? Or what?
"Giving money and power to government is like giving whiskey and the car keys to teenage boys" … P.J. O’Rourke, Civil Libertarian
No left turn unstoned.
Timothy Leary*
*Apocriphal.
…yeah, but only if government comprises people like P.J. O’Rourke, who has all the money and whiskey any teenage delinquent could ever want
Ye, good on you Graeme!