Monday, 13 October 2008

Exit the dragon

By Noah Tucker

This crisis is not the end of capitalism. But the main ideas which underpin capitalism have already been slain by the system itself.

Nobody knows how bad this disaster will prove to be, except that it is already very much worse than anybody, barring a few Marxists and other lonely radicals, predicted. But it is no longer merely a crisis of finance, or even of the functioning of the global market economy.
Let us consider the best-case scenario: that over the next few days, weeks or months, the combined action of the governments of the USA, the EU and the other developed countries, by throwing trillions of dollars, pounds and euros of taxpayers money into the hitherto privately-owned system of financial speculation; in contradiction of their deepest beliefs, re-regulating much of what was de-regulated; and even nationalising huge parts of that imploding system; that, by these draconian anti-market means, the state succeeds in rescuing the financial markets from complete meltdown, prevents the 'real economy' (ie, the production of material products and recognisably useful services) from a terminal crash, and thus avoids the likelihood that hundreds of millions, rather than scores of millions of people in the 'West', who have until now been living a relatively comfortable existence, are cast into unemployment and poverty.

Even in that scenario, in which the people of the developed world will suffer only from an economic crisis rather than an economic catastrophe, the damage inflicted on the ideas which underpin the support for the capitalist system will be catastrophic.

Writing on 12th September- after the seizure by the US authorities of the giant mortgage corporations Fannie Mae and Freddie Mac, but before the nationalisation of AIG and the subsequent '700 billion dollar bailout'- Anatole Kaletsky, the Principal Economic Commentator and Associate Editor of The Times, remarked wistfully:

Whatever happened to the triumph of global capitalism? Even more than "the end of history", the idea that "we're all capitalists now" became an article of faith around the world from the early 1990s onwards...

Noting what he described as the "complete failure of the biggest, most dynamic, most innovative and competitive markets that have existed in the history of capitalism", Kaletsky wrote:

Their failure has been so obvious, that even the most capitalist administration ever, in the world's most capitalist country, had decided to wipe out the private owners of its biggest and most important financial companies and replace them with state-appointed bureaucrats.

The reasons for these failures - related, ironically, to the dogmatic belief among regulators, politicians and financiers that "the market is always right" - have been much discussed. Much less widely considered have been the consequences of this justifiable disillusionment with market forces.

Even more than the mind-boggling $5,500 billion size of the two US mortgage companies, it was the political significance of their nationalisation that marked it out as an historic turning point.

In his conclusion, the Associate Editor of The Times clarified what he meant by the political significance of the events:

If the US loses faith with free markets, compromises the protection of property rights and hobbles its financial markets - all of which it has dramatically done in the past seven days - then Europe will surely follow suit. Emerging economies such as China and India will become even more ambivalent about market economics. Instead of We Are All Capitalists Now, There Are No Capitalists Left may become the ideology of the next decade.

Changing my religion

As Kaletsky remarked, there has been much discussion on the reasons for the spectacular failure of the capitalist financial institutions; with many other commentators and politicians joining him in expressing their 'justifiable disillusionment with market forces'. On 8th October 2008, the prime minister of Britain justified his latest nationalisation and bailout plan, secured by negotiations which had concluded at 5am that morning:

"Our stability and restructuring programme is comprehensive, it is specific and it breaks new ground. This is not a time for conventional thinking or outdated dogma but for the fresh and innovative intervention that gets to the heart of the problem."

Gordon Brown has a proud record as an opponent of outdated dogma. It was in 2003, in his most explicit theoretical exposition, his lecture at the Social Market Foundation, that he declared:

For the left historically it has been a matter of dogma that to define the public interest – opportunity and security for all – as diminishing the sphere of markets [...]

Why? Because for the left markets are too often seen as leading to inequality, insecurity and injustice. In this view, enterprise is the enemy of fairness, and the interests of social justice are fundamentally opposed to the interests of a competitive economy. The left's remedy has therefore been seen to lie in relegating the impact and scope of the market through greater public ownership, regulation and state intervention [...]

In opposing this doctrinaire remedy, he averred:

It is ever more important that markets are strengthened [...] Instead of being suspicious of enterprise and entrepreneurs, we should celebrate an entrepreneurial culture – encouraging, incentivising and
rewarding the dynamic, and enthusing more people from all backgrounds and all areas to start up businesses. Here again, enabling markets to work better and strengthening the private economy.

Instead of thinking the state must take over responsibility where markets deliver insufficient investment and short termism in innovation, skills and environmental protection, we must enable markets to work better and for the long term...

Thus the markets- especially the financial markets- were ever more strengthened, their entrepreneurs were no longer subjected to suspicion; instead, they were incentivised, celebrated, and given ever more scope. A proportion of the increasing proceeds accrued via taxation to the state, allowing the government to promote a degree of fairness and social justice- in distinction from the previous hard-hearted and purely neo-liberal Conservative regimes of Margaret Thatcher and John Major.
The gains to the people arose not only from the increased provision of state services and welfare payments; but also- through the exponential rise in property prices and the co-incidental industrialisation of China- the bountiful affordability of material goods to the majority of the population. A new paradigm had been created, the marriage of market freedom to social fairness, a match made in the evangelical but materialistic heaven of New Labour.

So the long boom was not merely economic, but ideological- and the bust was abrupt.
In the vengeful rhetoric of the right-wing populist press, the dynamic entrepreneurs went straight from 'go' to 'jail', without even passing through the due process of suspicion. On 30th September, the Daily Express published an editorial which denounced as 'greedy renegades' the senior bankers who it blamed for the crisis. The editorial was headlined 'Jail Rogue Fat Cats who Caused Financial Turmoil', but the text suggested a rather more drastic recourse than this modest proposal, hinting darkly: "In China they'd be executed."

Some others, whose views have remained consistent, have suddenly found an eager audience. The Conservative Party's intellectual magazine The Spectator has printed an article by the chief of one of Britain's few remaining nationalised industries outside the banking sector, Archbishop Rowan Williams of the Church of England. In its pages, the Right Honorable Most Reverend Doctor Williams, who was appointed to his post by Mr Tony Blair, espoused his analysis of the immorality and greed of the de-regulated capitalist market, which he denounced as a form of 'idolatry', a heresy against the true God.

This has always been the opinion of Dr Williams, but until recently nobody cared about it; of his ardent views, only those about homosexuals and Muslims were considered worthy of mention. In his Spectator article Rowan Williams, who is is an honorable man not merely in his official title but in his words and deeds, cited as his intellectual ally a certain Dr Karl Marx- though, as he conceded, Marx was only partly right.

We should have no problem with that. As the the doctrine of that very moderate body the Church of England also concedes, even Moses and Jesus were only partly right.

Exit the dragon

But back to reality. In his poignant remark that we may be entering a period in which 'There Are No Capitalists Left', Anatole Kaletsky suggests that the myth that economic decisions can safely be left to the market will no longer have any believers; hence the capitalist market will be restricted, subject to increased direction by the state, and its field of operation reduced by nationalisations.
That alone would be a huge change. But the defeat in practice of capitalist ideology, which will be combined with the material effects of the crisis on the population- a reduction in prosperity and an increase in misery in the leading capitalist countries- could have a further, and even more significant effect.

This present crisis is not merely the result of personal wrong-doing by the insatiably greedy characters who gained by the worship of the masses at the satanic- and now all of a sudden, discredited- shrine of capitalist individualism.
It is the bitter eventual fruit of the roll-back, over the last several decades, of the nationalisations, regulations, repression of financial speculation and other state economic interventions which were implemented following the experience of that previous catastrophic downturn, the Great Depression.
The reforms which were instituted in the wake of the terrible crisis of the 1930s- including the New Deal under Franklin D. Roosevelt in the USA and the radical measures of the post-1945 British Labour Government under Clement Atlee- by reducing the economic scope of capitalism, thereby made that fettered and limited capitalism more economically stable than its previous unrestricted form.
Those reforms also allowed a drastic improvement in the conditions of working class people, which had hitherto been miserable, even in the richest capitalist countries; connected with this, by means of progressive taxation and the increased scope for the trade unions, there was a reduction of the gap in living standards between the very rich and the majority.

As Doug Henwood, editor of the Left Business Observer, has noted: the yawning gap which has opened, since the 1970s, between the incomes of most of the people and those of the wealthy elite, was key among the major factors which have contributed to the current debacle.

Why was the decision taken that the restricted model of capitalism, social-democratic capitalism, could and should be rejected and replaced with an updated version- recently becoming a turbo-charged version- of the pre WW2, dangerously unstable, 'free-market' capitalism?
The various factors included not only the lust for unrestricted opportunities for individual enrichment through the market, but the perception that it was the workers, strengthened by nationalisation and their trade unions, who were becoming the greedy ones, avaricious for ever-larger slices of prosperity and power; in other words, millions of people were increasingly discovering that collective means could yield them a decent and improving quality of life.

But those workers were no longer motivated by desperation. In Britain, the country which would become the Western crucible of privatisation, de-regulation and the liberation of financial capitalism from its shackles, the chief ideologue of the return to the unbridled market was Sir Keith Joseph, a man whose personality did not suit him for the direct leadership of a nation; nevertheless, Sir Keith found an able and eager student in Margaret Thatcher.

In girding himself for intellectual battle against the social-democratically resticted version of capitalism- which had by the 1970s even banished its own name, 'capitalism', from the vocabulary, instead defining itself with some justification as 'the mixed economy'- Keith Joseph fought to banish an image from his own mind, a ghost which still frightened his less audacious colleagues. As he recalled:

Our post-war boom began under the shadow of the 1930s. We were haunted by the fear of long-term mass unemployment, the grim, hopeless dole queues and the towns which died. So we talked ourselves into believing that these gaunt, tight-lipped men in caps and mufflers were round the corner, and tailored our policies to match these imaginary conditions. For imaginary is what they were.

The spectre of the impoverished working class, with little to lose but their chains and many of them becoming drawn towards revolutionary means of salvation, was banished from the historical imagination of the ruling elite. Thus the dragon of the free market, for three decades imprisoned by the chains of nationalisation and regulation, could be released from its hiding place in the theories of a few anti-Marxists and other lonely radicals, and breathe fire again on the real world.

Keith Joseph, and his increasingly poweful proteges, were encouraged and empowered also by the decline, and then the fall, of the Soviet Union.

Like it did on a regular basis before it was institutionally moderated after the 1930s, the capitalist monster is again undermining the conditions for its own existence. It is bringing down the financial aristocracy which it created, and along with it the idolatrous religion of their admiring cheer-leaders.

And what will result? As history teaches, the proceeds may encompass the worst as well as the best. From the crisis of the 1930s, Hitler arose, backed by the desperate capitalists, and a World War which killed fifty million human beings.
But also, that terrible crisis resulted in the aggressive advance of socialism, from the isolated Soviet Union to Central Europe, China, and even eventually to a small island in the Caribbean.

Cuba's survival, against all odds since the 1990s, gave hope for the the masses in Latin America- who have revolted since the start of this Century against capitalism and for a better life.

The current crisis will inflict millions of casualties, almost all of them innocent. But among the collateral damage will be the invincibility of the capitalist system, even in its heartlands.

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Sunday, 12 October 2008

What MFIs can teach Wall Street

12 Oct 2008, 0116 hrs IST,
Swaminathan S Anklesaria Aiyar

Big financial institutions of all sorts are in dire straits across the globe. But one category remains unaffected - micro-finance. Even as the global financial system freezes and giants like Lehman Brothers collapse, micro-finance institutions (MFIs) are expanding unfazed. Famous financiers face defaults big enough to wipe them out, but MFIs report virtually zero default.

This is extraordinary. Big financiers lend against collateral, a back-up if their borrower defaults. But MFIs lend with no collateral at all. Big financiers lend to the most creditworthy corporations. MFIs lend to poor women whom nobody in history considered creditworthy before. Yet, the secured loans to big corporations are bombing, while unsecured loans to poor women are being repaid in full.

How so? What lessons does micro-finance have for Wall Street? I distilled some answers from feedback from promoters of three MFIs that i myself have a stake in: Shubhankar Sengupta of Arohan, Kolkata; Rakesh Dubey of Sonata Finance, Allahabad; and Manab Chakraborty of Mimo Finance, Dehra Dun.

The big lesson for Wall Street is that lending against collateral, supposedly prudent, can blind you to the need for checking the repayment capacity of borrowers. US banks happily gave mortgages of 100% of the value of houses during the housing bubble, and suffered when house prices fell. So did august institutions buying mortgage derivatives. Some, like Lehman Brothers, borrowed massively to invest in AAA mortgage-backed securities, and went bust when value of these securities plummeted. A trillion-dollar house of cards was built on collateral. When the collateral value fell, the house of cards collapsed.

Lesson: don't just depend on collateral, assess the cash flow of borrowers, and leave a cushion to ensure repayment. The housing bubble induced banks to give NINJA (no verification of income, job or assets) loans, secured just by house value. As house prices rose, their value exceeded the repayment capacity of borrowers. The rest is history.

Microfinance, by contrast, has no collateral at all. MFIs deliberately keep loans small, well within repayment capacity. Some MFIs give first loans of just Rs 5,000 a year. Those who repay qualify for a higher second loan, maybe Rs 7,000, and the third loan can be still higher. But MFIs set an absolute loan limit, ranging from Rs 12,000 to Rs 25,000, depending on local economic opportunities, to guard against over-borrowing. Wall Street needs similar safeguards.

US housing brokers get commissions from banks based on the size and interest rate of loans. This gives them incentives to fiddle documents and data to lend excessive sums at excessive rates of interest, increasing default risk. But MFIs have a fixed interest rate, and fixed ceilings on the first, second and subsequent loans. MFI field agents are trained to ensure that loans do not exceed repayment capacity. Mimo Finance, for instance, gauges the cash flow of borrowers by taking a quick look at the quality of their houses. Wall Street needs similar safeguards.

MFIs lend to groups of poor women. If any borrower defaults, the whole group is barred from credit, so other members put social pressure on the defaulter to repay. This is remarkably effective.

By contrast, defaulting home-owners in the US are treated as victims, offered subsidies and write-offs by politicians. Some home-borrowers may have been duped by brokers, but many others over-borrowed on the assumption of ever-rising house prices. Many bought houses to re-sell at a profit. Some can afford to repay but have decided not to, since default attracts no social opprobrium.

High inflation in India has not caused MFI defaults. MFIs report that worker-borrowers have demanded and got a 20% increase in wage rates, while small-businesses' borrowers running tea shops have raised their prices from Rs 2 per cup to Rs 3. By contrast, home borrowers (or even giant corporations) in the US are unable to increase their incomes in line with borrowing costs. So, the MFI model is small but sound. But don't lavish excessive praise on it. Western banks lend far too much. But Indian lenders - including MFIs -lend far too little. Rural studies suggest that poor rural households need Rs 25,000 of credit per year. MFIs provide far less. The balance is made up by borrowing from relatives and moneylenders. The system cries out for more formal credit.

The aim must be to enable capable but capital-starved entrepreneurs to move beyond ownership of buffaloes and tea-shops. At an MFI meeting in rural Dehra Dun, i saw an enterprising village woman pleading for a loan of Rs 50,000, saying (rightly) that this was the minimum needed for a decent shop. But the MFI regretted that this was beyond its lending limit.

So, don't get too excited by the fact that we've avoided the excessive lending of Wall Street. Bemoan the fact that our stunted financial system fails to reach hundreds of millions. Microfinance has its merits, but is not enough. The big challenge is to move from micro-loans to mini-loans of Rs 50,000 to Rs 2 lakh. These alone can transform poor borrowers from objects of pity to objects of envy.

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A new order must be imposed on the City

Amid all the reckless gambling of recent years, British banks did make one sound bet: they guessed that they were so vital to the economy that politicians would never let them fail.

Sure enough, as crunch turned to crisis and crisis turned to panic, the Prime Minister and the Chancellor last week announced a rescue package of breathtaking scale: £50bn to rebuild banks' capital stores; at least £200bn of cash available through the Bank of England's 'special liquidity scheme'; a guarantee worth £250bn of further borrowing by banks on wholesale money markets.

It was the right thing to do. Since the economy depends on a flow of capital from banks to businesses and households, and because mutual distrust has stopped banks lending to each other, it falls to governments to put money back into the system.

While the US Treasury was faster to act in a manner appropriate to the scale of the crisis, the British response is smarter. The American plan, worth $700bn, was essentially to purchase toxic debt from failing banks - turning the taxpayer into the buyer of last resort for assets that the market had rejected. The UK approach puts money closer to the heart of the problem, pouring capital directly on to bank balance sheets and taking part ownership in return. Instead of bailing water out of the leaky vessel, Alistair Darling and Gordon Brown are trying to plug the leak.

Given the global nature of the crisis, the British initiative will only work if the rest of the world follows suit. Henry Paulson, US Treasury Secretary, said last week that he was prepared to do just that. The US government may now invest directly in the nation's banks for the first time since the 1930s.
European governments have been less ambitious, some because they prefer to deal with bank failures on an ad hoc basis, and some because they doubt the crisis will hit them as hard as it has the 'Anglo-Saxons'. They are mistaken. No financial institution is safe. Only a systemic rescue will stabilise the situation. Politicians cannot wait for the market to signal trouble and then react; they must wrest control of the economy away from panic-stricken markets.

But bankers resist government involvement in their affairs with something like religious zealotry and the Brown-Darling rescue plan contains no clear strategy for bringing them to heel. The Prime Minister said that public investment will come 'with strings attached', but added that the detail would be negotiated on a case-by-case basis.

It is asking too much of taxpayers to put their money up front without explaining what they will get in return. Some concessions should be non-negotiable.

First, the banks should accept the presence of a government official or civil servant on their boards of directors and remunerations committees. The banks will need constant reminding that they owe their survival to public money and that they should start running their businesses with more respect for the public interest.

Second, the banks should not treat the government's equity stake like a simple loan. They cannot expect that, when the current crisis has passed, government will step back from its investment without extracting a profit. Having part-nationalised the banks, the state must manage its shareholding to yield the best return for the taxpayer.

Third, the banks must not hoard their new capital. The rescue is only justified if it brings liquidity back to the economy. That means lending on the High Street again.

That is the minimum required to make the package palatable to voters. It would be a fair exchange for government ramping up the national debt, blasting a hole in its spending plans and facing down public rage at the sight of rich financiers piling into state-sponsored lifeboats while everyone else must swim through the coming recession or sink in it.

Having stabilised the banking sector, the government will have to embark on wider reform of the City. It must make financial services more transparent, more accountable and subservient to the wider economy.

That means, for example, curtailing the anonymous trade in complex securities and derivatives. Those arcane instruments are at the heart of the current crisis because they were used to disguise liability for debt defaults - spreading hidden risk across the global system. If they are to survive at all, they should be swapped on a regulated exchange, where traders are identifiable and their accounts open to scrutiny.

The rating agencies, which failed to identify how risky many widely traded assets were, must also be reformed. The conflict of interest whereby the agencies take fees from the banks whose investments they are supposed to analyse must be addressed.

The banks must separate their investment and retail arms. They must decide whether they want to be taking deposits and lending to customers or managing funds and speculating on financial markets. They must also be forced to maintain healthy ratios of capital to debt - storing cash during a boom so they can lend in a downturn.

None of that can be achieved without the banks' co-operation. But there seems little prospect of that when the bankers are not showing any remorse. While politicians are accountable at the ballot box, the bankers face no equivalent public judgment. While the Chancellor and the Prime Minister take to the airwaves to defend their actions, City bosses have gone to ground. Not one executive has owned up to presiding over a catastrophe, apologised and resigned. No bankers have put themselves in a public forum to explain, for example, why they deserved to be paid multimillion pound bonuses for decisions that led to the biggest economic crisis in living memory, or what drove them to make those decisions, if not arrogance and greed.

If the bankers will not volunteer to give an account of themselves, they must be compelled to do so before a public inquiry. It will take a forensic examination of how this crisis came about to design a regulatory system to prevent it being repeated. It will also take some show of contrition by bankers before public confidence and trust in the financial system can be restored.

For a generation, politicians have taken orders from the City, creating tax breaks and cutting regulation lest the captains of global finance flee to softer jurisdictions abroad. Some bankers think their power will not diminish. Some have even complained that the government was not quick enough to respond to their needs, that Mr Brown and Mr Darling 'dithered'. That cry for help marks an abrupt change in tone from the old demands for freedom from interference.

The City seems to believe it can turn to the state for aid in a crisis and the return to business as usual. Wrong. The bankers also seem to think they enjoy indefinite protection by the dwindling band of politicians, mostly Conservatives, who still opine on the benefits of deregulation and gigantic pay incentives for the City. Wrong again.

With £500bn of taxpayers' money keeping them afloat, the banks are in no position to be giving orders, nor to be paying themselves exorbitant sums. With public money must come public accountability. The banks thought they were too big for politicians to let them fail and they were right. But if voters get no explanation and nothing in return for their money, their fury will be too great for politicians to ignore.

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The meltdown holds up a mirror to market fundamentalists

KAUSHIK BASU

The global financial meltdown that we are in the midst of is set to go down in history as one of the worst economic disasters. Despite the US government's $700 billion rescue package, the financial crisis is likely to spill over into the real economy, causing job losses and rising prices. This downturn is also expected to wash ashore in distant nations . India's growth rate is expected to drop from the recent 9 per cent to 7 per cent.

The mystifying feature of financial crises is 'contagion'. A problem in one industry or region can leap and escalate to others, like an influenza epidemic. The present crisis began in the US housing market. Starting eight years ago, there was a large expansion of loans to homebuyers in the 'sub-prime market', that is, the segment of borrowers who are considered 'high-risk'—people with uncertain incomes, for instance.

There were two factors behind this credit expansion. Mortgage companies discovered the art of packaging bundles of different mortgages and selling them off to large investment banks. These miscellaneous bundles were difficult to value, leading to genuine miscalculations and the under-estimation of risk. But there was another, less understood problem. Each lender calculated that, in the event of a default, it would foreclose on the mortgaged property and recover much of the loan. When, comforted by this, lots of mortgage companies and banks began extending credit to the sub-prime market, one important constant changed.

Since the new home-buyers were more risky and many of them had taken 'teaser loans' (where the repayment burden is low to start with but grows rapidly later), the overall default rate rose. With so many homes coming back on the market, housing prices began to tumble. Suddenly the property that the banks were foreclosing on had less value, and the banks saw their own asset position deteriorating. Once news of this got out, there was a crisis of confidence with firms cutting back on investment and long-term contracts. That is when the big banks and insurance companies started collapsing.

The role of confidence in financial markets is complex. The broad outlines are best conveyed by a well-known Bengali short story by Shibram Chakraborty: one Saturday morning the narrator finds himself in desperate need of Rs 500. He goes to a gullible friend named Gobar and, by promising to return him the money by Wednesday, gets him to give the loan. Predictably, when Wednesday comes, the narrator is in crisis. So he goes to his old school friend Harsha, borrows Rs 500 with the promise of returning it by Saturday, and repays Gobar. On Saturday, he is back to Gobar for a loan once again. And this becomes a routine: take from one on Saturday, give it to the other; take from the other on Wednesday and return it to the former.

Crisis strikes one day at a street crossing when the narrator bumps into both of them. But he quickly recovers his equanimity, and says he is glad to see them together and has a simple suggestion that will save him a lot of time and leave their situation unaltered. Every Saturday, he tells Gobar, give Harsha Rs 500; and, every Wednesday, he tells Harsha, give Rs 500 to Gobar. Never stop and nothing will change.

Facetious though the story is, it explains the role of confidence well. If Harsha believes that the narrator will always have access to a loan from Gobar, it is safe for him to lend the money, and likewise for Gobar. The moment doubt enters one of their heads, the game is lost. The fear of a stoppage in lending can cause lending to stop.

It is this fragility of financial markets that makes intelligent regulation on the part of government so vital. In the US, the Glass-Steagall Act of 1933 was the bulwark of good finance.Wanton liberalisation of the law over the last several years and the failure of regulation to keep up with the growing complexity of markets prepared the brew for this crisis. Conservative thinkers, who say that it should all be left to the market, stand out not so much for their extreme ideology as for their stupidity. It is true that no one fully understands these crises, but there is enough research in economics now for us to know that if these fluctuations are to be kept within limits, there is no escape from intelligent regulation.

(Kaushik Basu is chairman and professor, Department of Economics, Cornell University. He will write a monthly column for Outlook).

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Saturday, 11 October 2008

Castoffs of the universe

Where's the rescue plan for the banks' unwanted human capital? Try this rehabilitation package

The Guardian,
Saturday October 11 2008
larger | smaller
Article history

For the first time for a long time the masters of the universe, our big banking friends, are finding that the universe is actually a cold, dark and generally inhospitable place. The government has very kindly bailed out the banks, but not much thought has been given to the bankers themselves. Fortunately I have given this a great deal of thought and have worked out a rescue plan for these individuals which will guarantee long-term growth for them personally.
The first thing I did was some simple maths. I stress simple as opposed to the highly complex maths that the masters of the universe did which came up with such brilliant algorithms as 0x1 =3. I have calculated that for the salary of one master of the universe you could pay for 200 bank clerks. Personal banking would be immeasurably improved by having real people involved, in the same way that policing would come on in leaps and bounds if it involved actual police where you needed them.
In my plan, everyone's current account would come with a clerk attached. This person would be your personal financial butler who would do everything for you stopping only slightly short of ironing your bank notes. They would be taught that their wages depended on your money and would very quickly become as interested in your financial health as you were. Getting money from a hole in the wall is very much like receiving your prison meal through a hole in your door. Much more satisfying would be a clerk in the window system, wherein a smiling official would sit behind a window and give you cash when you needed it. This would cut down substantially on chip and pin fraud as the clerk would ask for your mother's maiden name or, ideally, would actually know your mother.
Heartening though the sight of your own bank clerk waiting at the bus stop in the morning would be, it still leaves the problem of what to do with the redundant masters of the universe. My rescue plan sees fund managers reassigned as fund raisers. They would be in charge of jumble sales. Not once a year but every weekend. This would mean they would spend much of their working week collecting boxes of junk from people's garages and then delivering the junk back to different garages after it had been displayed all Saturday afternoon without selling. I know these guys are highly motivated and competitive so I would put them on performance-related pay. They will get 10% of the price they can get for the plastic baby doll with one arm. In this way they will get a new and finer appreciation of what it means to sell "junk".
As anyone with a useful trade will tell you, it's not easy to move from one trade to another. With this in mind I would keep hedge fund managers' job descriptions almost intact except for the letter "d". They would become a new business called Hedge Fun. As the name implies this would be a gardening and landscaping service with special emphasis on hedge and shrubbery maintenance. Having promised endless growth to their customers, they would now be in charge of controlling the only real source of endless growth, nature. Every hedge they trimmed would be a Promethean reminder of the limits of growth elsewhere.
I have given a lot of thought to short sellers. My immediate solution was to insist they wore shorts as a badge of honour for service to the community. But that would be short-changing them, which we wouldn't want to do as that would mean that we were no better than them. Short sellers are highly motivated and intelligent types who make their money spotting, encouraging and betting on failure. There are many roles open to this sort of person. One such would be an operative whose sole task would be informing people about personal failures such as their driving test, being dumped by their partner or contracting a terminal illness. The short seller would always be on hand to share the bad news. Their income would come from tips.
The heart of darkness of the current financial crisis is the nasty little derivatives that turned sow's ear mortgages into silk purse bonds. These perfectly married individual greed to corporate greed by removing the simple 1+1=2 equation from banking. Happily my plan will also help derivative traders. I estimate that there is about £1bn worth of coppers in circulation that no one's using. I think we should give all these coppers to the masters of the universe to help them out of their troubles, on the understanding that they count it. By hand. I am confident that by the time they've finished, if not before, they will have rediscovered the forgotten art of adding up.
• Guy Browning writes the How to column in Weekend magazine and is the author of Maps of My Life

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“Where Will The Money Come From?”

By Devinder Sharma

10 October, 2008
Countercurrents.org

Only a few months back, the day Finance Minister P Chidambaram in his budget speech announced Rs 60,000-crore loan waiver for the beleaguered farming community, there was an orchestrated outcry: "Where will this money come from?" Television anchors were visibly angry at this 'supposed windfall' for the farmers, the print media was outraged at this 'political and not economic' decision just before the ensuing elections, and the industry leaders were seen sulking.

Six months later, no one is asking the same question. With the global financial crisis failing to work itself out, the Reserve Bank of India (RBI) is under pressure to intervene. Soon after the Wall Street mayhem, the RBI had pumped in Rs 84,000-crore in the domestic banking system through liquidity facility adjustment. An additional Rs 20,000-crore has been released through a 0.5 per cent reduction in cash reserve ration (CRR).

Sounds technical but let me simplify. Liquidity in layman term means 'fund availability' or in simple words making available more cash. All over the industrialised world, governments are stepping in to provide more cash in the hands of the private banks, and India is no exception.

Despite the Finance Minister saying that the fundamentals are strong, the banks are on a massive borrowing spree. In the first week of October alone, they borrowed Rs 90,075-crore every day from RBI through liquid facility adjustment. In the days to come, the RBI is under pressure to release another Rs 30,000-crore through the CRR, and also to cut repo rate – the rate at which it lends to banks. And thanks to the loan waiver, the banks will receive another Rs 50,000-crore in the coming weeks as part reimbursement for the farm loan waiver and fertiliser loan.

Isn't it a fact that Rs 60,000-crore loan waiver (later enhanced to Rs 71,000-crore) was actually a relief to the banks? What seemed to be a 'political' decision in the name of pulling out the indebted farmers was actually meant to maintain and sustain the health of the banking system. If the government had not provided the loan waiver, banks would have been in terrible liquidity crisis. With farmers unable to repay, these banks would have been saddled with massive non-performing assets (or a shortfall in liquidity) or non-availability of Rs 71,000-crore in cash.

In other words, the loan waiver was a partial bailout for the banks. Now no one is asking: "Where will this money come from?" On the contrary, most analysts are asking for more 'speed and sagacity' to tide over the crisis.

If only such 'speed and sagacity' was shown to tide over the terrible agrarian crisis sweeping throughout the country for over a decade now, thousands of farmers would have been saved from committing suicide. If only the RBI had stepped in to make more cash (or liquidity) available, the nation could have easily provided an assured employment to each and every Indian not only for 100 days but for all the 365 days in a year. The National Rural Employment Guarantee Programme (NREGA) can be easily extended to bring every unemployed Indian under its gambit.

And it is here that I fail to understand the sagacious logic of keeping the poor hungry and then expecting a higher economic growth trajectory; of paying a multi-million dollar salary (in addition to lucrative perks) to the bosses of the banks and corporate houses and then make the man on the street pay for the losses; in other words the logic behind privatising the profits and socialising the losses.

Take the case of the bankrupt Lehman Brothers. While the shareholders in the company have been wiped out, Richard Fuld, its chief executive, walks away with US $ 480 million as his personal remuneration over eight years, and this includes a $ 14 million ocean-front villa in Florida, and a home in an exclusive ski resort. Lawmakers investigating the bailed out insurance company AIG, were shocked to learn that days after the government rescued the company, it unashamedly spent US $ 44,000 on a posh California retreat for its executives, complete with spa, banquets and golf outings.

Why blame the American corporate leaders when US president George Bush himself had given them a free rope: "Government should not decide the compensation for America's corporate executives." Probably what he meant was that come what may, the US government will continue to provide funds to meet obscene corporate salaries and perks.

Prime Minister Manmohan Singh too had removed the upper ceiling on corporate salaries. According to Merril-Lynch and Capgemini, driven by impressive economic gains and robust market capitalism growth in 2007, India led the world in High-Net-Worth-Individual population growth at 22.7 per cent. Two year earlier, in 2005, there were 83,000 high net worth individuals with a wealth of at least $ 1 million (and this does not include immovable property).

This brings me back to the same question. How long will the world go on encouraging an economic system that makes the rich richer and the poor poorer? While 36 billionaires in India have a collective economic wealth equivalent to one-third of the country's GDP, the country's 600 million farmers collectively account for only 17 per cent share. With every passing year, the share of agriculture in GDP continues to slide down still further. No wonder, the average monthly income of a farm household (which includes five members of a family and two cattle) does not exceed Rs 2,400.

Bailing out the farmers from a distressing situation is always considered to be bad economics. It is branded as a political compulsion, and the sooner politicians emerge out of it the better it would be for economic growth and development. This economic prescription, which every economists worth the name is willing to endorse, is invariably for the farming community, the landless workers and the marginalised communities. They need to learn to be enterprising, and therefore must stop living on government subsidies.

When it comes to the enterprising millionaires -- corporates and the banks -- government bailouts are not only a must, but should be done speedily. "Where will the money come from?" is not a question to be asked when you are subsidising the rich and the elite. It is their birth right. You need to understand.

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Friday, 10 October 2008

Monday, 6 October 2008

Faith. Belief. Trust. This economic orthodoxy was built on superstition.

There is no alternative, went the mantra. Now this corrupt mythology lies in tatters, the crisis of conviction is profound

- Madeleine Bunting
- The Guardian,
- Monday October 6 2008
- Article history

Over morning newspapers with the Today programme in my ear, I eye my garden nervously. If I ripped up the roses and the lavender, how many rows of potatoes could I fit in? Enough to feed a family? Is this madness or not? And why is it that I no longer trust the economists and policymakers to give me a straight answer to that question?
There is a strange air of suspense. Everyone agrees that things could get grim, but what does that mean? Grim, as in a bit of nasty unemployment, or grim, as in total economic breakdown with queues for soup kitchens and millions living off their allotments? If the latter sounds fanciful, there are countries like Argentina and Russia who can tell you from bitter recent experience what happens when economies collapse.
Gordon Brown, fearful of "self-fulfilling prophecies", instead offers a tinny upbeat message. Everyone knows now that it is all about confidence: will savers panic and move their money to Ireland, crippling British banks? The circumspection of the wise men becomes sinister. On the Today programme, John Humphrys pressed Richard Lambert, director general of the CBI, for his forecast. Lambert hesitated, replying with, "my hope is ...". "No, no," interrupted Humphrys, "what is your forecast?" There was another hesitation before Lambert nervously "forecast" a grim 18 months before life resumed as normal. It sounded like a hope. No one has any idea what is going to happen.
No sooner do economists or government ministers make a pronouncement using words such as "impossibility", "unlikely" or "never", than they are having to eat them. If these are uncharted waters then perhaps we are at the moment when the tsunami is visible on the horizon, and the tide has suddenly retreated, and fish are stranded, gasping for oxygen all over the beach.
But don't get too bogged down in seed catalogues (and forget trying to get your head around collateralised debt obligations - even the Financial Times's banking correspondents admit it is "fiendishly complicated"), the average citizen has a far more important plot to unravel: how did we get in this mess, and how do we make sure it doesn't happen again?
Answering these two questions does not require a crash course in City finance and economics, because this crisis is as much about politics and ideology as anything. If you're pressed for time, the reading list can be very short. Key is Karl Polanyi's The Great Transformation, published in 1944, an economic history which sets out to explain 1929, the Great Depression and the rise of fascism. Polanyi's book came out the same year as another influential Austrian economist, Friedrich Hayek, brought out the central text of neoliberalism, The Road to Serfdom.
Hayek became the founding father of a model of economic management which has brought us to the current crisis; Polanyi, with extraordinary prescience, warned that the crisis would come; he rejected the idea that the market is a "self-regulating" mechanism which can correct itself. There is no "invisible hand" such as the neoliberals maintain, so there is nothing inevitable or "natural" about the way markets work: they are always shaped by political decisions.
At the time Polanyi was writing, there were many who agreed with him that free-market capitalism was chronically and destructively unstable, with terrible political consequences. But in the 70s and 80s, Hayek's neoliberalism began to take hold on the US ruling elite, Margaret Thatcher was recruited - and in due course Tony Blair and Gordon Brown. "Roll back the state, leave the economy to run itself" has held sway ever since. As Ann Pettifor points out on her website, debtonation.org, Alan Greenspan wrote enthusiastically in August that "the past decade has seen mounting global forces (the international version of Adam Smith's invisible hand) quietly displacing government control of economic affairs". He blithely continued that the greatest danger facing the economy was that "some governments, bedevilled by emerging inflationary forces, will endeavour to reassert their grip on economic affairs". Last week, Greenspan did a gigantic volte-face as he pleaded for government to do just that - reassert its grip in the form of the bail-out.
We are now learning what countries across the developing world have experienced over three decades: unstable and inequitable neoliberal economics leads to unacceptable levels of social disruption and hardship that can only be contained by brutal repression. Add that to the two other central charges against deregulated capitalism: first, it may create wealth but it does not distribute it effectively; and second, that it takes no account of what it cannot commodify - neither the social relationships of family and community nor the environment, which are vital to human wellbeing, and indeed to the functioning of the market itself. Ultimately, neoliberal capitalism is self-destructive.
We are now witnessing the collapse of this absurd economic orthodoxy that has dominated politics for nearly 30 years. Its triumphalist arrogance, its insistence on orthodoxy, has been comparable to Soviet communism in its scale. For two decades, we've been told "Tina" - "There is no alternative".
Economists talk of trust, belief, faith; we now understand that all along neoliberal capitalism was a form of mythology. That's why the triumphalism was necessary - you could not afford to have anyone challenge the system or we might all realise we were gawping at the emperor's nakedness. Rowan Williams was right to quote Marx, that "unbridled capitalism becomes a kind of mythology, ascribing reality, power and agency to things that have no life in themselves". Richard Dawkins should be critiquing this superstitious belief system.
Fortunately Thomas Frank did so in his brilliant book, One Market Under God (2001). This is the second book on the reading list, because it explains how neoliberalism entrenched its triumphalism into the political system of the US; how it marginalised and delegitimised all challenge and established hegemony in the so-called free world.
Now, as it all totters, we can take stock. We can ask how and why the critique - of which Frank was a part and Polanyi the bible - which was emerging in the late 90s was crippled. The anti-globalisation movement argued that neoliberal capitalism was unjust, unstable and destructive to human and environmental wellbeing. Sounds sensible now, but at the time it mysteriously got smeared by association with anarchists with a penchant for smashing Starbucks' windows. The broad network of social grassroots movements - US unions, Mexican peasants, Indian farmers - were misnamed, misunderstood, ridiculed and ignored. There is no alternative, the politicians intoned mantra-like.
Then 9/11 and for the next seven years a sideshow was offered as a distraction with caricature villains and thriller drama. While eyes were on the absurd charade of the "threat of Islamist terrorism to western civilisation", the real doomsday scenario that poses a far greater threat to western civilisation (whatever that is) was gathering pace right next to Ground Zero, in Wall Street.
As in all mythologies, the only option, according to Timothy Garton Ash (not noted for his religious faith) on these pages recently, is to pray. What makes me frightened is that this is a corrupt mythology which, like that of the Aztecs, may require a lot of human sacrifice.

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Sunday, 5 October 2008

Grassroots Movements, Global Elites And Political Economy

By Pablo Ouziel

04 October, 2008
Countercurrents.org

What a week we have all had. I guess for those of us who make it to the weekend without a single scratch, it will be important to sit quietly in a corner making plans for the future. Obviously the time for tunnel vision and full faith in 'somebody' at the top having some mercy on us, must be quickly diffusing into an alternate form of thought. At least that is what I would hope for, because although the social inclination so far seems to be the blaming of a few rotten apples, based on my observations, I have no choice but to accept that the whole apple basket seems to be fairly rotten.

All I have heard on the streets over the last few days are words about the financial crisis. Everyone all of a sudden is concerned about their mortgage, their savings, their retirement, their stocks or more importantly, their jobs. Dismal economic data keeps propping up on every major newspaper and news channel and talk shows are packed with voices talking about the dire straits of this economic Armageddon. Yet, I can't help ask myself if we are all simply asleep or we are too scared to face the truth.

Almost everyone whom over the last decade of economic arrogance and pedantic borrowing preached about the power of the western world and its economic might, has all of a sudden turned around and become a spoke person for panic itself. Yet for the layperson it doesn't seem to matter. If it did, grassroots movements would be picking up traction and the global elites would be held accountable for their crimes. Too early for that, society is still not ready to come to terms with the fact that leaders are a reflection of the people they lead. I am inclined to believe that it will take a lot more pain, many more lies, and much larger panic before citizens stand up and react to this catastrophic social tsunami.

Yes, it is true that those at the top are enjoying the ride, or we could say were enjoying the ride - it now seems to be a little more bumpy. Yet the very fact that they haven't been held accountable by the rest of us is a reflection of collective guilt, and all who cry today are doing so because of our past general indifference. So what can one do?

Perhaps the first thing we must all do is acknowledge that the financial panic we are facing is a lot deeper than what is presented through the media, and understand that the problem is systemic. The sooner we come to terms with this, the sooner we will be able to find real solutions. Developed countries are living way over their means and no matter how we try to prop it up, sooner or later the deck of cards is going to collapse. From my humble opinion, the sooner that happens the better, because with everyday that passes, the eventual landing gets much more painful.

The second point we are going to have to grapple with is the fact that the great majority of society has been too laissez-faire to predict what was heading our way and is today an apparent reality; the fact that our casino culture of gambling the world away was always a finite proposition which politicians and economists perpetuated to eternal existence, while the thirsty masses accepted it without question.

Thirdly, it will be incredibly important for those members of society who see themselves as belonging to the middle class and who have acquired that perceived status through debt, to accept their rank in the working class and unite again with their peers. This point is of particular importance because it has been the sole illusion of an imaginary middle class which has kept the bubble rising and when it bursts, millions of hypnotized believers will fall hard and will need to be picked up by the very group they left behind when they abandoned the class struggle.

Fourthly, we are all going to have to get used to the situation we have collectively generated, we are hostages to our own creation. The governments are there because we elected them and the banks are there because we trusted them without asking questions.

Despite all this, it remains crucial that we have a collective wakeup and begin to understand that as we strategize about our own personal situation, those who laid the foundations for this ugly mess we are faced with are still the global elite and they still hold the reigns of power. So, as we do our own accounting and plan for our own personal security, it will do us no harm and possibly a lot of good, to start looking at the world from a political economy perspective. We must understand that politics, economy and war are all intertwined variables of our current state of affairs. We must understand, that geopolitical events are all in some way linked to these three variables. I say this, because although we are no longer able to stop the deterioration of our financial systems and economies, we might be able through joint and organized collective action, to avoid worse events from unraveling.

The warning signs of economic deterioration begun a longtime ago, the majority chose to ignore them, and because of that we are all here today. Now the alarm bells of increased military confrontation are sounding loud and clear, I only hope we are all able to hear them and that our words speak louder than guns. One thing is certain, as President Dmitri Medvedev of Russia said today, the U.S. crisis shows that "the times when one economy and one country dominated are gone for good," as he concluded, the world no longer needs a "megaregulator." Although I believe this statement to be true, I fear that the U.S. elites, together with the elites of allied countries, will not let go of their perceived upper hand, and might be warming up to more war.

Sir Sherard Cowper-Coles, the British ambassador in Kabul already believes the war in Afghanistan is as good as lost, and the war in Iraq seems to be on the same destructive path. Yet, as Russia prepares to fly its supersonic Tu-160 nuclear bombers as part of its largest air force exercises since the collapse of the Soviet Union, the whole concept of war that westerners are used to could be escalating towards a more vivid reality. I hope the citizens of the west can understand this, and for once before it is too late, we can unplug our brains from the corporate propaganda system, which our elites have so carefully instituted, and we can do something about it. As for the Russians, Afghans, Iraqis, North Koreans, Chinese and others, let them stand up to their own governments, and once we are all doing that, let us neutralize their actions by holding hands and shouting stop!

Pablo Ouziel is a sociologist and freelance writer

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Saturday, 4 October 2008

Enron was the pit canary, but its death went unheeded

History is repeating itself as companies hide debt, blame the market for their failings and expect the taxpayer to pony up

Bethany McLean
The Guardian,
Saturday October 4 2008

Bad experiences are supposed to be good, in a twisted sort of way. That's because we're supposed to learn things that help us avoid the same mistakes the next time around. But it's hard to argue now that anything good came out of the bad experience called Enron. In fact, one thing that is crystal clear amid all the chaos of these days is that the lessons from Enron went unlearned - or were just forgotten.

Start with the Houston-based energy trader's notorious lack of transparency. After Enron's implosion, everyone talked about how important it was to be able to understand how a company makes money. Now raise your hand if you understand how a modern financial services firm makes money. No hands? The truth is, there is no way to understand. These companies are as opaque as Enron. Just as Enron had off balance-sheet vehicles - SIVs - that allowed it to book earnings and hide debt, Citigroup and other financial institutions had structured investment vehicles that did the same. Indeed, Citigroup had to take almost $50bn of SIVs back on to its balance sheet after they ran into trouble. It would be nice if the accounting rule-makers would grasp this basic tenet: if they want to hide it, we want to know about it.

Of course, SIVs are only a small manifestation of the deeper problem, which is the evolution of financial engineering into a dark art. Enron now seems like the canary in the coal mine. After its bankruptcy, Steve Cooper, who was in charge of restructuring it, told the Wall Street Journal his task might leave him "in a wheelchair and drooling" due to the complexity of its financial structures and the "unbelievable amount of debt accumulated around the company". Doesn't that sound like our entire financial system?

Just as Enron packaged bad investments into a private equity fund run by its chief financial officer, Wall Street packaged mortgages given to people who couldn't afford the payments into sleek new instruments called RMBS and CDOs. But Enron's machinations couldn't make the losses go away, and Wall Street's shiny acronyms can't turn a defaulted mortgage into good money.

As for the lessons we've forgotten, how about this one: financial statements aren't supposed to be fairytales. Enron was castigated for its abuse of mark-to-market, or fair value, accounting. This is supposed to allow investors to see what the market says a security is worth, instead of just what the company paid for it. Employed correctly, it makes a company's finances more transparent. But we all joked that Enron didn't mark to market - it marked to myth, to whatever it wanted them to be. In this, the US regulatory agency, the SEC, was complicit, because it signed off on Enron's use of this accounting and never ensured it wasn't abusing the rules.

Today's mark-to-market saga has a new twist. The SEC is facing political pressure to abolish mark-to-market accounting requirements for financial institutions, and some in Congress would like to dig mark-to-market's grave. Said in another way, now financial services firms may be allowed to deceive investors about their status, with the regulators blessing that deceit. (An aside here. Those who say mark-to-market should be abolished argue that because there is no market, firms are being forced to value these securities at artificially low levels. But there is no market precisely because firms aren't willing to sell at a price at which a reasonable investor would buy.)

While for a short period in the aftermath of Enron, we did understand that short-sellers serve a good purpose, we have also forgotten that. Short-sellers were the first to warn there were problems at Enron. But today, nobody is thanking short-sellers like David Einhorn, a hedge fund manager who began to warn investors about Lehman's problems in March, when the stock was worth about $50. Instead, companies say the short-sellers are to blame for their problems. And the SEC has gone along with this and banned short-selling in a number of stocks. Poor Washington Mutual and Wachovia, which plummeted after the ban on short-selling. How will they explain what happened to them now they can't blame short-sellers?

Which leads to the most sobering repeat lesson of all. Most of the believers in the free market only believe in it when it is going their way. When it doesn't, it's someone else's fault. Enron's former leaders often cited their free-market beliefs. Its demise, they said, was due to a short-sellers' conspiracy.
Indeed, when all was booming, Wall Streeters said they deserved their pay because the market said they were worth it. But now things are falling apart, they say the market doesn't work, and we need to stop short-selling, and taxpayers need to pony up. If there is a tiny bit of good in all this, it's that Wall Street, although it was complicit in the Enron mess, managed to walk away relatively unscathed. This time, Wall Street has brought itself down. Then again, maybe it really isn't a good sign for the future that there don't seem to be any smart guys anywhere in the room.

• Bethany McLean is a contributing editor at Vanity Fair and co-author of The Smartest Guys in the Room bethany.mclean@gmail.com

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Thursday, 2 October 2008

Johann Hari: This crisis is also a big opportunity

A 2008 New Deal could start by shutting down the world's tax havens

Thursday, 2 October 2008

It was slower. It was quieter. It looked for a moment only like a stream of suited men carrying cardboard boxes. But the Great Crash of 2008 is going to change your life, as surely as the last time we all stared at footage from Lower Manhattan and Washington DC and asked, how did this happen?

The world looks different now. Even if the bailout finally goes ahead, credit is drying up; unemployment is sure to swell; and the dogma-dream that drove Western politics for 30 years is dead. So why am I feeling – tentatively, terribly – optimistic? Because great crises can spur great changes. As we slough off the deadening delusions that have dominated our thought for so long, new and better worlds become possible.

But before we figure out what the world will look like when the rubble is cleared away, we need to understand how this happened. What brought us to this thud? Who put the Dow into downturn? For 30 years, conservative politicians have – often with good intentions – conducted an experiment. They believed markets work best when government monitors them least. So they steadily stripped away the restraints on corporations that were put in place after the Great Crash of 1929. Regulations? Rules forbidding dodgy mortgages? Trade unions? Progressive taxation? These simply got in the way of generating wealth, damaging us all. Once you removed all these "distortions", the market would create equilibrium and growth for all.

But now we know. The ideology was given free rein – and it has come to this. If you recreate the economic conditions of 1928, 1929 soon follows. Franklin D Roosevelt introduced rules watching big businesses closely for fraud or gambles that could bring the whole system crashing down. Politicians Greenspanning across the 1980s and 90s – both Republican and Democratic, Conservative and Labour – rolled it all back, so businesses could suddenly behave in risky and bizarre ways again. Corporations were now allowed to sell houses to people with terrible credit ratings at astronomical interest rates, while risking virtually no capital of their own. They could then repackage these lousy mortgages as bonds and scatter them throughout the global banking system like landmines. We have deregulated ourselves to the brink of a depression.

It turns out markets are like yeast. Without yeast, your bread won't rise. But if you leave out all the other ingredients, then you will be left with nothing but an inedible fungus. But this is also why the talk of "the end of capitalism" isn't quite right – and actually gives the people responsible for this crash a glib get-out.

"Capitalism" isn't a monolithic block. There are many ways of using markets as a wealth-generating tool without turning them into a Golden Calf. In Scandinavia, they have married markets to a state that takes more than 50 per cent of GDP to lift up everyone left out by the market and green the economy – and it has produced the happiest, most productive societies on earth. It's called social democracy. It's a form of tethered capitalism protected by a strong state from its own destructive impulses – and it works.

So what has died this week is not capitalism but its most fanatical Gordon Gekko wing: the one that has dominated debate for decades now. The belief that markets are self-correcting, or naturally produce equilibrium, turns out once more to be a piece of pure theology. Without a steel cage built of state regulation and trade unionism, markets will cannibalistically feed upon their own flesh.

The last Wall Street Crash produced the New Deal in the US, but this time any reaction confined to just one nation will fail. Markets are now global, even as their regulators remain stuck at national borders forlornly clutching their passports. If we are really going to check and balance markets properly, we need a global New Deal. Of course the most obvious forms of fraud and folly that precipitated the crash must be stopped first – but the mooted proposals for new global financial regulators should only be the beginning. This is a moment not just to send in the fire engines, but to think big.

Here's how a global New Deal could work. Shut down the world's tax havens, so the super-rich who caused this crisis can no longer wriggle out of contributing to the societies in which they live. Some $23trn (£13trn) is stored away in them. Of course the tax haven-lovers will squeal that it's impossible – but after the 9/11 massacres, every single one blocked al-Qa'ida's accounts in the face of US demands within weeks. At the same time, introduce a Tobin tax – a 0.1 percent surcharge on all international currency speculation. And start severely fining corporations that commit crimes abroad, instead of coddling them.

The loose change from these three measures would be enough to pay for the current bailout, and any others to follow. But the bulk of the proceeds should be used to stimulate the economy amidst collapsing markets – and there is a way to do this that simultaneously deals with the other even greater meltdown: man-made global warming.

In the first New Deal, Roosevelt employed three million people to work in America's great parks and to clean the environment. Today, a global New Deal could generate tens of millions of good jobs securing the transition away from an ecocidal economy to a sustainable one. It is a huge and urgent job. This would be state action saving the market from itself twice over: there wouldn't be much market activity on a planet that is melting and sweltering.

None of this will come easily. The New Deal wasn't simply handed down by Franklin Roosevelt: it was demanded by millions of people furious that their government had sold them out for so long. The entrenched interests fought hard to maintain their world, their way; they'll do it again. But a global New Deal can happen – because it must. The old dogmas – that state action suffocates the economy – will still be mouthed, but an ever-more sceptical public will remember this week, when Wall Street came begging for state action to prevent economic collapse.

In the darkness, a sea of shimmering opportunities has just opened up. Market fundamentalism is dead. Long live the New Deal – and active, regulating, redistributing government.

Wednesday, 1 October 2008

Bridge Loan to Nowhere

By Thomas Ferguson & Robert Johnson

September 22, 2008

In the movie Men in Black, Will Smith and Tommy Lee Jones team up to save the world by resolute preventive action. By contrast, America's real-life Men in Black--Treasury Secretary Hank Paulson, Federal Reserve Chair Ben Bernanke and New York Fed President Timothy Geithner--haven't done as well lately. Ever since that classical day of reckoning, the Ides of March 2008, when the terrifying specter of chain bankruptcy and currency collapse first loomed over lower Manhattan like an attacking spaceship because of Bear Stearns, it's been downhill.

A little over a week ago, the Men in Black made a fatal mistake. They allowed the aliens to vaporize the proud old firm of Lehman Brothers. Whole fleets of spaceships then immediately began attacking AIG, Wachovia, Washington Mutual, even Morgan Stanley and Goldman, Sachs. Now desperate, the Men in Black switched back to their old tactics and rescued AIG, but the damage had been done. The aliens had learned from Lehman and AIG how vulnerable Wall Street really was. Soon inter-bank markets everywhere in the world locked up. With financiers preferring treasuries that paid essentially nothing to every other asset in the world, huge runs started on money market funds.

In response, the Men in Black have now gone to Congress. They have put a check for $700 billion and a loaded gun on the table. Sign the check, they insist, and give us unreviewable power to buy bad assets, or take responsibility for the collapse of the whole financial system and, likely, the world economy.

In America's money-driven political system, leaders of both parties love to pretend that the sound of money talking is the voice of the people. Both presidential candidates and Democratic Congressional leaders are mostly nodding, with the Democrats adding trademarked noises about balancing off gifts to Wall Street with mortgage relief, another small economic stimulus program and perhaps some curbs on executive pay. Meantime, save for a handful of splendid exceptions, notably Gretchen Morgenson of the New York Times, American newspapers just keep giving their readers more reasons to keep deserting them.

Actually, there are one or two things to like in the Men in Black's latest scheme for the Mother of All Bailouts. The economic case for single-payer insurance has always been overwhelming. With all the new precedents--Bear Stearns, Fannie, Freddie, AIG, and one, two, three, many more coming-- who would now dare deny the American people a chance for similar efficiencies in health insurance?

We also confess to having a soft spot for the New Deal--that remarkable moment that gives the lie to all of today's fashionable sneers about the impossibility of effective financial regulation. We just wish that the Men in Black would draw inspiration from something besides the anachronistic language of the Gold Reserve Act of 1934, which tried to make Treasury's decisions about the Exchange Stabilization Fund unreviewable by anyone else. (See the new plan's incredible Section 8, something you would think only Dick Cheney could love.)

And who can deny it? All the "Comrade Paulson" jokes should at least be good for a decent respite from Market Fundamentalism--the notion that unregulated markets automatically give you full employment and economic stability. Right now every individual financial institution is deleveraging--that is, reducing its use of borrowed money--at a terrifying pace. Financial houses are trying to recapitalize themselves by gouging depositors, borrowers, investors and credit card holders. As a group, they cannot succeed. They are collectively digging themselves into a black hole in which the gain of one is the loss of another, unless somebody from outside puts in new money.

Paulson does not exaggerate when he implies that just soldiering on and letting markets work will trigger a depression and collapse of the currency. But if it's high time for some Big Government, the Men in Black's plan is not the way to go, unless you work on Wall Street. And even if you do, there are compelling reasons to fear it.

The plan's belated focus on a systemic solution designed to reopen money and financial markets to normal transactions is exactly right. Currently there is simply too much junk out there for anyone in money markets to be sure of getting repaid if they loan to anyone else, even overnight. Everyone knows that other institutions are full of bad assets that are hugely depressed; but each sees for sure only their own desperate condition. So nobody trusts anybody.

But there is more than one way to restore trust and restart markets. Alas, not only is the plan the Men in Black are pushing the most expensive and likely to soak average Americans the most, but it is also the most likely to fail.

What Might Work

You could simply take a leaf from the New Deal and do a bank holiday. That is, send bank examiners into all the institutions-- investment houses, and insurance companies and the other major players, as well as banks--to assess them. Insolvent ones are simply closed; everyone knows then that those that survive are solvent. Economic life restarts. The total cost is minimal. In the nineties, under Greenspan, the Fed ran away from its duty to oversee primary dealers in government securities. Voting it sufficient authority to do the job not just on Wall Street and the banks, but in any part of the system not covered by effective regulators would be far less expensive than the Men in Black's scheme.

Guess why Wall Street hates this one and why Bernanke (whose work on the New Deal is indeed distinguished, though many of his hypotheses have since been refuted ) and Paulson do not even consider it. In all likelihood much of the Street is insolvent, which is why short-sellers were going wild until the SEC banned restricted them.

The government could inject capital directly into financial institutions with a reasonable prospect of survival in the long run. This was the essence of Senator Schumer's proposal that surfaced just ahead of Paulson's announcement and that triggered the rally in world financial markets. The New Deal did this, too. It used the Reconstruction Finance Corporation, which put severe terms on the banks receiving the aid. Wall Street, of course, would love the money, but not the terms. Somebody to inspect and certify the solvency of financial houses is also a requisite for this option, which, as already noted, is anathema to the Street.

The Men in Black's choice: just have the government buy the junk, giving Wall Street real money--our money--in exchange for it. Notice three points about this one: First, the lucky firms continue merrily in business. Thus far Paulson and Bernanke's plan does not even pay lip service to reforms. It is also well to remember that as the crisis hit, Paulson was at work on a preposterous scheme calling for more deregulation on grounds that New York faced competition from foreign financial markets. It is obvious where the former Goldman Sachs CEO's heart lies.

Second, there is a truly alarming likelihood that $700 billion will probably not be enough. Estimates of the total amount of junk out there vary, but the key point to hold fast to is that Bernanke, Paulson, and most financial experts have consistently underestimated the problem. Nor is there any reason to believe their forecasting is improving. Less than a fortnight ago, as Lehman was let go, the Fed was boasting that it now had a much better grip on markets than it did when Bear Stearns went down. It seems clear that even under this option, the bank inspectors had better be unleashed before much money goes out the door. Otherwise, we may well end in the worst of all possible worlds: the $700 billion is gone, but trust in the money markets remains elusive.

Third, the draft plan is silent on the prices at which assets are to be bought and, presumably later, resold. The problem of possible sweetheart deals is real and has to be addressed. Already there are reports on the web that the Treasury believes such methods are really rough-and-ready ways to get aid to firms that need it. There is also little doubt that politics colored some assets sales by the Resolution Trust Corporation, set up during George H.W. Bush's administration to dispose of debris from the S&L crisis.

Under both options 2 and 3 above, it is vital that Congress insist on reasonable terms for the public. Just as with Bear Stearns, the mere announcement of the bailout sent financial markets around the world soaring. There is absolutely no reason why some of the gains accruing both to private investors in the companies directly being bailed out and the broader market cannot be recaptured for taxpayers whose money makes it all possible.

It is easy. You can do it, for example, by taking equity in the firms you bail out and selling later. We prefer this to warrants, which are rights to buy shares at a low price that ensure a gain when they are finally exercised. Our fear is that coalitions of firms will do what Chrysler did and organize later to pressure the government not to exercise the warrants. Because there will be many of them, they are more likely to succeed.

It also makes sense to insist that firms receiving aid issue senior debt to the government with rights over all other bonds, etc., they have outstanding. That's to make sure some money comes back right from the start and that managements cannot keep all the earnings for themselves by reducing accounting profits and paying themselves more.

To recapture some of the broader market gains flowing from the injection of public money, one could place a modest new tax on interest, dividends, capital gains. "Carried interest," the ludicrous special tax break for private equity and hedge funds that not only Republicans but Senator Schumer and other Democratic Congressional leaders continue to defend, should go as part of any political deal on a bailout. It is beyond crazy to ask American workers to subsidize firms that will soon be back trying to break up their firms and throw their rescuers out of work.

And finally, obviously, it is necessary to re-regulate. Details of some reforms might require time to work out, though we see no reason they should be any more intractable than details of a bailout, which Paulson and Bernanke want to do almost overnight. Our general view is that handing out money before nailing down reforms is too dangerous; Congress should legislate at least the basics, with a promise to fix details later. If Wall Street does not like it, it does not have to accept the money.

It helps that the main reforms necessary are obvious. Compensation practices that encourage taking big risks that blow up after bonuses are paid have to go, immediately. Limits on leverage--how much financial institutions can borrow--are another no-brainer. Probably there is also need for new rules on reserve requirements across the board and restrictions on the use of insured deposits.

Above all, trading in complex derivatives--the main cause of the current disaster--has to be completely overhauled, at once. Derivatives have to be standardized and move to public exchanges that collectively guarantee them. Failure to do this will just start the whole nonsense over again. Just imagine being told a year from now that losses on credit default swaps written by firms that were bailed out under the new plan require us to pony up still more cash.

Congressional Options

It is fine for Democrats to hold out for mortgage relief and for another stimulus package. The best way to do the first, probably, is by reviving something like the Home Owners Loan Corporation that worked so well in the New Deal. That bought mortgages from people who were in danger of losing their houses and converted them into obligations that they could afford to repay. This sort of bailout has the wonderful property of directing public money to the public, rather than Wall Street. But it would still bail out Wall Street, since reviving housing and stopping mortgage defaults feeds directly through to mortgage bonds values and derivatives based on them.

But no one should be fooled by Democratic talk about mortgage relief and economic stimulus. The main focus of the design of the bailout must be the bailout itself. That is the rat hole down which $700 billion and probably plenty more will soon start disappearing if Congressman Barney Frank, Senator Dodd and, of course, Senator Obama do not walk the walk instead of just talking the talk.

The situation is dire, but it is not hopeless. A flurry of discussions with other central banks and governments may soon produce claims that international agreements hem in legislators here. Congress has a straightforward counter to this and any manipulative threats of economic collapse: Turn the gun around. Move every bit as speedily as Paulson and Bernanke demand, but pass a bill that anyone can see protects the public far better than the Men in Black's proposal. If President Bush--remember him?--refuses to sign it, make it obvious to voters who's really crashing the system for private gain. All of the House and a third of the Senate are up for re-election. Enough votes can probably be found from among Republicans who would like to survive a Democratic landslide to pass something far better than the Men in Black's bridge loan to nowhere.

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About Thomas Ferguson
Thomas Ferguson, a contributing editor of The Nation, is professor of political science at the University of Massachusetts, Boston. He is the author of Golden Rule: The Investment Theory of Party Competition and the Logic of Money-Driven Political Systems (Chicago). His latest article, with Joachim Voth, is "Betting On Hitler: The Value of Political Connections in Nazi Germany," in the February 2008 Quarterly Journal of Economics. more...
About Robert Johnson
Robert Johnson, a former managing director at Soros Funds Management, is chief economist of the Senate Banking Committee.

A Shattering Moment In America's Fall From Power

By John Gray

30 September,2008
The Observer

Our gaze might be on the markets melting down, but the upheaval we are experiencing is more than a financial crisis, however large. Here is a historic geopolitical shift, in which the balance of power in the world is being altered irrevocably. The era of American global leadership, reaching back to the Second World War, is over.

You can see it in the way America's dominion has slipped away in its own backyard, with Venezuelan President Hugo Chávez taunting and ridiculing the superpower with impunity. Yet the setback of America's standing at the global level is even more striking. With the nationalisation of crucial parts of the financial system, the American free-market creed has self-destructed while countries that retained overall control of markets have been vindicated. In a change as far-reaching in its implications as the fall of the Soviet Union, an entire model of government and the economy has collapsed.

Ever since the end of the Cold War, successive American administrations have lectured other countries on the necessity of sound finance. Indonesia, Thailand, Argentina and several African states endured severe cuts in spending and deep recessions as the price of aid from the International Monetary Fund, which enforced the American orthodoxy. China in particular was hectored relentlessly on the weakness of its banking system. But China's success has been based on its consistent contempt for Western advice and it is not Chinese banks that are currently going bust. How symbolic yesterday that Chinese astronauts take a spacewalk while the US Treasury Secretary is on his knees.

Despite incessantly urging other countries to adopt its way of doing business, America has always had one economic policy for itself and another for the rest of the world. Throughout the years in which the US was punishing countries that departed from fiscal prudence, it was borrowing on a colossal scale to finance tax cuts and fund its over-stretched military commitments. Now, with federal finances critically dependent on continuing large inflows of foreign capital, it will be the countries that spurned the American model of capitalism that will shape America's economic future.

Which version of the bail out of American financial institutions cobbled up by Treasury Secretary Hank Paulson and Federal Reserve chairman Ben Bernanke is finally adopted is less important than what the bail out means for America's position in the world. The populist rant about greedy banks that is being loudly ventilated in Congress is a distraction from the true causes of the crisis. The dire condition of America's financial markets is the result of American banks operating in a free-for-all environment that these same American legislators created. It is America's political class that, by embracing the dangerously simplistic ideology of deregulation, has responsibility for the present mess.

In present circumstances, an unprecedented expansion of government is the only means of averting a market catastrophe. The consequence, however, will be that America will be even more starkly dependent on the world's new rising powers. The federal government is racking up even larger borrowings, which its creditors may rightly fear will never be repaid. It may well be tempted to inflate these debts away in a surge of inflation that would leave foreign investors with hefty losses. In these circumstances, will the governments of countries that buy large quantities of American bonds, China, the Gulf States and Russia, for example, be ready to continue supporting the dollar's role as the world's reserve currency? Or will these countries see this as an opportunity to tilt the balance of economic power further in their favour? Either way, the control of events is no longer in American hands.

The fate of empires is very often sealed by the interaction of war and debt. That was true of the British Empire, whose finances deteriorated from the First World War onwards, and of the Soviet Union. Defeat in Afghanistan and the economic burden of trying to respond to Reagan's technically flawed but politically extremely effective Star Wars programme were vital factors in triggering the Soviet collapse. Despite its insistent exceptionalism, America is no different. The Iraq War and the credit bubble have fatally undermined America's economic primacy. The US will continue to be the world's largest economy for a while longer, but it will be the new rising powers that, once the crisis is over, buy up what remains intact in the wreckage of America's financial system.

There has been a good deal of talk in recent weeks about imminent economic armageddon. In fact, this is far from being the end of capitalism. The frantic scrambling that is going on in Washington marks the passing of only one type of capitalism - the peculiar and highly unstable variety that has existed in America over the last 20 years. This experiment in financial laissez-faire has imploded.While the impact of the collapse will be felt everywhere, the market economies that resisted American-style deregulation will best weather the storm. Britain, which has turned itself into a gigantic hedge fund, but of a kind that lacks the ability to profit from a downturn, is likely to be especially badly hit.

The irony of the post-Cold War period is that the fall of communism was followed by the rise of another utopian ideology. In American and Britain, and to a lesser extent other Western countries, a type of market fundamentalism became the guiding philosophy. The collapse of American power that is underway is the predictable upshot. Like the Soviet collapse, it will have large geopolitical repercussions. An enfeebled economy cannot support America's over-extended military commitments for much longer. Retrenchment is inevitable and it is unlikely to be gradual or well planned.

Meltdowns on the scale we are seeing are not slow-motion events. They are swift and chaotic, with rapidly spreading side-effects. Consider Iraq. The success of the surge, which has been achieved by bribing the Sunnis, while acquiescing in ongoing ethnic cleansing, has produced a condition of relative peace in parts of the country. How long will this last, given that America's current level of expenditure on the war can no longer be sustained?

An American retreat from Iraq will leave Iran the regional victor. How will Saudi Arabia respond? Will military action to forestall Iran acquiring nuclear weapons be less or more likely? China's rulers have so far been silent during the unfolding crisis. Will America's weakness embolden them to assert China's power or will China continue its cautious policy of 'peaceful rise'? At present, none of these questions can be answered with any confidence. What is evident is that power is leaking from the US at an accelerating rate. Georgia showed Russia redrawing the geopolitical map, with America an impotent spectator.

Outside the US, most people have long accepted that the development of new economies that goes with globalisation will undermine America's central position in the world. They imagined that this would be a change in America's comparative standing, taking place incrementally over several decades or generations. Today, that looks an increasingly unrealistic assumption.

Having created the conditions that produced history's biggest bubble, America's political leaders appear unable to grasp the magnitude of the dangers the country now faces. Mired in their rancorous culture wars and squabbling among themselves, they seem oblivious to the fact that American global leadership is fast ebbing away. A new world is coming into being almost unnoticed, where America is only one of several great powers, facing an uncertain future it can no longer shape.

• John Gray is the author of Black Mass: Apocalyptic Religion and the Death of Utopia (Allen Lane)

The Creation Of The Second Great Depression

By Ron Paul

30 September, 2008
Countercurrents.org

Whenever a Great Bipartisan Consensus is announced, and a compliant media assures everyone that the wondrous actions of our wise leaders are being taken for our own good, you can know with absolute certainty that disaster is about to strike.

The events of the past week are no exception.

The bailout package that is about to be rammed down Congress’ throat is not just economically foolish. It is downright sinister. It makes a mockery of our Constitution, which our leaders should never again bother pretending is still in effect. It promises the American people a never-ending nightmare of ever-greater debt liabilities they will have to shoulder. Two weeks ago, financial analyst Jim Rogers said the bailout of Fannie Mae and Freddie Mac made America more communist than China! “This is welfare for the rich,” he said. “This is socialism for the rich. It’s bailing out the financiers, the banks, the Wall Streeters.”

That describes the current bailout package to a T. And we’re being told it’s unavoidable.

The claim that the market caused all this is so staggeringly foolish that only politicians and the media could pretend to believe it. But that has become the conventional wisdom, with the desired result that those responsible for the credit bubble and its predictable consequences – predictable, that is, to those who understand sound, Austrian economics – are being let off the hook. The Federal Reserve System is actually positioning itself as the savior, rather than the culprit, in this mess!

* The Treasury Secretary is authorized to purchase up to $700 billion in mortgage-related assets at any one time. That means $700 billion is only the very beginning of what will hit us.

* Financial institutions are “designated as financial agents of the Government.” This is the New Deal to end all New Deals.

* Then there’s this: “Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.” Translation: the Secretary can buy up whatever junk debt he wants to, burden the American people with it, and be subject to no one in the process.

There goes your country.

Even some so-called free-market economists are calling all this “sadly necessary.” Sad, yes. Necessary? Don’t make me laugh.

Our one-party system is complicit in yet another crime against the American people. The two major party candidates for president themselves initially indicated their strong support for bailouts of this kind – another example of the big choice we’re supposedly presented with this November: yes or yes. Now, with a backlash brewing, they’re not quite sure what their views are. A sad display, really.

Although the present bailout package is almost certainly not the end of the political atrocities we’ll witness in connection with the crisis, time is short. Congress may vote as soon as tomorrow. With a Rasmussen poll finding support for the bailout at an anemic seven percent, some members of Congress are afraid to vote for it. Call them! Let them hear from you! Tell them you will never vote for anyone who supports this atrocity.

The issue boils down to this: do we care about freedom? Do we care about responsibility and accountability? Do we care that our government and media have been bought and paid for? Do we care that average Americans are about to be looted in order to subsidize the fattest of cats on Wall Street and in government? Do we care?

When the chips are down, will we stand up and fight, even if it means standing up against every stripe of fashionable opinion in politics and the media?

Times like these have a way of telling us what kind of a people we are, and what kind of country we shall be.

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