An elite clings on to power

The idea that Pakistan is being 'Talibanised' helps stifle dissent and protect privilege

Markus Daechsel guardian.co.uk, Thursday 12 March 2009

The spectre of "Talibanisation" has taken possession of much recent political commentary on Pakistan. The attacks on the Sri Lankan cricket team in Lahore have become part of the same story as the imposition of "sharia law" in Swat, the bombing of security forces in Peshawar and vigilante action against video shops in Islamabad. This fabric of fear creates the sense of a failing state on the eve of another Islamic revolution and ignores that these are all different kinds of events happening in different places and for different reasons.

Such a narrative is not only an exercise in over-simplification, it is also an important political weapon in the hands of the powerful both inside and outside Pakistan.

The threat of a violent religious takeover hides the highly questionable sources of power on which the current and allegedly secular government of President Asif Ali Zardari depends. The former prime minister, Nawaz Sharif, is not entirely off the mark when he described the prevailing system as an "elected dictatorship" – although it has to be said that his own terms in office had been similarly marred by extrajudicial killings and the willful dismissal of critical bureaucrats. Although Zardari himself has always been trusted somewhat less than his late wife Benazir Bhutto, much of western opinion continues to produce support for his Pakistan People's party at the expense of their (allegedly) more religiously inclined rivals.

William Dalrymple recently claimed in this newspaper that Sindh – Zardari's home province – was a model of peace and tranquility, and that Sufism – the local brand of mystical Islam – should be recommended as an antidote to the Wahhabi extremism of the frontier. What Dalrymple, and others of similar opinion, do not say is that the tranquility in rural Sindh is achieved through the near total power of feudal landowners who pose as secular parliamentarians by day but punish local dissent with greatest brutality at night. The veneration of saints (pirs) that is fundamental to Sufi Islam is an essential component in this network of oppression as most of these saints are closely linked to the landowners by financial and family ties. It was actually the unwillingness of anybody else to represent the grievances of local tenant populations against such landowners in the south of Punjab that gave a first opening to Sunni sectarian groups widely associated with today's "Talibanisation".

Much of what can be described as a "religious turn" in Pakistan today is best explained with reference to increasing social mobility and political mobilisation. The influx of remittances from the Gulf states and elsewhere, a growing urbanisation of the population and the expansion of higher education over the last decades have created both the opportunity and the need for new forms of social identity to millions of Pakistanis. A more visible espousal of Islamic dress, for instance, by first-generation female students or working women represents an attempt to rework old ideas of respectability into more mobile and self-aware forms.

The demand for sharia law similarly acquires a less sinister and reactionary meaning when seen in the local context. Most cases in the official legal system drag on for so long as to financially destroy the economically weaker party regardless of the merit of their claims. The infamous Red Mosque madrassa in Islamabad, which was before its bloody demolition by the Musharraf government in 2007 seen as the very lynchpin of "Talibanisation", did have a large and flourishing section for female students. When interviewed on cable television during the siege, their worried parents turned out to be less religious radical than mainstream conservatives of aspiring working class background. In a country where almost all access to power and economic resources depends on expensive private education, it is unsurprising that they would choose a madrassa as the most affordable option.

The years leading up to the downfall of the Musharraf government saw the emergence of a new and broad coalition of Pakistanis campaigning for freedom of speech, for a more democratic government and for a wider sharing of economic resources. Key to its vibrancy and success was the unfettered journalism of the new private television channels, which has since been curtailed in the name of counterterrorism. This coalition was remarkable because it bypassed much of the old elite and gave little importance to many of the old identity divisions of secular and religious. It started with the organisation of unofficial aid after the devastating earthquake of 2005 and continued in the popular campaign to have the chief justice reinstated; it brought together critical elements in the elite with newly aspiring sections of the population.

The narrative of "Talibanisation" is designed to drive a wedge into this coalition and to persuade the rich and the liberal that their ultimate safety rests with the bastions of old privilege – the military and the feudal elite.

The New Depression

 

 

By Martin Jacques

10 March, 2009
The New Statesman

 

The financial crisis undermines all the ideological assumptions that have supported political discourse over the past 30 years. Now, with politicians standing 'naked', the crisis could result in profound and diverse changes to our way of structuring the economy, argues Martin Jacques.

 

We are living through a crisis which, from the collapse of Northern Rock and the first intimations of the credit crunch, nobody has been able to understand, let alone grasp its potential ramifications. Each attempt to deal with the crisis has rapidly been consumed by an irresistible and ever-worsening reality. So it was with Northern Rock. So it was with the attempt to recapitalise the banks. And so it will be with the latest gamut of measures. The British government – like every other government – is perpetually on the back foot, constantly running to catch up.

 

There are two reasons. First, the underlying scale of the crisis is so great and so unfamiliar – and, furthermore, often concealed within the balance sheets of the banks and other financial institutions. Second, the crisis has undermined all the ideological assumptions that have underpinned government policy and political discourse over the past 30 years. As a result, the political and business elite are flying blind. This is the mother of all postwar crises, which has barely started and remains out of control. Its end – the timing and the complexion – is unknown.

 

Crises that change the course of history and transform political assumptions are rare events. The last came in the second half of the 1970s, triggered by the Opec oil price spike and a dramatic rise in inflation, which marked the end of the long postwar boom. Its political consequences were far-reaching: the closure of the social democratic era, the rise of neoliberalism, the discrediting of the state, the embrace of the market, the undermining of the public ethos and the espousal of rampant individualism. For the next 30 years, neoliberalism - the belief in the market rather then the state, the individual rather than the social - exercised a hegemonic influence over British politics, with the creation of New Labour signalling an abject surrender to the new orthodoxy.

 

The modalities of this present crisis are entirely different. Extreme as they may have appeared to be at the time, the economic travails of the 1970s were progressive rather than cataclysmic. The old system did not hit the wall, but became increasingly mired and ineffectual. What swept the social democratic era away was not the force de frappe of an irresistible crisis but that it was accompanied by the steady rise of a new ideology and political force in Thatcherism - and Reaganism in the United States - and its victory in the 1979 general election.

 

In contrast, the financial meltdown of 2007-2008 demolished the neoliberal era and its assumptions with a suddenness and irresistibility that was breathtaking. The political class, from New Labour to the Conservatives, is standing naked. They are still clinging to the wreckage of their old ideas while acknowledging in the next breath that these no longer work. The financial crisis is a matter of force majeure; political ideas and discourse change much more slowly, even when it is obvious that the old ways of thinking have become obsolete.

 

Meanwhile, there is no political alternative waiting in the wings, refining its radical ideas in think tanks ready to storm the citadels of power as there was in the 1970s, notwithstanding the fact that think tanks are now far thicker on the ground. Instead, it has been the mainstream which senses that neoliberalism no longer works, fatally undermined by events and, ultimately, the author of its own downfall. This crisis will have the most profound and far-reaching political consequences and will in due course transform the political landscape, but it remains entirely unclear in what ways and when that might be.

 

In all these senses the financial meltdown has far more in common with the Great Depression than the Great Inflation. When the financial crisis consumed Wall Street in 1929 and proceeded to undermine the real economy, engulfing Europe in the process, it was not accompanied by a radical shift towards Keynesianism, but rather a reassertion of sound finance orthodoxy, followed in due course by the adoption of protectionism. The political mainstream as represented by Labour's Ramsay MacDonald and Philip Snowden and the Conservative Stanley Baldwin all sang from the same hymn sheet. Only Keynes and a faction of the Liberal Party enunciated a plausible alternative.

 

Eventually a programme of fiscal deficits and public works was pursued by Franklin D Roosevelt in the United States, but in Britain Keynesianism was not properly embraced until rearmament and the approach of war. Indeed, it was not until 1945 that the combined legacy of war and the Depression belatedly resulted in a fundamental political realignment and the birth of the social democratic era.

 

Since the financial meltdown dramatically intensified in September 2008, Gordon Brown has managed to ride the economic storm rather more successfully than the Conservatives, or, for that matter, than Tony Blair would have done. It is Vincent Cable, the Liberal Democrats' econo­mics spokesman, however, who has indubitably emerged as the political sage, unafraid of confronting neoliberalism's shibboleths, demonstrating a clarity of mind and the political courage to tell things as they are, in a way that has escaped all other prominent politicians.

 

Although Brown was the economic architect of the past decade and was responsible, more than anyone else, for its excesses and was shaping up to be a rather disastrous Prime Minister, he displayed last autumn, at least initially, an agility of mind and nimbleness of foot that defied the expectations of those who believed he was capable of neither. He revelled in the sense of purpose and vision offered by the crisis, seemingly prepared to jettison the thinking that had imbued his previous decade as chancellor.

But Package Part I, widely hailed at the time and imitated elsewhere, proved woefully inadequate, and the financial system remains frozen. Meanwhile the waters are rising up the Good Ship UK, threatening to transform the banking crisis into a fiscal and currency crisis. It seems unlikely that, if that should happen, Brown will survive the next election.

 

Even if it does not happen, Brown faces a serious problem about his own past role, because Britain's crisis has been greatly exacerbated by the soft-touch regulation, easy credit, runaway house inflation and overexpansion of financial services over which he presided and for which he is accountable. So far he has refused to admit or accept responsibility for his actions – he initially had the temerity (or foolhardiness) to argue that the UK was better placed than other countries to deal with the credit crunch, even though it has become abundantly clear since that the very opposite was the case. So while Brown remains in denial, the plausibility of his new turn, and his understanding of what is entailed, must be seriously doubted.

 

Indeed, after its initial boldness, the government now seems trapped by its past actions and its former ways of thinking. Brown's failure to accept the need to nationalise the banks suggests the limits of his new-found political courage, and his inability to embrace the logic and imperatives of the new situation. He is still a prisoner of his old timidity and his conversion to the neoliberal cause.

 

It is his good fortune that the Cameron Conservatives have been hugely wanting in their response to the financial meltdown. Having spent his first years as leader of the opposition seeking to reassure the country of his centrist credentials, David Cameron, at the first whiff of gunfire, has turned on his heels, rejected Keynesianism and, at the very moment when events have shown Thatcherism to be deeply flawed and historically out of time, headed back to the Thatcherite womb of sound finance, arguing that a government must balance its books and that deficit financing, Keynesian-style, is reckless and irresponsible.

 

But all this, it must be said, is the small change of politics. The crisis threatens in time to sweep away the political world as we know it and those who fail to grasp its magnitude and meaning. Far more is at stake than the fortunes of a few leaders, be their name Brown or Cameron. Who knows where things will be this time next month, let alone next year or, indeed, in 2012? The financial meltdown now rapidly plunging the western world into what increasingly looks like a depression is the first great crisis of globalisation. There was plenty of warning. The Asian financial crisis of 1997-98 proved a salutary lesson about the dangers posed by huge capital movements that were subject to precious little regulatory control. Three economies capsized (South Korea, Thailand and Indonesia) and others stood on the brink.

 

There were other earlier warning signs, notably Mexico in 1995, when GDP fell by 9 per cent and industrial production by 15 per cent, following a run on the peso. These crises were blamed on the immaturity and fecklessness of national governments - in the case of east Asia on so-called crony capitalism (which, incidentally, prompts the question of how we should describe Anglo-American capitalism) - which the International Monetary Fund obliged to engage in swingeing cuts in public expenditure as a condition of their bailouts.

 

Yet what if such a crisis were to be no longer confined to the peripheries of global capitalism but instead struck at its heartlands? Now we know the answer. The crisis has enveloped the whole world like an uncontrollable virus, spreading from the US and within a handful of months assuming global proportions, at the same time mutating with frightening speed from a financial crisis into a fully fledged economic crisis. In so doing, it has undermined the foundations on which the present era of globalisation has been built, namely scant regulation, the free movement of capital, a bloated financial sector and immense reward for greed, thereby bringing into question the survival of globalisation as we now know it.

 

Enormous international flows of unregulated capital have capsized the international financial system - with disastrous consequences for the real economy - in a manner akin to the effect of a roll-on, roll-off ferry shipping too much water. We can now see the cost of free-market capitalism and light-touch regulation. Iceland may provide an extreme example of the consequences of the credit crunch but it also illustrates the dangers facing the more vulnerable economies, the UK included, in a deregulated world where the market rules: a small, open economy; a large, internationally exposed banking sector; an independent currency that is not a serious global reserve currency (of which there are only three); and limited fiscal strength.

 

These propositions have constituted the core economic beliefs - from Thatcher and Lawson to Blair and Brown - that have informed policymaking over the past three decades and without which, it was claimed ad nauseam, an economy could not succeed. Heavy-handed regulation and an overbearing state would serve only to frighten off capital and condemn a country to slow growth, stagnation and global marginality. Now we know the fallaciousness of these claims and the consequences of "letting the market decide".

 

Like Iceland, albeit not as extremely, Britain has been living in a fool's paradise.

 

A failure to regulate the banks and other financial institutions in any meaningful fashion allowed bankers to behave in a grossly irresponsible and avaricious fashion; a boom that was made possible only by a government-enabled credit binge in which people borrowed recklessly; a bloated financial sector that grew to represent over 8 per cent of the total economy and which was found to have been built on foundations of sand; an overvalued currency that made manufacturing exports uncompetitive and thereby resulted in an unnecessary and counterproductive contraction in the manufacturing sector which must now be reversed; an absurd belief that boom and bust had been banished for ever, allowing the banks to turn a blind eye to the inflating of various asset bubbles and display a profound ignorance of the history of capitalism; a persistently chronic current account deficit that can no longer be compensated for by inward capital flows; monstrous salaries for those at the top of the financial and corporate tree, which were justified in terms of a trickle-down effect that remained a chimera, and as the reward for risk which was, in fact, a reward for greed and failure; growing inequality, which was justified in the name of a more competitive economy accompanied by declining social mobility in the cause of an open and flexible labour market; and, finally, the mushrooming of what can only be described as systemic corruption on a mega-scale as the state ignored the gargantuan abuses of those who ran the banks and other financial institutions, while regulatory authorities willingly colluded in their excesses.

This is the sad story of the New Labour era.

 

The ultimate cost of this debacle as yet remains unknown. What began as a financial crisis is threatening, as the government seeks to bail out a bankrupt financial sector, to become a currency crisis, with foreign investors concerned about the effects this might have on the value of sterling, and perhaps even worse, ultimately a sovereign debt crisis, with growing doubts about the UK's financial viability.

 

Until there is some end in sight to the financial crisis, and a line can be drawn under the banks' indebtedness, we will not know the answer to these questions. One thing is clear, however: whatever the limitations of the social democratic era, it was never responsible for such an all-enveloping and cataclysmic crisis as the one that the neoliberal era – and the Thatcherites and New Labour – have managed to produce. After all the boasting about the virtues of the Anglo-American model of capitalism, the Grim Reaper has finally spoken: a boom pumped up by credit steroids and a bust that takes us back to the 1930s.

There are two key aspects to this crisis: national and global, with the latter promising to be rather solutions are concerned, we are in uncharted territory, with close to zero interest rates, a Keynesian-style fiscal boost that may prove inadequate to the task and could well fail, a hugely indebted financial sector that threatens to leave us with an enormous future tax burden and a greatly expanded national debt.

 

All of this, furthermore, must be addressed in the context of an open-market regime which is very different from those of previous eras, and which could render Keynesian-style national solutions ineffectual. What would greatly assist any national recovery is a co-ordinated global response to the crisis; in other words, global co-operation at the highest level. This cannot be ruled out, but it would be a brave person that would bet on it. It was exactly the lack of international co-operation that bedevilled recovery in the 1930s and eventually led to the Balkanisation of the world into regional currency and trading blocs.

 

The most important single question in this context is the relationship between the US and China. Will the Obama administration be able to resist the slippery slope of creeping protectionism? Will arguments over the revaluation of the Chinese renminbi be resolved amicably? If the answer is in the negative, then the global outlook will be very bleak indeed and so, also, as a result, will be the prognosis for national recoveries. Indeed, the prospects would look disturbingly like those of the 1930s, with growing international antagonism and friction and a continuingly intractable crisis at a national level, with only the very slowest of recoveries.

Around the world there is growing evidence by the week of a resort to national solutions at the expense of others: measures to subsidise industries that are in severe difficulties; the Buy American clause that was inserted by the House of Representatives into Barack Obama's latest package (though since weakened); the industrial action in Britain against foreign workers; the withdrawal of banks to their national homes; the attack by Timothy Geithner, the US treasury secretary, on China as a currency manipulator. No Rubicon has been crossed but the warning signs are clear. A retreat into protectionism and beggar-thy-neighbour policies will deliver the world into a second Great Depression.

 

So what will be the political effects of the financial meltdown? Some are already evident. Just as the Great Inflation of the 1970s played to the tunes and concerns of the right, with its invocation of the market, the New Depression suggests the opposite, the inherent limitations of the market and the indispensability of the state. Indeed, the speed with which the neoliberal refrains and invocations have unravelled has been breathtaking. The single most discredited aspect of the social democratic legacy was nationalisation, and yet the government, with the most extreme reluctance, has been obliged to nationalise Northern Rock and partially nationalise the Royal Bank of Scotland and the merged Lloyds TSB and HBOS.

 

Who would have ever imagined, at any point during the past 30 years, that no less than the financial commanding heights of neoliberalism would have ended up in the hands of the state, with precious little opposition from anyone except a few disgruntled shareholders? Even now, however, the Labour government, still trapped in the ideological straitjacket of New Labour and displaying extreme timidity in the face of powerful vested interests, which has always been a New Labour characteristic, is running scared of the inevitable logic of the situation, namely that all the high-street banks should be taken into public hands until the mess is sorted out. Anything else leaves the public responsible for all the debts and risks, while the banks continue to be answerable to the very different interests of their shareholders. But such is the fury and depth of the crisis that this scenario is highly likely.

 

The state is experiencing an extraordinary revival. The credit crunch is the most catastrophic example of market failure since 1945. It became almost immediately obvious to wide sections of society that there was only one institution that could potentially sort out the mess: the state. Far from being a rational distributor of resources, the market had proved the opposite. Far from bankers and financial traders embodying the public interest, they have been exposed as irresponsible and dangerous risk-takers whose primary motivation was voracious greed.

 

If trade unionists and the nationalised industries were the demons of the 1970s, bankers and the financial sector have assumed the mantle of public enemy number one in the late Noughties. In fact, the irresponsibility of bankers, and the damage they have inflicted on the economy, hugely exceeds anything that the unions could possibly be held responsible for in an earlier era. Meanwhile, the fallen heroes of the pre-Thatcher era, most notably Keynes, are duly being exhumed, restored to their rightful position, and pored over for their ability to throw light on the present impasse and what might be done; if the recession turns into a depression, Marx will once again become required reading.

 

This political shift is not just a British phenomenon, but a more general western one. The most striking feature of President Obama's inaugural speech was the way in which it embraced and legitimised African Americans for the first time in American history. But it also had another powerful theme, namely its invocation of the public interest and public service. After decades during which American political discourse has been dominated by the language of individualism and the market, it came as a shock to hear a US president articulate a very different kind of philosophy, renouncing private greed in favour of the public good.

 

Obama's election can in part be seen as a response to the failure of the neoliberal era, as well as of Bush's neoconservative agenda; certainly his election represents a remarkable shift to the left in US politics, in contrast not just to Bush, but every recent US president, including Reagan, Bush Sr and Clinton. That Obama is the first African-American president also represents a remarkable redrawing of the political landscape. There is no more powerful - nor difficult - way of redefining society or to embrace a new form of representivity than to include a racial minority that has been excluded.

 

This brings us finally to what might be the longer-term global consequences of the crisis. Again, we are inevitably stumbling around in the dark because so much depends on whether the recession metamorphoses into a fully fledged depression and in what way and shape the world eventually emerges from the debacle. That said, two key points can be made.

 

First, the credit crunch signals the demise of the Anglo-American, neoliberal model of capitalism, which has exercised a hegemonic influence over western capitalism and been the blueprint for globalisation since 1980. Because of its catastrophic failure there seems very little chance of its resurrection. The process of recovery - whenever that might be - will be accompanied by an overriding concern to ensure that the events of 2007-2009 are not repeated in the future, just as happened in the US in the 1930s with the strict regulatory framework that was introduced for the banks after their comprehensive failure in 1929. This will include the search for a new global regulatory framework that controls and constrains international movements of capital, as well as strict controls over the financial sector at a national level. A new set of political priorities - and with it a new political language - will be born.

 

Meanwhile, the influence and prestige that the US, and to a far lesser extent Britain, have enjoyed will vaporise in the same manner as their neoliberal model. Their 30-year project has failed and they will be obliged to pay the price in their reputation and the esteem in which they are held. The countries of the former Soviet Union and the casualties of the Asian financial crisis that were forced to swallow the neoliberal medicine will have good reason to feel aggrieved and resentful. The west has been forthright in accusing the non-western world of corruption. The financial meltdown suggests that the west has been guilty of huge hypocrisy. Systemic corruption has lain at the heart of the western financial system.

 

An entirely disproportionate and extortionate level of bonuses has ensured the enormous enrichment of top executives in the financial sector, all in the name of reward for success, when in fact it was the reward for failure. In addition, we have had the collusion of the credit-ratings agencies; a regulatory system characterised by its failure to act as any kind of constraint; and governments that ensured the continuation of this web of relationships and applauded its achievements.

 

The corruption was on a breathtaking scale as evidenced by the size of the bailouts required to rescue the banks. It will be difficult for western governments to make these kinds of accusations of others in the future. That Obama represents such a voice of hope will help to mitigate the inevitable ill-will towards the US, but this should not be exaggerated amid the euphoria surrounding developments in Washington.

 

The second point is more far-reaching. It is doubtful whether we can still describe ourselves as living in the American era or, indeed, the Age of the West. If not yet quite over, both are certainly drawing to a close, and it seems likely that the effect of the financial meltdown will be to accelerate the rise of China as a global power. The contrast between the situation in China and that in the US could hardly be greater, even though it has been partially obscured by the depressive effect of the western recession on Chinese exports and on China's growth rate.

 

While the US economy is contracting, China's grew at roughly 9 per cent in 2008 and is projected to grow at about 6 per cent in 2009. Its banks, far from bankrupt like their US counterparts, are cash-rich. China enjoys a large current account surplus, the government's finances are in good order and the national debt is small. This is a crisis that emanates from the US and whose impact on China has been essentially indirect, through the contraction of western markets. It is the American model that has failed, not the Chinese.

 

One of the factors that intensified the Great Depression, and indeed was part cause of it, was Britain's growing inability to continue in its role as the world's leading financial power, which culminated in the collapse of the gold standard in 1931. It was not until after the war, however, that the US became sufficiently dominant to replace Britain and act as the mainstay of a new financial system at the heart of which was the dollar.

 

The same kind of problem is evident now: the US is no longer strong enough to act as the world's financial centre, but its obvious successor, namely China, is not yet ready to assume that mantle. This will undoubtedly make the search for a global solution to the present crisis more difficult and more protracted.

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Selfless Side Of Humans Can Overcome Crisis

 

 

Mohammad Yunis interviewed by Tetsuo Kogure

10 March, 2009
The Asahi Shimbun

 

The interlinked crises of food, finance and climate change illustrate the weaknesses of our current economic system. It is possible to integrate selflessness into a market long dominated by the selfish pursuit of profits, says Muhammad Yunus.

 

Tetsuo Kogure (TK): If we look back at what happened in 2008, one of the biggest events was the global financial crisis. It can be said that through excessive trust in the markets, businesses that focused only on profits have collapsed. What is your opinion?

 

Mohammad Yunis (MY): It happened so suddenly, but it showed that those who knew everything, understood everything, and were confident in themselves were not correct. So (despite) expertise in understanding the financial world itself, it showed that we do not have the capacity to understand those cases.

The big pillars of the financial system just collapsed, and that was not realized (even) by experts weeks ago. That was a shocking part of it; people were not aware of it.

And then (there are) the causes of this. Always everybody was given to believe that the market is supreme, that "invisible hands" solve everything in the best possible manner, and there was nothing to worry about.

The market doesn't solve everything.

In hindsight, they are saying that the reason is extreme greed, which led to the collapse. Or some say the marketplace has been used like a gambling casino. It's no longer business; it's gambling.

Everybody changed some fuzzy thing or built castles in the air. Those things didn't exist, but everybody was made to believe they were there.

Secondly, under globalization, you suffer in a way from something you have not done, so it's somebody else's mistake. Somebody else's greed makes everybody else suffer.

Another irony in the situation is that the richest people lose lots and lots of their money and wealth, but the guys who had a billion dollars still have half a billion dollars left. And once things go back to normal, they can get a billion dollars again.

But the 3 billion people at the bottom have been hit the hardest because they are losing their jobs, incomes and food now that the economy is slowing down, factories are closing, jobs are being cut. They are the ones whose lifestyles suffer the most in a physical and miserable way.

We are busy talking about bailout packages for the rich, billions of dollars, 700 billion for this, 300 billion for that, 200 billion for that. We are all busy making those bailout packages for the rich. But nowhere are we talking about bailout packages for the poor who are losing their jobs and so on. That is also an ironic situation.

One last thing I want to comment on is that we forgot that the financial crisis is just one of the crises in 2008. We forgot that in 2008, we had a food crisis. It was a massive food crisis, and it has not disappeared.

2008 is also the year of the energy crisis, when oil prices went up to $150 (a barrel) and so on. It has calmed down for a while, but the crisis has not disappeared; it is very much alive.

And one crisis that continued not only in 2008 but long before 2008 is the environmental crisis.

So this is a combination of these crises. These are not separate crises. In a way, they are interlinked with some connections. We have to see how we can redesign the whole system. This has to be done now.

 

TK: You said these four crises are interlinked. I think they are related to globalization and free markets. What do you think? Are you OK with globalization and free markets?

MY: Globalization is not something that somebody designed. Even if we go back hundreds of years, globalization was still in action. People were moving around from the beginning of globalization. We cannot change the process of globalization.

What we can do? How can we raise a question that doesn't ask the silly question of whether we should go for globalization or should we stop it.

The real question is "right globalization" or "wrong globalization." If we do not do anything about it, it will be wrong globalization. We have to make rules on the procedures of globalization so that we all agree. Because if we are all free players in globalization, then the biggest and the richest will take away all the gains in globalization. The weakest and smallest will get nothing.

If we gain from globalization that is desirable for everybody, we must ensure it's win-win for both sides in the picture.

In the beginning, we do not feel comfortable because you are rich. "Why should I live with you?" I am capable, I have the technology, money. I can do it. That is not how globalization survives.

Then it will become a kind of economic imperialism. You have the power, you take everything. You have money power instead of soldier power or military power. You use money power to take over. That's not a good thing. You colonize poor countries, you take over their economy because you have money.

Everybody has to have their place, a place of dignity. That is the right spirit of globalization.

And also the market is a good thing. But we are misusing the market. That's why I say we have to correct the economic system before we correct the financial market, because the financial system is an outcome of the economic system.

In the economic system today is the practice we call capitalism. We fundamentally misinterpret capitalism. The idea of capitalism means that we all have to be greedy people. We say business means business to make money. Profit maximization is the mission of business.

Because of this interpretation of capitalism, (we) assume human beings are machines, money-making machines. We put human beings in one dimension of the picture. We are all in one dimension on how to make money.

But at the same time, all people have a selfless part. There is the selfish part of human beings and the selfless part of human beings. But we have created a business world based on only the selfish part of human beings.

If we allowed the selfless part to be put in the marketplace, then the market becomes complete.

Why not create another kind of business to take care of the selfless part? We call it "social business."

One kind of business is to make money and enrich yourself financially. Another kind of business is social business, where you use your money to change the world, to solve the problems we see around us without any intention of personally gaining in a financial way.

We can have both of the businesses since we all have two aspects and we can participate in both businesses. Then the marketplace will be more balanced. Then we can create a business to adjust poverty, deal with the malnutrition of children, the health of women, housing for poor people, drinking water for everybody, environmental issues.

These all can be addressed in social business. Social businesses are non-loss, non-dividend companies with a social purpose.

We have created some of these companies in Bangladesh. One is the Grameen Danon (Food) company, which produces yogurt with all the micro-nutrients mixed in (and) sells it to malnourished children so that they regain their health. This company is not trying to make money for itself or for its owners. This company is trying to solve the malnutrition of children by joining as a business rather than as a charity.

 

TK: Social business is an unknown concept to the general public. You said it is a no-loss, no-dividend business working for social objectives. It needs capital investment, doesn't it? What is the basic mechanism?

MY: Investors first decide to use their money to address a particular problem, like drinking water. We have arsenic in drinking water in Bangladesh. I want to invest in drinking water so that people have safe water and don't have to suffer from drinking arsenic. That is my objective.

I put the money in, and running this business means people have to buy this water. I do not give it to them for free. The company covers all the costs but it makes a profit. But I will never take it because this is not my intention.

My intention is to make sure people have good drinking water. I can get back my investment money, but my satisfaction comes when I have saved the lives of people who had arsenic in their drinking water.

Somebody may ask why you do not make money. I say the selfless part of people will do it.

 

TK: What are the profits used for? To improve the business?

MY: Yes, exactly, so that the business will improve, expand. I started this when profits were made, used them to make it bigger and bigger.

Grameen Danon is the (social business) company and Grameen Veolia (Water) is another (social business) company. This is a water company. We have just started it. Veolia is a French company, the largest water company in the world.

We are creating more and more social businesses.

 

TK: Do these French companies take any profits?

MY: They do not take any profits. They are social businesses, and they agreed to our conditions and creating them. ... They can take back the investment money after a long period.

 

TK: Typical investors want to make profits. Do you think they are interested in a social business that makes no profit?

MY: Don't read books about it. Just rethink it for yourself. Now what I am saying is that instead of a charity, you can create a company and you can take your money back when you want to. So that is more powerful than giving it as charity.

All human beings have two aspects: a selfish aspect and a selfless aspect. That's why we are demonstrating in the streets when we see something happening, some bad things happening, that cannot be accepted.

What is wrong that prompts you to demonstrate? The police come and beat you up, but you still demonstrate because you want to speak out, because you feel that strong and devout selfless part of you. We want to change things we do not like. ... So when that spirit comes, then we will create social businesses.

 

TK: You have achieved a lot of success with your creation of Micro Finance. How do MF and social business interlink?

MY: They have strong links because MF came from the direction of something different from conventional business. We created Grameen Bank not to make myself rich. That was not the intention at all. I created GB to help poor people, to create self-employment, so that they can generate an income. My intention is to help people.

 

TK: In Asia, China and India are emerging as economic giants. They are growing amid globalization and the free market. Is it possible for them to eradicate poverty if they continue on the same course?

MY: In both India and China, the reduction of poverty is dramatic. China has brought poverty down, down down, quite similarly in India. So even (through) globalization and profit-maximization, (economic) growth has an effective impact on poverty levels.

But take the case in the United States, which is the richest country in the world. There are the rich, but there still are a lot of poor people. For example, in the United States, there are still millions of people who cannot afford health services because they are not covered by health insurances because they are all privatized.

In a private economy, poor people are left out. There are 47 million people in the United States without health insurance. This is an example (of what happens) if we follow the same procedure (of) existing capitalism. ... If the United States has 47 million, in India, there will be three times more because the population is three times as much, and in China, four times as much.

Unless we have this completed capitalism in which both sides--selfless part and selfish part--work together in the market, you will have this problem.

 

TK: Asian people have had a kind of tradition or wisdom of a so-called sustainable economy, self-efficient economy, something like that. How can this tradition be used to eradicate poverty?

MY: It is very important. Those elements are still in our culture. This is also an element of selflessness. In the United States, that part has been eliminated.

In a formal economic sense, if you have social business, you could express this aspect. Our selflessness is (expressed) much more effectively than among people in the United States. This is the beauty of Eastern society. We have those values that are very strong even today.

This tradition is very useful for social business. Because we care about our family, we say that family is the smallest unit. Then we feel for the community ... and want to come back to our villages when we retire ... . This is our feeling. You want to sacrifice your life to help people in your nation. This is very strong in Asian tradition. It is very helpful.

 

TK: What do you expect from Japan, Japanese companies, NGOs and people?

MY: I explained what social business is. They can play a very important role. French people can do social business, even Germans can do social business. I am sure that Japanese will do it in a more effective way because they understand what it is.

Today, they are one-dimension business people who see money, stock markets and nothing else. If they take off their profit-maximizing glasses and put on social-business glasses, they would see a completely different world.

Japanese companies have corporate social responsibility funds. They can use this money for creating social business instead of just using this money as charity. All these things can be very neatly done.

 

  Muhammad Yunis is a Bangladeshi economist and managing-director of the Grameen Bank. He is the winner of the 2006 Nobel Peace Prize, and has devised a "microcredit" system that extends unsecured, small-amount loans for the poor.

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Adam Smith’s market never stood alone

 

Adam Smith's market never stood alone

By Amartya Sen
Published: March 10 2009 20:15 | Last updated: March 10 2009 20:15

 
 
Exactly 90 years ago, in March 1919, faced with another economic crisis, Vladimir Lenin discussed the dire straits of contemporary capitalism. He was, however, unwilling to write an epitaph: "To believe that there is no way out of the present crisis for capitalism is an error." That particular expectation of Lenin's, unlike some he held, proved to be correct enough. Even though American and European markets got into further problems in the 1920s, followed by the Great Depression of the 1930s, in the long haul after the end of the second world war, the market economy has been exceptionally dynamic, generating unprecedented expansion of the global economy over the past 60 years. Not any more, at least not right now. The global economic crisis began suddenly in the American autumn and is gathering speed at a frightening rate, and government attempts to stop it have had very little success despite unprecedented commitments of public funds.
 
The question that arises most forcefully now is not so much about the end of capitalism as about the nature of capitalism and the need for change. The invoking of old and new capitalism played an energising part in the animated discussions that took place in the symposium on "New World, New Capitalism" led by Nicolas Sarkozy, the French president, Tony Blair, the former British prime minister, and Angela Merkel, the German chancellor, in January in Paris.
 
The crisis, no matter how unbeatable it looks today, will eventually pass, but questions about future economic systems will remain. Do we really need a "new capitalism", carrying, in some significant way, the capitalist banner, rather than a non-monolithic economic system that draws on a variety of institutions chosen pragmatically and values that we can defend with reason? Should we search for a new capitalism or for a "new world" – to use the other term on offer at the Paris meeting – that need not take a specialised capitalist form? This is not only the question we face today, but I would argue it is also the question that the founder of modern economics, Adam Smith, in effect asked in the 18th century, even as he presented his pioneering analysis of the working of the market economy.
 
Smith never used the term capitalism (at least, so far as I have been able to trace), and it would also be hard to carve out from his works any theory of the sufficiency of the market economy, or of the need to accept the dominance of capital. He talked about the important role of broader values for the choice of behaviour, as well as the importance of institutions, in The Wealth of Nations ; but it was in his first book, The Theory of Moral Sentiments, published exactly 250 years ago, that he extensively investigated the powerful role of non-profit values. While stating that "prudence" was "of all virtues that which is most helpful to the individual", Smith went on to argue that "humanity, justice, generosity, and public spirit, are the qualities most useful to others".*
What exactly is capitalism? The standard definition seems to take reliance on markets for economic transactions as a necessary qualification for an economy to be seen as capitalist. In a similar way, dependence on the profit motive, and on individual entitlements based on private ownership, are seen as archetypal features of capitalism. However, if these are necessary requirements, are the economic systems we currently have, for example, in Europe and America, genuinely capitalist? All the affluent countries in the world – those in Europe, as well as the US, Canada, Japan, Singapore, South Korea, Taiwan, Australia and others – have depended for some time on transactions that occur largely outside the markets, such as unemployment benefits, public pensions and other features of social security, and the public provision of school education and healthcare. The creditable performance of the allegedly capitalist systems in the days when there were real achievements drew on a combination of institutions that went much beyond relying only on a profit-maximising market economy.
 
It is often overlooked that Smith did not take the pure market mechanism to be a free-standing performer of excellence, nor did he take the profit motive to be all that is needed. Perhaps the biggest mistake lies in interpreting Smith's limited discussion of why people seek trade as an exhaustive analysis of all the behavioural norms and institutions that he thought necessary for a market economy to work well. People seek trade because of self-interest – nothing more is needed, as Smith discussed in a statement that has been quoted again and again explaining why bakers, brewers, butchers and consumers seek trade. However an economy needs other values and commitments such as mutual trust and confidence to work efficiently. For example, Smith argued: "When the people of any particular country has such confidence in the fortune, probity, and prudence of a particular banker, as to believe he is always ready to pay upon demand such of his promissory notes as are likely to be at any time presented to him; those notes come to have the same currency as gold and silver money, from the confidence that such money can at any time be had for them."
Smith explained why this kind of trust does not always exist. Even though the champions of the baker-brewer-butcher reading of Smith enshrined in many economics books may be at a loss to understand the present crisis (people still have very good reason to seek more trade, only less opportunity), the far-reaching consequences of mistrust and lack of confidence in others, which have contributed to generating this crisis and are making a recovery so very difficult, would not have puzzled him.
 
There were, in fact, very good reasons for mistrust and the breakdown of assurance that contributed to the crisis today. The obligations and responsibilities associated with transactions have in recent years become much harder to trace thanks to the rapid development of secondary markets involving derivatives and other financial instruments. This occurred at a time when the plentiful availability of credit, partly driven by the huge trading surpluses of some economies, most prominently China, magnified the scale of brash operations. A subprime lender who misled a borrower into taking unwise risks could pass off the financial instruments to other parties remote from the original transaction. The need for supervision and regulation has become much stronger over recent years. And yet the supervisory role of the government in the US in particular has been, over the same period, sharply curtailed, fed by an increasing belief in the self-regulatory nature of the market economy. Precisely as the need for state surveillance has grown, the provision of the needed supervision has shrunk.
 
This institutional vulnerability has implications not only for sharp practices, but also for a tendency towards over-speculation that, as Smith argued, tends to grip many human beings in their breathless search for profits. Smith called these promoters of excessive risk in search of profits "prodigals and projectors" – which, by the way, is quite a good description of the entrepreneurs of subprime mortgages over the recent past. The implicit faith in the wisdom of the stand-alone market economy, which is largely responsible for the removal of the established regulations in the US, tended to assume away the activities of prodigals and projectors in a way that would have shocked the pioneering exponent of the rationale of the market economy.
 
Despite all Smith did to explain and defend the constructive role of the market, he was deeply concerned about the incidence of poverty, illiteracy and relative deprivation that might remain despite a well-functioning market economy. He wanted institutional diversity and motivational variety, not monolithic markets and singular dominance of the profit motive. Smith was not only a defender of the role of the state in doing things that the market might fail to do, such as universal education and poverty relief (he also wanted greater freedom for the state-supported indigent than the Poor Laws of his day provided); he argued, in general, for institutional choices to fit the problems that arise rather than anchoring institutions to some fixed formula, such as leaving things to the market.
 
The economic difficulties of today do not, I would argue, call for some "new capitalism", but they do demand an open-minded understanding of older ideas about the reach and limits of the market economy. What is needed above all is a clear-headed appreciation of how different institutions work, along with an understanding of how a variety of organisations – from the market to the institutions of state – can together contribute to producing a more decent economic world.

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This scam is nothing but a handout for motor companies, resprayed green

 

 

Paying drivers to scrap their old cars and buy new ones will do nothing to catalyse a low-carbon transport revolution

 

•  
• George Monbiot
• The Guardian, Tuesday 10 March 2009

 

The magic numbers spin before our eyes. No one can grasp the scale of the handouts, or understand how public money that didn't exist - could never exist - for hospitals or schools or public toilets begins to flow as soon as bankers fall to their knees. We are punch drunk, reeling, uniquely vulnerable - because none of it makes sense any more - to demands from every species of scrounger.

So prepare yourselves, ladies and gentlemen, for the worst scam of all. It's another reward for failure, but this one offers no prospect of rescuing the economy. Thanks to its cunning disguise as an environmental measure, we seem willing to be conned. I want to show you why we should resist it.
 
I'm talking about the scrappage payments being proposed by almost everyone linked to the motor industry: the Society of Motor Manufacturers and Traders, most of the big car firms, the AA, and the unions. Lord Mandelson is said to be a fan. They argue that drivers should be paid around £2,000 a head to scrap their old cars and buy new ones. As well as saving the jobs of hundreds of thousands of workers, this, they say, will catalyse a low-carbon transport revolution. It's bunkum.
 
Let's start by getting a misconception out of the way. The media are reporting the proposal as a subsidy for switching to smaller, more efficient cars. But the manufacturers have called for no such thing. The model they keep referring to is Germany's. Here drivers are being offered €2,500 to trade in cars at least nine years old for new models. The only requirement is that the new cars meet the Euro 4 standard on exhaust emissions. This is another way of saying all cars: since 2005 every new car on sale in the EU has to meet this standard, which has nothing to do with CO2. So £2,000 from the government could help you trade in your old Citroen C1 for a new Porsche Cayenne.
 
There is a simple way of working out whether a green subsidy is worthwhile: how much does it cost to save a tonne of carbon dioxide? No one appears to have done this yet so, if you'll bear with me, I'll attempt it here. I've had to make a few assumptions where data don't exist, but it gives us a rough idea of what we are exposing ourselves to (all the sources, as usual, are on my website).
 
Let's imagine that the average age of the scrapped cars is 12 years. In 1997 new cars in the UK produced an average of 189.8 grams of CO2 per km. If they've since become 10% less efficient, their average output will be 208g/km today.
Cars manufactured this year will put out an average of around 160g/km, which means a saving of 48g/km. This translates - with a mean annual driving distance of 16,500km - into a cut of 792kg/car/year. Assuming that drivers are each paid £2,000, that's a cost of £2,525 for every tonne of CO2 avoided, divided by the average age of the cars on the road - 4.9 years. You'd get almost as much value for money by reclassifying £10 notes as biomass and burning them in power stations.
 
The management consultancy McKinsey has calculated the costs of saving CO2 by other means. We could do it for £3.50 a tonne by investing in geothermal energy, or £9 if we put our money into nuclear power plants. Mini hydroelectric schemes would save money as well as carbon against normal electricity prices. So would energy efficiency: switching from incandescent lightbulbs to light-emitting diodes, for example, saves £80 for every tonne of CO2 you cut.
 
I would have liked to give you some transport comparisons, but McKinsey doesn't publish figures for public transport or for promoting walking or cycling (a McKinsey consultant wouldn't be seen dead on a bus). Nor, as far as I can discover, does the government. The carbon payback for other projects - creating better cycle lanes in towns and coach lanes on motorways, helping children to walk to school, better enforcement of speed limits, better timetabling for buses - is likely to be hundreds or thousands of times higher than any returns from the scrappage scam.
 
In fact I have grossly overstated the scheme's value for money. My rough figures take no account of the rebound effect: when driving costs you less (after buying a more efficient car), you are likely to travel further. Nor have I considered the fact that many people would have bought new cars anyway, which means they'll be given the money for nothing. Without this subsidy, others might have stopped driving altogether and started cycling or using public transport instead: in this case the scrappage scheme will have raised their emissions. Nor did I calculate the carbon costs of manufacturing the new cars.
 
A paper published in 2000 by the journal Transportation Research comes to even grimmer conclusions: that replacing old cars with new ones increases carbon pollution. Because between 15% and 20% of a car's emissions are produced during its manufacture, the optimal age for a car, the paper says, is 19 years. (The average age of the UK's fleet is 4.9 years). If the paper's assumptions hold (they may be out of date now), it would make more sense for the government to pay us to keep our old bangers on the road.
Low-carbon transport? Pull the other one. Scrappage schemes are nothing but handouts for car firms, resprayed green to fool the incautious buyer. The motor trade wants the money because it's collapsing. Some companies - notably Vauxhall and the rest of the General Motors group - are in imminent danger of insolvency. So the question changes: should we support them regardless of their impact on the environment?
 
No. State aid rules forbid scrappage schemes from discriminating between cars made here and cars made abroad. So, given that British car plants assemble only around 15% of the vehicles sold in this country, and given that the motor industry is highly automated and has vast capital costs, this subsidy is likely to be just as bad at saving jobs as it is at saving carbon. Every pound we spend on driving is a pound withheld from the alternatives, many of which (such as buses and trains) employ far more people for the same amount of money.
 
This leaves only the value of preserving the industry for its own sake. It is hard to think of a less deserving cause. The motor companies have repeatedly failed to anticipate trends in demand. They have carried on producing thunderous gas guzzlers long after the market collapsed. Every so often the bosses wring their hands about jobs, put out the begging bowl, get the money, then shaft their workers anyway. Like the bankers, they have wrecked their own industry. And like the bankers, they want the rest of us to pay.

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Believers in free markets are fighting back

 

Regulation not greed has pushed banks to the edge of ruin

Eamonn Butler

 

"If you bound the arms and legs of gold-medal swimmer Michael Phelps, weighed him down with chains, threw him in a pool and he sank, you wouldn't call it a 'failure of swimming'. So, when markets have been weighted down by inept and excessive regulation, why call this a 'failure of capitalism'?"
 
That view, expressed by the George Mason University professor Peter Boettke, found much favour among the free-market eggheads who assembled in New York this weekend to discuss the financial crisis. Up to now the Keynesians have made the running. Greed, they say, has brought down the world economy. Only massive public spending can revive it. And with the Masters of the Universe now gasping on the floor, the G20 summit in April will give them a final kick in the tax havens. That'll teach them.
 
But now the believers in free markets and small government have regrouped. The meeting was called by the Mont Pelerin Society, founded in 1947 to preserve liberal ideas. Early members included Milton Friedman, F.A. Hayek and George Stigler. Their view - as expressed by The Ascent of Money author Niall Ferguson - is that capitalism isn't dead, though the global banking regulations embodied in Basle 2 should be. It took regulators ten years to perfect Basle 2, but far from making things safer for bank customers, it pushed banks to the brink of ruin.
 
When the banks discovered that their "assets" were riddled with junk, everyone ran scared. Nobody knew exactly how "toxic" it all was, so the banks couldn't unload it on to anyone. Their "assets" became worthless. Under the Basle rules, they had to stop lending. Hello, credit crunch.
 
"This is a balance-sheet crisis," the billionaire and former presidential candidate Steve Forbes told the gathering. "If you had to sell your house today, you wouldn't get much for it. That doesn't mean it's worthless." Banks are largely solvent - it's regulation that threatens to bankrupt them.
 
"We need to sell off, split up or close down the zombie banks," says Bill Beach, senior policy boffin at Washington's Heritage Foundation. Next, he says, we need to encourage business, not load it, like Michael Phelps, with burdens. That means lower taxes, particularly business taxes, and less of the regulation that discouraged firms employing people.
 
Occasional crises are the cost of the prosperity that entrepreneurial capitalism brings. Try to eliminate risk, and you eliminate entrepreneurship itself.
 
- Dr Eamonn Butler is director of the Adam Smith Institute. His book, The Rotten State of Britain, is published this month.
 
My own comments - all this is fine but why should the taxpayer then bail out these banks?

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A failure to control the animal spirits

 

 

By Robert Shiller
Published: March 8 2009 18:34 | Last updated: March 8 2009 18:34

 
Lydia Lopokova, wife of the economist John Maynard Keynes, was a famous ballerina. She was also a Russian émigré. Thus Keynes knew from the experience of his in-laws the horrors of living in the worst of socialist economies. But he also knew first-hand the great difficulties that come from unregulated, unfettered capitalism. He lived through the British depression of the 1920s and 1930s. Thus Keynes was inspired to find a middle way for modern economies.
 
We are seeing, in this financial crisis, a rebirth of Keynesian economics. We are talking again of his 1936 book The General Theory of Employment, Interest and Money, which was written during the Great Depression. This era, like the present, saw many calls to end capitalism as we know it. The 1930s have been called the heyday of communism in western countries. Keynes's middle way would avoid the unemployment and the panics and manias of capitalism. But it would also avoid the economic and political controls of communism. The General Theory became the most important economics book of the 20th century because of its sensible balanced message.
 
In times of high unemployment, creditworthy governments should expand demand by deficit spending. Then, in times of low unemployment, governments should pay down the resultant debt. With that seemingly minor change in procedures, a capitalist system can be stable. There is no need for radical surgery on capitalism.
 
Adherents to Keynes's message were so eager to get this simple policy implemented, on both sides of the Atlantic, that they failed to notice – or perhaps they intentionally disregarded – that the General Theory also had a deeper, more fundamental message about how capitalism worked, if only briefly spelled out. It explained why capitalist economies, left to their own devices, without the balancing of governments, were essentially unstable. And it explained why, for capitalist economies to work well, the government should serve as a counterbalance.
 
The key to this insight was the role Keynes gave to people's psychological motivations. These are usually ignored by macroeconomists. Keynes called them animal spirits, and he thought they were especially important in determining people's willingness to take risks. Businessmen's calculations, he said, were precarious: "Our basis of knowledge for estimating the yield 10 years hence of a railway, a copper mine, a textile factory, the goodwill of a patent medicine, an Atlantic liner, a building in the City of London amounts to little and sometimes to nothing." Despite this, people somehow make decisions and act. This "can only be taken as a result of animal spirits". There is "a spontaneous urge to action".
 
There are times when people are especially adventuresome – indeed, too much so. Their adventures are supported in these times by a blithe faith in the future, and trust in economic institutions. These are the upswing of the business cycle. But then the animal spirits also veer in the other direction, and then people are too wary.
 
George Akerlof and I, in our book Animal Spirits (Princeton 2009), expand on Keynes's concept and tie it in to modern literature on behavioural economics and psychology. Much more clarity about the psychological underpinnings of animal spirits is possible today.
For example, social psychologists, notably Roger Schank and Robert Abelson, have shown how much stories and storytelling, especially human-interest stories, motivate much of human behaviour. These stories can count for much more than abstract calculation. People's economic moods are largely based on the stories that people tell themselves and tell each other that are related to the economy.
 
We have seen these stories come and go in rapid succession in recent years. We first had the dotcom bubble and the envy-producing stories of young millionaires. It burst in 2000, but was soon replaced with another bubble, involving smart "flippers" of properties.
 
This mania was the product not only of a story about people but also a story about how the economy worked. It was part of a story that all investments in securitised mortgages were safe because those smart people were buying them. Those enviable people who are buying these assets must be checking on them, therefore we do not need to. We need only run alongside them.
What allowed this mania and these stories to persist as long as they did? To a remarkable extent we have got into the current economic and financial crisis because of a wrong economic theory – an economic theory that itself denied the role of the animal spirits in getting us into manias and panics.
 
According to the standard "classical" theory, which goes back to Adam Smith with his Wealth of Nations in 1776, the economy is essentially stable. If people rationally pursue their own economic interests in free markets they will exhaust all mutually beneficial opportunities to produce goods and exchange with one another. Such exhaustion of opportunities for mutually beneficial trade results in full employment. By this theory it could not be otherwise.
 
Of course, some workers will be unemployed. But they will be unable to find work only because they are in a temporary search for a job or because they insist on pay that is unreasonably high. Such unemployment is viewed as voluntary, and evokes no sympathy.
Classical theory also tells us that financial markets will also be stable. People will only make trades that they consider to benefit themselves. When entering financial markets – buying stocks or bonds or taking out a mortgage or even very complex securities – they will do due diligence in seeing that what they are buying is worth what they or paying, or what they are selling.
 
What this theory neglects is that there are times when people are too trusting. And it also fails to take into account that if it can do so profitably, capitalism will produce not only what people really want, but also what they think they want. It can produce the medicine people want to cure their ills. That is what people really want. But if it can do so profitably, it will also produce what people mistakenly want.
 
It will produce snake oil. Not only that: it may also produce the want for the snake oil itself. That is a downside to capitalism. Standard economic theory failed to take into account that buyers and sellers of assets might not be taking due diligence, and the marketplace was not selling them insurance against risk in the complex securities that they were buying, but was, instead, selling them the financial equivalent of snake oil.
 
There is a broader moral to all this – about the nature of capitalism. On the one hand, we want to take advantage of the wisdom of Adam Smith. For the most part, the products produced by capitalism are what we really want, produced at a price that we are willing and able to pay. On the other hand, when confidence is high, and since financial assets are hard to evaluate by those who are buying them, people will and do buy snake oil. And when that is discovered, as it invariably must be, the confidence disappears and the economy goes sour.
 
It is the role of the government at two levels to see that these events do not occur. First, it has a duty to regulate asset markets so that people are not falsely lured into buying snake-oil assets. Such standards for our financial assets make as much common sense as the standards for the food we eat, or the purchase medicine we get from the pharmacy. But we do not want to throw out the good parts of capitalism with the bad. To take advantage of the good parts of capitalism, when fluctuations occur it is the role of the government to see that those who can and want to produce what others want to buy can do so. It is the role of the government, through its counterbalancing fiscal and monetary policy, to maintain full employment.
 
The principles behind such an economy are not the principles behind a socialist economy. The government insofar as possible is only creating the macroeconomic conditions that will allow the economy to function well.
 
That is the role of government. Its role is to ensure a "wise laisser faire". This is not the free-for-all capitalism that has been recommended by the current economic theory, and seems to have been accepted as gospel by economic planners, and also many economists, since the Thatcher and Reagan governments. But it also is a significant middle way between those who see the economic disasters and unemployment of unfettered capitalism, on the one hand, and those who believe that the government should play no role at all.
 
The idea that unfettered, unregulated capitalism would invariably produce the good outcomes was a wrong economic theory regarding how capitalist societies behave and what causes their crises. That wrong economic theory fails to take account of how the animal spirits affect economic behaviour. It fails to take into account the roles of confidence, stories and snake oil in economic fluctuation.
 
The writer is the Arthur M. Okun professor of economics at Yale University and co-founder and chief economist of MacroMarkets. To join the debate go to www.ft.com/capitalismblog

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