\t\t\t\tToday I catch up on a number of threads that have been in the media in the last week or so. It is all bad. The focus is on Alan Greenspan’s extraordinary intervention into the policy debate declaring the financial sector unable to be effectively regulated. I have a solution for that! But as I read the data trends every day and listen to the politicians outlining their legislative ambitions I realise that there have not been many lessons learned at all. The neo-liberals are back in charge – unshamed – when they should have been driven out of every town in every land. Their leading lights are coming out of their rat holes and are once again lecturing us on how self-regulated markets are best and how we have to tolerate the occasional crisis as part of the wealth maximisation process. It beggars belief how this all is represented as credible policy input. It is time to get angry.
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\nDid the crisis begin in the financial sector or the real economy? Or is this question too simplistic. There has been an interesting tussle going on between the different positions in this debate.<\/p>\n
It is fairly easy to consider the crisis started in the financial sector as a result of excessive deregulation, greedy and corrupt behaviour by the largely unproductive financial institutions and overly-ambitious borrowers drunk on credit that had been pushed onto them by the financial engineers.<\/p>\n
Once the safe risk tolerances were exceeded on a plethora of “financial products” the house of cards came crashing down and the fear and panic then spread to private spending which turned the financial meltdown into a real crisis (with rising unemployment and plunging GDP growth rates – the worst fall in real output since the end of WW2 in most places).<\/p>\n
As an aside, I just love the expression financial product – the sheer audacity of it – a product is something that has value and typically requires artifice. I don’t consider the Zongo Bonds (?) that proliferated during the crisis stand beside a beautifully crafted piece of human craft.<\/p>\n
In general, nomenclature is important and the neo-liberals developed a lexicon that purported to legitimise the illegitimate. Language and text is an interest of mine and I might write a blog about that.<\/p>\n
Anyway, that is an intuitively appealing representation of what happened and clearly has elements of truth.<\/p>\n
However, there are Marxists and the social structure of accumulation<\/a> school that emphasises that the crisis was not of financial origins but emerged out of contradictions in the production process – that is, in the real economy.<\/p>\n Early in 2009 I wrote this blog – The origins of the economic crisis<\/a> – which contains elements of both “extremes” in this debate. I won’t repeat the arguments in detail for they are well documented.<\/p>\n The two sides of the debate are integrated in my view by the way in which the rise to dominance of the neo-liberal paradigm and its total capture of the academy and public policy penetrated both the real and financial sectors in various ways.<\/p>\n The neo-liberals operated at all levels of policy – macroeconomic and microeconomic.<\/p>\n They first of all abandoned the Keynesian notions that aggregate demand mattered and could be manipulated by government policy and instead re-instated the supply creates its own demand rhetoric that ruled before the Great Depression.<\/p>\n They elevated inflation as the principle evil that had to be addressed and converted unemployment from being a policy goal (low) into a policy tool (to control inflation). The rise in unemployment in the 1970s that basically persisted in most nations from then on was then massaged in terms of the hocus NAIRU – that full employment was being continuously achieved and the rise in unemployment was the result of a combination of worker choices (to enjoy more leisure) and poor government policy (that allowed people to avoid searching for jobs). At any rate, we no longer had to be concerned about unemployment.<\/p>\n That cleared the slate for so-called “microeconomic reforms” which essentially amounted to cutting expenditures on public sector employment and social programs and dismantling what were claimed to be supply impediments (such as labor regulations, minimum wages, Social Security payments and the like). Privatization and outsourcing accompanied these policy shifts.<\/p>\n All this in the name of increased efficiency. During this period the TEPCOs and their ilk (think Enron etc) were allowed to “self-regulate” and it is clear that more intense regulation (if not nationalisation of TEPCO for example) would have saved a lot of angst and now major calamity. The corporate sector took advantage of this period of deregulation and lied and cheated their way to increased profits without any foresight into the nest eggs that we being laid.<\/p>\n Privatised companies collapsed and were absorbed back into the private sector or the bad bits were taken into the public balance and the good bits used to underpin more profit-seeking and speculation.<\/p>\n Relatively ineffective monetary policy (in terms of regulating demand) was elevated to primacy after the neoliberal assault on the use of fiscal policy, which began in the ’70s, with the rise of monetarism, saw policy makers buy the “budget surplus is good, deficits evil” narrative without criticism.<\/p>\n Politicians seized on the ideas of Milton Friedman to claim that their sole objective should be to control the money supply in order to manage inflation. Although various experiments at controlling the money supply failed dismally in the ’80s, the dominance of monetary policy in mainstream economics was complete. Fiscal policy was demonized as being inflationary and its use eschewed, depriving liberally inclined governments of the tools to advance a more progressive agenda.<\/p>\n The public justifications were all about creating more jobs and reducing poverty, but the reality was different. Since 1975 most nations have failed to create enough jobs to match their willing labor supply.<\/p>\n There has been a dramatic dislocation between facts and theory during this period. Consistently the data shows that the mainstream economics models are incapable of explaining what is going on – good and bad – but still the paradigm survives and remains dominant. When things get a bit sticky – some historical revisionism is engaged in.<\/p>\n Usually this involves the interpretation of bad events in terms of excessive government regulation or poor policy design, while good events are the results are interpreted as the outcomes of vigorous and self-motivated entrepreneurial activity that is continually being held back by pernicious rules and legal requirements created by governments.<\/p>\n Mainstream economists operate in advanced states of denial which they mediate with a exaggerated arrogance and a well developed intolerance for criticism.<\/p>\n As I explained in the blog noted above, the assault on regulation and the attack on workers’ rights brought about a growing gap between labor productivity and real wage growth. The result has been a dramatic redistribution of national income toward capital in most countries.<\/p>\n In the past, real wages grew in line with productivity, ensuring that firms could realize their expected profits via sales. With real wages lagging well behind productivity growth, a new way had to be found to keep workers consuming.<\/p>\n Here a link between the real economy and the financial sector emerged. The deregulation push not only affected the real economy (wages, conditions etc). The neo-liberals lobbied hard to ensure that policy makers also reduced their oversight of the financial sector. The myth of self-regulation leading to efficiency and optimal outcomes for all was generalised.<\/p>\n To keep consumption growing at the same time as the power elites were “stealing” more and more real output via the redistribution mechanism noted above, the financial sector became more sophisticated (which in this context doesn’t connote good or better) and we observed the rise of “financial engineering,” which pushed ever increasing debt onto the household sector.<\/p>\n It was such a lurk. Capitalists found that they could sustain sales and receive an additional bonus in the form of interest payments – while also suppressing real wage growth. Households, enticed by lower interest rates and the relentless marketing strategies of the financial sector, embarked on a credit binge.<\/p>\n The increasing share of real output (income) pocketed by capital became the gambling chips for a rapidly expanding and deregulated financial sector. Governments claimed this would create wealth for all. And for a while, nominal wealth did grow-though its distribution did not become fairer. However, greed got the better of the bankers, as they pushed increasingly riskier debt onto people who were clearly susceptible to default. This was the origin of the sub-prime housing crisis of 2007-08.<\/p>\n So you can see in my account of the crisis that there are structural elements that the (Marxists, structuralists, structural Keynesians etc) would find appealing as well as elements that are rooted in the financial sector (which would appeal to Minsky-ites). I think this integration provides a richer understanding of what happened and why it will happen again.<\/p>\n I was thinking about this today after re-reading Alan Greenspan’s article (March 29, 2011) in the Financial Times – Dodd-Frank fails to meet test of our times<\/a> – which mounts an attack on the (weak) attempts by the current US Administration to regulate the financial markets after years of deregulating them.<\/p>\n I last wrote about Greenspan in this blog (December 2009) – Being shamed and disgraced is not enough<\/a>. Nothing much has changed.<\/p>\n Greenspan claims that the regulations proposed (which are very modest) will create major distortions in financial markets and claimed that the increasing complexity of the self-regulating financial markets is necessary for robust growth. He clearly has fully understood what has happened over the last few years.<\/p>\n The literature on the link between the financialisation of the economy and the rate of growth (assumed by the mainstream to be highly positive) is not clear. The research is difficult to conduct in a controlled manner (that is, to make sure you are actually modelling the relationship in question) and the causality is likely to be two-way. That is growth stimulates depth in the financial sector.<\/p>\n But three things stand out from the research. First, a vast amount of the growth in the financial sector is unrelated to the real sector. For example, the acceleration of cross-currency speculative activity has not been remotely related to providing secure hedged positions for manufacturers\/trading companies to reduce or eliminate exchange exposure. I have seen data suggesting less than 5 per cent of transactions are related to the real economy. So it is hard to imagine that the increased complexity has been good for growth.<\/p>\n Second, much of the increased speculation involved the housing industry which is largely unproductive although I acknowledge that people who have nice houses are likely to be more efficient than those who are forced to live in slums in cardboard boxes. Further, the speculative activity in commodities (hoarding oil, diverting food in fuel) has not been productive.<\/p>\n Third, the historically atypical growth in the financial sector which accompanied the large redistribution of national income over the last 20-30 years has not been associated with an era of high productivity growth or high real GDP growth rates.<\/p>\n Indeed, when the financial sector was more regulated, less complex, and less cross-border, real GDP growth rates were much higher and consistently so. That was the era that maintained full employment prior to the neo-liberal onslaught. The neo-liberal period that has fostered the dramatic growth in the financial sector has been associated with entrenched unemployment, rising household indebtedness, slow real wages growth, slow real GDP growth, and relatively subdued productivity growth.<\/p>\n The growth rates in the 1980s to now have been inferior to those during the 1950s and 1960s. Europe grew in those days!<\/p>\n Greenspan’s claims that the hot shots in the financial sector would leave their firms because of attempts to regulate their pay made me laugh. That would constitute a societal benefit.<\/p>\n But the pressure is on policy makers to avoid taking on the banks and the financial sector generally. The lobbies are powerful and are likely to win major concessions from corrupt and spineless governments.<\/p>\n I also was reading the UK Guardian account (April 1, 2011) – Jobcentres ‘tricking’ people out of benefits to cut costs, says whistleblower<\/a> – which is like d\u00e9j\u00e0 vu to an Australian.<\/p>\n The story relates the way in which the Jobcentre staff (old employment agencies) in Britain are being subtly coerced by government to “trick” unemployed people:<\/p>\n \n… into breaching the rules so that benefits can be held back … amid growing pressure to meet welfare targets …\n<\/p><\/blockquote>\n There is now a major push on from “big businesses handed contracts to get the long term jobless into work” for the government to “privatise jobcentres so that their firms could work with people who have been jobless for less than a year”.<\/p>\n This all has precedents in Australia when the last conservative government privatised the public employment service to create a “market” for the unemployment services. The Job Network as it is called has been a monumental failure yet it suits the dominant ideological position which constructs mass unemployment as a failure of the individual – who then – of-course, has to be “case managed”.<\/p>\n The neo-liberal era created a new industry not previously seen – the unemployment industry. All these private sector parasites who glean millions of government contracts for “managing case load” emerged and are now a lobby in themselves with the aim being to keep as many people unemployed as they can.<\/p>\n Further, the cutting back of benefits through foul means also occurred here. We called it “breaching” – lovely nomenclature isn’t it – and the most disadvantaged unemployed workers were increasingly penalised by the government for not satisfying work tests which were becoming increasingly onerous.<\/p>\n A major study – Independent Review of Breaches and Penalties in the Social Security System<\/a> (2002) – among others evaluations, found that many of those “breached” were facing extreme disadvantage. For example, people who were thrown out of their lodgings for not having enough rent then didn’t receive the letter from the government demanding they attend the social security office – by not turning up to the “interview” they were deemed to have been in breach of their obligations and their income support was cut off.<\/p>\n Similarly, those with extreme mental issues – schizophrenics – who missed such interviews because they were episodic on that day (sometimes in hospital) were deemed to be in breach and lost their benefits. Breaching became an industry in itself and all the privatised operators were vehicles (pawns) in the government’s game for which they were rewarded handsomely.<\/p>\n None of them ever complained about government spending being wasteful or excessive. Their only complaints were that income support payments to the disadvantaged were overly generous and discouraged efficient job search.<\/p>\n After a career studying all this stuff you might wonder how I remain stable given my values. I wonder that too!<\/p>\n Anyway, the mean-spirited conservatives in Britain are now going down the same road, and probably are getting advice from those who had trodden that path before over here.<\/p>\n And then I read a report in the Irish Times (April 5, 2011) – Gap between tax take and spending soars to over \u20ac7bn<\/a> – and wondered why anyone would be surprised by that.<\/p>\n That is, after more than two years of austerity which aimed to cut the deficit, the deficit is now soaring but the real economy is failing to recover. While the ridiculous bank bailouts continue to absorb public funds the automatic stabilisers are helping keep the budget in deficit and therefore propping up demand a bit.<\/p>\n While that is not the government’s intention it has to be that way. They could have had a smaller deficit by now (perhaps) by significantly expanding it when the crisis hit and nationalising all the banks (sacking all high paid executives). By committing itself to the austerity path when the real economy was in such bad shape they guaranteed the deficit would rise!<\/p>\n The Irish government is cutting hard where it can but expenditure in social policy departments like Health and Children and Social and Family Affairs has soared.<\/p>\n The thing the neo-liberals haven’t been successful in convincing governments about is the need to exterminate in camps those who are most disadvantaged by the crisis. At present, they are still fed! As a result the automatic stabilisers drive increased welfare payments no matter how hard the government works to avoid that reality.<\/p>\n The same thing will happen in the UK.<\/p>\n You might think I was jesting about the extermination quip. In part I was. But you might like to read this blog (from January 2010) – L’horreur economique<\/a> – where I discuss the ideas of French writer Vivienne Forrester.<\/p>\n In her 1996 book – L’horreur Economique – she examines the proposition that governments fail to generate enough employment but at the same time promote a backlash against those who are jobless. Forrester says that:<\/p>\n \nThe panaceas of work-experience and re-training often do nothing more than reinforce the fact that there is no real role for the unemployed. They come to realize that there is something worse than being exploited, and that is not even to be exploitable …\n<\/p><\/blockquote>\n The book ventures into the notion that governments (elected by us) have made the unemployment dispensable to ‘capitalist production and profit’ and have instead been content to keep them alive. But soon, why would it not be implausible to declare this growing group of disadvantaged citizens totally irrelevant.<\/p>\n So when the unemployed also become aged – what then?<\/p>\n History tells us that rabid majorities put easily separable minorities onto cattle trucks and take them away for disposal. It is not too far-fetched.<\/p>\n But all this came to a head when I was thinking about the way that the UK economy is heading at present. Over last weekend, I read the UK Guardian article (April 2, 2011) – Ministers admit family debt burden is set to soar<\/a>.<\/p>\n The article noted that:<\/p>\n \nFamilies will be hit by a spiralling debt crisis over the next four years that will see average British households plunge further into the red as the government austerity programme bites, official figures reveal.<\/p>\n The Office for Budget Responsibility has raised its prediction of total household debt in 2015 by a staggering \u00a3303bn since late last year, in the belief that families and individuals will respond to straitened times by extra borrowing … <\/p>\n Economists say the figures show that George Osborne’s drive to slash the public deficit and his predictions on growth are based on assumptions that debt will switch from the government’s books to private households – undermining his claims to be a debt-slashing chancellor.\n<\/p><\/blockquote>\n That is an extraordinary trend.<\/p>\n Go back to our sectoral balances. For a detailed derivation for those who are unclear please read the answer to Question 5 in the recent blog – Saturday Quiz – March 26, 2011 – answers and discussion<\/a>.<\/p>\n I can write the balances as the private domestic surplus (S – I) equals the government deficit (G – T) plus the current account surplus (X – M).<\/p>\n The sectoral balances is another way of viewing the national accounts and provides empirical evidence for the influence of fiscal policy over private sector indebtedness. So the accounting identity drawn from the national accounts for the three sectoral balances is:<\/p>\n (S – I) = (G – T) + (X – M)<\/p>\n The Equation says that total private savings (S) is equal to private investment (I) plus the public deficit (spending, G minus taxes, T) plus net exports (exports (X) minus imports (M)), where net exports represent the net savings of non-residents.<\/p>\n Now if the government is intent on running a surplus (G – T < 0) and the nation faces long-term external deficits (X - M < 0) then there must be a private domestic deficit. The national income adjustments will ensure that is the case. All these balances are sensitive to income changes (external via import sensitity; budget via the automatic stabilisers; and private domestic balance via saving (mostly)).\n\nA private domestic deficit means that the private sector overall is increasing its level of indebtedness period after period (as long as they remain in deficit).\n\nUnder these conditions, the private and public sectors cannot simultaneously reduce their debt levels. It is impossible. Claims by neo-liberals that deleveraging can occur in both sectors if the government runs an austerity campaign and pushes the budget into surplus are false.\n\nWhile private spending can persist for a time under these conditions using the net savings of the external sector, the private sector becomes increasingly indebted in the process and that is unsustainable.\n\nEventually, a debt-originated crisis will arise and the real economy will then suffer from the loss of confidence and lack of credit availability - exactly in the same way as occurred in 2007.\n\nGreenspan's longing for the days prior to 2007 where Wall Street ran riot and the greed and dishonesty transferred massive volumes of real income to the financial sector require the private domestic sector to take on ever increasing levels of debt.\n\nUnless we regulate now and render the financial sector considerably smaller than it currently is then we will be defining the path to the next crisis which will make the current crisis appear moderate.\n\nGreenspan claims that:\n\n\n My response is that most of this complexity is unproductive and not advancing public purpose at all. It might be too complex. Certainly, it became too complex for the boffins in the investment banks to manage – they didn’t have a clue in the end what risk exposures they faced. Well, as it turns out they didn’t really face much exposure themselves because they went cap in hand to the government and accepting bailout money. <\/p>\n Yesterday the US Federal Reserve were forced by the courts to finally release which banks etc received benefits from the US government. It is a fancy list of the high flyers who said they could self-regulate and produce optimal outcomes. They were supported by the same economists who now are claiming deficits are bad and the government should engage in fiscal austerity. Hypocrites, liars and parasites – the lot of them.<\/p>\n I would regulate the complexity away. Please read the following blogs – Operational design arising from modern monetary theory<\/a> and Asset bubbles and the conduct of banks<\/a> for further discussion.<\/p>\n But what is extraordinary, what began as a problem of unsustainable private debt growth, driven by an out-of-control financial sector aided and abetted by government deregulation, has now mysteriously morphed into an alleged sovereign debt crisis.<\/p>\n We are all stupid if we believe this. It is time to march in the streets and impose some sense of perspective on our self-serving polities.<\/p>\n I note the demonstrations in London at the weekend were aggressive and targetted. More are needed in all financial and legislative capitals.<\/p>\n\nThe financial system on which Dodd-Frank is being imposed is far more complex than the lawmakers, and even most regulators, apparently contemplate. We will almost certainly end up with a number of regulatory inconsistencies whose consequences cannot be readily anticipated. <\/p><\/blockquote>\n