The Production of Money: How to Break the Power of Bankers
I wrote a modest little book in the spring of 2006 entitled The Coming First World Debt Crisis. It was written as a not-so-subtle warning to friends who had bought into the liberalisation of finance model and were borrowing as if there were no tomorrow. The fear was that because of widespread ignorance about the activities of the global finance sector, and because the economics profession itself did not appear to understand money, banking and debt, ordinary punters were sleepwalking into a crisis.
I did not approve of the publisher’s choice for the title, believing that the book would be out of date as soon as it was published in September 2006. By then, surely, the crisis would have come? How wrong I was, and how right the publisher to overrule me. In the meantime I had to submit to some unkind comments on my analysis of the system. In a Guardian column written on 29 August 2006, I argued that the previous summer’s fall in house sales in Florida and California were canaries in the deep vast coal mine of US sub-prime credit; and that the impact of a credit/debt crisis in the US would have a much greater impact on us all than the then ongoing crisis in Lebanon. ‘Chicken-Licken!’ the web crowd yelled. Bobdoney – someone I suspect was a City of London trader – waxed lyrical:
Next week Ann writes about a six-mile-wide asteroid which has just collided with a butterfly in the Van Allen belt and which, even now, as I eat my cucumber sandwich and drink my third cup of tea today, is heading inexorably towards its final destination just off the coast at Grimsby at 2.30pm on August 29, 2016.
Bobdoney was ten years out, and after the crisis broke, was not heard of again.
The crisis breaks
I remember exactly where I was on that sunny day, 9 August 2007, when it was reported that inter-bank lending had frozen. Bankers knew that their peers were bust, and could not be trusted to honour their obligations. I then naively believed that friends would get the message. I also hoped in vain that the economics profession as a whole would add its voice to those few that warned of catastrophe. Not so. Apart from readers of the Financial Times, and of course some speculators in the finance sector itself, very few seemed to notice.
Fully a year later in September 2008 when Lehman Brothers imploded, it dawned on the wider public that the international financial system was broken. By then it was too late. The world was perilously close to complete financial breakdown. The fear that bank customers would not be able to draw cash from ATMs was real. On the Wednesday after Lehman fell, Mohamed El-Erian, CEO of PIMCO, asked his wife to go to the ATM and withdraw as much cash as possible. When she asked why, he said it was because he feared that US banks might not open.1 Blue-chip industrial companies called the US Treasury to explain they had trouble funding themselves. Over those hair-raising weeks, we lived through a terrifying economic experiment that very nearly did not work.
Given this backdrop, it came as no surprise that policymakers, politicians and commentators had no coherent response to make to the crisis. Many on the left of the political spectrum were just as stunned. Like most economists, they seemed to have a blind spot for the finance sector. Instead their focus was on the economics of the real world: taxation, markets, international trade, the International Monetary Fund (IMF) and World Bank, employment policy, the environment, the public sector. Very few had paid attention to the vast, expanding and intangible activities of the deregulated private finance sector. As a result, very few on the Left (taken as a whole, with clear exceptions), nor the Right for that matter, had a sound analysis of the causes of the crisis, and therefore of the policies that would need to be put in place to regain control over the great public good that is the monetary system.
Bankers, too, were at first stunned into submission, desperate for taxpayer-funded bailouts and, even for a moment, humbled. But that was not to last. After the bailouts, politicians faced a vast policy vacuum. G8 politicians, led by Britain’s Gordon Brown, at first co-operated at an international level to stabilise the system. That co-operation and an internationally co-ordinated stimulus quickly evaporated. Worldwide, politicians and policy-makers fell back on, or were once more talked into, orthodox policies for stabilisation, most notably fiscal consolidation. As Naomi Klein had warned, many in the finance sector quickly understood the crisis as an opportunity to reinforce the global financial system’s grip on elected governments and markets. After some hesitation they jumped at this opportunity, in contrast to much of the Left, or the social democratic parties.
No fundamental changes were made to the international financial architecture. The Basel Committee on Banking Supervision tinkered with post-crisis reforms, but made no suggestions for structural changes to the international financial architecture and system. Neoliberalism – the dominant economic model – prevailed everywhere. Paul Mason wrote a book in 2009 called Meltdown with the subtitle: The End of the Age of Greed. How wrong he was. Ten years now from the start of the 2007 recession, while inequality polarizes societies, the world is dominated by an oligopoly greedily accumulating obscene levels of wealth. And despite the initial meltdown, the global financial crisis has not come to an end. Instead it has rolled around from the epicentre of the Anglo-American economies to the Eurozone and is now focused on so-called ‘emerging markets’. Private bankers and other financial institutions are gorging on cheap debt issued by central bankers, and have in turn dumped costly debt on firms, households and individuals.
The publics in western economies have suffered the consequences. At the time of writing, millions are in open revolt, backing populist, mostly right-wing political candidates. They hope that these ‘strong men and women’ will protect them from hard-headed neoliberal policies for unfettered global markets in finance, trade and labour.
The consequences of ongoing financial crises
At a time when a small elite in the finance and tech sectors continue to reap massive financial gains, the International Labour Organisation estimates that worldwide at least 200 million people are unemployed. In some European countries, every second young person is unemployed. The Middle East and North Africa, at the vortex of political, religious and military upheaval, have the highest rate of youth unemployment in the world. Where employment has increased in economies such as Britain’s, it is of the insecure, self-employed, part-time, zero-hour-contract kind, with uncertain earnings. Warnings abound of a robotic future and the obsolescence of human labour. This vision is touted as if the supply of minerals essential to robots – including tin, tantalum, tungsten and coltan ore, and the emissions associated with their extraction, are infinite. Yet the failure to provide meaningful work for millions of people – at a time when much needs to be done to transform the economy away from fossil fuels – is barely on the political agenda of most social democratic governments. Few, if any, are calling for full, well-paid and skilled employment.
While global GDP is just $77 trillion, global financial assets have grown to $225 trillion since 2007, according to McKinsey Global Institute. Thanks to unregulated markets in credit, the burden of global debt continues to rise. In 2015 the overhang of debt was at 286 percent of global GDP, compared with 269 percent in 2007.2 Millions of workers worldwide have gone for seven years without a pay rise. Small and large firms are facing falling prices, followed by falls in profits and bankruptcy. ‘Austerity’ is crushing the southern economies of Europe, and depressing demand and activity elsewhere. In the United States, nearly one third of all adults, about 76 million people, are either ‘struggling to get by’ or ‘just getting by’.3
However, business is better than usual for rentiers – bankers, shadow bankers and other financial institutions that remain upright thanks to taxpayer-backed government guarantees, cheap money and other central banker largesse aimed only at the finance sector. It is also good for the world’s new oligopoly – big companies like Apple, Microsoft, Uber and Amazon, making fortunes out of monopolistic, rent-gouging activities.
While these and the top 1 percent of corporations are said to be ‘hoarding’ cash of about $945 billion, American corporations, as a whole, hold only about $1.84 trillion in cash. These holdings are eclipsed by corporate borrowing. As this goes to press, US corporations have built up $6.6 trillion in debt.4 In 2015 corporate debt reached three times earnings before interest, taxes, depreciation and amortization – a twelve-year record, according to Bloomberg. In 2015 alone, corporate liabilities jumped by $850 billion, fifty times the increase in cash by Standard & Poor’s reckoning. An estimated one third of these companies are unable to generate enough returns on investment to cover the high cost of borrowed money. This poses the risk of bankruptcy for many smaller corporates. Their creditors may be unconcerned, but it is far from improbable that at some point corporate, as opposed to household, debtors could blow up the system, all over again.
There are other canaries in the world’s financial ‘coal mines’ – all warning of another crisis in the globally interconnected financial system. The scariest is deflation: a threat barely understood because so few alive today have ever lived through a deflationary era. Although the threat of deflation is not seriously addressed by politicians and economists, it is now a phenomenon in Europe and Japan, and a threat in China. The latter rescued the global economy in 2009 by launching a massive $600 billion stimulus, which helped keep western economies afloat. Western leaders responded by reverting to orthodox, contractionary policies, thus shrinking demand for China’s goods and services. This has left China with an overhang of bank debt, and with gluts of goods like tyres, steel, aluminium and diesel. These gluts drove Chinese producer price inflation below zero for four years before 2016. As this overcapacity was channelled into global markets, so deflationary pressures hit western economies.
Both western politicians and financial commentators welcomed news of falling prices. In May 2015, as the UK officially slipped into deflation for the first time in more than half a century, Britain’s Chancellor, George Osborne, welcomed the ‘right kind of deflation as good news for families’. He feared ‘no damaging cycle of falling prices and wages’.5 No one in the British political and economic establishment wanted to acknowledge that the fall in prices was a consequence of a slowing world economy and, in particular, of weak demand for labour, finance, goods and services. Instead deflation was dismissed by most mainstream economists as a sign of consumers delaying purchases!
The biggest worry is the effect deflation has on inflating the value of debt and interest rates. As a generalised fall in prices feeds through the global financial system, wages and profits fall, and firms fail. At the same time, inexorably and invisibly, the value of the stock of debt rises relative to prices and wages. The cost of debt (the rate of interest) rises too, even while nominal rates may be low, negative or static. Negative real interest rates are possible only if nominal interest rates are far more negative – and those would be difficult for central bankers to sustain at a political level.
To put it plainly: for an over-indebted global economy, deflation poses a truly frightening threat.
But what concerns me – and many others – is that central bankers have used up the policy tools at their disposal for addressing another globally interconnected financial crisis. In the UK and the US, central bank interest rates were brought down from about 5 percent to near zero after the 2007–09 crisis. Central banks massively expanded their balance sheets by buying up or lending financial and corporate assets (securities) from capital markets, and crediting the accounts of the sellers. In this way the Federal Reserve has added $4.5 trillion to its balance sheet. The Bank of England’s balance sheet is bigger, relative to UK gross domestic product, than ever throughout its long history. But while quantitative easing (QE) may have stabilised the financial system, it inflated the value of assets like property – owned on the whole, by the more affluent. As such, QE contributed to rising inequality and to the political and social instability associated with it. So expanding QE further is probably not politically feasible.
Even while monetary policy was loosened, economic recovery stalled or slowed because governments simultaneously tightened fiscal policy. They were encouraged in this strategy of ‘austerity’ by the mainstream economics profession, central bankers and global institutions such as the IMF and the OECD, all of whom were cheered on by the western media. The result was predictable: the heavily indebted global economy suffered ongoing economic weakness and overlapping recessions. Recovery, especially in Europe, was worse than from the Great Depression of the 1930s, when it took far less time for countries to return to pre-crisis levels of employment, incomes and activity.
As I write, the ‘austerity’ mood has changed. Global institutions are panic-struck by the volatility of the financial system, by the threats of debt-deflation, a slowing global economy, and by the rise of political populism. In response, by way of extraordinary U-turns, they have radically altered their advice on fiscal consolidation. The IMF, in a May 2016 note, questioned whether neoliberalism had been oversold. The OECD warned policy-makers several times in 2016 to ‘act now! To keep promises’ – and to expand public spending and investment. In June 2016 the OECD made the sensible case that ‘monetary policy alone cannot break out of [the] low-growth trap and may be overburdened. Fiscal space is eased with low interest rates.’ Governments were urged to use ‘public investment to support growth’.6 But these new, late converts to fiscal expansion may just as well have banged their heads against a brick wall, for all the listening done by the US Congress and by neoliberal finance ministers such as Germany’s Wolfgang Schäuble, Finland’s Alexander Stubb, or Britain’s George Osborne. The ideology of ‘austerity’ – aimed at slashing and privatising the public sector – wedded to free market fundamentalism is now so deeply embedded in western government treasuries that tragically neither politicians nor policy-makers are capable of action.
In desperation, some central banks (the European Central Bank and the central banks of Switzerland, Sweden and Japan) have crossed the Rubicon of the Zero Lower Bound, and made interest rates negative. This means lenders pay money to central banks in exchange for the privilege of parking funds (in the form of loans) at the central bank. This is both a sign of a broken monetary system but also of the fear gnawing away at investors, as financial volatility drives them to search for the only ‘havens’ they now regard as safe for their capital: the debt of sovereign governments.
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