naked capitalism

One of the things that has been intriguing about the handwringing among European policy-makers has been the general refusal to consider the idea that one of the countries being wrung dry by doomed-to-fail austerity programs might just pack up and quit the Eurozone. The assumptions have been three fold. One is a knee-jerk assumption that the costs of exiting are prohibitive (this argument comes from Serious Economists in Europe, but they never compare it to the hard costs of austerity and the less readily measured but no less real cost of loss of sovereignity). Second is that an exit would come via a country being expelled, since the Eurozone treaties prohibit unilateral departure. Third is that it would be too much of an operational mess to revive a defunct currency.

A very good piece by Floyd Norris in the New York Times fills this gap by describing that Greece has the motivation and the means to leave. He points out that the treaty arrangements are pretty meaningless: no one is going to send troops in to Greece to force compliance.

He also dismisses the notion that going back to the drachma would be insurmountably difficult. The model is Argentina going off its dollar peg. Set a value of the drachma v. the euro and convert existing debt at that rate. Per Norris:

In early 2002, a new Argentine government ended the peg and did much more. It defaulted, and it required its citizens to do the same. If you had a dollar deposit in an Argentine bank, it became a peso deposit, soon to be worth about 30 United States cents to the peso. That was true regardless of who owned the bank. If you wanted to get dollars back from your Citibank deposit in Buenos Aires, you were out of luck.

Argentina was cut off from international credit. Imports plunged and the country entered a deep — but relatively brief — recession. The peso lost two-thirds of its value within a few months. Argentina was sued by everyone in sight.

But devaluation worked, as it often does. Argentine exports became competitive thanks to lower costs, and the economy rebounded. There are international judgments still outstanding against the country, but when it comes to sovereign states it can be easier to get judgments than to collect on them. Diplomatic assets are off limits — no one can grab the Argentine Embassy in Washington — and monetary assets can be kept with the Bank for International Settlements in Switzerland, which will not allow them to be seized.

In fact, Argentina has since had the best growth among Latin American countries and has shown improvement on social indicators. And remember, Iceland’s central bank collapsed and it was similarly cut off from foreign capital. The first six months after the failure were chaotic, but the Iceland economy has rebounded nicely while Europe is mired in flagging growth.

But he dismisses concerns about violating private bond agreements with a currency change. Most are subject to Greek law, and suitable legislation would presumably be passed. While bondholders of bonds issued under English law could sue, good luck on collecting.

The biggest operational challenge Norris anticipates would be how to print enough currency in secret, since a move like this would need to be announced over a weekend. And word getting out would precipitate a run on Greek banks. Perhaps the Greeks would need to declare bank holiday to buy more time. He also bizarrely says the Greek government would need to balance its budget. Huh? The big risk is that Greece prints rather than getting its tax collection and bloated civil service under control and generates serious inflation.

The obvious question is that as much as this move might be painful and disruptive for Greece short term, it would be disastrous for the Eurozone. Greece has a credible threat it can use against escalating European demands for austerity. Even Angel Merkel has indicated that she understands that Greece being expelled from the Eurozone, meaning an orderly departure, would hurt Germany. A surprise exit would have all sorts of nasty knock-on effects.

So why hasn’t the Greek government done a better job of playing its cards? After all, the rising level of civil disobedience is reaching its endgame.

Unfortunately, the example of Ireland shows that it only takes a very few, in its case, one, critically placed quislings to sell out a country. The Irish government had not engaged in deficit spending; the problem was it had a boatload of bust banks. The Irish central bank had issued a guarantee of bank debt in 2008 which was a colossal mistake and experts argued could have been reversed. EU and ECB pressured the Irish government to keep the guarantees in place in order to get a rescue. But the Irish government could have stared down the Eurocrats; it didn’t need help immediately, and Portugal and Spain would go into crisis long before Ireland would. The finance minister (and the IMF actually supported the Irish position) wanted a bailout for the banks only. But the head of the central bank, Patrick Honohan, backed the ECB/EU position. And who is this Patrick Honohan? A man who led Ireland’s bank stress tests and declared losses to be manageable. Oh, and a member of the council of the European Central Bank, which meant he was playing a role opposite to that of representing the best interests of Ireland. We can see which one prevailed.

Right now, the Greek government seems to have bought the TARP sales pitch “capitulate to the banks or there will be armageddon” hook line and sinker and are knuckling under to ever more draconian demands. But unrest is rising and the parliamentary majority of the ruling coalition is only five seats. A few defections could change the dynamic substantially.

The point of the Norris article is not to say a Greek departure from the Euro is likely, but that it would be possible and in the long run might be a better outcome for the nation. And we learned in the crisis how things that seemed to be low probability were precisely what wound up taking place.

By Matt Stoller, the former Senior Policy Advisor to Rep. Alan Grayson and a fellow at the Roosevelt Institute. You can reach him at stoller (at) gmail.com or follow him on Twitter at @matthewstoller.

Journalist Amy Goodman arrested at the 2008 Republican National Convention

What do the people at #OccupyWallStreet actually want? What are their demands? For many people, this is THE question.

So let me answer it. What they want… is to do exactly what they are doing. They want to occupy Wall Street. They have built a campsite full of life, where power is exercised according to their voices. It’s a small space, it’s a relatively modest group of people at any one time, and the resources they command are few. But they are practicing the politics of place, the politics of building a truly public space. They are explicitly rejecting the politics of narrow media, the politics of the shopping mall. To understand #OccupyWallStreet, you have to get that it is not a media object or a march. It is first and foremost, a church of dissent, a space made sacred by a community. But like Medieval churches, it is also now the physical center of that community. It has become many things. Public square. Carnival. Place to get news. Daycare center. Health care center. Concert venue. Library. Performance space. School.

Few people, though an increasing number daily, have actually taken the time to go through a general assembly, to listen to what the people at #OccupyWallStreet actually want. General assemblies are the consensus-oriented group conversations at the heart of the occupations, where endlessly repeating the speaking of others is the painstaking and frustrating way that the group comes to make decisions. I spoke with a very experienced older DC hand who told me that he hasn’t been because he doesn’t have the patience of the young. This is as different a way of doing politics as distributed computing was to the old world of mainframes. So it isn’t surprising that the traditionalists are reacting as perplexed and dismissive of this new style of politics as the big iron types were with the rise of PCs.

I have been through a few general assemblies now, and they are remarkable because the point of the assembly is to truly put listening at the heart of decision-making. There’s no electronic amplification allowed in Zuccotti Square. So the organizers have figured out an organic microphone system. A speaker says a half a sentence, everyone in earshot repeats, until the whole park can hear that half a sentence. Then the speaker says another half a sentence. People use hand signals to indicate approval, disapproval, get a move on, or various forms of objections and clarifications. During these speeches, speakers often explicitly ask for more gender and racial diversity, which is known as “progressive stacking”.

At first it’s extremely… annoying. And time-consuming. But after a few hours, it’s oddly refreshing. I felt completely included as part of a community forum even though I had not been a speaker. But what I realized is that the act of listening, embedded in the active reflecting of what the speaker was saying, created a far richer conversational space. Actually reflecting back to one another what someone just said is a technique used by therapists, and by pandering politicians. There is nothing so euphoric in a community sense as truly feeling heard. That’s what the general assembly was about, not a democracy in the sense of voting, but a democracy in the sense of truly respecting the humanity of everyone in the forum. It took work. It took patience. But it created a communal sense of power.

At the forum, two fairly simple decisions were made. One, a nurse’s union endorsed #OccupyWallStreet, and pledged some food and offered nurses to train some of the protesters on first aid. The group accepted this endorsement. Two, some drag queens endorsed the protest, and offered food. They also said they would perform the next day. The group accepted this endorsement. That was it. These groups figured out ways they wanted to help, and did so. The groups that offered the help gained power based on what they did to build the space. A few days earlier, someone had offered to do a newspaper for #OccupyWallStreet and asked for volunteers. The group gave its approval. And now there’s an “Occupied Wall Street Journal”. There are people who offer to build the space, and then don’t deliver. But they don’t gain power. And that’s the way #OccupyWallStreet has structured its decision-making. Find ways to build the public space, and then gain the trust of the public that occupies the space you’ve helped build. The nurses helped deliver health care. The drag queens made the carnival more fun. This kind of power, the power that comes from the trust and love of other people, doesn’t emerge from a list of policy demands. It comes from the formation of a public, through the appreciation and sharing of a public space. It takes work, but the result is… #OccupyWallStreet. Or the camps in Israel, or Spain, or Wisconsin, or elsewhere there are mini-civilizations sprouting up.

This dynamic is why it’s so hard for the traditional political operators to understand #OccupyWallStreet. It must be an angry group of hippies. Or slackers. Or it’s a revolution. It’s a left-wing tea party. The ignorance is embedded in the questions. One of the most constant complaints one hears in DC about #OccupyWallStreet is that the group has no demands. Its message isn’t tight. It has no leaders. It has no policy agenda. Just what does “it” want, anyway? On the other side of the aisle, one hears a sort of sneering “get a job” line, an angry reaction to a phenomenon no one in power really understands. The gnashing of teeth veers quickly from condescension to irritation and back. Many liberal groups want to “help” by offering a more mainstream version, by explaining it to the press, by cheering how great the occupation is while carefully ensuring that wiser and more experienced hands eventually take over. These impulses are guiding by the received assumptions about how power works in modern America. Power must flow through narrow media channels, it must be packaged and financed by corporations, unions, or foundations, it must be turned into revenue flows that can then be securitized. It must scale so leaders can channel it efficiently into the preset creek bed of modern capitalism. True public spaces like this one are complete mysteries to these people; left, right, center in America are used to shopping mall politics.

I’m not a booster of #OccupyWallStreet. I don’t have to be. I’m not there right now, and there’s no way to really agree or disagree with a carnival or a church. It is going to be an interesting to watch how the organizations that are working, either formally or informally, on Obama’s reelection campaign, work first to praise and then to co-opt these protest campsites. It’s unclear to me how this will happen, if it will happen, and how those groups will change in the process. One organization, called Rebuild the Dream, is focused on a message organized around “The American Dream”. This organization was started by former White House staffer Van Jones, and is packed with former Obama boosters who proclaimed their love for Obama in 2008. They are similarly ebullient about #OccupyWallStreet, to them the people are finally rising. Interestingly, the first speech I heard at #OccupyWallStreet during soapbox time was a fairly explicit rejection of the notion of an American dream. Many people draw their inspiration from Tahrir Square, hardly a fount of Americana circa 1950. In other words, many of these people simply do not seem to be traditional liberals; they seem to see themselves as a transnational leftist class who believe gender, race, and economics are bound up into one struggle against oppression. The general assembly, their main organizational and power distribution mechanism, is organized around ensuring equality of voice.

So far, the protests are being received relatively well; everyone from Tim Geithner to Kathryn Wylde says they recognize the frustration of the protests. But of course, the real clashes with the establishment power center are yet to come. Tampa Bay Mayor Bob Buckhorn, who presides over where the Republican National Convention will be held in less than a year, is already making noises about cracking down on protesters. The city is asking the Federal government to appropriate $50 million to use for, among other things, predator drones. Buckhorn says, “These are people who are committed to mayhem, and if we’re not careful they will incite it.” This is somewhat silly; the Minneapolis police have agreed to pay $100,000 to journalist Amy Goodman, whom they arrested at the 2008 Republican National Convention (with not a peep from any Democrat).

Power clashes in extremely odd ways. The Democratic establishment is finding itself tied in knots over how to react to the protests. Many want a left-wing version of the tea party, whereas others are deeply uncomfortable with democratic impulses like this one. In addition, these kinds of movements are extremely seductive; at first they are close knit, but then the charlatans of all types move in. The search for meaning can sometimes bring cultishness to the fore; at one point in 2007 a strange cult took over a moderately sized progressive organization, and the rhetoric of the cult just wasn’t very different than the leadership oriented rhetoric of the political group. For now, this isn’t the case, and #OccupyWallStreet is on its growth curve. Where that ends up isn’t clear. But also, this is probably one of many civic uprisings. Should it die down during the winter, another one will take its place, perhaps different in tone but with some of the same people in the core.

So to all those trying to figure out how to engage, here’s my advice. If you want to “help” #OccupyWallStreet, in New York or any place around the country, think about what you can bring to a public space to make it more lively, interesting, or helpful. On a basic level, just bring yourself. If you are a cook, cook food and bring it. If you are a lawyer, offer free legal help. If you’re an artist, make art. If you’re Joe Stiglitz, go by and host a brief teach-in (as he actually did). If you can publish, make a newspaper. One idea is to bring a laptop with internet access, and open it to the spiffy complaint page of the new Consumer Financial Protection Bureau. Put up a sign called “Complain About Your Bank” above the laptop, and show people how to use it. That’s useful. That shows people how to interact with their government and take action to empower themselves against banks. Make the space better, and then enjoy what you’ve made. Or, if you want to fight politically, fight for the right to this public space. Try and make sure predator drones aren’t at either political convention. Advocate for keeping parks open.

The premise of their politics is that #OccupyWallStreet isn’t designed to fit into your TV or newspaper. Nothing human really is, which is why our politics is so utterly deformed. It’s why they don’t want to be “on message” – what kind of human society can truly be reduced to a slogan? I’m not sure I agree with their political premise. But in the carnival they have created, in the liveliness and beauty and art and fun and utter humanity of it all, they make a damn good case.

Yves here. Police efforts to contain OccupyWallStreet have had the opposite effect to what the officialdom no doubt assumed would happen: that the demonstrators would either become discouraged or become violent, which would make it easy to discredit them. Instead, the macing of a group of women last weekend, followed by the arrest of over 700 people on Brooklyn Bridge on Saturdy, has given the movement legitimacy and media attention. It was the lead item on the BBC website over the weekend.

Press efforts to diminish the potential of this effort are now shifting. The initial MSM responses tended to the patronizing, emphasizing the fact that the group was small, camped out on the periphery of Wall Street, and harmless (harmless = weak, particularly when pitted against the might of the plutocrats).

Now that the ranks of participants are growing and prominent individuals like Nobel Prize winner Joseph Stiglitz have stopped by to show support, the new tactic is to attribute the increased interest to gawking rather than solidarity. For instance, the Financial Times headline is “Fed up and curious swell anti-Wall Street ranks.” So in one neat sentence, that suggests there is a hard (and by implication, not large) core of protestors, joined by malcontents and sensation seekers along for the ride.

But the experience of the protestors provides considerable evidence of broad based support: they’ve gotten more in pizza donations and socks than they need; many of the cops express sympathy; the overwhelming majority of passengers in cars that drove by them on Brooklyn Bridge waved at them or otherwise signaled approval.

And images are arresting. Just as televised footage from Vietnam made it impossible to sanitize the brutality of a ground war in Asia, so to are digital cameras and the ease of using social media and blogs to distribute images impeding the efforts of the officialdom to pretend that the protestors are not like the rest of us. Today’s photos include Marines who depict Wall Street as their new enemy:

…and stories on We Are the 99 Percent:

“We are the 99%” is brilliant, and Mark Provost highlights that theme in his post below. It puts the spotlight on the core issue: how economic and political control has moved into the hands of a tiny, irresponsible elite and its minions. It undermines the class-warfare-label-as-denigration strategy because social classes have roots, history, and at least once upon a time, some legitimacy. By contrast, the rise of an oligarchy of the top 1% (actually, more like the top 0.1%) is recent and its actions have been destructive to communities and established social arrangements.

Needless to say, following the Venezuelan saying, “A politician is someone who gets in front of a mob and tries to call it a parade,” one confirmation of OccupyWallStreet’s rising fortunes is that some soi-disnat progressive groups are trying to use it to burnish their brand (click to enlarge):

Maybe I am a bit jaded, but a lot of news organizations have also interviewed members and leaders of the OccupyWallStreet movement, and they don’t try to lay claim to them. For a mainstream left conference that was no doubt organized weeks if not months ago to put OccupyWallStreet forward as if it was their lead act is awfully disingenuous. I hope the organizers are smart enough to come out of this transparent effort at co-option as the users rather than the used.

By Mark Provost, economic journalist focused on US income and wealth inequality living in Manchester, New Hampshire. You can reach him at gregsplacenh (at) gmail.com

My interpretation of the previous two days as a participant and journalist in Occupy Boston does not reflect the views of other members of the “99 percent” movement, or Occupy Boston as a whole.

The $64 trillion dollar question, “When will Americans hit the streets like people in other countries?” has been answered. Over the last several days, occupations have spread from Wall St., and erupted in more than 50 cities across America. The “99 percent” are rising to voice their grievances against an economic and political system which has disenfranchised them for too long. We share painful stories and common concerns, and want profound changes to how this country is governed—and for whom it is governed.

I drove from New Hampshire Friday afternoon and arrived in Beantown to kickoff Occupy Boston. Dewey Square, the site of the occupation in the heart of the financial district, was easy to find thanks to police and media helicopters hovering overhead. But rush hour traffic and Boston’s circuitous one-way streets channeled me far from the site, to an expensive garage.

I asked a well-dressed young man exiting work for directions to the park. He didn’t know the location, and I didn’t tell him why I was going (fearing he may intentionally misdirect me). Unfortunately, my cover was blown when ‘Brian’ asked a coworker for the whereabouts. Brian pointed me in the direction of South Station and offered his opinion, “I work for an investment bank. I am a capitalist…but I don’t agree with American-style capitalism.” Without pause, he refined his thoughts, “I am a socialist.” I was running late, so I simply nodded. He repeated this heresy, and wished me luck.

Earlier Friday, a huge demonstration organized by ‘Right the City’ protested in front of Bank of America, demanding a moratorium on foreclosures and continued their march to Dewey Square. Most of protestors went home, but some stayed to help launch Occupy Boston. I met the acquaintance of three young men from Stoneham, one of whom just lost his job as an eyeglass technician. Luckily his friend, a marine biologist with $60,000 in student debt, just landed a job. “We switched places” they realized, and gave each other a high five. Gatherers mostly engaged in small groups without direction, waiting for something to happen.

The confusion subsided and we got down to business. The group began to communicate using the famed ‘people’s microphone’. When someone calls for a ‘mic check’, the whole group repeats their message in short sentences. We organized into seven separate teams: tactical, direct action, legal aid, food & medical, media, local outreach, and creative artists. Soon, Dewey Square was a rain-soaked and muddy experiment in direct democracy.

Our strength swelled to over 1,000 people. (4) Ages ranged from 7 to 77, men and women, middle class and homeless, gay and straight, bisexual and transgender, anti-war activists and Marine Corps veterans, African Americans and immigrants, Arab and Jewish, Asians and Latinos, unemployed and overworked, working class and Ivy-League educated. We are committed to an innovative, democratic process which is a testament of our vision. The late Howard Zinn believed that the hallmark of a successful social movement is its ability to cultivate both democratic means and democratic objectives. One reinforces the other.

This is a leaderless movement without a central ideology. We are bound only by the understanding that we are part of the 99% of Americans getting shafted by the top 1%.

After we built our encampment and ate a hot meal, roughly 400 occupants hit the streets at 11:00 PM and declared our galvanizing message: “We are the 99 percent! We are the 99 percent! You are the 99 percent!” Countless cars honked in support, loaded Bostonians and passers-by cheered (and a couple jeers), some joined the march, while others grabbed smartphones and cameras to record the rebirth of America in the city that started it all more than 200 years ago. The 99% movement has been ignored and derided in the mainstream press—yet the overwhelming response from the people of Boston is revitalizing. If you join the movement, you will not be stigmatized. On the contrary, your dedication will be praised, honored, and thanked by fellow citizens. One by one, we will break the silence which has devoured this country.

Owing to the gravitational pull of truth-telling, the march returned to camp larger than when it departed. Suddenly, Dewey Park emptied as hundreds of us charged across State St. towards the Federal Reserve Bank of Boston. We chanted “We are the 99%, You are the 99%” (pointing to the phalanx of police officers lining the front of the building) and “F*** the Fed!” The roar echoed from the thick glass walls and stone ground. It was tense, but officers remained disciplined while demonstrators played music, sang, and danced.

Unlike other cities like New York and San Francisco, the BPD has made no attempt to corral us, has not tried to block or channel our marches, has not tried to disperse us, and has entered the encampment once due to a medical emergency. So far, hats off to the BPD. If they respect our right to protest, it makes it easier for us to protect their right to collectively bargain.

By 1:00 AM, it was pouring rain and I told my new friend Murph that I would drive him home to Watertown in exchange for his help finding my vehicle. I returned to New Hampshire, caught five hours of sleep, filled my car with supplies, and headed back to the occupation.

So far, the media has largely ignored the 99 percent movement. A nationwide uprising focused on addressing extreme economic and political inequality is just not newsworthy. Journalists claim that we lack coherence, and ask in a quixotic tone, “Why are they protesting?” Have they not read their own articles or watched their own television reports. Each one of us knows why we are here, and we want to listen to everyone’s ideas. We are a multitude—and we are occupying Boston for a multitude of reasons.

The more relevant question is: Will you join us and contribute to the awakening? (7)

Update 2:00 AM: Lambert Strether has just posted that the police have sent out a notice that OccupyWallStreet can no longer use Zuccotti Park in Manhattan. Clearly they’ve become too successful and must be denied a base camp. This is gonna get interesting, and I am sure the officials hope it will be in a way that discredits OccupyWallStreet.

Update 4:00 AM. From Debra C by e-mail:

The notice does not state who it’s from. Authorship unknown. So it may just mean nothing at all or it may be a bluff. But waiting to find out may be too late to get back into the park.

THESE FOLKS NEED A LAWYER WHO CAN BRING AN INJUNCTION AGAINST THE POLICE AND/OR BROOKFIELD PROPERTIES ON SAY INFRINGMENT OF FIRST AMENDMENT GROUNDS.

If this threat is real, one has to strike in court before the police or Brookfield sweep them away. Because once they are swept from the park they aren’t coming back for a long time.

The crucial thing is standing. The attorney must represent someone who is there whose rights are being infringed. So such a person or persons must be found.

This is a private park but one whose history seems to be that it was erected under the 1961 zoning regs ( that still needs verifcation) Those regs allows an owner to add additional stories to the building if they maintained an open space for the use of the public. So while it is a a privately owned park it still acts just like a public park, it is meant to be used by the public. So First Amendment issues should apply.

We’ve been a bit hard on the left of late, so we figured we’d take some steps to balance our programming. Mark Ames, who has been doggedly on the trail of the Koch brothers, found a delicious failure to live up to his oft-repeated standard of conduct by a god in the libertarian pantheon, Friedrich Hayek. And this fall from grace was encouraged one of the chief promoters of extreme right wing ideas in the US, Charles Koch.

Bear in mind that Charles Koch has not merely promoted libertarian ideas generally but in particular founded the Cato Institute, which has done more than any other single organization to wage war on Social Security. Koch wanted Hayek to come to the US in 1973 to become a “distinguished senior scholar” at the Institute for Human Studies, which Koch quickly made into a libertarian citadel. Hayek initially turned the opportunity down, saying he had just had an operation, which made him particularly aware of the dangers of falling ill abroad. Austria had close to universal health care; Hayek’s comment strongly suggests he took advantage of it.

Per Yasha Levine and Ames in the Nation:

IHS vice president George Pearson (who later became a top Koch Industries executive) responded three weeks later, conceding that it was all but impossible to arrange affordable private medical insurance for Hayek in the United States. However, thanks to research by Yale Brozen, a libertarian economist at the University of Chicago, Pearson happily reported that “social security was passed at the University of Chicago while you [Hayek] were there in 1951. You had an option of being in the program. If you so elected at that time, you may be entitled to coverage now.”

A few weeks later, the institute reported the good news: Professor Hayek had indeed opted into Social Security while he was teaching at Chicago and had paid into the program for ten years. He was eligible for benefits. On August 10, 1973, Koch wrote a letter appealing to Hayek to accept a shorter stay at the IHS, hard-selling Hayek on Social Security’s retirement benefits, which Koch encouraged Hayek to draw on even outside America.

This should put Hayek in some sort of libertariam circle of hell, along with Ayn Rand, who took Medicare and Social Security payments when she was diagnosed with lung cancer.

To quote Blue Texan at FireDogLake:

And before any glibertarians come back with “but…but…she paid into it so there’s no hypocrisy” in comments, Rand herself wrote,

There can be no compromise on basic principles. There can be no compromise on moral issues. There can be no compromise on matters of knowledge, of truth, of rational conviction.

Adding an extra layer of crow to the deliciousness, the Ayn Rand Center for the Center for F*ck You I Got Mine Individual Rights has an article on its website right now titled, “Social Security is Immoral“.

Hoisted from comments, this from reader barrisj. When I went to read the London Banker post in question, I too was struck by the passage barrisj singled out:

A remarkable document has been placed today on the “London Banker” blogsite, the testimony of Marriner Eccles to the Senate Finance Committee in early 1933. His testimony later was rewarded by President Roosevelt by bringing Eccles to Washington to help write or draft several seminal laws that essentially saved US capitalism from itself. In fact, “London Banker” highlighted this particular passage from Eccles’ testimony:

It is utterly impossible, as this country has demonstrated again and again, for the rich to save as much as they have been trying to save, and save anything that is worth saving. They can save idle factories and useless railroad coaches; they can save empty office buildings and closed banks; they can save paper evidences of foreign loans; but as a class they can not save anything that is worth saving, above and beyond the amount that is made profitable by the increase of consumer buying. It is for the interests of the well to do – to protect them from the results of their own folly – that we should take from them a sufficient amount of their surplus to enable consumers to consume and business to operate at a profit. This is not “soaking the rich”; it is saving the rich. Incidentally, it is the only way to assure them the serenity and security which they do not have at the present moment.

Where are people such as Marriner Eccles today?

I strongly recommend reading the post in full. Eccles gave a eloquent diagnosis of how the Depression became so severe and intractable, and a cogent, layperson friendly set of recommendations. I have yet to see any similar length discussion of our current crisis that is as clear and compelling.

By Sell on News, a macro equities analyst. Cross posted from MacroBusiness

The Euro crisis appears to be developing into something similar to the 1980s Latin American debt crisis when the idea that, to quote Walter Wriston, who ran First National City/ Citibank from the 1960s into the 1980s it was assumed that: “countries don’t go out of business.” The Latin American leadership demonstrated that they, in effect, could, by defaulting. As a number of bloggers at MacroBusiness have pointed out, government finances are not like household finances, although they are often seen that way. That much is well understood in the financial community, although perhaps not as well in the wider public.

What is not acknowledged in the financial community is the assumption implicit in Wriston’s comment: that governments can be seen like a business. It is the conflation of the two that is at the heart of the growing problems in the financial system, and it is driven mainly by political prejudice. The political right, ever since Ronald Reagan, has identified government as the “problem”. A slippery piece of rhetoric because surely it is “bad government that is the problem.” But it became a carefully crafted and heavily funded message that has eventually become ubiquitous — its reductio ad absurdum is the Tea Party movement. Business good, government bad. Ergo, government should become more like business. The centre left, especially fools like Tony Blair, enthusiastically embraced the idea that government should become more like business, ending up with current day absurdities such as seeing students in the education system as “customers” (absurd because these customers, by definition, do not know what value is, unlike normal business transactions).

That is the nonsense we now live in and it is the key to why governments have abrogated their responsibility to govern in the financial system. Financial deregulation was really the ceding of governments’ responsibility to set the rules, handing it over to traders, who set their own rules. “Greedism” as Paul Krugman puts it, took over.

So, to return to the Euro crisis, viewed through a longer lens the current instability is related to this conflation of government and business, the emergence of what Phillip Bobbitt in “The Shield of Achilles” calls the “market state”. The Economist described the Euro’s travails thus:

An alternative diagnosis explains the continuing chaos by pointing out that an implicit assumption behind Europe’s financial integration—that sovereign debt was risk-free—has been overturned, and no one knows what to assume instead.

The euro project was founded on a rule that there would be “no bail-outs” of governments’ debt. But, as an analysis by Peter Boone and Simon Johnson of the Peterson Institute points out, its financial plumbing developed in a way that suggested the opposite. Initially the ECB treated all sovereign bonds equally. Even when it decided to take credit ratings into account, the ECB’s practices discouraged banks from clear distinctions between sovereign bonds.

Yes, we are back with Wriston’s “governments don’t go out of business”. But of course, they are not in business, ever. And they can become insolvent.

My suspicion is that we are at a turning point in this long period of a priori demonisation of government. It is true that the anti-government argument was not without its merits, especially when seen in historical context of high levels of state control. Having no government is often better than bad government. Legislation and regulation is frequently counter productive. Incentives in private organisations are often clearer than in public organisations, lending the former a certain efficiency, at least some of the time (although, as we have seen, these private incentive methods can be easily corrupted).

The problem was the exaggeration. Business is not essentially “good”, nor government “bad”. For one thing, businesses routinely fail to last. Governments must last. In an area like infrastructure, which needs to last many decades, using businesses, most of which will fail in under ten years, is asking for trouble.

The malign effects of the exaggeration become most obvious in the financial system, where governments must govern. Finance is rules, governments must rule. But the rulers have left the building and those who should be ruled, the private players, have been allowed to set their own rules. Krugman and Robin Wells, in a review of a book “Age of Greed: The Triumph of Finance and the Decline of America, 1970 to the Present, by Jeff Madrick” (Knopf) describe how Milton Friedman popularised the anti-government mantra:

In Friedman’s worldview, free markets were the solution to practically every problem – health care, product safety, bank regulation, financial speculation and so on. And Friedman squarely blamed government for the Great Depression, a view that is at odds with the data. (Although it is almost certainly true that mistakes by the Fed made the situation worse.) As Madrick quotes him, “The Great Depression, like most other periods of severe unemployment, was produced by government management rather than by inherent instability of the private economy.” Replace “Great Depression” with “the financial crisis and its aftermath,” and it could be US house of representatives speaker, John Boehner, today, rather than Friedman in 1962, speaking these words. Like Reagan, Friedman proclaimed a creed of greedism  (our term) – that unchecked self-interest furthers the common good.

That is the problem, Krugman and Wells ask why it was allowed to occur:

There are a lot of villains in this story – so many that by the end of the book we were, frankly, suffering from a bit of outrage fatigue. But why have villains triumphed so repeatedly?

The proximate answer, clearly, is the abdication of regulatory oversight. From junk bonds to derivatives to sub-prime mortgages, regulators either turned a blind eye or were impeded by business interests and politicians – Democrat as well as Republican. Undoubtedly the most outrageous act – and the most economically damaging to the country – was Greenspan’s refusal to use regulatory powers at his disposal to rein in the exploding subprime market, despite being warned repeatedly that a catastrophe was brewing. Like Reagan and Friedman, Greenspan firmly believed in greedism; in his view, the financial markets could do no wrong.

Yet if the problem was lack of oversight, that leads to another question: Why did the regulators abdicate – and keep abdicating despite repeated financial disasters? This is perhaps the most frustrating aspect of Madrick’s otherwise excellent book: we get a lot of the what, but not much of the why. Madrick’s character-centred narrative makes it seem as if the triumph of greed was the result of a series of contingent events: the inflation of the 1970s, the exploitation of that inflation by Reagan and Friedman, the wheeling and dealing of the likes of Sandy Weill, and the diffidence of Jimmy Carter and Bill Clinton. Yet surely there must have been deeper forces at work.

Krugman and Wells go for a political explanation, for which there may be some merit, although one senses it is a bit irrelevant:

We have argued elsewhere (and are not unique in doing so) that white backlash – especially Southern white backlash – against the civil rights movement transformed American politics, creating the opportunity for a major push to undermine the New Deal. Also, it’s hard to make sense of the growing ability of bankers to get the rules rewritten in their favour without talking about the role of money in politics, and how that role has metastasised over the past 30 years. There’s another book to be written here – perhaps less personality-centred and hence less entertaining than Madrick’s, but one that gets at the forces that made the reign of financial villains possible.

Whatever the deeper story, however, Madrick’s subtitle gets it right: what we have experienced is, in a very real sense, the triumph of Wall Street and the decline of America. Despite what some academics (primarily in business schools) claimed, the vast sums of money channelled through Wall Street did not improve America’s productive capacity by “efficiently allocating capital to its best use”. Instead, it diminished the country’s productivity by directing capital on the basis of financial chicanery, outrageous compensation packages and bubble-infected stock price valuations.

My suspicion is that it has mainly been intellectual fashion, fanned with the backing of any number of corporate backed think tanks spewing out “research” that was anything but real research; rather pro-business propaganda. A sort of flat earthism, helped by some unsavoury support from those who benefit the most. But in the end its supreme illogic is catching up with it. When the contradictions of greedism only affected peripheral economies, such as Latin America and Asia, then those “other countries” could safely be blamed. But now it is affecting the major developed economies of Europe and the US, and it is becoming harder to avoid the obvious conclusion. It is not a choice between no government or bad government. It is a choice between bad government or good government.

Jeff Madrick is a journalist, economic policy consultant and analyst. He is also the editor of Challenge magazine, which seeks to give alternative views on economics issues, as well as a visiting professor of humanities at The Cooper Union, director of policy research at the Schwartz Center for Economic Policy Analysis, The New School, a senior fellow at the Roosevelt Institute and the author of numerous books. His latest book, The Age of Greed, is available from Amazon.

Interview conducted by Philip Pilkington, a journalist and writer based in Dublin, Ireland.

Philip Pilkington: Your book The Age of Greed is a detailed historical survey of some of the key figures that facilitated — broadly speaking — the transition away from the progressive, government-regulated economy of the post-war years and toward the finance-driven, deregulated economy in which we now live. In this interview I don’t want to focus on all the figures that crop up in the book as that is done so there in great detail. Instead I want to explore the broad sweep of this history focusing both on some of the more recognisable of these figures and on the actual cultural, political and economic shift that took place over this period.

So, let’s begin.

Your story really begins in the early 1970s. In those years there were a number of figures — most of them somewhat obscure — who held beliefs or ideologies that, while quite idiosyncratic at the time, have come to dominate the debate today. These are, to boil them down somewhat, ideologies that eschew government involvement in capitalist economies and emphasise the role of the individual in society rather than the role of the society in the individual. In the book you say that these ideologies were long dormant in the US. How far back would you trace them in the form we know them today? Where were they hiding? And why did they begin to stir in the early 1970s?

Jeff Madrick: America has long been a more individualistic nation than most European nations, or even the other North American nations, Canada and Mexico. This has become a dangerous cliché among historians, but I think it is largely true. The reason I say it is dangerous is that the role of community and government in America has been generally underestimated. As I wrote in an earlier book, ‘The Case for Big Government’, community and government investment in education, infrastructure, sanitation and so on were immense. Beyond that, there were long-standing regulations in America that enabled it to grow more equitably – notably, regulations on sales of land that made it more accessible to poorer Americans.

Nevertheless, the availability of land and resources enabled many Americans to make it on their own. They believed they did it without government, especially when looking back nostalgically. They also interpreted their 18th century break from Britain ever after as a renunciation of powerful central government.

Thus, in important ways, the return to individualistic, anti-government attitudes did have profound antecedents in the national character. Progressivism got its start in the late 1800s in the US, but the strong individualistic bent suppressed social policies, nevertheless. European nations adopted Social Security systems, for example, but the US did not. These individualistic characteristics had been partly set aside by the ravages of the Depression, but not completely. America refused to adopt a nationalized health insurance program, for example.

It is often forgotten that the social policies of the Johnson era were also hard to win. The war on poverty and the civil rights movement were not moments of bipartisan agreement. In this regard, I don’t know where President Obama gets his sense of history, or how thing were done in America.

The turn against progressivism in the 1970s was mostly the result of economic crisis. But it was an easier battle to win ideologically – or that is, for people like me, to lose – than realized because of America’s past. It was mostly economically driven, if not entirely. Many disliked the Johnson Great Society, for example. They also became increasingly skeptical of Washington with the Vietnam War and Watergate.

But the rise of inflation and unemployment in the mid-1970s so severely set back the American economy and frightened people that they needed new explanations – and scapegoats. Not only did inflation soar while the economy generated inadequate jobs, but the trade and budget deficit also rose and people saw an invasion by Japanese, German and other products in their everyday lives.

It is not an exaggeration to say that America panicked. They gravitated towards the simple views of men like Milton Friedman, who blamed government for their discomfort and insecurities. Businessmen were quick to join them, beating down government intervention wherever they could. And older line progressives fought back weakly.

In 1973, Ronald Reagan, as government of California, tried to have an amendment to the state constitution adopted that would permanently cut the state income tax. Voters defeated it soundly. Some thought Reagan’s political career was over. In the next five years, economic panic took hold and Friedman’s simple, anti-government ideas became compelling as explanations.

By 1978, Californians now voted overwhelmingly for Proposition 13, which cut property taxes sharply. A successful nationwide tax revolt got underway. Progressive only five years earlier, and still believing in social programs, the nation’s attitudes changed. This change was not yet the work of right-wing think tanks and moneyed lobbyists; they were just starting to organize. It was the attitude of the people that changed and set the change for a regression in social policies and deregulation of finance and other industries.

PP: You mention Milton Friedman. It would be hard to understate his importance. The impression I got from your book is that this anti-government movement was largely fragmented and dispersed before Friedman came along. It was him that lent serious intellectual weight to the movement and gave it the sort of policy prescriptions and theoretical sanction that it needed to rally its troops.

Yet, I cannot get over the impression that Friedman was not so much rejuvenating economic theory with new ideas as much as he was reinventing something that had been discredited decades before hand — or, at least, so many thought. Could you talk a little bit about this?

JM: There were other intellectual forces out there, not least of them Ayn Rand. And there was always a strong conservative undercurrent. William Buckley was one of its leaders. Von Hayek’s 1944 book, The Road to Serfdom, was influential. It was a best seller.

But Friedman’s work was eventually thought of as very serious and congealed the movement. Its basic assumptions were hardly original at all. You are right. He basically resurrected the old classical and neo-classical lines of thought about market economies and then profoundly over-simplified them. His very accessible and even compelling book, Capitalism and Freedom, was influential partly because it was so understandable. He seemed to provide an answer. It basically said competition and freely set prices will cure most social ills to the extent they can be cured at all. Government will almost always make matters worse.

But there was nothing in Friedman that wasn’t already fundamentally in Adam Smith. He did update those notions and attached somewhat far-fetched ideas to them about the value and power of the money supply, which in truth cannot even be controlled. The nation’s obsessive focus on inflation was also his doing. Many, including Democratic economists, thought he proved his point. I think he did not, and that theories like the natural rate of unemployment, the foundation of the inflation obsession, will be dismissed fully in time. But he gave the movement intellectual credibility and he was wonderfully articulate, to boot. In truth, his intellectual contributions will not live, however.

PP: That certainly raises a lot of questions about our present moment. It seems that many economists — at least those in the media and in the public eye — have become entrenched in their positions rather than responding to circumstances which have clearly changed. But we’ll discuss this later in the interview.

For the moment, let’s shift back to the politics of the era in question. The presidency of Jimmy Carter represents for many post-war liberalism in its death throes. Underneath the shift in economic policies — Carter, for example, led the charge on deregulation and had misgivings about running budget deficits for social programs — there was a deeper moral or even existential crisis of establishment liberalism. This crisis was clearly manifest in Carter’s famous ‘malaise speech’. That speech was famously criticised by the cultural historian Christopher Lasch — whose work was supposed to have served as an inspiration for the speech — for making it seem that the president was asking working Americans to give up some of the gains they had made in the post-war years to facilitate less consumption.

You say in the book that the fracturing of the liberal project was largely due to the inflation shocks of the 1970s. Do you think that it can really be held fully responsible for the sense of hopelessness — of malaise, even — that overcame the liberal establishment in those years?

JM: I actually think explains a great deal of it. As growth sputtered, there was less money for social projects. Meantime, the liberals did not seem to have an answer for inflation. In fact, they did but they could not stick to their guns because it required a long-term strategy of slowly unwinding inflation. That was probably politically infeasible. Too often, when something doesn’t work in time to have political potency, people abandon their ideas. Strong non-inflationary growth would have brought more people out of poverty and provided enough money for a national healthcare plan.

But the liberal project had some fallacies – the fallacies of excess. Unions did push wages too high in some areas and created an inflexible economy in some industries. Other non-union salaries followed suit. Some liberals could not face the need to reduce the wage share of the economy. This was their problem.

Carter was a fiscal conservative, mostly a true blue Republican in this regard. He tempered it with true caring about the poor and unemployed. He had an unimaginative response to what he saw as an age of limits. We wanted too much, such as oil, and this caused inflation. Let’s want less. Not a strong message, really, and it was wrong.

But if there had been no serious inflation, the progressive tendencies may have survived their enemies – especially those who thought any social programs were giveaways to the lazy and unworthy.

PP: Correct me if I’m wrong but I believe that there was much buzz about wage and price controls in the liberal establishment of the era. Nixon, of course, had given them a half-hearted shot in the early 70s but the innate conservatism of his economic advisers had ensured that they couldn’t be used effectively. My feeling is that these would have worked if given half a chance – after all they had been remarkably effective under Galbraith in the far more extreme environment of WWII. So, why weren’t these taken as a serious policy option by the liberal establishment of the era? Surely they would have been a ‘quick political fix’ if there ever was one.

JM: Wage and price controls had already been developed before 1971, when Nixon imposed them. But Democrats still were favourably on balance. John Kenneth Galbraith had imposed the controls as part of his government duties during World War II. The nation also had some success with them in the Korean War. Paul Volcker, then a key economic advisor for Nixon, definitely favoured them but Nixon stepped on the gas by huge fiscal spending to drive up the economy when he had the freeze so that he could get re-elected.

His wage-price freeze simply was not a serious attempt. He then undid them too abruptly. The Democrats considered them in the Carter term and did indeed impose ‘guidelines’. These could have worked if they had been willing to stick with them but Carter wasn’t willing and the nation was changing, as I noted. Market solutions, not government interference was generally gaining the upper hand ideologically and the Democratic economists never fought back with sufficient determination.

PP: But that means the solutions were there if the Democrats wanted them and they were well aware of them. That they didn’t pick them up and put them into practice means there must have been some sort of cultural shift or moral malaise; it seems to me that this is the only thing that can explain liberals’ flakiness in this period. Maybe your point about the Watergate scandal and the Vietnam War destroying confidence in government might explain this reluctance to wield power? Could you talk a bit more about this?

JM: Yes, as I have been saying there was a cultural anti-government shift in opinion and in the media. This is my main point. Liberals could have fought against it but did not. It wouldn’t even have necessarily worked politically. They would have been pushed out of office unless they were persistent and determined. They were not. In fact, many Democratic economists had strong doubts, already participating in the shift towards laissez-faire attitudes.

The ‘malaise’ was really just simple pessimism. Nothing had seemed to work for years to solve the economic problem of inflation. Carter actually never used the word ‘malaise’ in his speech – but the key point is that he was no good at puncturing the pessimism. Reagan, the mythmaker, was remarkably good at it.

PP: That was going to be my next question. Reagan was, of course, a master orator and a man of considerable charisma and charm. Nevertheless, even without considering his personal qualities, his message seemed to resonate with the times. Could you talk a little about Reagan and how he ‘clicked’ with the American public at this important moment in history?

JM: Well, it is important to remember that he didn’t click national at first at all. He won in California as governor at a time when the state was disturbed about racial issues and the Berkeley free speech movement. He talked tough and his opponent did not take him fully seriously. Then he governed not quite as conservatively as he talked.
What he did best was to understand the concerns of working people, which was his heritage. He didn’t believe – and this is widely misunderstood and misreported – in Friedmanite self-interest. He believed in individuals – that hard work would pay off and we could make our own lives.

He kept trying to get the presidential nomination – in 1968 and then again in 1976 – and failed. But while he failed, he did countless radio speeches – short essays – which forced him to develop his opinions in many areas. He understood the value of a simple story with a cathartic climax. He was conscious enough of his intentions to write this in so many words.

But he was always a Manichean over-simplifier. There was, as in Hollywood, always a bad guy. Early, when he was a New Dealer, business was the bad guy. In the 1950s, he switched; government became the bad guy. As of course was the Soviet Union in international affairs.
When the nation’s views turned in the 1970s, he exploited this well. He stuck to his guns for more than twenty years and his moment came. He radically cut taxes and regulatory staffs, and extended the angry attitude of Americans towards government to tragic ends.

PP: You say that his popularity in California was disturbed by racial issues and the free speech movement – in essence, California was disturbed by what have come to be known as the ‘sixties’. Do you think that the ‘sixties’ and the attitudes that grew out of them had wider and broader cultural effects? Do you think they helped facilitate the turn to Reagan’s rhetoric of ‘individual responsibility’, responsibilities rather than rights; in short, the turn to conservatism?

JM: Yes, there was a reaction to the new social policies and ‘looser’ lifestyle of the Sixties. The social policies had many angry – they mostly helped people of colour, it was thought, or ne’er do wells. There has always been that strain in American politics, this time tinged with racism because of the Civil Rights Act and integration. Also, liberals went too far with busing.

But the catalyst was still the bad economy. There always would have been a pendulum swing, but it probably would have been modest as baby boomers became adults with families.
PP: Let’s move on to Alan Greenspan. In your book you portray Greenspan as a rather mediocre figure, as far as ideas and economics goes. This runs counter to the narrative we’re all used to — the narrative of the ‘master of the universe’ with his finger firmly on the pulse of the world economy. You portray Greenspan as a savvy political player and a free-market ideologue in the crudest of sense, but little more than that. Could you talk about this a little bit?

JM: I certainly would not call Greenspan mediocre. He was a competent Wall Street economist with great talent for networking, assessing the political winds, and positioning himself in a niche where there was little competition – that is to say, articulate Republican economists in the 1970s. He could talk persuasively to businessmen and politicians alike.

But he was, as I say, a Wall Street economist who did not have a sophisticated model of the economy, but instead a by-the-pants model. He also an ideologue with a simplistic notion about laissez-faire economics that he partly derived from the views of Ayn Rand. He suppressed these views, but as his reputation rose, he became more confident that less regulation of financial markets was ideal.

It was based on the most simple ideas about the moderating value of competition. They were decidedly pro-business which, as I explain in the book was probably a leaning he had since childhood. As a Fed chairman, he was intent on suppressing inflation above all other things, also a reflexive Republican attitude.

His actions to keep rates down in the late 1990s have been misinterpreted. He kept them down less because he believed in a new economy than his fears about the financial crises over Long-Term Capital Management and Russia.

In the end, he had more to do with the financial crisis than any other single individual because he refused to regulate and oversee the financial community properly. He insisted derivatives needed no serious regulation. This was purely ideological. He approved of the merger that resulted in Citigroup. He had no idea of the level of risk on Wall Street that he more than anyone else was responsible for.

PP: Perhaps I shouldn’t have used the term ‘mediocre’. My impression from your book was that Greenspan was not much of a theoretical economist – as you say, he was more of a ‘hands on’ kind of guy with an overarching ideology. Do you think that this led his policy in many ways? Purely practical people tend to only pay attention to flaws in a system when things start to go wrong – should such a person truly been in charge of the Federal Reserve?

JM: I don’t think you have to be a theoretical economist to run the Fed. Greenspan didn’t get a PhD but even that need not be an obstacle. He was an ideologue who suppressed his ideology. His one fight was against inflation. He was determined to be as good as Volcker at beating it down. Like most Republicans, he wanted to show that he was tough. His economic analysis was more ground in day to day changes in the economy with little sense of economic dynamics or Keynesian disequilibria or long-term damaging equlibria. For these more subtle concepts, he’d have no sympathy. My personal view is that he was guided by the bond rate. If it went up fast, it meant there were inflationary expectations which he was determined to beat down. He overkilled on inflation, of course. But he also backed off in the late 1990s. Many attributed this to his prescience about the New Economy, regarding which he had sophomoric views. He kept rates down, instead, because of the economic crises in Asia, Long term capital management and in Russia. He suppressed his ideology for a while but as the adulation for him increased, he became increasingly ideological – much to the detriment of us all. He was more responsible for this crisis than anyone else by far. And that was purely down to his ideology.

PP: Okay, let’s move onto Clinton. I was surprised he wasn’t included in your book. Carter was there but not Clinton. Yet, Clinton’s administration oversaw some of the most substantial deregulation of any period which culminated in the elimination of Glass-Steagall. Clinton also oversaw what some might consider a sort of mania for a balanced budget – one that may well have pushed the household sector into a net borrowing position. The Clinton period was also the time when asset bubbles began to seriously float deficient economic growth – I refer, of course, to the DotCom bubble. Could you talk about all this?

JM: I talk about Clinton quite a bit in the book, as you know. More deregulation occurred during his administration than others. But much of the story is familiar. I tell this story through Wall Street and Alan Greenspan. In particular I discuss how Bob Rubin and Larry Summers convinced Clinton that any surplus be put back into the bond market. I also cite Clinton’s claim that it was the end of the era of big govt.

But the big trends were already underway when he took office. Clinton did not stop them. The mania for budget balancing really began in the 70s. It intensified in the 80s with the Reagan deficits. George HW Bush was determined to tame them and had a tax increase passed. Then came Clinton’s tax cuts and they seemed to work.

Meanwhile Greenspan raised interest rates unnecessarily, akin to a kind of shock therapy. Rates came down and a boom got underway, supported more by financial asset inflation than was realized. Ever the fantasist, Greenspan pinned it on high technology and allowed rates to fall more. But Clinton, only and always trying to get credit, attributed it to the tax increase and a balanced budget. Rubin believed that this reduced the crowding out of private borrowing. Never mind all the financial crises in Asia, Wall Street and Russia. Greenspan just stepped on the gas, lowering rates and all the while alluding to a new economy which was at best partly true. Under Clinton the Democrats became the Wall Street party and his refusal to support regulation of derivatives in 1994 and 1999, under the guidance of Rubin, the former Goldman Sachs co-chief, and Larry summers, the former Keynesian, eventually led to a terrible debacle. They greatly admired Alan Greenspan and never crossed him. Keep in mind, much of the Democratic congress went along. Wall Street got a hold of Washington – and they never let go.

PP: Sorry, I should have said that you didn’t give Clinton a section in the book — of course you do talk about his policies.

I want to talk a little more about the balanced budget. The notion that a budget should be balanced all the time appears to me farcical. Not simply from an economic perspective but also from an historical perspective. Most of the time most developed countries run deficits — if they didn’t they wouldn’t have stocks of public debt. There is, in my mind, without a doubt a link between unbalanced government budgets and capitalist economies.

Yet, the idea of balanced budget has been something of a millstone around the necks of liberals and progressives since at least as far back as Roosevelt. Why do they let the other side lead the debate in this instance? Why do they cling to balanced budgets when it seems so obvious that unbalanced budgets are the historical norm?

JM: Quickly, balancing budgets goes back much farther than FDR. After all, excessive government expenditure, especially on war, has brought down many governments over the centuries. Modern theory suggests budgets should be balanced over the course of the business cycle – not all the time. I don’t agree they need be balanced over the cycle, though. I think there is probably an endemic insufficiency of demand due to inadequate wages, so a persistent, if not constant deficit makes sense. Also public investment will have a positive rate of return – usually.

But balancing the budget is a political football. The Right demands it. They always claim it leads to inflation and crowding out. The Democrats like it when the Republicans run a deficit as under Reagan and George W Bush. There is both hypocrisy and bad economics involved in the whole deficit discussion, unfortunately.

PP: I’d tend to agree with pretty much all of that.

Moving on to the present day after all that was built over this era has collapsed in upon itself, what do you think the future holds? I mean that both from the perspective of regulation — I note that Regulation Q, the bypassing of which you portray in the book as a pivotal moment, just two months ago was cut back to allow interest to be paid on checking accounts. And then there’s the issue of actual economic growth which seems mired due to government reluctance to pick up the mantle after beating themselves down all these years?

In these respects what do you make of this brave new world?

JM: I find it hard to believe that more policymakers, editorial writers and pundits don’t ask whether Wall Street should have as central a purpose in our economy as many take for granted. We should be asking whether Wall Street – that is, the financial community – is justified at all in its present size. The main question my book raises is whether the financial sector does more harm than good. Those who are for re-regulating of Wall Street, including Dodd-Frank and the Obama administration, have never gotten to first principles though. The regulation as proposed will not adequately cut the Street down to size. The institutions should be cut in size and streamlined along product lines that reduce conflicts of interest. Those that take federally guaranteed deposits should be ring-fenced. Those that underwrite or privately place securities should not take deposits and have no access to the Fed discount window. Speculation has to be seriously limited to small institutions through the use of higher capital requirements.

At the same time, a few legal actions have been taken against unethical practices on Wall Street. It is remarkable that so few criminal charges have been made, and that civil cases are settled through relatively small fines to avoid going to court. Fraud law, both legislative and common law (tested by brining cases), must also change.

Without adequate changes that ensure that Wall Street channels money to productive uses, America will have a hard time getting money where it is needed in the economy.

In the meantime, this administration believes that all it needs do is to revitalize finance and credit and this would re-inflate the economy. At the same time no serious attempt was made to make mortgage holders whole – at least in some degree – which is a tragedy.

People are frustrated. A mid-July survey found that most Americans believed Wall Street did more harm than good. My book is about showing how that happened – and indeed, without doing a statistical analysis, I think the book shows that it did happen.

Pair this with the mistaken assumption that fiscal austerity is required to re-structure the US economy, and we probably face a very hard time ahead.

Other nations, on the other hand, have asked the question about the purpose of finance and proposed more stringent solutions, such as the Vickers Commission. Maybe that’s a start.

By L. Randall Wray, a Professor of Economics at the University of Missouri-Kansas City and Senior Scholar at the Levy Economics Institute of Bard College. Cross posted from EconoMonitor

Sorry, this is a day late (but hopefully not a dollar short).

Back in fall of 2008 I wrote a piece examining what was then the biggest bubble in human history: http://www.levyinstitute.org/pubs/ppb_96.pdf.

Say what? You thought that was tulip bulb mania? Or, maybe the NASDAQ hi-tech hysteria?

No, folks, those were child’s play. From 2004 to 2008 we experienced the biggest commodities bubble the world had ever seen. If you looked to the top 25 traded commodities, you found prices had doubled over the period. For the top 8, the price inflation was much more spectacular. As I wrote:

“According to an analysis by market strategist Frank Veneroso, over the course of the 20th century, there were only 13 instances in which the price of a single commodity rose by 500 percent or more. For example, the price of sugar rose 641 percent in 1920, and in the same year, the price of cotton rose 538 percent. In 1947, there was a commodities boom across three commodities: pork bellies (1,053 percent), soybean oil (797 percent), and soybeans (558 percent). During theHunt brothers episode, in 1980, silver prices were driven up by 3,813 percent. Now, if we look at the current commodities boom, there are already eight commodities whose price rise had reached 500 percent or more by the end of June: heating oil (1,313 percent), nickel (1,273 percent), crude oil (1,205 percent), lead (870 percent), copper (606 percent), zinc (616 percent), tin (510 percent), and wheat (500 percent). Many other agricultural, energy, and metals commodities have also had large price hikes, albeit below that threshold (for the 25 commodities typically included in the indexes, the average price rise since 2003 has been 203 percent). There is no evidence of any other commodities price boom to match the current one in terms of scope.”

Now here’s the amazing thing about that bubble. The staff of Senator Joe Lieberman and Representative Bart Stupak wanted to know whether the bubble was just due to “supply and demand”. Relying on the expertise of Frank Veneroso and Mike Masters (two experts on the commodities market), I was able to conclude beyond any doubt that it was a speculative bubble driven by a “buy and hold” strategy adopted by managers of pension funds. Hearings were held in Congress, with guys like Mike Masters testifying as well as representatives from the airlines and other industries.

The pension funds panicked, realizing that their members would hold them responsible for exploding prices of gasoline at the pump. Pension funds withdrew one-third of their funds and oil prices fell from about $150 per barrel to $50. If you want to read the detailed analysis, go to my paper cited above—it has to do with commodities indexes, strategies pushed by your favorite blood sucking vampire squid (Goldman Sachs), and futures contracts. It gets wonky. To make a long story short, the bubble ended in fall of 2008.

But then the crisis wiped out real estate markets and the economy. Managed money needed another bubble. They whipped up irrational fears of hyperinflation that supposedly would be caused by Helicopter Ben’s QE1, QE2, and the newly announced QE3. Better run to good “inflation hedges” like gold and other commodities. That did the trick. The commodities speculative bubble resumed.

And boy, oh boy, what a boom. An April report by expert Jeremy Grantham looks at the last decade’s bubble in commodities; Frank Veneroso expands upon that in a more recent report. Here’s the elevator speech summary. Take the top 33 commodities that are globally traded—everything from gold and oil to to rubber, flaxseed, jute, plywood, and something called diammonium phosphate. Over the past 110 years, an index price of these 33 commodities has declined at an annual rate of 1.2% per year. (Sure there are variations across the commodities—this is the average. And so much for inflation hedges. Commodities prices fell—they did not keep up with inflation. If you liked negative returns, commodities were a good bet.) Although demand for these 33 commodities has increased a lot over the century, new production techniques plus successful exploration has resulted in a declining price trend.

Further—and this is a bit surprising—deviations from the trend follow a normal distribution (you learned about this in high school; it is a bell curve with nice properties; chief among these is the finding that about 68% of outcomes fall within one standard deviation; about 95% fall within two standard deviations (once a generation); and you’ve got just about a snowball’s chance in hell of finding outcomes that are three or four standard deviations from the mean).

But what is more surprising is that over the past decade, the price rises you find for these 33 commodities are just about beyond the realm of possibility—2, 3, and 4 standard deviations away from trend. It is a boom without any precedent. Quite simply, nothing even close has ever happened before, in any market, including hi tech bubbles and real estate bubbles.

By now you’ve all read about black swans with fat tails—a reference to supposedly “unexpected” and highly improbable default rates on subprime mortgages and other toxic waste assets. (Way out the normal distribution’s “tail”.) As an insider quipped, you had once in 100,000 year events happening every day. But that is misleading. These were junk assets that from the get-go had nearly 100% probabilities of default—NINJA loans and so on. The models were flawed, indeed, fraudulent. That was all a scam. Those weren’t black swans with fat tails—they were Hindenburg blimps filled with explosive hydrogen just waiting for someone to light a cigarette.

By contrast, in the case of commodities, this is real stuff (not IOUs of deadbeats with no prospects). Barrels of oil that someone really wants. Corn to turn into pig and steer fat, or fuel for Midwest automobiles. Or gold to be hoarded by the University of Texas. There really is a demand for it; and someone produces it.

Yes, commodity bubbles happen, but eventually reality sets in and brings the price back down to reality. You don’t get 3, 4, and 5 standard deviation events. A four standard deviation price rise falls outside 99.994% of all outcomes—one in 100,000 years; a five standard deviation price rise is about one in 2 million years. That pretty much covers the time since our ancestors beat things with big sticks.

But wait a minute. The standard deviation of price rises for iron (5), coal, copper, corn and silver (4), sorghum, palladium, and rubber (3.5), flaxseed, palm oil, soybeans, coconut oil, and nickel (3), and so on down through jute, cotton, uranium, tin, zinc, potosh and wool (2) are so unlikely that they quite simply could not have happened. Individually. Together, the likelihood that we’ve got an unlikely boom in almost all of the 33 commodities? All at the same time? Impossible. Cannot happen. Not in the lifetime of our sun, let alone our planet.

But it did.

Why? China. Peak oil. Supply disruptions. Some markets cornered by speculators. Market manipulation by oligopolistic suppliers.

Yes, OK, those have played some small role. But remember, we are in the worst global slowdown since the 1930s. I will not go through all the data, but demand for most commodities is actually slumping. For many there is substantial excess supply. And China wants to slow. China is still largely a socialist society. China basically does what it wants to do. China will slow.

And yet the prices rise far beyond anything that has ever happened before. Beyond anything that can happen.

Why? Financialization. Just as homes became financialized (in many ways, including serving as the collateral for “ATM” cash-out home equity loans), commodities became thoroughly financialized. (So did healthcare and death, with peasant insurance and death settlements—topics for another day.)

Here’s the reason. Believe it or not, commodities markets are tiny; except for soy, oil, and corn they are smaller than tiny. Managed money is huge—tens of trillions of dollars floating around the world looking for high returns. US pension funds alone are three-fourths of US GDP–$10 trillion give or take. If you put even a fraction of managed money into commodities index funds, you blow up the prices.

The weapon of choice is the futures contracts—essentially you buy commodities for future delivery (a couple of months from now). When they mature, you do not take delivery but instead sell the contract to someone who actually wants the commodity, and roll into another futures contract. This is what pension funds, and so on, have been doing. If prices rise, you always win on the roll (sell for more than you paid).

The typical argument is that this cannot affect prices since for every buyer (long position in the contract) there must be a seller (short position). The balance between these two keeps prices in line with “fundamentals”.

In normal times, yes, more or less. But here’s the deal. What if I supply diammonium phosphate (whatever the heck that is) and you are speculating that the price will rise. You and every other pension fund and client of Goldman Sachs. I want to lock in the expected price rise, so I am a happy seller of future commodities. If prices go down, I do not get hurt—I locked in the price rise and have the right to sell the commodity at the higher price. And so even as prices leave all fundamentals, the producers continue to sell futures contracts to lock in higher prices.

I win, you win, we all win with price appreciation.

Now, to be sure, the whole thing is going to blow up, in what Frank Veneroso calls a commodities nuclear winter. As prices rise, consumption of the commodities falls (as we are already observing) both through substitution and through conservation. At the same time, additional supplies come on line. Real world suppliers feel the imperative to slash prices to have some actual real world sales. They cannot forever live in never-never land with rising prices and collapsing sales.

There are many shoes that will drop, bringing back the Global Financial Crisis with a vengeance. Commodities crash, default by a Euro periphery nation, failure of a Euro bank, or the closure of Bank of America or Citi. All of these are likely events, less than one standard deviation from the mean; probably all of them will happen within the next year.

No matter what the triggering event is, that commodities nuclear winter will happen.

Soon.

Sooner than later.

Admittedly, my RSS reader is hardly a definitive check, but it does cover a pretty large number of financial and economics websites, including those of academics. And from what I can tell, an extremely important paper by Claudio Borio and Piti Disyatat of the BIS, “Global imbalances and the financial crisis: Link or no link?” has been relegated to the netherworld. The Economist’s blog (not the magazine) mentioned it in passing, and a VoxEU post on the article then led the WSJ economics blog to take notice. But from the major economics blogs and publications, silence.

Why would that be? One might surmise that this is a case of censorship. Borio has been a long-standing critic of the Greenspan and later Bernanke thesis that central banks should ignore asset and credit bubbles if prices are stable. He and William White went public (as public as you can go in the BIS) in 2003 with their contention that an international housing bubble was underway and action was warranted. Greenspan and virtually all other right-thinking economists ignored the bubble and other signs of trouble (like a sustained near zero consumer savings rate in the US) and drank the Great Moderation Kool-Aid instead.

Despite the overwhelming evidence of their colossal pre-crisis screw-up, most academic economists are unwilling to admit much if any error. And they are generally respectful towards Bernanke (the fact that the Fed is the biggest single source of funding for academic research no doubt contributes to the deference shown to the central bank).

The paper is important for a second reason: it seeks to address the limited and imprecise thinking about the relationship between the financial markets and the real economy. I cover some of this ground in ECONNED. The shortcomings of prevailing macro models include: an equilibrium assumption (by contrast, financial markets, which impact the real economy, have no propensity to equilibrium), no role for credit, banks, or even money (except sometimes in error terms).

In addition to its heretical views, another reason the Borio/Disyatatp aper has gotten less attention than it warrants is that it is written densely and defensively, perhaps a response to the way the clear and well documented White/Borio papers on the housing bubble were dismissed as having no theoretical foundation. I read it early in the summer, and have dragged my feet in posting on it because it would be difficult to do it justice in a single piece. It should have occurred to me sooner to write about it over two or three posts.

However, I may simply not have been up to the task of making it accessible. Our Andrew Dittmer (a Harvard Phd in mathematics who among other things, has taught group theory to seventh graders) has converted the paper into Layspeak:

The May 2011 Bank of International Settlements paper by Claudio Borio and Piti
Disyatat is quite important It suffers, however, from one defect: it is not written in English, but in economese. I have therefore taken the liberty of poetically translating it into our language (and adding occasional remarks here and there). All numbers below are references to page numbers in the original paper.

* * * * *

The global financial crisis led to widespread dislocations and misery. However, another set of victims, hitherto overlooked, were central banking authorities and professors of economics who had staked their names on the thesis that the current configuration of the global financial system (which they had helped to engineer) was generally wonderful. These unfortunate souls were forced to come up with an explanation for the crisis on short notice, and it had to be an explanation in which they themselves played no role.

Ben Bernanke et al. rose brilliantly to the challenge. They remembered that many Asian countries had stocked up on foreign currency reserves in the hopes of never again being at the mercy of the IMF (26, note). Obviously, trying to resist the IMF was wrong and deserved criticism. Moreover, saying bad things about the Chinese would inevitably be welcomed in foreign policy circles eager to talk about the coming “bipolar confrontation” between America and China.

This “savings glut” theory argued that savings by Asian (and Middle Eastern) countries had washed like a tidal wave onto US financial markets, effectively forcing US money managers to invest imprudently in the course of their attempts to cope. For instance, these “excess savings” were widely assumed to have reduced long-term interest rates, thereby making credit cheaper.

There were some obvious problems with the global imbalances theory. Before the crisis exploded, many of the same economists had pointed to the same imbalances as a happy coincidence of needs, leading to better results for all (23). According to the sort of economic theory that was used in these explanations, if “global imbalances” were causing long-term interest rates to fall, that was simply a natural market outcome that should be contributing to equilibrium (23).

Consistency is the hobgoblin of little minds, and the “excess savings” theory was duly welcomed. It was even paid the supreme compliment of being accepted by Goldman Sachs’ lobbying division (see Effective Regulation, part 1, page 1).

Despite the consensus of these eminent authorities, we have decided to take a second look at the theory. Unfortunately, we have found further problems.

The idea of “national savings” or “current account surplus” refers to the total amount of exports sold minus the total amount of imports sold (more or less). The “excess savings” theory holds that this excess had to have been financed somehow, and so presumably by countries in surplus, like China.

However, for the US in 2010, the total amount of financial flows into the US was at least 60 times the current account deficit (9), counting only securities transactions. If this number were correct, then inflows would be 61 times the current account deficit, and outflows would be 60 times the current account deficit. The current account deficit is a drop in the bucket. Why would anyone assume it had anything to do with the picture at all?

Moreover, if the “savings glut” theory was correct, we would expect there to be certain historical correlations between the following variables: (a) current account deficits of the US, (b) US and world long-term interest rates, (c) value of the US dollar, (d) the global savings rate, (e) world GDP. There aren’t (4-6, see graphs).

You would also expect credit crises to occur mainly in countries with current account deficits. They don’t (6).

Suppose we look at a more reasonable variables: gross capital flows (13-14). What do we learn about the causes of the crisis?

Financial flows exploded from 1998 to 2007, expanding by a factor of four RELATIVE to world GDP (13), and then fell by 75% in 2008 (15). The most important source of financial flows was Europe, dwarfing the contributions of Asia and the Middle East (15). The bulk of inflows originated in the private sector (15).

If we look instead at foreign holdings of US securities (15-16), Europe is still dominant, but China and Japan are a little more prominent due to their large accumulations of foreign exchange reserves (15). Still, the Caribbean financial centers alone account for roughly the same proportion as either China or Japan (16). Other statistics provide a similar picture (17-19).

So what caused the crisis? Clearly, the shadow banking system (mainly based around US and European financial institutions) succeeding in generating huge amounts of leverage and financing all by itself (24, 28). Banks can expand credit independently of their reserve requirements (30) – the central bank’s role is limited to setting short-term interest rates (30). European banks deliberately levered themselves up so they could take advantage of
opportunities to use ABS in strategies (11), many of which were ultimately aimed at looting these same banks for the benefit of bank employees. These activities pushed long-term interest rates down. Short-term rates remained low because the Fed didn’t raise them as long as inflation didn’t appear to be an issue (25, 27).

The Asian countries played a small role as well. They didn’t want US/European-driven asset price inflation to spill over into distortions in their economies, and so they protected themselves by accumulating foreign exchange reserves (26 and 26 note). That was mean of them. If they had allowed more spillover, then the costs of the shadow banking system would have been partly borne by them, and that would have made the credit crisis less severe in the advanced countries (26). As things stand, instead, the advanced countries are suffering, while Asian countries have bounced back strongly (26).

What should we do? Well, we have suggestions for theory and practice. Let’s start with the practical suggestions.

Countries should do a better job of restraining their financial sectors (24). However, that will probably not be enough (24). Countries should also work together to share the burden of consequences of further crises (27). Unfortunately, countries are irrational and political and so are often unwilling to cooperate in ways we consider wise (27).

Since we can’t count on other countries doing the right thing, we will have to count on the Fed instead. If there is another boom in asset prices, the Fed should cool it off by raising interest rates and so inducing deflation in the rest of the economy. The balance of views in the international community has been shifting in this direction (27).

As for the theory, maybe you are wondering what was wrong with economics that led people to believe in the “savings glut” theory. We have a few ideas.

First, most present day macroeconomic analysis proceeds by imagining that people only trade physical objects with each other. They don’t use money, and they certainly don’t make loans or go bankrupt. Even though the people that make these analyses know that in the real world money and loans and bankruptcy DO exist, they think that is useful to pretend that they don’t and then arrive at authoritative conclusions. We would like to beg them humbly to reconsider this blind spot (2, 12, 21, 27-31).

Second, current analyses of interest rates make a distinction between the “market” interest rate and the “natural” interest rate. The distinction between these two rates is very subtle, so we’ll explain it carefully.

The “market” interest rate refers to the interest rates people pay on various kinds of loans. The “natural” interest rates is an unobservable variable that is equal to whatever economists decide the interest rate really ought to be for the purpose of some model. Usually, this imaginary interest rate is calculated in such a way that whatever the Fed and banks and hedge funds do, it can never change. It only depends on what physical goods are bought and sold in the economy (1-2, 20-23, 29).

In the past, economists have decided to use the imaginary interest rate instead of the actual interest rate. We don’t want to be disrespectful, but is there any chance they might be willing to change their minds?

Cross-posted from Credit Writedowns

Overnight, a group of us were exchanging e-mails on the recent coordinated central bank action to provide European banks the funding being denied them by the markets. I haven’t been active on the e-mail chain, but I did find some of the commentary interesting.

I had a few comments of note I wanted to address, but here’s why I am writing this post:

“See NYT report which says clearly that the Fed did nothing to cooperate since the swap was already in place and would make no statement.”

When I read that I realised it was true. Look at the post yesterday from the BoE, “Additional US dollar liquidity-providing operations over year-end”. At the end of that press release, there is a link to the statement of every other central bank participating in the liquidity measure… except the Fed. In fact, I was looking for the Fed statement yesterday and didn’t find it. And that’s when I went to the BoE and saw they linked out to the other CB statements (sans Fed).

I think this is curious messaging because the US Treasury Secretary Timothy Geithner is over in Europe right now banging the table about the need for a Euro TARP. Cullen Roche calls it a Euro TALF. Whatever you call it, its a bailout; the original TALF sure was. Is this why the Fed went all radio silent?

I think that’s it exactly. The last post I wrote on The European Bank Bailout talks a lot about how unpopular these bailouts are; and since this is effectively a backdoor bank bailout, it makes sense that Ben Bernanke would want to keep mum, “to keep his powder dry” for QE3 as one of my friends e-mailed.

Here’s what I think is happening:

1. European politicians are paralysed and are only doing enough to push off the day of reckoning. Muddling through means deepening crisis for the euro zone. Only when all other options have failed and the euro is about to break apart will the Europeans think about fiscal union and the like. I believe the sovereign debt crisis will deteriorate further for just this reason. And then we will just have to see what the politics of the individual countries in Euroland look like. If austerity brings the economy to a crawl and europopulism is well advanced, the euro will collapse. If not, the Europeans will push forward with greater integration.
2. In the interim that means bailouts, not just for sovereigns but for banks as well. You remember the dust-up over ECB Target2 liquidity? Well that was the beginning of the German revolt against the ECB’s quasi-fiscal policies. These moves, while absolutely necessary to prevent a Lehman-style crisis because of Euro politicians’ dithering, are politically charged. We now have seen two major ECB defections from Axel Weber and Juergen Stark. I think that there is even more discord behind the scenes.
3. Even so, the ECB has now been forced because of the wholesale market bank run now ongoing in Europe to go further. In order to deflect criticism, the ECB’s bailout of the Euro banks has been coordinated with four other central banks.
4. But the Fed’s lack of commentary demonstrates that the other banks are just a cover. First, the Fed feels politically constrained due to its own machinations in the past and the likelihood it will engage in a muscular easing policy if and when the US economy double dips. It does not want to come under attack for this Euro bank activity. Second, dollar swap lines are already in place and have been extended. This policy didn’t have to be announced this way. It was only to calm markets and buy time.
5. Meanwhile Tim Geithner thinks the Euro-TALF bazooka is the right way to buy significantly more time. He is over urging the Europeans to take out the bazooka by leveraging up the EFSF ten to one in order to buy the Europeans $2 trillion euros of fire power. Now, that’s a bazooka.

If Stark and Weber resigned over this, what is the likelihood that the ECB is going to go for a Euro-bazooka $2 trillion TALF? I say it’s not going to happen. And that means, European politicians need to get that rabbit out of the hat soon because things will most certainly continue to deteriorate.

Comments and insights appreciated

Both official data and numerous news stories confirm how badly average citizens have fared in the wake of the global financial crisis. Food stamp use has fallen only a tad from record high levels. WalMart has reinstituted layaway. The average home with a mortgage has no equity in it.

Further confirmation comes via the Census Bureau release that showed the US poverty rate has risen a full percent in the last year to 15.1%, a level not seen since 1993, the end of a short but nasty downturn. And 1/4 of American children are living in poverty. Fewer young adults are able to start households. 14.2% of Americans between the ages of 22 and 34 are living with their parents, up from 11.8% before the downturn. As the Financial Times noted:

“To have hit 15.1 per cent is truly extraordinary,” said Alice O’Connor, a professor who studies poverty at the University of California, Santa Barbara.

“We are entering territory which looks like the period before we even started fighting a ‘War on Poverty’ in the 1960s. It’s quite stunning. This is a terrible statement about the depths of the Great Recession but, even more, about the recovery, which has clearly left the poorest out completely.”

Median income plunged 2.3% in 2010, is are down a full 7% from their high in 1999. Inflation adjusted median income is at the 1996 level. That makes it the first decade since the Great Depression in which inflation-adjusted median income has failed to increase. IN addition, Americans without health insurance reached 49.9 million, an increase of 1 million in the last year.

But focusing on the median as the American middle class is being hollowed out may be the wrong focus. Tech Ticker discusses how marketing giant Procter & Gamble has decided there is no future in the middle class (hat tip reader Valissa):

By contrast, the top 1% now pulls down a full 25% of all income in the US, and their lives are predictably unaffected by the downturn. Again from the Financial Times:

Ipsos Mendelsohn, the media research group, released figures that show things are apparently looking up for the top tier of US earners.

The group’s annual survey of affluent Americans found that the number of households making more than $100,000 a year was 44.2m in 2011, compared with 44.1m the previous year. Their spending held steady at $1,400bn after previously falling…

The survey, which polled 14,405 wealthy adults, found “almost all affluents are planning a wide range of activities in the next year, with travelling, remodelling, and investing topping this list”.

What is distressing is the lack of any sense of noblesse oblige. Those at the top of the food chain for the most part seem to have no concern about the damage income inequality does to broader society, and to them (we’ve discussed how unequal societies produce worse outcomes in health and happiness even for those at their apex). Unfortunately, the lesson of history is that little pigs get fed and big pigs get slaughtered,. These big pigs may have to learn their lesson the hard way.

A Reply to Robert Murphy’s ‘Have Anthropologists Overturned Menger?

By David Graeber, who currently holds the position of Reader in Social Anthropology at Goldsmiths University London. Prior to this he was an associate professor of anthropology at Yale University. He is the author of ‘Debt: The First 5,000 Years’ which is available from Amazon

Last week, Robert F. Murphy published a piece on the webpage of the Von Mises Institute responding to some points I made in a recent interview on Naked Capitalism, where I mentioned that the standard economic accounts of the emergence of money from barter appears to be wildly wrong. Since this contradicted a position taken by one of the gods of the Austrian pantheon, the 19th century economist Carl Menger, Murphy apparently felt honor-bound to respond.

In a way, Murphy’s essay barely merits response. In the interview I’m simply referring to arguments made in my book, ‘Debt: The First 5000 Years’. In his response, Murphy didn’t even consult the book; in fact he later admitted he was responding at least in part not even to the interview but to an inaccurate summary of my position someone had made in another blog!

We are not, in other words, dealing with a work of scholarship. However, in the blogsphere, the quality or even intention of an argument often doesn’t matter. I have to assume Murphy was aware that all he had to do was to write something—anything really—and claim it rebutted me, and the piece would be instantly snatched up by a right-wing echo chamber, mirrored on half a dozen websites and that followers of those websites would then dutifully begin appearing across the web declaring to everyone willing to listen that my work had been rebutted. The fact that I instantly appeared on the Von Mises web page to offer a detailed response, and that Murphy has since effectively conceded, writing an elaborate climb-down saying that he had no intention to cast doubt on my argument as a whole at all, only to note that I had not definitively disproved Menger’s, has done nothing to change this. Indeed, on both US and UK Amazon, I have seen fans of Austrian economics appear to inform potential buyers that I am an economic ignoramus whose work has been entirely discredited.

I am posting this more detailed version of my reply not just to set the record straight, but because the whole question of the origins of money raises other interesting questions—not least, why any modern economist would get so worked up about the question. Let me begin by filling in some background on the current state of scholarly debate on this question, explain my own position, and show what an actual debate might have been like.

First, the history:

1) Adam Smith first proposed in ‘The Wealth of Nations’ that as soon as a division of labor appeared in human society, some specializing in hunting, for instance, others making arrowheads, people would begin swapping goods with one another (6 arrowheads for a beaver pelt, for instance.) This habit, though, would logically lead to a problem economists have since dubbed the ‘double coincidence of wants’ problem—for exchange to be possible, both sides have to have something the other is willing to accept in trade. This was assumed to eventually lead to the people stockpiling items deemed likely to be generally desirable, which would thus become ever more desirable for that reason, and eventually, become money. Barter thus gave birth to money, and money, eventually, to credit.

2) 19th century economists such as Stanley Jevons and Carl Menger [1] kept the basic framework of Smith’s argument, but developed hypothetical models of just how money might emerge from such a situation. All assumed that in all communities without money, economic life could only have taken the form of barter. Menger even spoke of members of such communities “taking their goods to market”—presuming marketplaces where a wide variety of products were available but they were simply swapped directly, in whatever way people felt advantageous.

3) Anthropologists gradually fanned out into the world and began directly observing how economies where money was not used (or anyway, not used for everyday transactions) actually worked. What they discovered was an at first bewildering variety of arrangements, ranging from competitive gift-giving to communal stockpiling to places where economic relations centered on neighbors trying to guess each other’s dreams. What they never found was any place, anywhere, where economic relations between members of community took the form economists predicted: “I’ll give you twenty chickens for that cow.” Hence in the definitive anthropological work on the subject, Cambridge anthropology professor Caroline Humphrey concludes, “No example of a barter economy, pure and simple, has ever been described, let alone the emergence from it of money; all available ethnography suggests that there never has been such a thing” [2]

a. Just in way of emphasis: economists thus predicted that all (100%) non-monetary economies would be barter economies. Empirical observation has revealed that the actual number of observable cases—out of thousands studied—is 0%.

b. Similarly, the number of documented marketplaces where people regularly appear to swap goods directly without any reference to a money of account is also zero. If any sociological prediction has ever been empirically refuted, this is it.

4) Economists have for the most part accepted the anthropological findings, if directly confronted with them, but not changed any of the assumptions that generated the false predictions. Meanwhile, all textbooks continue to report the same old sequence: first there was barter, then money, then credit—except instead of actually saying that tribal societies regularly practiced barter, they set it up as an imaginative exercise (“imagine what you would have to do if you didn’t have money!” or vaguely imply that anything actual tribal societies did do must have been barter of some kind.

So what I said was in no way controversial. When confronted on why economists continue to tell the same story, the usual response is: “Well, it’s not like you provide us with another story!” In a way they have a point. The problem is, there’s no reason there should be a single story for the origin of money. Here let me lay out my own actual argument:

1) If money is simply a mathematical system whereby one can compare proportional values, to say 1 of these is worth 17 of those, which may or may not also take the form of a circulating medium of exchange, then something along these lines must have emerged in innumerable different circumstances in human history for different reasons. Presumably money as we know it today came about through a long process of convergence.

2) However, there is every reason to believe that barter, and its attendant ‘double coincidence of wants’ problem, was not one of the circumstances through which money first emerged.

a. The great flaw of the economic model is that it assumed spot transactions. I have arrowheads, you have beaver pelts, if you don’t need arrowheads right now, no deal. But even if we presume that neighbors in a small community are exchanging items in some way, why on earth would they limit themselves to spot transactions? If your neighbor doesn’t need your arrowheads right now, he probably will at some point in the future, and even if he won’t, you’re his neighbor—you will undoubtedly have something he wants, or be able to do some sort of favor for him, eventually. But without assuming the spot trade, there’s no double coincidence of wants problem, and therefore, no need to invent money.

b. What anthropologists have in fact observed where money is not used is not a system of explicit lending and borrowing, but a very broad system of non-enumerated credits and debts. In most such societies, if a neighbor wants some possession of yours, it usually suffices simply to praise it (“what a magnificent pig!”); the response is to immediately hand it over, accompanied by much insistence that this is a gift and the donor certainly would never want anything in return. In fact, the recipient now owes him a favor. Now, he might well just sit on the favor, since it’s nice to have others beholden to you, or he might demand something of an explicitly non-material kind (“you know, my son is in love with your daughter…”) He might ask for another pig, or something he considers roughly equivalent in kind. But it’s almost impossible to see how any of this would lead to a system whereby it’s possible to measure proportional values. After all, even if, as sometimes happens, the party owing one favor heads you off by presenting you with some unwanted present, and one considers it inadequate—a few chickens, for example—one might mock him as a cheapskate, but one is unlikely to feel the need to come up with a mathematical formula to measure just how cheap you consider him to be. As a result, as Chris Gregory observed, what you ordinarily find in such ‘gift economies’ is a broad ranking of different types of goods—canoes are roughly the same as heirloom necklaces, both are superior to pigs and whale teeth, which are superior to chickens, etc—but no system whereby you can measure how many pigs equal one canoe. [3]

3) All this is not to say that barter never occurs. It is widely attested in many times and places. But it typically occurs between strangers, people who have no moral relations with one another. There is a reason why in just about all European languages, the words ‘truck and barter’ originally meant ‘to bilk, swindle, or rip off.’ [4] Still there is no reason to believe such barter would ever lead to the emergence of money. This is because barter takes three known forms:

a. Barter can take the form of occasional interactions between people never likely to meet each other again. This might involve ‘double coincidence of wants’ problems but it will not lead to the emergence of a system of money because rare and occasional events won’t lead to the emergence of a system of any kind.

b. If there are ongoing trade relations between strangers in moneyless economies, it’s because each side knows the other side has some specific product(s) they want to acquire—so there is no ‘double coincidence of wants’ problem. Rather than leading to people having to create some circulating medium of exchange (money) to facilitate transactions, such trade normally leads to the creation of a system of traditional equivalents relatively insulated from vagaries of supply and demand.

c. Sometimes, barter becomes a widespread mode of interaction when you have people used to using money in everyday transactions who are suddenly forced to carry on without it. This can happen, for instance, because the money supply dries up (Russia in the ‘90s), or because the people in question have no access to it (prisoners or denizens of POW camps.) This cannot lead to the invention of money because money has already been invented. [5]

So this is the actual argument, which Prof. Murphy could easily have ascertained with a glance at the relevant chapter of the book.

It’s easy to see from this that his counter-arguments range from extremely weak to completely irrelevant. Let me take them on in turn, such as they are

• Murphy argues that the fact that there are no documented cases of barter economies doesn’t matter, because all that is really required is for there to have been some period of history, however brief, where barter was widespread for money to have emerged. This is about the weakest argument one can possibly make. Remember, economists originally predicted all (100%) non-monetary economies would operate through barter. The actual figure of observable cases is 0%. Economists claim to be scientists. Normally, when a scientist’s premises produce such spectacularly non-predictive results, the scientist begins working on a new set of premises. Saying “but can you prove it didn’t happen sometime long long ago where there are no records?” is a classic example of special pleading. In fact, I can’t prove it didn’t. I also can’t prove that money wasn’t introduced by little green men from Mars in a similar unknown period of history. Given the weight of the evidence, the burden of proof is on the Murphys of the world to produce some plausible reason why all observable cases of moneyless societies fail to operate the way Menger predicted, and therefore, why we have any reason to believe some unknown age would have been any different; and this, he does not even attempt to do.

• Murphy then goes on to produce a straw man saying that a system where people borrow things from one another and then turn to political authorities to regulate the system would not produce money. True enough, but it seems a bit irrelevant considering (a) I never say people would be “borrowing” from each other in the way he describes, (b) I never attribute any role to political authorities in this process, and (c) rather than saying the informal system of favors I do describe would lead to the invention of money, I explicitly say that it would not.

• He then restates Menger’s argument about how money could emerge from barter, an argument that given the weight of evidence so far presented would only be relevant if there was some reason to believe money could not have emerged in any other way. He gives no such reason, other than that he cannot personally imagine money emerging any other way.

• Murphy ends by noting the famous study of how widespread barter between prisoners in POW camps seem to have led to the use of cigarettes as money—an argument which, if he had bothered to read the entire interview, let alone the book, he would have known is actually a confirmation of my argument (see 3c above) and not a refutation.

To be fair, Murphy has one other argument—he adopts the position, first proposed by Karl Marx [!], that money first emerged from barter in the process of international trade. The evidence is as follows: while the first records we have of money are administrative documents from Mesopotamia, in which money is used almost exclusively in keeping accounts within large bureaucratic organizations (Temples and Palaces), the system is based on a fixed equivalence between barley and silver, and that since silver was a trade item, this shows that Mesopotamian merchants must have been using silver as a medium of exchange in spot transactions with long-distance trade partners for that system to then be adopted as a unit of account in administrative transactions within Temples. This merits a bit more of a response—not because it is a particularly cogent argument (it’s basically circular: “since money can only have arisen through barter, if silver was money, it must have arisen through barter”), but because it raises some interesting questions about how money actually did emerge.

As I remarked above, occasional, irregular exchange between strangers will not generate a money system—since irregular, occasional exchange will not produce any kind of system. In ancient times, if you do see regular exchange between strangers, it’s because there are specific goods that each side knows they want or need. One has to bear in mind that under ancient conditions, long-distance trade was extremely dangerous. You don’t cross mountains, deserts, and oceans, risking death in a dozen different ways, so as to show up with a collection of goods you think someone might want, in order to see if they happen to have something you might want too. You show up because you know there are people who have always wanted woolens and who have always had lapis lazuli. As noted above, logically, what such a situation would lead to is a series of conventional equivalences—so many woolens for so many pieces of lapis lazuli—equivalences which are likely to be maintained despite contingencies of supply and demand, because all parties need to reduce risk in order to be able to continue to the trade at all. And once again, what logic would predict is precisely what we find. Even in periods of human history where money and markets did already exist, merchants often continue to conduct high-risk long distance trade through a system of conventional equivalents, or if money is used, administered prices, between specific commodities they know will be available, or in demand, at certain pre-established locations.

One might of course ask, could not such a system generate something like money of account—that is, the use of one or two relatively desirable commodities to measure the value of other ones, once more items were added to the mix (say, our merchant is making several stops)? The answer is yes. No doubt in certain circumstances, something like this did happen. Of course, it would have meant that money, in such cases, was first created as a means to avoid market mechanisms, and that it was not used mainly as a medium of transactions, but rather, primarily as a means of account. One could even make up an imaginary scenario whereby once you start using one divisible/portable/etc commodity as a means of establishing fixed equivalents between other ones, you could start using it for minor occasional transactions, to measure negotiated prices for spot trade swaps on the side, in a more market-driven way. All that is possible and likely as it did happen now and again—after all, we’re dealing with thousands of years here. Likely all sorts of things happened over this long period. However, there is no reason to assume that such a system would produce a concrete medium of exchange regularly used in making these transactions—in fact, given the dangers of ancient trade, insisting that some medium like silver actually be used in all transactions, rather than a credit system, would be completely irrational, since the need to carry around such a money-stuff would make one a far, far, more attractive target to potential thieves. A desert nomad band might not attack a caravan carrying lapis lazuli, especially if the only potential buyers were temples which would probably know all the active merchants and know that you had stolen the stuff (and even if you could trade for them, what are you going to do with a big pile of woolens anyway, you live in a desert?) but they’d definitely go after someone carrying around a universal equivalent. (This is presumably the reason why the great long-distance traders of the Classical World, the Phoenicians, were among the last to adopt coinage—if money was invented as a circulating medium for long-distance trade, they should have been the first.)

The other problem is that there is no reason to believe that such a mechanism—which would presumably only be used by that tiny proportion of the population who engaged in long distance trade, and who tended to treat such matters as specialized knowledge to be guarded from outsiders—could possibly create a money system used in everyday transactions within a society or any evidence that it might have done so.

The actual evidence is that in Mesopotamia—the first case we know anything about—these more widespread pricing systems in fact emerged as a side-effect of non-state bureaucracies. Again, non-state bureaucracies are a phenomenon that no economic model would even have anticipated existing. It’s off the map of economic theory. But look at the historical record and there they are. Sumerian Temples (and even many of the early Palace complexes that imitated them) were not states, did not extract taxes or maintain a monopoly of force, but did contain thousands of people engaged in agriculture, industry, fishing, and herding, people who had to be fed and provisioned, their inputs and outputs measured. All evidence that exists points to money emerging as a series of fixed equivalent between silver—the stuff used to measure fixed equivalents in long distance trade, and conveniently stockpiled in the temples themselves where it was used to make images of gods, etc.—and grain, the stuff used to pay the most important rations from temple stockpiles to its workers. Hence, as economist and Naked Capitalism contributor Michael Hudson has so brilliantly demonstrated [6], a silver shekel was fixed as the amount of silver equivalent to the numbers of bushels of barley that could provide two meals a day for a temple worker over the course of a month. Obviously such a ration system would be of no interest to a merchant.

So even if some sort of rough system of fixed equivalences, measured by silver, might have emerged in the process of trade (note again: not a system of actual silver currency emerging from barter), it was the Temple bureaucracies that actually had some reason to extend the system from a unit used to compare the value of a limited number of rare items traded long distance, used almost exclusively by members of the political or administrative elite, to something that could be used to compare the values of everyday items. The development of local markets within cities, in turn, came as a side effect of these systems, and all evidence shows they too operated primarily through credit. For instance, Sumerians, though they had the technological means to do so, never produced scales accurate enough to weigh out the tiny amounts of silver that would have been required to buy a single cask of beer, or a woolen tunic, or a hammer—the clearest indication that even once money did exist, it was not used as a medium of exchange for minor transactions, but rather as a means of keeping track of transactions made on credit.

In many times and places, one sees a similar arrangement: two sorts of money, one, a common long-distance trade item, the other, a common subsistence item—cattle, grain—that’s stockpiled, but never traded. Still, Temple bureaucracies and their ilk are something of a rarity. In their absence, how else might a system of pricing, of proportional equivalents between the values of any and all objects, potentially arise? Here again, anthropology and history both provide one compelling answer, one that again, falls off the radar of just about all economists who have ever written on the subject. That is: legal systems.

If someone makes an inadequate return you will merely mock him as a cheapskate. If you do so when he is drunk and he responds by poking your eye out, you are much more likely to demand exact compensation. And that is, again, exactly what we find. Anthropology is full of examples of societies without markets or money, but with elaborate systems of penalties for various forms of injuries or slights. And it is when someone has killed your brother, or severed your finger, that one is most likely to stickle, and say, “The law says 27 heifers of the finest quality and if they’re not of the finest quality, this means war!” It’s also the situation where there is most likely to be a need to establish proportional values: if the culprit does not have heifers, but wishes to substitute silver plates, the victim is very likely to insist that the equivalent be exact. (There is a reason the word ‘pay’ comes from a root that means ‘to pacify’.)

Again, unlike the economists’ version, this is not hypothetical. This is a description of what actually happens—and not only in the ethnographic record, but the historical one as well. The numismatist Phillip Grierson long ago pointed to the existence of such elaborate systems of equivalents in the Barbarian Law Codes of early Medieval Europe. [7]For example, Welsh and Irish codes contain extremely detailed price schedules where in the Welsh case, the exact value of every object likely to be found in someone’s house were worked out in painstaking detail, from cooking utensils to floorboards—despite the fact that there appear to have been, at the time, no markets where any such items could be bought and sold. The pricing system existed solely for the payment of damages and compensation—partly material, but particularly for insults to people’s honor, since the precise value of each man’s personal dignity could also be precisely quantified in monetary terms. One can’t help but wonder how classical economic theory would account for such a situation. Did the ancient Welsh and Irish invent money through barter at some point in the distant past, and then, having invented it, kept the money, but stopped buying and selling things to one another entirely?

The persistence of the barter myth is curious. It originally goes back to Adam Smith. Other elements of Smith’s argument have long since been abandoned by mainstream economists—the labor theory of value being only the most famous example. Why in this one case are there so many desperately trying to concoct imaginary times and places where something like this must have happened, despite the overwhelming evidence that it did not?

It seems to me because it goes back precisely to this notion of rationality that Adam Smith too embraced: that human beings are rational, calculating exchangers seeking material advantage, and that therefore it is possible to construct a scientific field that studies such behavior. The problem is that the real world seems to contradict this assumption at every turn. Thus we find that in actual villages, rather than thinking only about getting the best deal in swapping one material good for another with their neighbors, people are much more interested in who they love, who they hate, who they want to bail out of difficulties, who they want to embarrass and humiliate, etc.—not to mention the need to head off feuds.
Even when strangers met and barter did ensue, people often had a lot more on their minds than getting the largest possible number of arrowheads in exchange for the smallest number of shells. Let me end, then, by giving a couple examples from the book, of actual, documented cases of ‘primitive barter’—one of the occasional, one of the more established fixed-equivalent type.

The first example is from the Amazonian Nambikwara, as described in an early essay by the famous French anthropologist Claude Levi-Strauss. This was a simple society without much in the way of division of labor, organized into small bands that traditionally numbered at best a hundred people each. Occasionally if one band spots the cooking fires of another in their vicinity, they will send emissaries to negotiate a meeting for purposes of trade. If the offer is accepted, they will first hide their women and children in the forest, then invite the men of other band to visit camp. Each band has a chief and once everyone has been assembled, each chief gives a formal speech praising the other party and belittling his own; everyone puts aside their weapons to sing and dance together—though the dance is one that mimics military confrontation. Then, individuals from each side approach each other to trade:

If an individual wants an object he extols it by saying how fine it is. If a man values an object and wants much in exchange for it, instead of saying that it is very valuable he says that it is worthless, thus showing his desire to keep it. ‘This axe is no good, it is very old, it is very dull’, he will say… [8]

In the end, each “snatches the object out of the other’s hand”—and if one side does so too early, fights may ensue.

The whole business concludes with a great feast at which the women reappear, but this too can lead to problems, since amidst the music and good cheer, there is ample opportunity for seductions (remember, these are people who normally live in groups that contain only perhaps a dozen members of the opposite sex of around the same age of themselves. The chance to meet others is pretty thrilling.) This sometimes led to jealous quarrels. Occasionally, men would get killed, and to head off this descending into outright warfare, the usual solution was to have the killer adopt the name of the victim, which would also give him the responsibility for caring for his wife and children.

The second example is the Gunwinngu of West Arnhem land in Australia, famous for entertaining neighbors in rituals of ceremonial barter called the dzamalag. Here the threat of actual violence seems much more distant. The region is also united by both a complex marriage system and local specialization, each group producing their own trade product that they barter with the others.

In the 1940s, an anthropologist, Ronald Berndt, described one dzamalag ritual, where one group in possession of imported cloth swapped their wares with another, noted for the manufacture of serrated spears. Here too it begins as strangers, after initial negotiations, are invited to the hosts’ camp, and the men begin singing and dancing, in this case accompanied by a didjeridu. Women from the hosts’ side then come, pick out one of the men, give him a piece of cloth, and then start punching him and pulling off his clothes, finally dragging him off to the surrounding bush to have sex, while he feigns reluctance, whereon the man gives her a small gift of beads or tobacco. Gradually, all the women select partners, their husbands urging them on, whereupon the women from the other side start the process in reverse, re-obtaining many of the beads and tobacco obtained by their own husbands. The entire ceremony culminates as the visitors’ men-folk perform a coordinated dance, pretending to threaten their hosts with the spears, but finally, instead, handing the spears over to the hosts’ womenfolk, declaring: “We do not need to spear you, since we already have!” [9]

In other words, the Gunwinngu manage to take all the most thrilling elements in the Nambikwara encounters—the threat of violence, the opportunity for sexual intrigue—and turn it into an entertaining game (one that, the ethnographer remarks, is considered enormous fun for everyone involved). In such a situation, one would have to assume obtaining the optimal cloth-for-spears ratio is the last thing on most participants’ minds. (And anyway, they seem to operate on traditional fixed equivalences.)

Economists always ask us to ‘imagine’ how things must have worked before the advent of money. What such examples bring home more than anything else is just how limited their imaginations really are. When one is dealing with a world unfamiliar with money and markets, even on those rare occasions when strangers did meet explicitly in order to exchange goods, they are rarely thinking exclusively about the value of the goods. This not only demonstrates that the Homo Oeconomicus which lies at the basis of all the theorems and equations that purports to render economics a science, is not only an almost impossibly boring person—basically, a monomaniacal sociopath who can wander through an orgy thinking only about marginal rates of return—but that what economists are basically doing in telling the myth of barter, is taking a kind of behavior that is only really possible after the invention of money and markets and then projecting it backwards as the purported reason for the invention of money and markets themselves. Logically, this makes about as much sense as saying that the game of chess was invented to allow people to fulfill a pre-existing desire to checkmate their opponent’s king.

* * *

At this point, it’s easier to understand why economists feel so defensive about challenges to the Myth of Barter, and why they keep telling the same old story even though most of them know it isn’t true. If what they are really describing is not how we ‘naturally’ behave but rather how we are taught to behave by the market—well who, nowadays, is doing most of the actual teaching? Primarily, economists. The question of barter cuts to the heart of not only what an economy is—most economists still insist that an economy is essentially a vast barter system, with money a mere tool (a position all the more peculiar now that the majority of economic transactions in the world have come to consist of playing around with money in one form or another) [10]—but also, the very status of economics: is it a science that describes of how humans actually behave, or prescriptive, a way of informing them how they should? (Remember, sciences generate hypothesis about the world that can be tested against the evidence and changed or abandoned if they don’t prove to predict what’s empirically there.)

Or is economics instead a technique of operating within a world that economists themselves have largely created? Or is it, as it appears for so many of the Austrians, a kind of faith, a revealed Truth embodied in the words of great prophets (such as Von Mises) who must, by definition be correct, and whose theories must be defended whatever empirical reality throws at them—even to the extent of generating imaginary unknown periods of history where something like what was originally described ‘must have’ taken place?

REFERENCES
[1] Jevons, W. Stanley, Money and the Mechanism of Exchange. New York: Appleton and Company, 1885, and Menger, Carl, “On the origins of money.” Economic Journal 1892 v.2 no 6, pp. 239-55
[2] Humphrey, Caroline, “Barter and Economic Disintegration.” Man 1985 v.20: 48. Other anthropologists have gone even further, for instance Anne Chapman, “Barter as a Universal Mode of Exchange.” L’Homme 1980 v22 (3): 33-83), argues that if pure barter is to be defined as only about the things, and not about the people, it’s not clear that it has ever existed—as the cases cited at the end of this essay indeed illustrate.
[3] Gregory, Chris, Gifts and Commodities. New York: Academic Press (1982): pp. 48-49. On gift economies, the classic text is Mauss, Marcel, Essai sur le don. Forme et raison de l’échange dans les sociétés archaïques.” Annee sociologique, 1924 no. 1 (series 2):30-186. On spheres on exchange in general see Bohannan, Paul “Some Principles of Exchange and Investment among the Tiv,” American Anthropologist 1955 v57:60-67; Barth, Frederick, “Economic Spheres in Darfur.” Themes in Economic Anthropology, ASA Monographs (London, Tavistock) 1969 no. 6, pp. 149-174; cf Munn, Nancy, The Fame of Gawa: A Symbolic Study of Value Transformation in a Massim (Papua New Guinea) Society, 1986, Cambridge, Cambridge University Press, and Akin, David and Joel Robbins, “An Introduction to Melanesian Currencies: Agencies, Identity, and Social Reproduction” in Money and Modernity: State and Local Currencies in Melanesia (David Akin and Joel Robbins, editor), pp. 1-40. Pittsburgh: University of Pittsburgh Press.
[4] Servet, Jean-Michel, 1994 “La fable du troc,” numero spécial de la revue XVIIIe siècle, Economie et politique, n°26: 103-115
[5] The classic work on the economics of POW camps, whence this argument derives, is Radford, R. A., “The Economic Organization of a POW Camp.” Economica 1945 v.12 (48): 189-201. There is an excellent critique of the assumptions underlying it in Ingham, Geoffrey, “Further Reflections on the Ontology of Money,” Economy and Society 2006 v 36 (2): 264-65, which notes among other things the obvious point that the entire camp environment was created and maintained by a bureaucratic organization that supplied all actual necessities—food, shelter, etc—through administrative distribution.
[6] Hudson, Michael,“The Development of Money-of-Account in Sumer’s Temples.” In Creating Economic Order: Record-Keeping, Standardization and the Development of Accounting in the Ancient Near East (Michael Hudson and Cornelia Wunsch, editors, 2004), pp. 303-329. Baltimore: CDL Press.
[7] Grierson, Phillip, “The Origins of Money.” In Research in Economic Anthropology 1978, v. I, pp. 1-35. Greenwich: Journal of the Anthropological Institute Press.
[8] Levi-Strauss, Claude, “Guerre et commerce chez les Indiens d’Amérique du Sud.” Renaissance. Paris: Ecole Libre des Hautes Études, 1943 vol, 1, fascicule 1 et 2.
[9] Berndt, Ronald M., “Ceremonial Exchange in Western Arnhem Land.” Southwestern Journal of Anthropology 1951 v.7 (2): 156-176.
[10] See for instance Dillard, Dudley, “The Barter Illusion in Classical and Neoclassical Economics”, Eastern Economic Journal 1988v14 (4):299-318.

By Ian Fraser, a financial journalist who blogs at his web site and at qfinance. His Twitter is @ian_fraser

This morning I was listening to Nicky Campbell’s phone-in programme on BBC Radio 5 Live. The topic was the final proposals of Sir John Vickers’ Independent Banking Commission for reforming the UK’s banking system, which were published this morning.

To many, including Philip Augar (who since leaving the City in 2000 has done much to expose the destructive ways in which British finance works, and was a guest on Campbell’s show), Vickers’ proposed reforms — which include ring-fencing banks’ retail arms, forcing banks to plump up their capital cushions and the introduction of greater competition into the sector — are an elegant solution to an intractible problem.

Their hope is that the proposed reforms, which Vickers told us this morning don’t have to be fully implemented until 2019, will in the long-term make Britain’s banks safer, less likely to have to rely on government bailouts, and more predisposed to serve society and the wider economy.

I agree with a lot of what Augar says, but I fear he may be wrong about Vickers. The reforms are intended to ‘render safe’ a toxic sector from which the former Labour government unwisely removed many of the checks and balances in 1997-2007 and which, perhaps unsurprisingly, went on to bring the UK economy to its knees.

Since then, the banking sector has displayed minimal contrition for the damage it has wrought on the economy, and minimal gratitude for the immense support taxpayers have given it. It has continued to exploit a near-oligopoly, to “rent gouge” on the UK economy, and has in recent weeks been issuing far-fetched warnings that even modest attempts at reform are going to lead to economic Armageddon.

One caller to Nicky’s programme, Tony, referred to the 12-year-old boy who recently received a nine-month supervision order and who’s mother fined £50 fine after he stole a £7.49 bottle of wine from Sainsbury’s during last month’s riots. Manchester City Council has said that his entire family now faces eviction.

Tony argued that there is a mismatch. Draconian punishment has been meted out to this boy and his entire family for what seems a relatively minor offence. Yet the people who, as a result of their own lack of probity, which in some cases extended to criminality, caused the banking crisis have, for the most part, walked away from the wreckage they created Scot-free!

Another of Campbell’s guests, Andew Lilico, an economist who blogs for the Daily Telegraph, responded by saying he does not believe fraud was a major cause of the banking collapse. I would dispute this.

Having studied the evidence (including the criminal actions being pursued against RBS, HSBC and Barclays by the United States government agency Federal Housing Finance Agency for, allegedly, misrepresenting the quality of residential mortgage-backed securities (RMBS) in the US market) and having studied the report that came out of an investigation done by the US Senate’s Permanent Subcommittee on Investigations (“Wall Street and the Financial Crisis: Anatomy of a Financial Collapse”) it’s clear that fraud was a major contributor to the financial crisis. And this was certainly the case on both sides of the Atlantic.

There’s also the HBOS Reading scandal, which I’ve been writing about for three years now. This is widely considered to be the tip of an enormous iceberg of fraud and malfeasance at the former Halifax Bank of Scotland which Lloyds chief executive António Horta-Osório seems no less determined than his predecessor Eric Daniels to cover up (here’s how one of the many victims of that fraud feels about Vickers‘ final report).
However none of this got much attention in the report. Nowhere in the 146,000-word, 358-page document, does the ICB even use the words “ethics” or “ethical”. Nor do “morality” or “integrity” feature (unless they’re associated with the concept of “moral hazard” or to mean “completeness”.) Yet, without these virtues, isn’t it going to be impossible to build a banking system that endures?

Maybe the ICB believes that, by preventing banks from gambling depositors’ money on so-called “casino” activities, and by preventing them from abusing the implicit state guarantee to sustain their investment banking arms, the temptation to misbehave will somehow be lessened or removed. If this is the case, I think the commission is being naive in the extreme.

Another caller to Nicky’s programme said it’s high time that British politicians developed some “cojones” and stopped cosying up to the banking sector — as they traditional do at annual shindigs such as the white-tie Mansion House dinner. (Famously, it was at this particular extravaganza that ex-chancellor Gordon Brown in June 2006 told bankers he did not favour a regulatory crackdown on their sector in the wake of scandals like WorldCom, adding “we were right to build upon our light touch system … fair, proportionate and increasingly risk-based”.)

(It was at the same event in June this year that current chancellor George Osborne told the banking fraternity he was going to implement the Vickers reforms, three months before the final report was even published!)

I intend to write a more detailed appraisal of Vickers proposals, including looking at whether the commission should have gone further, examining whether the fact reforms don’t have to be implemented until 2019 give banks plenty of scope to quibble over the details and get harsher aspects kicked into the long grass, and whether its conclusions are worthless since its report is based on a fairy tale story about banking, in a subsequent article or blog.

In the meantime, however, here’s what the Daily Telegraph’s economics editor Philip Aldrick had to say this morning. In an article focused on the true costs of the implicit government guarantee, which Barclays erroneously claims costs taxpayers nothing, Aldrick wrote:-

The ICB is right, and Barclays is being utterly disingenuous when it says taxpayers spend no money as a result of the implicit guarantee. The facts speak for themselves. The benefits of reform far outweigh the costs.

Update 1: 5.45pm, Sept 12th : Since writing this blog I have read Alex Brummer’s column, in which he lists five reasons why he believes the process was flawed, not least because the Independent Banking Commission owed it origins to political expediency rather than a deep-seated desire to create a sustainable financial system. I wholeheartedly agree with most of what Alex says here.

Update 2: 7.20pm, Sept 12th : Here’s some interesting commentary from Compass and the New Economics Foundation, both of which are critical of Vickers. “Instead of recommending the simple and effective step of complete bank separation the British establishment has bottled it and the City has won again,” says Neal Lawson, chair of Compass.

Update 3: 12.30am, Sept 13th : Just found three excellent articles about Vickers

Philip Stephens in the FT Vickers hands victory to the bankers’ shop steward
Steve Richards in the Independent Bankers are the unions of our time
Peter Jones in The Scotsman Three cheers for taking the long view

This is a lively discussion on RT which starts from the contrarian perspective of trying to find a silver lining in the Eurozone crisis. One of the panelists is Michael Hudson, who has been a vocal critic of how austerity programs are being used to strip Greece of sovereignity (on top of the minor complication that these programs are certain to fail). It also discusses the prospects for the survival of the euro and who the winners and losers would be in a breakup.

Satyajit Das is an internationally respected expert on finance with over 30 years working experience in the industry. He is also a best-selling author and a regular contributor to leading finance blogs – including our very own Naked Capitalism. His new book ‘Extreme Money: Masters of the Universe and the Cult of Risk’ is out now and available from Amazon in hardcover and Kindle versions.

Interview conducted by Philip Pilkington, a journalist and writer based in Dublin, Ireland.

Part I of the interview can be read here.

Philip Pilkington: In the book you describe ‘money shows’ which are presentations where financiers try to flog their wares to the general public. It really struck me how sleazy these shows are; like something out a carnival sideshow. Salesmen — you know, proper ‘snake oil’ salesmen — stand in front of a crowd and whip them into a frenzy, convincing them that they can all get rich.

I almost found the whole thing quite funny – that is, until I realised that many of these people were just trying to make ends meet. It’s well-known that real wages have stagnated in the last 30 years. And at the same time the financial markets have greatly expanded. These ‘money shows’ seemed to me to be the meeting point of these two toxic phenomena. Perhaps you could talk a little about this?

Satyajit Das: A carnival sideshow is an apt description. But, for me there is also a great sadness. As you correctly identify people became exposed to very complex economic forces – their wages stagnated; the state reduced their benefits – and financialization forced ill-equipped people to try to plan for retirement. At the same time there was enormous social pressure refracted by the media to improve living standards, consume recklessly and get the latest ‘must haves’.

People borrowed to finance consumption or resorted to financial speculation to offset declining income and safeguard their future, increasingly with borrowed money. Home equity – the difference between the current value of the family home and the amount owed on it – provided the initial financial stake. The Money Shows among other things tapped into this. Financial institutions exploited this vulnerability with their products and their marketing. As things like outsourcing and off shoring put greater and greater pressure on jobs and incomes, the entire process accelerated. George Bernard Shaw wrote about this connection between speculation and wealth: “Gambling promises the poor what property performs for the rich, something for nothing.”

The French philosopher Michel Foucault identified a carceral continuum, a system of cruelty, power, supervision, surveillance and enforcement of acceptable behavior affecting working people and their domestic lives. Modern finance evolved into a social control system. People became wage slaves, and then they became debt slaves – money especially evolved into a mechanism for control.

But it wasn’t only the less well off who embraced debt and speculation. The rich also indulged. The reasons were not that different, but just at a different level. Even if you have a lot you don’t have ‘enough’. There is huge insecurity – even for ‘successful’ bankers. There is enormous social pressures for big houses, trophy partners, kids in private schools, expensive holidays and so on. As you go up the food chain, the pressures actually increase – he has private jet, I don’t. He has a Gulfstream 5, I only have a Gulfstream 3 etc. It’s fascinating process – so everyone finds themselves deeper and deeper in debt and speculation.
The Sociologist Zygmunt Bauman’s metaphor of liquid and solid modernity captures the shift from a society of producers to a society of consumers. Security gives way to increased freedom to purchase, to consume and to enjoy life. In liquid modernity, individuals have to be flexible and adaptable, pursuing available opportunities, calculating likely gains and losses from actions under endemic uncertainty. It was a metaphor for the rise of financiers and the financialization of everyday life in a volatile world where risk taking and speculation was an essential survival strategy.

PP: It seems that, in many ways, we’ve entered another age of ‘conspicuous consumption’ – that is, consumption for the sake of displaying power and wealth. As you probably know, the economist Thorstein Veblen coined the turn at the beginning of the 19th century. Soon after consuming conspicuously fell out of fashion even with the rich – after the term became popular as a derogatory expression they stopped building giant gilded mansions for fear that they might be labelled as consuming conspicuously and hence being unfashionable. But some claim there was also a class dimension to this. This was a time when trade unionism and socialism were on the rise and the rich may have thought it more opportune to tone down expressing their wealth.

One can’t help but see a class dimension to what you’ve just said. While in the 80s and 90s people were playing down the notion of social class, actual class divisions were becoming increasingly pronounced. Now we’re in a curious – and somewhat unique – historical situation where, due to their not earning sufficient wages to keep pace with productivity increases, working people have to go into debt just to consume enough to keep the whole system ticking over at full capacity.

You were, in many ways, at the center of the mechanism for reinforcing these unusual dynamics – that is, global finance. What do you make of this unbalanced moment in history? Is Big Finance just an arm to facilitate major imbalances in wealth distribution? Is it any more than that?

SD: Class is a loaded term; it has connotations of inherited wealth, privilege, education, inflexible social delineation and lack of mobility. It means different thing to different people. There were the ‘Ivy league’ and Oxbridge set. But many people in finance came from modest backgrounds – the PSDs poor, smart and driven to do well. The social dynamic at work is more complex than class.

It is about ‘haves’ and ‘have nots’; many of latter were became ‘have not paid for what they haves’. It was about having a peculiar skill set that allowed you to position yourself in the centre of this extraordinary change. If you were at the right place in this ‘unbalanced moment of history’, as you call it, you could earn disproportionate rewards for your efforts and have considerable power. Those who didn’t have this set of skills were left behind very quickly. Like all rapid changes in structures, whether social or economic, it created great social inequality – a small percentage got mega rich, there was a small middle class and then everybody else were ‘wage slaves’ or ‘debt slaves’.

Elite financiers don’t necessarily still see the developments in the terms described. They think that only elite bankers knew how to get things done. They know much more and make the world function more efficiently. They see the banker’s role in driving growth as heroic and are puzzled that others don’t see that.

PP: I don’t think that class has connotations of inherited wealth at all. Class is about level of income. A blue-collar worker, a white-collar worker and a financier might be born into the same family – but they’ll earn different incomes and move in different social sets. Hence why I think class became more of an issue as income disparities rose. Anyway, no matter, we’ll agree to disagree.

But do you think the financial structure was largely built up as a means to paper over the underlying disparities? Do you think that this was its key function?

SD: I do agree with you on disparities of income and wealth. They were exacerbated during the ‘Great Financilisation’. As real incomes stagnated in many countries, easier access to debt – the democratisation of credit – and the opportunity to ‘speculate’… ahem… ‘invest’ in the form of privatised retirement savings became a way to paper over the problems. The people selling the debt and creating the investment products were given the opportunity to profit and they did. In many cases, they, as we know, misrepresented the risk of financial structures and were heavily incentivised by fee structures that encourages this mis-selling.

The phenomenon was interesting psychologically. It meant if you were less well off then it was your fault – you had made poor financial choices. A fascinating insight into this can be found in the late Joe Bageant’s book Deer Hunting for Jesus. People in his home town in the American South who are impoverished and disadvantages blame themselves for their plight. They oppose even the most rudimentary assistance from government as ‘communism’.

So in this sense, finance was very much part of the process of reinforcing and entrenching the income and wealth differences.

PP: Regarding the ‘social class’ thing I think we’re just quibbling over terminology, really. I see things essentially the same way.

Moving on. That people were unable to consume at sufficient levels to keep the economy going and went into debt in order to do so is clearly the underlying cause of the crisis. But what do you make of the strange situation that’s resulted? I mean, all the economists are saying – and rightly for once, I think – that we have a serious problem with demand. People simply cannot afford to buy enough stuff to keep the economy growing at a reasonable pace. And since they’re all paying down debt they probably won’t be able to take on enough debt to consume at this level for some time (which is probably less than a bad thing). What do you make of this situation? And where does this place finance? What has finance’s role become in this brave new world?

SD: A useful place to start is look at what debt does – it accelerates consumption. Instead of saving to purchase you buy today but pay tomorrow. As early credit card advertising put it, debt takes ‘the waiting out of wanting’. Debt fuelled purchasing creates demand driving greater investment, in part because producers think that demand has suddenly increased. Increased production capacity means that they have more to sell and investors demand growth in earning etc so they must generate increased sales – so the whole process takes on a life of its own. It’s a kind of Ponzi Prosperity.

Ultimately, you have to be able to pay back the debt out of your cash flows or income. If you have bought assets that are collateral for the debt then the asset value has to be stable and the cash flows from the asset sufficient to repay the debt with interest. Finally, you reach the inflexion point where you can’t service or repay the debt and the assets funded by the debt can’t generate the income to support the debt. The whole process goes into reverse.

If you use debt in this way to fuel demand then when the capacity to take on debt ceases so does demand. In effect, the world exaggerated ‘real’ demand and with it economic growth. To go back to equilibrium we have to do several things – run through the excess ‘stuff’ we bought; divert income to paying down debt, absorb the excess capacity we created, restore credit creation capacity by recapiltalising banks crippled by bad loans etc. That is precisely what deleveraging means and what is happening. So we become locked into a lengthy period of low growth, low demand which is not easy to reverse – as Japan shows.

In this environment, finance – that is banks – are part of the problem as they absorb funds as they are rescued and also a drag as they can’t create credit even where there is demand.

In the long run, the future of finance depends on whether once things get better – somewhere down the track say in 100 or 200 year (just kidding folks!) – we just repeat the mistakes all over again or change the role of banks.

Banks are utilities matching borrowers and savers, providing payment services, facilitating hedging etc. The value added comes from reducing the cost of doing so. Paul Volcker questioned the role of finance: “I wish someone would give me one shred of neutral evidence that financial innovation has led to economic growth — one shred of evidence. US financial services increased its share of value added from 2% to 6.5% but Is that a reflection of your financial innovation, or just a reflection of what you’re paid?”

The idea of financial services as a driver of economic growth is absurd – it’s a bit like looking at a car’s gearbox as the basis for propulsion. But financiers don’t necessarily agree with this assessment, unsurprisingly.

PP: I’ve always found the likes of Greenspan quite representative of many in the new elites in that he was a disciple of the writer Ayn Rand. While others weren’t/aren’t Randians – or, as some call them, Randroids – many subscribe to the ideologies put forward by writers like Milton Friedman or to the individualistic rhetoric employed by politicians like Thatcher and Reagan.

It seems that at a certain moment the elites gave up on paternalism altogether. In many ways I’ve always thought that this was in keeping with a sort of counter-culture mentality. The idea being that people no longer needed to be told what to do but would instead form into spontaneous self-organising networks that would ostensibly spring up as a result of market mechanisms. Many of these people adopt a sort of counter-culture language; speaking of ‘freedom’, ‘liberty’ and ‘individualism’.

However, the result seems to have been that this mentality has been used to justify income disparities together with the creditor-debtor financial nexus we have been discussing. Maybe you could talk a little about these ideas, especially insofar as you encountered them while working in the industry?

SD: People want neat answers and clear ideological positions – he’s a Randroid, she a Vulcan, they are Keynesians etc. It’s comforting and satisfies prejudices. Reality is never that neat. In my experience, policy makers or financiers are pragmatic rather than purely ideological. They may have a world view, but their action do not frequently tie clearly to pure philosophies, whether it be free markets or any other economic doctrines. Just look at the evidence.

Ronald Reagan – the beatified doyen of conservatives – ran substantial budgets deficits that had a distinct Keynesian taint. Blair and Clinton’s social democrat administrations presided over the aggressive dismantling of banking regulation, which looks distinctly neo-liberal not to mentioned ill-conceived. Margaret Thatcher may have spouted Hayek but she was not interested in pure agendas: “Economics are the method; the object is to change the soul.” Conservative politician Enoch Powell ridiculed Thatcher’s monetarist policies: “A pity she did not understand them!” No pure economic model has been implemented in living memory, except perhaps in North Korea.

Frederich Hayek and Frank Knight, founder of the first Chicago School considered free markets, which they advocated, to be unjust because they distributed wealth based on luck and inheritance rather than capability and effort. They were wary of the tendency of free markets to speculation, frenzy and fraud. Knight and Hayek did not consider markets an ideal tool for satisfying demand as they inevitably moulded themselves to the desires of active participants and ignored other factors, like the environment and quality of life. Knight argued that the economy is too complex and unstable to be controlled by simplistic government intervention. Intervention, he argued, is dangerous, rejecting the economic prescriptions of both the Keynesian and Friedman schools.

I always find Knight’s criticism of Friedman’s Second Chicago School interesting: “The emotional pronouncement of value judgements condemning emotion and value judgements which seems to me a symptom of a defective sense of humor.”

Everything was oriented to propping up economic growth, keeping yourself in power or increasing your profits or bonuses. It was a certain pragmatism. Few traders I know believe in pure economic models. They borrow here and steal from there. Whatever works. It’s like that line that David St. Hubbins has in This is Spinal Tap: “Before I met Jeanine my life was cosmologically a shambles. I would use bit and pieces of whatever Eastern philosophy would drift through my transom.”

Confucius wrote that: “The superior man understands what is right; the inferior man understands what will sell.” Professors and theoreticians may be after some elusive truth but basically they were the piano players in the whorehouse. Financiers did what they had always done, try to make money for their firms which, given they take about 50%, meant more for themselves. But what they did had far reaching effect on the rest of the world and the structure of society, some intended, others unintended.

PP: Some of those examples could be met with counterexamples— I don’t think Thatcher’s attacks on miners was wholly pragmatic and much of Reagan’s deficits were based on military expenditure and tax cuts to the wealthy; to call that Keynesianism is to stretch the term some.

Are you saying that ideology plays no role in policy? I mean Greenspan may not have followed an ideology when he lowered interest rates, but his willingness to aggressively deregulate indicates to me an ideological taint.

SD: That’s my point exactly. You can always find examples which justify one position or another. Policy was not a neat set of philosophical diktats.

Ideology does play a role, clearly. Thatcher wanted to reduce the poor of the unions. Reagan believed in ‘trickle down’. They and Greenspan clearly believed that market based solutions were preferable to government intervention. But my point is it is neither consistent nor coherent.

There are ideological elements. There are pragmatic reactions to what was seen to be not working – remember both Thatcher and Reagan came to power during the economic stagnation of the 1970s with popular electoral mandates for change, both economic and social. There are also personal reactions – Rand’s world view was deeply affected by her family’s plight after the Bolsheviks came to power in Russia. Greenspan’s flexible world view was shaped by his relatively modest background, his ambition and political cunning. It is not a simple Manichean world. There are no obvious conspiracies.

Labelling people ‘x’ or ‘y’ is too simplistic. There are a lot of complex factors interacting in different ways. To understand them, to understand the financialisation of the world, you have to move beyond a purely ideological framework. You have to acknowledge that there are many contradictory forces at work and they shift constantly. If you want to change it then you have deal with this complexity. Outrage won’t get you there. In reality, many socially progressively people seemed to me to adopt the position of graffiti artist Banksy: “We can’t do anything in the world until capitalism crumbles. In the meantime we should all go shopping to console ourselves.”

PP: Well then what are the alternatives? It would be nice to say that, given environmental concerns, we could all just cut down on consumption, but we’ve seen what cuts in consumption really mean: unemployment, low economic growth and general misery. In fact, an argument could be made that if we want environmental sustainability we need continued real GDP growth but we need to push this growth in a more environmentally friendly direction – otherwise there might just be a sort of ‘environmental malaise’ in which an impoverished population just ignore all environmental considerations; recent polls seem to indicate that when people go broke they stop caring about the environment. Not surprising really.

So, apart from simply cutting consumption the only other two options seem to be increased government spending – which Japan seems to show is possible beyond the previously thought constraints (their bonds have the lowest yields in the world and their debt-to-GDP is well over 200%) – or increased wages which means income redistribution. What do you think of these options? And do you think they have a realistic future or do you think we might be caught in the ruins of this collapsed Ponzi scheme for some time?

SD: There are problems to which there are no answers, no easy solutions. Human beings are not all powerful creatures. There are limits to our powers, our knowledge and our understanding.

The modern world has been built on a ethos of growth, improving living standards and growing prosperity. Growth has been our answer to everything. This is what drove us to the world of ‘extreme money’ and financialisation in the first place. Now three things are coming together to bring that period of history to a conclusion – the end of financialisation, environmental concerns and limits to certain essential natural resources like oil and water. Environmental advocate Edward Abbey put it bluntly: “Growth for the sake of growth is the ideology of a cancer cell.” We are reaching the end of a period of growth, expansion and, maybe, optimism.

Increased government spending or income redistribution, even if it is implemented (which I doubt), may not necessarily work. Living standards will have to fall. Competition between countries for growth will trigger currency and trade wars – we are seeing that already with the Swiss intervening to lower their currency and emerging markets putting in place capital controls. All this will further crimp growth. Social cohesion and order may break down. Extreme political views might become popular and powerful. Xenophobia and nationalism will become more prominent as people look for scapegoats.

People draw comparisons to what happened in Japan. But Japan had significant advantages – the world’s largest savings pool, global growth which allowed its exporters to prosper, a homogenous, stoic population who were willing to bear the pain of the adjustment. Do those conditions exist everywhere?

We will be caught in the ruins of this collapsed Ponzi scheme for a long time, while we try to rediscover more traditional sources of growth like innovation and productivity improvements – real engineering rather than financial engineering. But we will still have to pay for the cost of our past mistakes which will complicate the process. Fyodor Dostoevsky wrote in The Possessed: “It is hard to change gods.” It seems to me that that’s what we are trying to do. It may be possible but it won’t be simple or easy. It will also take a long, long time and entail a lot of pain.

PP: You say that a lot of pain will have to be incurred before anything positive happens but this sounds almost identical to what we’re being told by the mainstream media at the moment. Yet, if history is anything to go by simply sitting around and enduring pain is one of the worst depression-era economic policies imaginable. Are you implicitly assuming that the system will readjust automatically? And is this not a variation on the neoclassical theme of self-correcting systems that got us into this trouble in the first place?

SD: There are two separate issues. The first about self correcting systems. The second about what is likely to happen.

The basic system – financialisation, debt and speculation driven growth – doesn’t work. It was a kind of ‘Ponzi prosperity’ which eventually runs out of steam. I certainly don’t think that the system will miraculously renew itself like Arnold Schwarzenegger’s nemesis in the Terminator films. I have never bought that.

It is also not clear what we can do either. The period may reflect Italian philosopher Anton Gramsci’s words: “The old is dying, the new cannot yet be born, in the interregnum all manner of morbid symptoms appear.”

There are no simple, painless solutions any more. The world has to reduce debt, shrink the financial part of the economy and change the destructive incentive structures in finance. Individuals in developed countries have to save more and spend less. Companies have to go back to real engineering. Governments have to balance their books better. Banking must become a mechanism for matching savers and borrowers, financing real things. Banks cannot be larger than nations, countries in themselves. Countries cannot rely on debt and speculation for prosperity. The world must live within its means.

The basic problem is one of demand. We used debt to create demand and now that we can’t increase debt, demand has slowed down. This is crucial thing is it is going to be difficult to return to previous levels of demand, particular growth in demand that the world has come to depend. It may not be a bad thing for the environment and conservation of scarce resources but it won’t be good for growth. That’s the issue, at least as I see it, and it’s a hard one to fix.

All this also needs a fundamental change in thinking at all levels – economic, financial, political and social. That’s difficult and it certainly hasn’t happened so far.

So, reforming the economy, reining in extreme money, is not difficult but comes with short-term painful costs and longer-term slower growth and lower living standards. At best you can try to manage the process. Maintain some degree of stability and avoid a total breakdown. Try to shield those badly affected from the worst of the adjustment process. Try to maintain the fragile social contract which will increasingly be strained as the pain becomes more and more widely felt.