Monday, January 7, 2013

From the Empirical Archives: A Tale of Two Crashes Part I by Emanuel Stoakes

A Tale of Two Crashes: The Financial System and Our Planet 
Emanuel Stoakes

The East Asian and global economic crises resulted in mass suffering both at home and abroad in the recent past. However, the greatest crash in human history is yet to come–something we must not forget if we care about the fate of our species

The United States of America, the most wealthy and powerful nation that has ever existed, was founded by a group of men who rebelled against the tyranny of imperial rule. A great number of those who had come to the “The New World,” including many of the forebears of the founding fathers, left from England and sought a place where they could freely express their religious and/or intellectual convictions far from the pressure cooker of European society with its political oppression, poverty, disease, and rigid class system.

America represented a new start. Many took the ten-week Atlantic crossing from Plymouth, Bristol, or elsewhere to forge a bold new life–and many found that. Even thousands of miles away from home, they were still subjected to manifestly unfair taxation and laws designed to subjugate the population to foreign rule. This had consequences. An epochal moment occurred on the July 4th, 1776 (as the reader will know) with the Declaration of Independence. It expressed the intention of the colonies to establish an independent sovereign nation, founded in rebellion against just such domination-by-proxy. The victory of General Washington’s Continental Army over the British in the Revolutionary War promised a chance for Americans to live according to their rights, as opposed to being subjected to the dictates of Westminster.

Jefferson Memorial
PHOTO: P. Couture
The principal author of America’s Declaration of Independence–the document that affirmed and sanctified the values of this brave new world–was Thomas Jefferson, a man revered since his day as an iconic champion of individual liberty. Nearing the end of his life he wrote a letter to his friend John Taylor, in which he reflected on the state of the nascent nation. While writing with approval about the Constitution and its virtues, he complained about “the system of banking” of the present day that he and Taylor “have both equally and ever reprobated.” Jefferson evidently took the banking system very seriously, describing it as “a blot left in all our constitutions, which if not covered, will end in their destruction.” He evinced in the final lines of the letter the frank opinion that “banking establishments are more dangerous than standing armies,” a statement now well-known. 

Jefferson’s view on banking is elucidated further in another letter held by the Library of Congress and not generally quoted, written this time to his friend Thomas Cooper. “Everything predicted by the enemies of banks, in the beginning, is now coming to pass,” he complained. After which he stated: “We are to be ruined now by the deluge of bank paper [a reference to inflation]. It is cruel that such revolutions in private fortunes should be at the mercy of avaricious adventurers, who, instead of employing their capital, if any they have, in manufactures, commerce, and other useful pursuits, make it an instrument to burden all the interchanges of property with their swindling profits, profits which are the price of no useful industry of theirs.”

Jefferson’s observations, it seems to this writer, were apt, insightful, and tragically prescient. Jefferson’s vision of the banks of his day prefigures the potent role of private money in America’s future fortunes. The self-interested agents of finance and their allies in the corporate world, modern-day “avaricious adventurers” hungry for “swindling profit”–so often enabled by our politicians, particularly those in the party that Jefferson founded–have imposed a great deal of suffering on this nation, and on large areas of the world, as we shall see. 

ART: Luming Marr*
Luming Marr has constructed a composite photograhp based on original photographs of the Lincoln statue (by Sean Hayford O'Leary), the young girl (by xenia/morguefile), and balloon flag (by US Navy Illustrator Draftsman 1st Class Moises M. Medel).

By the time of the earlier twentieth century President Woodrow Wilson would complain of “an invisible empire” of “special interests,” which he described as occupying a position of influence “above the forms of democracy,” seeking its own agenda. As the twentieth century continued in its path, the Great Depression would issue the nation an object lesson in the dangers posed by the stock market on society as a whole, resulting in powerful regulatory measures being passed into law by Congress. The Glass-Steagall Act of 1933 was an example of such legislation, which separated investment and commercial banks, in order to avoid “improper banking activity”–in particular the involvement of the latter form of banking in the stock market. However, regardless of such legislation, the power and influence of Wall Street remained enormous. The philosophies of modern “Chicago School” economists such as Milton Friedman acquired influential devotees among the West’s political leaders, leading to the gradual un-weaving of regulatory legislation from the seventies onward, a process generally agreed to have continued up until the 2008 economic crisis.

America was a country built on the back of a rebellion against the impositions of an imperial power, particularly the politically-active merchant and aristocratic classes that managed to influence London’s foreign policy to suit their own interests. Adam Smith, a contemporary of Jefferson and a man whose philosophy would come to influence US economists hugely, complained in his day of how “the merchants and manufacturers” of Britain acted as “the principal architects” of government policies, who thus ensured that their special interests were “most peculiarly attended to.” Their eye was fixed on Britain’s imperial wealth as much as it was domestic concerns.

Living in the post-crash era, it appears that the current of power in this country is concentrated in the economy and is channelled to the custodians of market forces, a state of affairs that calls one to ask whether the masters of money have too much influence, yet again, over American life. The Nobel-Prize winning economist Joseph Stiglitz observed how during the bail-out of big banks in the aftermath of the big crash in 2008: “as we pour money in, they can pour money right out” given that there exists no mechanism for the public to control how the banks spend the people’s money, a rule that would hardly apply if several hundred billion dollars had been handed-over to the same companies from the private sector.

The question of whether corporations and banks have too much power is an urgent one. At present the excesses of unregulated capitalism threaten the decent survival of many inhabitants of planet earth, our species included. This is chiefly owing to the impact of anthropogenic climate change, caused by the massive–still increasing–carbon emissions produced for centuries by Western industry and infrastructure despite decades of warnings about the results of not reigning such pollution in. Recently, developmental programs in India and China have contributed to this problem significantly; while well-funded global warming-skeptic groups in the US still attempt to influence Congress to not adopt legislation that takes the issue seriously, regardless of the interests of the wider human race.

At present, lobbying by special interests–including representatives of corporations who are both among the biggest carbon emitters and most generous donators to congressional candidates–has successfully stalled real movement to neutralize the multiple threats to our future posed by climate change. Presidents Reagan, Bush Senior, his son, and their international partners in the English-speaking world must share a great deal of the blame for this. Bush Junior in particular, who failed to ratify international treaties on carbon emissions against the wishes of most of the world, opting instead to protect US industry from the inconvenience of the Kyoto protocols.

Sadly, the prospective inheritors of Bush’s mantle differ little in their policies toward climate change. During the recent campaign for the Republican Presidential nomination, there were few who did not sincerely take the position that the issue poses little to moderate threat, or is questionable, regardless of the findings of academic research, as their allies at Fox News also prefer to do. The proposals of the incumbents go some way to deal with the problem, but hardly far enough.

To this we will return. First it may be worthwhile to revisit the past, specifically the period that led to our present state of affairs–a period that may prefigure the future devastation of our world at the hands of those who seek “swindling profits” without consideration for what they leave in their wake. 

The Greenspan False Economy 

Alan Greenspan with his wife, Andrea Mitchell
PHOTO: Financial Times/flickr
William Jefferson Clinton was elected President of the United States in 1992, having won the election that year with promises of improving life for the middle classes and other members of society he claimed were neglected by the previous administration. On making it to the White House, the new President met with Alan Greenspan, at that time the head of the Federal Reserve, who advised him that his plans for social reforms were unrealistic in the economic environment he was set to be operating in. The budget deficit, Clinton was told, was so large that if he borrowed more money to finance his planned reforms interest rates would go up dramatically–a taboo action for “neoliberal” economists like Greenspan–and damage economic growth, leaving everyone worse off. Greenspan suggested that the Clinton administration should cut government spending instead of investing tax money in social intervention and predicted that as a result of decreased interest rates the markets would soar, producing widespread and fiscally affordable benefits to all in society.

Greenspan was reportedly surprised when Clinton took his advice, which initially paid off spectacularly. The boom happened. As share prices rose and the markets ostensibly seethed with rude health, a new confidence gripped the world of finance leading to a growing belief that America’s economy had found the holy grail of modern economics–a boom without a bust. As absurd as this might sound now, the seductive belief that America was experiencing a boom that could lead to endless growth began to be adopted by respected members of America's intellectual elite.

As the 2011 BBC documentary All Watched Over By Machines of Loving Grace detailed, this belief was fueled by the development of computers that could perform complex mathematical models that, so it was believed, could assess with accuracy the risk of banks making any loan or investment. Thus, to use the terminology of the marketplace: if a risk could be predicted with confidence, investors could offset their potential losses by “hedging” against it. To hedge against something means that an investor will invest in many financial products at the same time, so that if one of the investments does not yield a return, another set of purchases (if chosen shrewdly) will be calculated to offer a return that covers any losses from the companion investment.

As a result of this, banks lent many millions to people that they never would have dreamed of lending money to in the past, believing that they could do so safely with the aid of this new technology coupled with strategic hedging. Stephen Roach, Chief Economist of Morgan Stanley throughout a substantial period of the 1990s, appearing in the aforementioned BBC documentary, described the thinking he encountered at the time: "Whether they came from Silicon Valley, from Washington, from academia, or from Wall Street there were a number of leading individuals who basically articulated a body of thought now known as 'the New Economy'; it was based on the premise of a dramatic and permanent increase in the rate of productivity growth sparked by new information technologies that would let this thing go on forever. This was manna from heaven . . . You don't have to do anything, you just press a button and "presto!" [sic] you have a brand new economy that creates jobs and prosperity."

Belief in the New Economy and early Clinton-era growth with its remarkable, ostensibly attendant low inflation and high employment is now believed to have led to overly optimistic forecasting from respected and influential sources within the banking establishment and subsequently many flawed high-level business plans. The seeds of the recent crash were being planted in the soil of America's economy, but few were paying serious attention to the warning signs.

Greenspan, however, had concerns. In 1996 he gave a speech suggesting that the American stock market may have been going through "a period of irrational exuberance," and that a potentially destructive speculative bubble was being created. The response from politicians and the business world, Roach notes, was venomous. "You would have thought the world had come to an end. Politicians attacked him from the left and the right, Main Street was upset with him, Wall Street was upset with him." Subsequently, Roach observed, "he knuckled under to political pressure" and decided to change his mind. Peer pressure, it seems, exists at every level of society.

Meanwhile, in Washington, the power of financial figures with strong ties to Wall Street had grown significantly, largely due to the political capital wrought by the economy's strength. In accord with co-thinkers in key roles at powerful institutions like the International Monetary Fund (IMF) and the World Bank, there were those who believed (echoing a Reagan-era world-view) that America had a manifestly heroic role in creating global economic prosperity and stability. The way to achieve this, according to leading "free marketeers" from those within the high finance community and to many within the IMF, was to encourage the free flow of capital through the world's economies by pressing nations to lift all restrictions on foreign investment.

The East Asian Crisis and Its Injustices

Many took their advice, and many bitterly regretted doing so. As the British journalist George Monbiot observed in 2003, going back even to the eighties “the IMF began to destabilize some of the most successful economies in the developing world” such as Thailand, South Korea, the Philippines and Indonesia. This set of countries, some of whom were recovering from the centuries-old damage of colonialism had “become rich by doing precisely what the IMF and World Bank had been telling them not to do,” by controlling capital flows in their economies, actively investing in education and supporting domestic industries, Monbiot observed.

During the Clinton era those countries were enthusiastically encouraged to liberalize their economies and, by following orders, expedited the process of opening themselves up to the flows of international capital and foreign direct investment in addition to borrowing large sums of money from the IMF.

Reflecting on this period from recent history, Stiglitz paints a picture of predatory pillaging: "The countries in East Asia had no need for additional capital, given their high savings rate, but still capital account liberalization was pushed on these countries in the late eighties and early nineties … [the IMF] pushed these policies even though there was little evidence that such policies promoted growth, and there was ample evidence that they imposed huge risks.” As a consequence of East Asian nations adopting the advice of the IMF, domestic industry suddenly had to compete with Western corporations and speculators who swooped on the new markets with gusto.

Monbiot recollects, accurately, that Thailand was for all intents and purposes economically plundered by Western activity in the currency market. Having world-leading GDP growth rates building to 9% per year from the mid-eighties up to 1995, Thailand was a major success for years– that is, until it fell victim to the machinations of aggressive currency traders. These people “made their money by a simple game” Monbiot wrote in his 2003 book The Age of Consent, which ran as follows: “You borrow a huge quantity of baht from a Thai bank, while the currency is valuable. You convert the baht into dollars. If you do so suddenly enough, and in sufficient quantity, the value of the currency collapses. Baht, as a result, are now much cheaper than they were before. You then pay off the loan with some of your dollars, and pocket the difference.”

Bangkok, Thailand skyline
PHOTO: Hendrik Dacquin

The apparent results of such a cruel speculative ruse were devastating for Thailand’s economy which went into near meltdown. Before long the Thai stock market lost 75% of its value while massive lay-offs and the liquidation of leading Thai companies followed after. A real estate crisis added to the problem, as there were masses of housing projects built for Thailand’s nouvelle riche, with suddenly no one able to afford them. Thailand’s economy was traumatized and needed help. The IMF flooded the country with loans in response. These carried “conditionalities” that were imposed upon the country, leading to cuts in programs intended to improve the lot of the ordinary citizen in key areas such as healthcare and education.

The crisis then quickly spread beyond borders. In Japan, South Korea, and south-east Asia, panic gripped the stock market. In Indonesia, a nation which had in 1997 very positive macroeconomic indicators in terms of low inflation, a healthy banking sector, a trade surplus, and large foreign exchange reserves, the economy was plunged into chaos within months. This was owing to a decision in Jakarta to increase and then abandon what is known as a “currency band” (the currency band represents the percentage of hard money tied to the value of a currency when it is floated on the foreign exchange markets), which invited massive speculative raids on the economy as in Thailand.


The rupiah, Indonesia’s currency, plummeted. As a result, domestic companies that had borrowed in dollars had to face the higher costs of repayment caused by the rupiah’s fall, and local businesses responded by simply purchasing US currency by selling their holdings of Rupiah, further undermining the value of their national currency. Before his exit, under international pressure, after initially resisting fiercely, Indonesia’s autocratic President Suharto signed an IMF agreement in early 1998, watched over by the head of the foundation, Michel Camdessus. Accordingly, Indonesia received a huge loan to ease its economic woes. Shortly thereafter Indonesia’s currency disintegrated dramatically, losing 80% of its value and bringing the country to the edge of all-out implosion.

Initially, economists were mystified about what had happened. The truth soon became apparent: just as in Thailand, the IMF loan agreement that Suharto was induced into signing caused a brief settling of the markets–and then all of a sudden, great amounts of money left the economy as the Western investors called in their loans and fled. Later, the economist and Nobel Laureate Joseph Stiglitz would state on the matter: “The interests of the financial community dominated over other interests. By providing mega-billion dollar loans, the IMF was bailing out Western investors and leaving the taxpayers in the countries further in debt–because they had to repay the IMF.” 

Tremors were felt, though not quite as disastrously, in South Korea, the Philippines, and elsewhere, where significant economic trauma also occurred during this period. Asia’s most carefully nurtured economies were brought to the brink of implosion by governments who adopted the advice of those global institutions (like the IMF) designed to assist their development, according to the so-called “Washington Consensus”–the prevailing wisdom of the day.

There were those in East Asia who did not follow the prescriptions of Washington and the IMF, however. China, for example, resisted pressure to follow “international norms” and maintained control over its economy, and saw substantial growth continue from that period to the present day. The Chinese evidently watched and learned as Western forces massed to abuse the suddenly weakened economies of their regional neighbors. They have since ensured that they could have some leverage over North American and European economies by buying huge amounts of US securities, government bonds and debt, particularly when the Western-led “global” crash happened.

According to a congressional research service paper of last year: “As of June 2010, China was the largest holder of US securities, which totalled $1.6 trillion. China’s holdings of US Treasury securities, which are used to help finance the federal budget deficit, totalled $1.17 trillion as of June 2011, which were 25.9% of total foreign holdings.” 

With China looking set to overtake the US economy in little under five years from the time of writing, in terms of gross domestic product (the total amount of wealth produced by a nation in a year) according to IMF figures, with a future of potential Chinese superiority in the arena of trade by 2030, it seems that the future is set to see a new race between two superpowers. Having made many enemies in East Asia during the crisis years, the US is left with slim pickings for regional partners to combat the expansion of Chinese influence in the East, inadvertently aiding the prospects of a future Beijing hegemony.

As far as self-inflicted wounds go, the unintended consequences of Western and IMF interference in East Asia would soon be totally diminished by the deep wounds issuing from another crash, one that occurred approximately a decade after the Eastern free fall – a man-made disaster with its epicenter in the heart of America’s financial establishment.

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