‘America is more communist than China is right now. You can see that this is welfare of the rich, it is socialism for the rich – it’s just bailing out financial institutions. This is madness, this is insanity, they have more than doubled the American national debt in one weekend for a bunch of crooks and incompetents. I’m not quite sure why I or anybody else should be paying for this.’ Billionaire investor Jim Rogers
W-w-what the [bleep] just happened?
In just two weeks, the world’s largest mortgage purchasers, Fannie Mae and Freddie Mac, got nationalized by right-wing conservatives; the last of the large Wall Street investment banks either went bankrupt (Lehman), or got bought by a conventional bank (Merrill Lynch by Bank of America), or turned themselves into regular commercial banks (Morgan Stanley, Goldman Sachs); the world’s largest insurance company, AIG, got an $85bn loan from the US government in exchange for 80% of its assets; the world’s largest retail bank, Washington Mutual (WaMu) failed after depositors had withdrawn $17bn and was bought by JP Morgan.
That was Wall Street disappearing – at least in the shape of anything resembling the financial orgy of the last two decades. With the disappearance of the huge investment banks has gone the pump which was inflating the financial bubble. The rest of the shadow banking sector, which grew up over the last decade outside the existing bank regulatory system, is now going to start to deflate. It worked by ‘leveraging’ its assets – borrowing perhaps 30 times its own capital and investing in mortgage backed securities and similar derivative assets. Now that leverage is going to have to unwind, deflating the financial bubble and the rest of the economy in the process.
The reality of the ‘real economy’
Through all this, everyone from ‘economic experts’ to the so-called left keeps assuring us that ‘the real economy’ – apparently something separate from the financial economy – is ‘sound’, ‘in good shape’, ‘doing OK’ etc. It’s as if most of the capitalist economy is functioning well, but over in the financial corner, we’re going through some slight disturbance. Stay in your seats and keep your seat belts fastened until we get past this patch of turbulence. Everything else is working just fine, no need to panic, folks.
But what is this ‘real economy’? There is no capitalist ‘real economy’ without money and credit – without finance. Take away money and there is no capitalism. Under capitalism the entire economy is dominated by spending money to produce commodities to get even more money. Capitalism is all about making money, about relentlessly expanding the value of capital.
The ‘real economy’ is constantly intersecting with the financial economy. For a start a company in the ‘real’ economy uses bank accounts to post payments it receives, to purchase raw materials and inputs and to pay payrolls. If it exports or imports, it engages with the foreign currency market. If a company uses large quantities of raw materials, it is engaged in forward trading and hedging to assure supply and control costs. It may be leasing buildings and equipment. It engages in treasury operations to try to earn money from spare cash instead of just leaving it in a bank account. It needs long-term and short-term financing for many reasons – for projects, for expansion, to bridge delays in payments received. At the same time it manages its receivables to ensure prompt or early payment and minimize the extension of credit. It insures its operations in various ways against potential risks.
So there are not two economies – ‘real’ and ‘financial’ – just one indivisible capitalist economy which is constantly churning between commodities and money, money and commodities. Money, in its various forms, is capitalism’s life blood: when its flow and reflux gets interrupted, the production and sale of commodities gets interrupted and there is a desperate scramble for money, creating a monetary crisis. Which is exactly where we are now:
‘Such a crisis occurs only where the ever-lengthening chain of payments, and an artificial system of settling them, has been fully developed. Whenever there is a general and extensive disturbance of this mechanism, no matter what its cause, money becomes suddenly and immediately transformed, from its merely ideal shape of money of account, into hard cash. Profane commodities can no longer replace it. The use-value of commodities becomes valueless, and their value vanishes in the presence of its own independent form. On the eve of the crisis, the bourgeois, with the self-sufficiency that springs from intoxicating prosperity, declares money to be a vain imagination. Commodities alone are money. But now the cry is everywhere: money alone is a commodity! As the hart pants after fresh water, so pants his soul after money, the only wealth. In a crisis, the antithesis between commodities and their value-form, money, becomes heightened into an absolute contradiction. Hence, in such events, the form under which money appears is of no importance. The money famine continues, whether payments have to be made in gold or in credit money such as bank-notes.’ Karl Marx, Capital Volume1, Chapter 3
The widespread use of derivatives has resulted in exactly such a ‘general and extensive disturbance’ of the financial mechanism. Since these exotic assets have no market, they are extremely difficult to price and consequently to use as collateral, as security backing for loans. So financial companies have become loth to lend to each other without some deeper assurance. The AIG collapse was the last straw and the hunt for money was on. That week gold prices advanced the most ever. Money market funds, supposedly the safest, most liquid investments suddenly started to empty: the ‘Reserve Primary Fund’ dropped from $62.6bn on a Friday to $20bn on Tuesday as investors yanked out money. The dollar overnight Libor rates – the rate for banks to borrow from each other – shot up from 2.14% to 6.44%, reflecting the hunger for money.
Oh cluck!
Pilgrim’s Pride, the world’s largest chicken producer, has announced it may have to ‘break convenant’ (violate the conditions) of the debt it acquired because of bad hedging positions and declines in its ratings. Goodyear Tires, General Motors Corporation, and International Lease Finance Company (an airplane leasing company), all very much part of the ‘real economy’, have been forced to draw down existing lines of credit to the limit, thanks to the halt in the loan cycle.
Junk solutions for junk finance
The fundamental problem is getting the junk assets out of the system. As we have argued, those assets are junk because the relentless expansion of both government and private credit for the last few decades, combined with parasitic blood-sucking on the rest of the world, have enabled the fundamentally declining imperialist economies to stave off complete collapse by inflating the prices of all kinds of assets. That process is now coming to a halt. Its consequence is a very serious depression. Capitalist ‘solutions’ to this try to achieve several things: 1) purge the toxic assets; 2) delay the deleveraging process; 3) free up the credit markets; 4) try to maintain the strength of US Finance Capital compared to its European and Asian competitors and finally 5) offload the costs onto ‘the taxpayer’ – in other words the middle class and better off workers. At first the ruling class approached each problem as it arose – cutting interest rates, arranging a shot-gun wedding for investment bank Bear Stearns, passing a standby solution for Freddie and Fannie. But with the September massacre of the big players of US Finance Capital, it became clear that a solution was needed that would attack the underlying problem.
Hank’s plan
‘If you’ve got a squirt gun in your pocket, you probably will have to take it out,’ US Treasury Secretary Hank Paulson told the Senate Banking Committee on 15 July, describing his standby bail-out plan for Fannie and Freddie. ‘If you have a bazooka in your pocket and people know it, you probably won’t have to take it out.’ The bulge in Hank’s pants apparently wasn’t as impressive as he thought, so just weeks later, he had to pull out his bazooka and fire, nationalizing Fannie and Freddie, leaving Lehman for the vultures to pick clean and marrying off Merrill Lynch to Bank of America. However, the collapse of AIG showed that Hank needed much more than a bazooka to deal with the problem.
So Hank went to Congress, scared congressional leaders stiff and demanded dictatorial powers, immune from any executive, legislative or judicial review or challenge to spend $700bn buying dodgy assets from failing banks. Basically, the plan frees up the credit markets and pours huge dollops of cash into the hands of the same people who created this mess and does so in a very obvious way. The Democrats negotiated, trying to get various concessions in exchange, such as limiting CEO pay – a complete red herring (they should simply be sent to re-education camps). Within days it was clear that most American people, of all political persuasions, do not want to be bled dry to prop Wall Street up. So, with some deft footwork, and in an attempt to boost John McCain’s presidential campaign, the Republicans came up with an apparent alternative: the US government would organize an insurance scheme, financed by the industry. The government would only pay for actual failures. This ingeniously sounds as if there would be minimal cost to the taxpayer and much easier to sell politically. However, a moment’s thought about insurance makes one wonder how they’re going to prevent ‘financial arson’ – overinsuring toxic securities, engineering some suitable ‘credit event’ to trigger payment of the insurance. This plan still enables Finance Capital to raid the middle classes, probably even more extensively than under the original plan, yet do so in a way that brings smiles to their faces and loud applause.
Real solution
Whatever plan is used, all it does is free up the credit markets temporarily, and delay the next more violent and deeper phase of the crisis. Already, there have been some 3.5 million foreclosures in the last year – probably affecting around ten million people directly, and, indirectly, several hundred thousand construction workers and others. When the crisis hits home we can expect to see unemployment rise by several million, with a consequent increase in foreclosures. Already conventional economists are expecting recorded unemployment to top 7%, up from 5% just months ago. Descent of the capitalist spiral into deep depression is underway. What would be required in this situation is a complete cancellation of all existing residential family mortgages, replacing them with a complete, just and effective housing program. But in the real world the only solution is to go to the root of the problem and to get rid of capitalism.
Steve Palmer
US correspondant
*an update was written to this article after the agreemet of the US bailout plan on 6 October 2008, click here
FRFI 205 October / November 2008
