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The Current Crisis


They say they won’t intervene. But they will.’ This is how Robert Rubin, Bill Clinton’s Treasury Secretary, responded to Paul O’Neill, the first Treasury Secretary under George W. Bush, who openly criticized his predecessor’s interventions in the face of what Rubin called ‘the messy reality of global financial crises.’[1] The current dramatic conjuncture of financial crisis and state intervention has proven Rubin more correct than he could have imagined. But it also demonstrates why those, whether from the right or the left, who have only understood the era of neoliberalism ideologically – i.e. in terms of a hegemonic ideological determination to free markets from states – have had such a weak handle on discerning what really has been going on over the past quarter century. Clinging to this type of understanding will also get in the way of the thinking necessary to advance a socialist strategy in the wake of this crisis.[2]

Markets, States and American Empire

The fundamental relationship between capitalist states and financial markets cannot be understood in terms of how much or little regulation the former puts upon the latter. It needs to be understood in terms of the guarantee the state provides to property, above all in the form of the promise not to default on its bonds – which are themselves the foundation of financial markets’ role in capital accumulation. But not all states are equally able, or trusted as willing (especially since the Russian Revolution), to honour this guarantee. The American state emerged in the 20th century as an entirely new kind of imperial state precisely because it took utmost responsibility for honouring this guarantee itself, while promoting a world order of independent nation states which the new empire would expect to behave as capitalist states. Since World War Two, the American state has been not just the dominant state in the capitalist world but the state responsible for overseeing the expansion of capitalism to its current global dimensions and for organizing the management of its economic contradictions. It has done this not through the displacement but through the penetration and integration of other states. This included their internationalization in the sense of their cooperation in taking responsibility for global accumulation within their borders and their cooperation in setting the international rules for trade and investment.

It was the credibility of the American state’s guarantee to property which ensured that, even amidst the Great Depression and business hostility to the New Deal’s union and welfare reforms, private funds were readily available as loans to all the new public agencies created in that era. This was also why whatever liquid foreign funds that could escape the capital controls of other states in that decade made their way to New York, and so much of the world’s gold filled the vaults of Fort Knox. And it is this which helps explain why it fell to the American state to take responsibility for making international capitalism viable again after 1945, with the fixed exchange rate for its dollar established at Bretton Woods providing the sole global currency intermediary for gold. When it proved by the 1960s that those who held US dollar would have to suffer a devaluation of their funds through inflation, the fiction of a continuing gold standard was abandoned. The world’s financial system was now explicitly based on the dollar as American-made ‘fiat money’, backed by an iron clad guarantee against default of US Treasury bonds which were now treated as ‘good as gold’. Today’s global financial order has been founded on this; and this is why US Treasury bonds are the fundamental basis from which calculations of value of all forms of financial instruments begin.

To be sure, the end of fixed exchange rates and a dollar nominally tied to gold now meant that it had to be accepted internationally that the returns to those who held US assets would reflect the fluctuating value of US dollars in currency markets. But the commitment by the Federal Reserve and Treasury to an anti-inflation priority via the founding act of neoliberalism – the ‘Volcker shock ‘of 1979 – assuaged that problem. (This ‘defining-moment’ of US-state intervention, like the current one, came in the run-up to a presidential election – i.e. before Reagan’s election, and with bipartisan support and the support of industrial and well as financial capital in the US and abroad.) As the American state took the lead, by its example and its pressure on other states around the world, to give priority to low inflation as a much stronger and ongoing commitment than before, this bolstered finance capital’s confidence in the substantive value of lending; and after the initial astronomical interest rates produced by the Volcker shock, this soon made an era of low interest rates possible. Throughout the neoliberal era, the enormous demand for US bonds and the low interest paid on them has rested on this foundation. This was reinforced by the defeat of American trade unionism; by the intense competition in financial markets domestically and internationally; by financial capital’s pressures on firms to lower costs through restructuring if they are to justify more capital investment; by the reallocation of capital across sectors and especially the provision of venture capital to support new technologies in new leading sectors of capital accumulation; and by the ‘Americanization of finance’ in other states and the consequent access this provided the American state to global savings.

Deregulation was more a consequence than the main cause of the intense competition in financial markets and its attendant effects. By 1990, this competition had already led to banks scheming to escape the reserve requirements of the Basel bank regulations by creating ‘Structured Investment Vehicles’ to hold these and other risky derivative assets. It also led to the increased blurring of the lines between commercial and investment banking, insurance and real estate in the FIRE sector of the US economy. Competition in the financial sector fostered all kinds of innovations in financial instruments which allowed for high leveraging of the funds that could be accessed via low interest rates. This meant that there was an explosion in the effective money supply (this was highly ironic in terms of the monetarist theories that are usually thought to have founded neoliberalism). The competition to purchase assets with these funds replaced price inflation with the asset inflation that characterized the whole era. This was reinforced by the American state’s readiness to throw further liquidity into the financial system whenever a specific asset bubble burst (while imposing austerity on economies in the South as the condition for the liquidity the IMF and World Bank provided to their financial markets at moments of crisis). All this was central to the uneven and often chaotic making of global capitalism over the past quarter century, to the crises that have punctuated it, and to the active role of the US state in containing them.

Meanwhile, the world beat a path to US financial markets not only because of the demand for Treasury bills, and not only because of Wall Street’s linkages to US capital more generally, but also because of the depth and breadth of its financial markets – which had much to do with US financial capital’s relation to the popular classes. The American Dream has always materially entailed promoting their integration into the circuits of financial capital, whether as independent commodity farmers, as workers whose paychecks were deposited with banks and whose pension savings were invested in the stock market, as consumers reliant on credit, and not least as heavily mortgaged home owners. It is the form that this incorporation of the mass of the American population took in the neoliberal context of competition, inequality and capital mobility, much more than the degree of supposed ‘deregulation’ of financial markets, that helps explain the dynamism and longevity of the finance-led neoliberal era. But it also helped trigger the current crisis – and the massive state intervention in response to it.

From ‘Great Society’ to sub-prime mortgages

The scale of the current crisis, which significantly has its roots in housing finance, cannot be understood apart from how the defeat of American trade unionism played out by the first years of the 21st century. Constrained in what they could get from their labour for two decades, workers were drawn into the logic of asset inflation in the age of neoliberal finance not only via the institutional investment of their pensions, but also via the one major asset they held in their own hands (or could aspire to hold) – their family home. It is significant that this went so far as the attempted integration via financial markets of poor African-American communities, so long the Achilles heel of working class integration into the American Dream. The roots of the sub-prime mortgage crisis, triggering the collapse of the mountain of repackaged and resold securitized derivative assets to hedge the risk involved in lending to poor people, lay in the way the anti-inflation commitment had since the 1970s ruled out the massive public expenditures that would have been required to even begin to address the crisis of inadequate housing in US cities.

As the ‘Great Society’ public expenditure programs of the 1960s ran up against the need to redeem the imperial state’s anti-inflationary commitments, financial market became the mechanism for doing this. In 1977, the government sponsored mortgage companies, Freddie Mac and Fannie Mae (the New Deal public housing corporation privatized by Lyndon Johnson in 1968 before the word neoliberalism was invented), were required by the Community Reinvestment Act to sustain home loans by banks in poor communities. This effectively initiated that portion of the open market in mortgage-backed securities that was directed towards securing private financing for housing for low income families. From modest beginnings this only really took off with the inflation of residential real estate values after the recession of the early 1990s and the Clinton Administration’s embrace of neoliberalism leading to its reinforcement of a reliance on financial markets rather than public expenditures as the primary means of integrating working class, Black and Hispanic communities. The Bush Republicans’ determination to open up competition to sell and trade mortgages and mortgage-backed securities to all comers was in turn reinforced by the Greenspan Fed’s dramatic lowering of real interest to almost zero in response to the bursting of the dot.com bubble and to 9/11. But this was a policy that was only sustainable via the flow of global savings to the US, not least to the apparent Treasury-plated safety of Fannie Mae and Freddie Mac securities as government sponsored enterprises.

It was this long chain of events that led to the massive funding of mortgages, the hedging and default derivatives based on this, the rating agencies AAA rating of them, and their spread onto the books of many foreign institutions. This included the world’s biggest insurance company, AIG, and the great New York investment banks, whose own traditional business of corporate and government finance around the globe was now itself heavily mortgaged to the mortgages that had been sold in poor communities in the US and then resold many times over. The global attraction and strength of American finance was seen to be rooted in its depth and breadth at home, and this meant that when the crisis hit in the sub-prime security market at the heart of the empire, it immediately had implications for the banking systems of many other countries. The scale of the American government’s intervention has certainly been a function of the consequent unraveling of the crisis throughout its integrated domestic financial system. Yet it is also important to understand this in terms of its imperial responsibilities as the state of global capital.

This is why it fell to the Fed to repeatedly pump billions of dollars via foreign central banks into inter-bank markets abroad, where banks balance their books through the overnight borrowing of dollars from other banks. And an important factor in the nationalizations of Fannie Mae and Freddie Mac was the need to redeem the expectations of foreign investors (including the Japanese and Chinese central banks) that the US government would never default on its debt obligations. It is for this reason that even those foreign leaders who have opportunistically pronounced the end of American ‘financial superpower status’ have credited the US Treasury for ‘acting not just in the US interests but also in the interests of other nations.’[3] The US was not being altruistic in doing this, since not to do it would have risked a run on the dollar. But this is precisely the point. The American state cannot act in the interests of American capitalism without also reflecting the logic of American capitalism’s integration with global capitalism both economically and politically. This is why it is always misleading to portray the American state as merely representing its ‘national interest’ while ignoring the structural role it plays in the making and reproduction of global capitalism.

A century of crises

It might be thought that the exposure of the state’s role in today’s financial crisis would once and for all rid people of the illusion that capitalists don’t want their states involved in their markets, or that capitalist states could ever be neutral and benign regulators in the public interest of markets. Unfortunately, the widespread call today for the American state to ‘go back’ to playing the role of such a regulator reveals that this illusion remains deeply engrained, and obscures an understanding of both the past and present history of the relationship between the state and finance in the US.

In October 1907, near the beginning of the ‘American Century’, and exactly a hundred years before the onset of the current financial crisis, the US experienced a financial crisis that for anyone living through it would have seemed as great as today’s. Indeed, there were far more suicides in that crisis than in the current one, as ‘Wall Street spent a cliff-hanging year’ which spanned a stock market crash, an 11 per cent decline in GDP, and accelerating runs on the banks.[4] At the core of the crisis was the practice of trust companies to draw money from banks at exorbitant interest rates and, without the protection of sufficient cash reserves, lend out so much of it against stock and bond speculation that almost half of the bank loans in New York had questionable securities as their only collateral. When the trust companies were forced to call in some of their loans to stock market speculators, even interest rates which zoomed to well over 100 per cent on margin loans could not attract funds. European investors started withdrawing funds from the US.

Whereas European central banking had its roots in ‘haute finance’ far removed from the popular classes, US small farmers’ dependence on credit had made them hostile to a central bank that they recognized would serve bankers’ interests. In the absence of a central bank, both the US Treasury and Wall Street relied on JP Morgan to organize the bailout of 1907. As Henry Paulson did with Lehman’s a century later, Morgan let the giant Knickerbocker Trust go under in spite of its holding $50 million of deposits for 17,000 depositors (‘I’ve got to stop somewhere’, Morgan said). This only fuelled the panic and triggered runs on other financial firms including the Trust Company of America (leading Morgan to pronounce that ‘this is the place to stop the trouble’). Using $25 million put at his disposal by the Treasury, and calling together Wall Street’s bank presidents to demand they put up another $25 million ‘within ten or twelve minutes’ (which they did), Morgan dispensed the liquidity that began to calm the markets.[5]

When the Federal Reserve was finally established in 1913, this was seen as Wilson‘s great Progressive victory over the unaccountable big financiers. (As Chernow’s monumental biography of Morgan put it, ‘From the ashes of 1907 arose the Federal Reserve System: everyone saw that thrilling rescues by corpulent old tycoons were a tenuous prop for the banking system.’[6] ) Yet the main elements of the Federal Reserve Bill had already been drafted by the Morgan and Rockefeller interests during the previous Taft administration; and although the Fed’s corporatist and decentralized structure of regional federal reserve boards reflected the compromise the final Act made with populist pressures, its immediate effect was actually to cement the ‘fusion of financial and government power.’[7] This was so both in the sense of the Fed’s remit as the ‘banker’s bank’ (that is, a largely passive regulator of bank credit and a lender of last resort) and also by virtue of the close ties between the Federal Reserve Bank of New York and the House of Morgan. William McAdoo, Wilson’s Treasury Secretary, saw the Federal Reserve Act’s provisions allowing US banks to establish foreign branches in terms of laying the basis for the US ‘to become the dominant financial power of the world and to extend our trade to every part of the world.’[8]

In fact, in its early decades, the Fed actually was ‘a loose and inexperienced body with minimal effectiveness even in its domestic functions.’[9] This was an important factor in the crash of 1929 and in the Fed’s perverse role in contributing to the Great Depression. It was class pressures from below that produced FDR’s union and welfare reforms. But the New Deal is misunderstood if it is simply seen in terms of a dichotomy of purpose and function between state and capitalist actors. The strongest evidence of this was in the area of financial regulation, which established a corporatist ‘network of public and semi-public bodies, individual firms and professional groups’ that existed in a symbiotic relationship with one another distanced from democratic pressures.[10] While the Morgan empire was brought low by an alliance of new financial competitors and the state, the New Deal’s financial reforms, which were introduced before the union and welfare ones, protected the banks as a whole from hostile popular sentiments. They restrained competition and excesses of speculation not so much by curbing the power of finance but rather through the fortification of key financial institutions, especially the New York investment banks that were to grow ever more powerful through the remainder of the century. Despite the hostility of capitalists to FDR’s union and welfare reforms, by the time World War Two began, the New Dealers had struck what they themselves called their ‘grand truce’ with business.[11] And even though the Treasury’s Keynesian economists took the lead in rewriting the rules of international finance during World War Two (producing no little tension with Wall Street), a resilient US financial capital was not external to the constitution of the Bretton Woods order: it was embedded within it and determined its particular character.

In the postwar period, the New Deal regulatory structure acted an incubator for financial capital’s growth and development. The strong position of Wall Street was institutionally crystallized via the 1951 Accord reached between the Federal Reserve and the Treasury. Whereas during the War the Fed ‘had run the market for government securities with an iron fist’ in terms of controlling bond prices that were set by the Treasury, the Fed now took up the position long advocated by University of Chicago economists and set to work successfully organizing Wall Street’s bond dealers into a self-governing association that would ensure they had ‘sufficient depth and breadth’ to make ‘a free market in government securities’, and thus allow market forces to determine bond prices.[12] The Fed’s Open Market Committee would then only intervene by ‘leaning against the wind’ to correct ‘a disorderly situation’ through its buying and selling Treasury bills. Lingering concerns that Keynesian commitments to the priority of full employment and fiscal deficits might prevail in the Treasury were thus allayed: the Accord was designed to ensure that ‘forces seen as more radical’ within any administration would find it difficult, at least without creating a crisis, to implement inflationary monetary policies.[13]

Profits in the financial sector were already growing faster than in industry in the 1950s. By the early 1960s, the securitization of commercial banking (selling saving certificates rather than relying on deposits) and the enormous expansion of investment banking (including Morgan Stanley’s creation of the first viable computer model for analyzing financial risk) were already in train. With the development of the unregulated Euromarket in dollars and the international expansion of US MNCs, the playing field for American finance was far larger than New Deal regulations could contain. Both domestically and internationally, the baby had outgrown the incubator, which was in any case being buffeted by inflationary pressures stemming from union militancy and public expenditures on the Great Society programs and the Vietnam War. The bank crisis of 1966, the complaints by pension funds that fixed brokerage fees discriminated against workers’ savings, the series of scandals that beset Wall Street, all foretold the end of the corporatist structure of brokers, investment banks and corporate managers that had dominated domestic capital markets since the New Deal, culminating in Wall Street’s ‘Big Bang’ of 1975. Meanwhile, the collapse of the Bretton Woods fixed exchange rate system, due to inflationary pressures on the dollar as well as the massive growth in international trade and investment, laid the foundation for the derivatives revolution by leading to a massive demand for hedging risk by trading futures and options in exchange and interest rates. The newly created Commodity Futures Trading Commission was quickly created less to regulate this new market than to facilitate its development.[14] It was not so much neoliberal ideology that broke the old system of financial regulations as it was the contradictions that had emerged within that system.

If there was going to be any serious alternative to giving financial capital its head by the 1970s, this would have required going well beyond the old regulations and capital controls, and introducing qualitatively new policies to undermine the social power of finance. This was recognized by those pushing for the more radical aspects of the 1977 Community Reinvestment Act, and who could have never foretold where the compromises struck with the banks to secure their loans would lead. Where the socialist politics were stronger, the nationalization of the financial system was being forcefully advanced as a demand by the mid 1970s. The left of the British Labour Party were able to secure the passage of a conference resolution to nationalize the big banks and insurance companies in the City of London, albeit with no effect on a Labour Government that embraced one of the IMF’s first structural adjustment programs. In France, the Programme Commun of the late 1970s led to the Mitterand Government’s bank nationalizations, but this was carried through in a way that ensured that the structure and function of the banks were not changed in the process. In Canada, the directly elected local planning boards we proposed, which would draw on the surplus from a nationalized financial system to create jobs, were seen as the first step in a new strategy to get labour movements to think in ways that were not so cramped and defensive.[15] Such alternatives – strongly opposed by social democratic politicians who soon accommodated themselves to the dynamics of finance-led neoliberalism and the ideology of efficient free markets – were soon forgotten amidst the general defeat of labour movements and socialist politics that characterized the new era.

Financial capitalists took the lead as a social force in demanding the defeat of those domestic social forces they blamed for creating the inflationary pressures which undermined the value of their assets. The further growth of financial markets, increasingly characterized by competition, innovation and flexibility, was central to the resolution of the crisis of the 1970s. Perhaps the most important aspect of the new age of finance was the central role it played in disciplining and integrating labour. The industrial and political pressures from below that characterized the crisis of the 1970s could not have been countered and defeated without the discipline that a financial order built upon the mobility of capital placed upon firms. ‘Shareholder value’ was in many respects a euphemism for how the discipline imposed by the competition for global investment funds was transferred to the high wage proletariat of the advanced capitalist countries. New York and London

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