Genius of democratic capitalism
Lessons can be learnt from the Great Depression
WITH UNABASHED GLEE many commentators over the past week have again predicted the end of capitalism, some even suggesting a worldwide depression. It’s the capitalist system that’s at fault, they yell. Yet none can point to a single example anywhere in the world as a model. They have no success stories to report.
The past few weeks have seen billions of US dollars written off as many of the financial instruments in the United States, and now elsewhere, have been caught out. Overstretched bad loans and reckless lending have been exposed due to the collapse of the US housing market.
Why won’t this be like the Great Depression? The biggest difference is what policy-makers have learnt. US Federal Reserve Bank chairman Ben Bernanke did his economics thesis on the Great Depression. Maybe a trillion dollars have been spent to hold the system together. At the time of the Great Depression there were few effective government-owned central banks and there was little global economic co-ordination. Indeed, international trade collapsed by 50% in a few years as governments put up tariffs to try and insulate themselves and indulged in a destructive cycle of competitive devaluations to vainly try to control global market share. That deepened and prolonged the Great Depression, from which the twin tyrannies of the last century emerged: fascism and Communism.
No nation is talking of jettisoning its trade obligations under the World Trade Organisation; the system is holding firm, lesson learnt. Democracy responds. In the Thirties Franklin Roosevelt emerged with a “new deal”. A powerful central bank and new organisation to pick up mortgages – now Freddie Mac and Fannie Mae, the recently rescued twin mortgage giants. Central banks everywhere have pumped more money – liquidity – into the system to avoid panic. As Roosevelt famously said in the US’s most darkest economic times: “All we have to fear is fear itself.” It’s about confidence.
Roosevelt would have been impeached as a socialist for less than what the George W Bush administration has done. Bush’s administration is guilty of inactivity despite warnings there was a fault line in the financial sector that’s now cracked.
Talk of transparency sounds glib and clichéd. But it’s real. Out of this destructive chaos will come creative chaos as new entities emerge picking up some good, low cost, high value assets.
It’s cold comfort for thousands losing their homes and jobs. A recession is when your neighbour loses his job; a depression is when you lose yours.
The past 10 years have been most successful in economic history, lifting millions out of extreme poverty worldwide. Economic gains made from liberalised capital flows now equal or exceed those from liberalised trade. Few jobs are lost and many gained due to open trade and financial markets. Yet even in the US more people think trade costs jobs despite all the evidence to the contrary. The lesson of the Great Depression was that the US government needed to intervene to protect the virtues of the market. There’s a need for prudent disclosure and proper competition and it became clear that global markets needed regulating through agreements and the World Trade Organisation. Central banks were necessary to even economic cycles and police adventurers who took, as they always will, advantage of existing conditions.
Governments have a role to ensure social security in times of stress and uncertainty and to invest in common goods, such as skills and infrastructure. Rebuilding must be done in a way that produces both economic and social confidence. There has to be a sense of fairness, of equality, of sacrifice. In a classic analogy, political economist Albert Hirschman once likened attitudes to widening income inequalities during economic change to the response of drivers stuck in a traffic jam. After a lengthy period in which all cars are stopped, one lane typically begins to move forward. When it does even those drivers who are still stuck in the other lanes are usually relieved. They infer that whatever obstruction was blocking the road ahead has dissipated and they assume that soon their lane will also begin to move forward.
However, if time passes and they remain stuck while those in the one lane keep moving ahead, their newfound optimism eventually gives way to yet greater frustration that’s all the more intense if there’s no practical way of changing lanes. That’s when politics can get nasty.
If the stunning greed and bad judgement of some of the CEOs and corporations mean the most responsible walk out with very few scars and big payouts, workers who lose homes and jobs will be enraged, creating a populist opportunity for politicians to feast off.
Did his thesis on the Great Depression. Ben Bernanke