GLOBAL FINANCIAL CRISIS: EVERYMAN'S GUIDE!

Recounting the basics in simple words

Everyman’s guide to global financial collapseby Kumar David
Recent weeks have witnessed the most extraordinary collapse in the global financial system in living memory, unless you are well over eighty, followed by the most extraordinary economic intervention of the ‘global state’, in all time. This article is a recounting for the general reader, unclouded by theoretical concerns, except for the last paragraph.

a) The crash is appalling, the worst since the Great Depression (GD) of 1929-33. Banks whose names are household words, giant Financial institutions and mammoth Mortgage companies (collectively, BFMs) are failing in droves. The malady has spread from the US to Europe.

b) American and EU government reactions are similar. In the worst cases BFMs go bust (Lehman Brothers) or are nationalised (Fannie and Freddie in USA, Northern Rock and Bradford & Bingley in the UK). In other cases central banks extend easy loans to ease liquidity (examples are too many to name). In still other cases banks are forced to restructure – sell themselves to another bank (Wachovia, Washington Mutual), or change from Investment Banks to ordinary Commercial Banks (Goldman Sachs, Morgan Stanley), or concede a government purchase of shareholding. The most ‘pro-capitalist’ option is when the government takes over bank’s bad debts. This last approach I will call PP.

c) PP is Paulson’s Package, the recent $900 billion US scheme. The US Treasury will buy bad debts and mortgages from banks at a reduced price after valuation. Once these ‘toxics’ are removed from balance sheets, banks can breathe more freely, trust each other, and make inter-bank loans; this is called re-liquefying banks. It is hoped that thereafter the financial system will return to normality. The government also hopes ‘toxics’ will recover value and can one day be sold at a profit. This is the theory; nothing happened in the first two weeks.

d) Iceland is teetering on the brink of sovereign insolvency and its banking system is broke. Banks borrowed heavily in international financial markets, and then made loans to risky businesses, globally, at higher interest rates (that is, it added a risk premium); they made a profit from these risk premiums. Now borrowers are unable to repay, consequently Icelandic banks have defaulted on international loans. The country is facing sovereign insolvency, because, as banks collapse, the public and ordinary businesses cannot get their money and savings back. In desperation, last week, government nationalised the three largest banks.

e) Iceland portends what could happen elsewhere; it also illustrates how a collapse at one level propagates to a second and then a third level. Those who borrowed from Iceland’s banks defaulted, the banks reneged on international financial commitments, and if many Icelands happen, global finance suffocates. Remember the old story: "If I owe the bank $100, I am afraid of the bank; if I owe the bank $100 million, the bank is afraid of me!"

f) The UK has announced a bank rescue package dissimilar to PP. A part of the money ($630 billion) is earmarked for soft loans to banks – not to buy ‘toxics’. The bigger difference is that another part ($90 billion) is earmarked to purchase preference shares in banks – France, Germany and the US are following the example. If a bank wants government money, instead of buying ‘toxics’, government will buy a part of the bank itself. It is not clear when the British government will use one approach and when the other; the scheme was announced only on 8 October. If this scheme goes far, British and other governments will become part owners of many banks, a momentous and watershed reversal of Regan-Thatcher neo-liberalism after 30 years.

g) Stock markets, worldwide, are in turmoil; recent weeks saw panic - the greatest collapse since 1929. The almighty Dow is down 39% in an year; European stock markets are in tumult; the Asian composite stock market index is down 50% since January 2008 and the Nikkei, Hong Kong, Singapore, South Korean, Australian and New Zealand indices are at their lowest in years, in some cases decades; the Russian stock exchange closes down for days at a time; the Indian rupee is at a record low. The combined nominal asset valuation wiped out on global stock markets since the start of the crisis in mid-2007 is about $15 trillion. That is, $15 trillion of global capital asset values have just vaporised! (This paragraph is updated to Friday 10 October and does not include the small ‘global state’ induced rally in the early part of last week).


h) It is apparent from (a) to (g) that the crisis is in the financial sector, not yet the real economy, the productive sector: manufacturing, agriculture, and real services – not financial or war related services. Hence, output and employment are holding their heads above water, globally; going down but not a collapse, not yet anyway.

i) However there are signs that the problem is spreading to the real economy. Japan’s machinery output has been falling for the last three months; in September it was down 14.5% compared to last year. America’s emblems, General Motors and Ford, are wobbling. US unemployment is over 6% and people are talking about 10% soon. Commodities, oil, metals and assets are falling on fears of a deepening recession and declining demand. There is even talk of global deflation. Crisis is percolating into the real economy and a deep recession in the West seems likely; erosion in export oriented sectors in the rest of the world will follow.

j) ‘Analysts’ (apologists for capitalism) in Bloomberg, Financial Times, the Economist, Wall Street Journal and such magazines, websites and TV channels, say the crumble will worsen. Their chorus: "It’s going to get worse before it gets better". For sure, it is not possible to predict how deep the crisis in the real economy will go; there is an old saying that you can never predict a recession or how deep it will be, you can only look back and analyse it. The half truth here is that psychological factors are at work, in addition to economic trends and data.

k) On 8-9 October all the developed economies cut interest rates by between 0.5% and 1%. Nevertheless, finance capital and the ‘analysts’ woke up next morning panting like vultures feeding on a decaying carcass. "Not enough, not enough, cut interest rates more and more; pump more, pump more of the workers, widows and taxpayers savings into the BFMs; save rotting capitalism" and Stock markets continued their rout. G7 finance ministers (leaving out Russia) met in crisis in Washington on October 11, desperate for a coordinated response to avert a depression. IMF Head, Dominique Strauss-Kahn, told a G20 meeting "the financial system is on the brink of a global meltdown".

l) The ‘global state’ (governments, central banks and multilateral agencies) intervened in the international banking system during the October 11-12 weekend, financially on a colossal scale, and with unparalleled coordinated political authority. One is left wondering what of global finance capital that is distinctively capitalist, is left anymore. I must add that the next vital step is for the people of the world to intervene directly in laying down the principles for structuring the world financial system (the small print can be left to experts); governments are untrustworthy guardians of the public good.

m) I have in recent months been saying that Asia and Latin America can avoid a deep recession (they cannot avoid dislocation and fall in growth rates, stock-markets have already been hammered) if they take correct policy decisions. This option still remains open because the economy - employment and output – is steady; banks remain solvent; and growth, though lower, remains strong. But the problem is that though Latin America has taken some necessary policy decisions, Asia, including China, so far, has not. What are the policy decisions? Emphasis on domestic consumption not exports (creating internal demand and wealth), regional economic cooperation, and regional banking and financial restructuring.

n) One thing is certain. US global financial hegemony is over, forever - that is for sure. An economic-multipolar globe based on a new sharing of global power-positions is emerging. For years I have been insisting that Globalisation-II (my copyright!) is different from the previous phase, Globalisation-I. The financial crisis will complete the transition. The economic strength of the BRIC (Brazil, Russia, India, China) nations in manufacturing, energy and IT, will be complemented by financial clout. Consider dollar reserves; China $1.8 trillion, the Petro Middle East $1.3 trillion, Russia $500 billion, then add Japan, South Korea, Taiwan, Hong Kong and Singapore; over $5 trillion in total is my estimate. How will these countries use their financial power? They will become global centres of finance capital, acquiring banks and finance houses, while American and European finance capital slips. Economic power will be underpinned by financial power.

o) Two factors are decisive; the impact of the turmoil itself, and the internal class struggle – Latin America shows the importance of the internal class struggle and political leadership. Trotsky’s remark that the principal crisis in the world is the crisis in the leadership of the working class remains true today; but amend "working class" to read "less privileged and middle classes" to reflect current social and economic reality in both developed and developing countries.

p) Finally a bit of theory; the fundamental concepts of Marx’s crisis theory, fictitious capital (hollow credit) and the falling rate of profit, have been vividly revalidated. Capitalism could not hold up the rate of profit in the real economy, therefore financial stratagems were conjured to clutch profits out of thin air. Gargantuan bubbles of tumescent credit allowed fake money to make money out of engorging credit. This con worked for more than a decade, but then the fundamentals won and the hoax collapsed. Apologists say: ‘if Bush did this, or Greenspan didn’t do that, or financial regulations were thus restructured’, all would have been well. Oh yes! The kingdom was lost all for the want of a nail, eh? Remember the ditty; the nail, the horse-shoe, the royal stallion, the king, the botched war and the kingdom lost? Sure, sure, this or that frill of the motley comedy may have frolicked in another way, but if you are preaching that deep capitalist business-cycles, the core of crisis theory, can be abolished, well, go tell it to the Marines!

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