Originally published in Fourth World Review - A Transition Journal
The Crash of 2008
In the summer of 2008, the Bank for International Settlements (BIS) warned of the danger of another Great Depression rivaling the economic crash of the 1930s. The problem supposedly began with the US sub-prime mortgage crisis, whereby American banks increasingly granted mortgages on less stringent conditions to consumers who could not prove their ability to make repayments. This wasn’t an idle mistake due to insufficient regulation. Governments knew what was happening, and had ample opportunity to stop it. But financial institutions lobbied successfully for the power to lend at whatever multiples they wanted, without restriction. According to former Governor of New York Elliot Spitzer, when states realized the vast extent of corrupt lending practices by banks and tried to intervene to regulate them around 2003, the US Treasury Department unilaterally blocked their efforts.
On the basis of the proliferation of sub-prime mortgages, banks innovated new ‘financial products’ such as derivatives, valued against projected mortgage repayments. These are essentially contracts that gamble on the future prices of assets, thus deriving their value from primary assets, such as currency, commodities, stocks, and bonds. As more people with lower incomes obtained subprime mortgages, increasing volumes of bad debt were repackaged and re-sold globally, on the basis of which even larger amounts of credit and thus new loans were flooded into worldwide markets.
“Risk?... What Risk?”
Veteran derivatives trader Nassim Nicholas Taleb, Distinguished Professor of Risk-Engineering at New York University’s Polytechnic Institute, confirms that banks routinely certified such transactions as solid and risk-free using quantitative models which, in reality, simply concealed the actual scope for risk and its potential consequences. This allowed them to create extremely risky financial instruments, slap a certification of safety over them, and sell them on for stupendous profits. In turn, these products were fraudulently insured by other financial companies, which used the opportunity to charge exorbitant fees. But these ‘insurance’ firms simply did not have the assets to cover losses in the event of a real default.
Consumers increased their spending on the basis of the security of their houses, while financial institutions accelerated their lending on the basis of rapidly proliferating mortgages, together contributing to rising prices and a mounting inflationary property and consumer bubble. This frenzy of spending and lending created a veritable bonanza of debt-based ‘virtual growth’. It had nothing to do with a real surplus derived from increases in productivity, but rather from a monetary system based on the ability to continually borrow (and effectively create out of nothing) cash that in real terms did not yet exist, except as the expectation of repayments on loans.
Worldwide sales worth trillions of dollars of these dodgy financial instruments distributed risks across multiple financial markets. Moreover, the hierarchical structure of the global financial system, dominated by New York and London, meant that debt-based profiteering at the core of the system radiated outwards and downwards to more peripheral countries tied into the system through their receipt of loans from the core and/or purchases of derivatives.
Indeed, thanks to the monumental profits and concomitant phenomenal growth accrued through this process, US and British financial institutions jubilantly accelerated lending to Europe, Asia, and countries in the South, creating an entrenched global web of debt, credit and financial profits. Thus, when the defaults started in the US, the crisis radiated outwards and downwards, and is still doing so.
Was ‘Structured Finance’ Structurally Sound?
So the Crash of 2008 had multiple interwoven causes – but it’s important to understand how these were related. One major background cause is the nature of the monetary system and the very existence of interest. All money is created through governments borrowing from banks on interest. This means that repayments of the debt are larger than the original size of the loan. For the loan to be repaid, more money needs to be created which means more lending on interest. The result is that over the long-term, as the money supply increases, the value of the currency depreciates and thus costs of living rise. There is therefore a long-term structural tendency toward rising inflation. This contributes to the devastating nature of capitalism’s boom and bust crises - at some point the debt-bubble is patently unrepayable and has to collapse.
Yet pre-Crash inflation also had another specific cause in the 21st century, namely, rocketing fuel prices; fuel prices rose from 2001 through to 2008 primarily due to supply-demand issues (not purely due to financial speculation although this played a role), most likely as a consequence of peak oil. According to an October 2007 oil market report by the Energy Watch Group in Berlin, world oil production peaked in 2006. The excessive energy costs fed directly into the entire system, raising cost of transport, food, living and basically everything, which thus also placed structural pressure on banks to increase interest rates to cover their own costs. Experts like petroleum geologist Colin Campbell, who worked for companies like Shell, BP, Esso and Texaco, confirm we are probably now on what is known as the “undulating plateau”.
The plateau begins when peak oil induces massive price shocks contributing to economic recession. The recession in turn reduces consumption, lessening the strain on resources and precipitating a collapse in fuel prices. Lower prices create new space for renewed consumption and economic recovery. This “undulating plateau” is a period of major price fluctuation, which could last from 5 to 10 years before oil capacity limits are permanently breached and we arrive at the era of irreversibly scarce oil supplies and high prices.
The corrupt lending practices of banks interacted with the impact of rising inflation. While sheer greed partly explains this behaviour, it’s a bit more complicated than that. The structural fragility of the global financial system had been obvious since the dot com boom and bust in the late 1990s. The capitalist imperative to keep growing by continually generating profits is structural - i.e. capitalism systematizes human greed and makes it necessary for economic survival. If the financial sector didn’t find a new outlet for investment to continue growing the economy, the economy would contract. If the financial sector was to continue growing, it had to find a new previously untapped market for debt-credit creation and the associated milieu of ‘financial products’ - this new market consisted of ‘low-income’ people and even the struggling middle classes, namely, the majority of the population. The very imperative to grow - simply to avoid banks and corporations losing profits, contracting and then failing - pushed banks into even more corrupt lending practices, which combined with long-term structural energy and monetary constraints, creating a bubble of virtual growth that was bound to implode at some point.
How to Create a Quadrillion Dollars ‘Ex Nihilo’
So the housing markets were only the underbelly of a much larger beast. So-called “structured financial” products served as mechanisms to generate massive profits for elite investors by deepening levels of debt. This leads back to the structural issue of the monetary system, based on fractional reserve banking - that is, the creation of money from nothing, simply by entering numbers into a computer, as credit charged at interest. Traditionally, banks could create credit or debt-money up to 12 times what they held in reserve.
But this changed with the worldwide brokering of the New Capital Accord in 2000 by the Bank for International Settlements. The Accord effectively allowed banks to obtain unlimited leverage – the ability to create debt-money at any multiple whatsoever, with no meaningful regulation. Financial institutions exploited this new found power to subjugate the population to an enlarging and unrepayable debt that was the basis of self-multiplying profits for financial institutions.
According to the Bank for International Settlements, by late 2008 total derivatives trades exceeded one quadrillion dollars, that is, 1,000 trillion dollars. This is an insane quantity that has no relation to the real economy - the total GDP of all the countries in the world is only about 60 trillion dollars. It is a quantity generated by the creation of money out of nothing as credit – that is as debt-money requiring repayment on interest.
Worse, no one, not even in the leading financial institutions, really understood exactly how this situation had come about. As of 2004, for instance, 90 per cent of financial transactions in the US were not properly recorded. This was, in effect, a giant, globalized casino through which financiers generated stupendous profits out of thin air, all on the basis of the proliferation of massive debts that inherently could never be repaid. This ‘house of cards’ was therefore uniquely vulnerable to collapse. The housing crisis was just the trigger, threatening to unravel the entire edifice of debt-driven profiteering.
Tackling the “Triple Crunch”
Ultimately, the global financial crisis of 2008 signifies the deep-seated failure of our conventional socio-economic, ethical and political models. But the ‘credit crunch’ is only one face of global crisis. We also face two other interrelated major ‘crunches’ this century – 1) oil and energy depletion, with evidence that world oil production already peaked in 2006; and 2) dangerous global warming, with evidence that current rates of increase of fossil fuel emissions will lead to a rise of 2-4 degrees Celsius, permanently disrupting Earth’s ecosystems.
The mantra that ‘there is no alternative’ is untenable: neoliberal capitalism encourages forms of unthinking consumerism and unrestrained corporate empowerment that are together destroying the Earth’s ecosystems and depleting our energy resources beyond repair. The unprecedented convergence of global economic, ecological and energy crises threatens the viability of industrial civilization, and proves the urgency of immediate social structural reforms.
Such reforms will have to deal with the following structural features of the current global system, among many others:
1) Global inequalities in ownership of productive resources: Currently around 5 per cent of the world population owns the world’s productive resources. The rest of the population are separated from the means of production, and are forced into various forms of wage labour or servitude to survive. This requires extensive new thinking on how to increase access to, and ownership of, productive resources on the part of the majority of the world population, while respecting individual liberties and private enterprise.
2) The ideal of unlimited growth: As Nobel Prize-winning economist Amartya Sen argues, economic development should be directed not at unlimited growth for its own sake, but at sustainable growth specifically for the purpose of catering for the needs and well-being of the majority of people. The IMF’s own data proves that neoliberal capitalism has led to increasing concentrations of ever-larger profits among a smaller minority of the world’s population, with the percentage of benefits from growth to the poor shrinking, creating greater poverty and inequality all round.
3) Fractional reserve banking and the New Capital Accord (2000): The interest-based monetary system subjugates the real economy to a form of unrestrained financial plunder that intensifies debt in order to grow. This means not only monetary reform, but a fundamental decentralization of the economic and financial system based on the principle that the Earth’s resources belong to everyone, and that people everywhere should participate in economic and financial policymaking. This, of course, also means that political power must be increasingly distributed among communities.
4) Materialist fundamentalism: Underlying neoliberal capitalism are philosophical assumptions about life and human nature that reduce the world to nothing more than a collection of physical, disconnected, atomistic, self-interested and thus inherently conflictual units. This reductionist worldview rationalizes unlimited consumption based on the equation of personal happiness with accumulation of material possessions and fulfillment of material desires. There is no room for objective ethical values because such values cannot be readily identified as material objects. Yet clearly these ideological assumptions of capitalism are false – because if they were right, then they would work! Rather, we see that the manifestation of materialism in the global political economy is leading to massive destruction of life, rather than prosperity for all. This means that ideals like social justice and compassion are actually, objectively, more in tune with nature than neoliberals would have us believe.
The urgent need for a global alternative is therefore not up for debate. But we should hold no illusions. Things will get far, far worse, before they get better. This is not yet the end of capitalism. On the contrary, the biggest financial players, like Goldman Sachs, JP Morgan, and others, have used their power over states to secure massive bailouts using public funds, allowing them to prevail while hundreds of other financial institutions have fallen like dominos. As the collapse of the financial system pulls down the real economy, shares in giant corporations which actually produce tangible goods and services have plummeted as consumers are clinging to their increasingly empty wallets. Taking advantage of their supreme position, financiers have moved in fast, buying up the cheaper shares and consolidating ownership of production. We are witnessing an unprecedented re-structuring and centralization of economic and financial power.
Yet the system has perhaps another 10-15 years before irreversible collapse as the impact of peak oil kicks in. In this time-frame, as working people are increasingly upset, confused and angry about the acceleration of socio-economic injustice, activists and researchers have unprecedented opportunity to work harder than ever to develop a vision for the future that is just, inclusive and holistic. The time to prove that there are meaningful alternatives is now.
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