Obama's Big Gambles

Last week's financial news was once-again grim. The Dow sits at 12-year lows, having fallen nearly 2500 points since the beginning of the year. Worse, the index has fallen over 50% in one year, making its worst performance since the Great Depression. Obama and Co. are just beginning the biggest Keynesian stimulus ever seen, that many believe will ultimately run in the three to five trillion dollar range. One BIG gamble! Another gamble will be to see if this and subsequent Administrations and the US Congress can then claw back enough money — new taxes — to cover the near-term push.

Two other gambles are in play. First, US President Barack Obama seeks to do what has proven impossible for many other Administrations: to reform the US health care system, and simultaneously to reform and green-up US energy policy. Second, Obama seeks to end Bush's Iraq war, which Tomas Ricks believes history will record as "the biggest mistake in the history of American foreign policy". Obama also seeks to do something positive relative to the rest of the Middle East, especially focused on Afghanistan and Pakistan. We will leave the latter two gambles for later posts and will today focus on the stimulus gamble. Some stage-setting:

Borrow and Spend

Not many years ago Republicans railed against a Democrat-dominated US Congress for what they believed to be highly wasteful and dangerous Tax and Spend Liberalism. That day is gone. Now we fear Borrow and Spend tactics from both sides of the political aisle. This borrow and spend era began in earnest with Ronald Reagan. It was revisited, mimicked really, with George W. Bush's three trillion adventure into Iraq (See, e.g. Stiglitz and Bilmes, Washington Post, Mar 9, 2008) and the beginning salvos of a bailout in the wake of our recent financial meltdown. (For more see Wikipedia, Public Debt).

Now Barrack Obama intends to lead us further down the Borrow and Spend road into a massive Keynesian Fiscal Stimulus that could cost up to to 5 trillion dollars. (Wikipedia, Keynesian Economics).

The end of capitalism or just the end of Laissez-faire capitalism?

The Obama Administration claims they are doing only what is needed. Maybe. I don't know. My biggest fear is that no matter what "stimulus" is thrown at the problem, we simply can't create enough high paying jobs fast enough to innovate our way out of this crisis. When you listen to pundits telling us how we are going to grow our way out of this crisis — more jobs, more wealth — remember what is happening around us with computerized robotics and networked information systems. And the threat isn't just "manufacturing", but "professional practices" in medicine, law, accounting, and so on. Remember too, that the latest-greatest fad, new jobs in financial engineering just failed too.

The winds of Joseph Schumpeter's creative destruction (Wiki link) might this time blow away capitalism as we've known it. You tell me where the jobs are going to come from. I know that prediction is always flawed, and that historically we've "creatively" come up with jobs whenever our capitalist systems were threatened. But I keep hearing echoes from all the great economists, fearing an end to capitalism. Is it near? In any case I just can't see what these new jobs are going to be shaped from. Likely I'm just being short-sighted and frightened. Amidst it all, the Republican right howls about Obama and socialism (put those two word into Google and see what pops up).

If indeed the end of capitalism is not near then I side with the majority of economists that this rediscovered Keynesian is the way forward. If capitalism is indeed dead, we will have given a gift to the banking community that is largely resposible for getting us once again into this mess. And, maybe set a stage for hyperinflation. Scary thought! In either case, I remain angry about the fact that we really didn't have to get into this mess again. The lessons from the 1920s and 1930s should have kept us from allowing the massive bubbles to form this time around. But prevailing Friedmanite economic ideology (Wiki Link) that has only recently been debunked — for how long? — pretty much silenced dissenting voices and reasoning that might have prevented all. That is, prevented politicians, CEOs, brokers, "quants", lenders, borrowers, from drinking the Kool Aid this time around. Serious students of Keynes know that not only do you have to stimulate big economies sometimes, but you also have to "stabilize" by cooling over-heated economies. On that front, we all need to read more Minsky as Financial Times' Martin Wolf recently noted.

This transition, no matter where it takes us will be difficult and many people are going to be hurt, distressed, disgusted, and so on. Doug Noland says

… Today's Post-Bubble Facts of Life [Feb 12] create a serious policymaking dilemma. Unimaginable wealth was shifted to "Wall Street" and their client base during the boom, while millions of regular folk were saddled with unmanageable debt and, now, negative net worth. Those on the right side of the inflationary boom accumulated historic wealth, while millions on the wrong side destroyed their financial health. The runaway boom inflated expectations — and now comes the depressing phase of disappointment and growing despair. Of course the populace is ticked off, spurring politicians to vilify and seek amends and wealth redistribution. In this regard, there are no surprises today to those of us that have studied the post-1929 landscape. …

At minimum, historians are going to have a field day with this moment. For the rest of us, we have to hope that somehow we can find a reasonable path forward.

Comments

[tom]

"Serious students of Keynes know that not only do you have to stimulate big economies sometimes, but you also have to "stabilize" by cooling over-heated economies."

"But prevailing Friedmanite economic ideology that has only recently been debunked"

Perhaps it should be considered that Friedmanite ideology became dominant after fundamental Keynesian ideology was debunked by events during the 1970s (not to mention the 1920s and 1940s and 1990s). Keynes was hip and wrong before Friedman was hip and wrong, that doesn't mean we should run back to his ideas just because someone can show a formula of how things might suddenly get better if we spend a load of money right now.

And to the FT column- how can you imply that Alan Greenspan was in favor of the free market while simultaneously noting that he was the preeminent central banker of his time? Please list all the central banks that have been formed and survived without legislative or executive fiat.

[Dave]

Tom,

On Keynes, I respectfully disagree. This from Amartya Sen in the New York Review of Books (via Mark Thoma): http://economistsview.typepad.com/economistsview/2009/03/capitalism-beyond-the-crisis.html

"The revival of Keynes has much to contribute both to economic analysis and to policy, but the net has to be cast much wider. ... A crisis not only presents an immediate challenge that has to be faced. It also provides an opportunity to address long-term problems ... like conservation of the environment and national health care, as well as the need for public transport, which has been very badly neglected ... even in the initial policies announced by the Obama administration

"The present economic crises do not, I would argue, call for a 'new capitalism,' but they do demand a new understanding of older ideas, such as those of Smith and, nearer our time, of Pigou, many of which have been sadly neglected. What is also needed is a clearheaded perception of how different institutions actually work, and of how a variety of organizations—from the market to the institutions of the state—can go beyond short-term solutions and contribute to producing a more decent economic world. ..."

On Greenspan, I believe that he truly believed in free markets and sought to usher them in. Greenspan's mistake (and that made by many in the economics profession) was to underestimate the forces of greed and corruption that come into play when administrators and politicians pretend that a structured-finance governmental system can be morphed into a free-market system simply by freeing up the regulatory structure and allowing money to be created and traded on the fly.

[alan bartel]

IT’S PRODUCTION, STUPID!

Why is the world’s financial sector in crises? Why do we, the people have to save them from their follies? We deserve a more truthful answer than the one that says without a healthy finance system there can be no economic recovery. Why not we ask?

The downturn in the economy is not as complicated as we are told. Since the late 1980’s the US has been consuming 40% more than it produces; that is the US economy. Just as a household, to use the technical jargon of economists cannot sustain spending/paying/consuming 40% more than their revenue, neither can a company nor an economy. Yet that is exactly what makes up the US economy.

The problem isn’t the financial system it’s the lack of production. We all know about jobs being outsourced to country x, y, or z. The vast majority of these JOBS were outsourced long ago. That more companies are laying off workers at this time is not because of outsourcing; it is caused by a lack of what economists refer to as an acceptable (to an investor) rate of return or profit on investment. Since the late 1980’s it has been the finance system, which produces nothing, that has set the rate of return at unsustainable levels with unsustainable expectations of investors that profit margins will forever rise.

When we are fed the alphabet soup of “exotic” financial instruments created such as, mortgage backed securities, credit default swaps, derivatives etc, are we to know that the financial world created these instruments to compete with each other to see who could give the highest return on investment? No. we are told that the world’s financial system is so interlocked that it needs to be saved.

The US government has now poured close to three trillion dollars attempting to prop up the financial system. While propping it up would be sane if the finance system were to change, i.e. loan money for production and not for investing in finance it would make sense. But if the goal is, which it seems to be, an attempt to reinstate a return on investment that is unsustainable, which is how we got to this point in the first place, not only is that foolish it is an unattainable goal.

Jobs are a shorthand word for production. What are we going to produce? How are decisions to be made? In the NY times business section on March 16, 2009 the article on the survivability of GM was placed in terms which are true for every aspect of the economy; it is not an economic question of whether to give more money but a political one.

What type of economy and who benefits from what will rise from the current crisis is also a political question. We have theoretically a representative form of government; a Congress and President elected by the people. It is acknowledged and accepted that in decisions on everything from the economic stimulus package, to energy, health care, housing etc business, corporate America has a major voice. The question for the rest of us is can we find an effective voice to make our needs fulfilled and not the corporate class. There you have it! Your homework assignment for the rest of the year.

[alan bartel]

CAPITALISM GOES KERPLUNK

To begin let’s, define what’s going on: all the money being thrown around by the government at different companies and different sectors of the economy is an attempt to referee the struggle among capitalist on the level of profit acceptable to make an investment, period. Nothing else is needed to understand the spin. To be fair I will attempt to simply provide facts and a structure to show how this struggle is being played out.

How did things get this bad this quickly? That’s one big question. The answer is both simple, for close to twenty years the US has been consuming 40% more than it produces, i.e. that’s what it means when an economy is driven by consumption (70%) while production only accounts for 30% of the GDP and complex, how did a few (fewer than 5%) bad mortgage loans bring down the world’s biggest financial system?

Here’s the long and winding story. First, beginning in the early 1980’s, the pensions employment (as an addition to social security) provided disappeared and were replaced by the individual retirement account and later the 401K. No matter what one thinks of this change one thing it did is make more, a lot more, money available to invested in the stock market. Much of this money vanished into thin air when the tech bubble burst. The rest has evaporated as the financial bubble burst. The rest of it vanished as the financial bubble continues to burst.

Once the masses of workers were forced into these individual accounts their retirement became hostage to the financial sector and they became (theoretically) investors although they had no control over their investments and when capitalism as we know it goes kerplunk this class of “investor” goes kaput.

Let’s fill in the details: since the late 1980’s the financial sector provided the highest rate of return on an investment. As competition, the free market, is part of the essence of capitalism (that dreaded word) different players, investment bakers, hedge funds, pension funds, mutual funds, IRA and 401K accounts, competed for the higher rate of return on their investments financial instruments such as derivatives, credit default swaps, interlocking collateralizations, bundled mortgage securities etc were created to make more profit.

All the money which drove up the value of the stock market and individual companies was tied to these “exotic” financial instruments which in turn were dependent on debt accepted as a promise of both repayment and profit by such and such a capitalist and all this was dependent on the financial sector producing greater returns on investments. We could talk about short sellers, out right fraud etc. but even if these elements were eliminated from the playing field the general state of affairs would not be altered.

The shift from commodity producers to money speculators determining the return on investment cannot be overstated; neither can the effects of automating the production process. Together these two phenomenon have forever changed the dynamics of capital accumulation.

Outsourcing both production and services from the fully mature capitalist nations to what are commonly referred to as “emerging markets” has only destroyed the living standard of the people in both type of economies; those nations not present in either of these categorizes are what we refer to as failed states; they are failed states because they no longer are necessary to the production or consumption sides of the equation of capital accumulation; these nations and their people are redundant to capitalism. It is no surprise that people in the mature and emerging markets when laid off are also referred to as redundant as their existence is the same as others in the world less fortunate.

A word about the housing/mortgage crisis: less than 3% of all homeowners, ( this % has risen and is rising as this article is being written) are in default or foreclosure. The real culprit in this mess is the financial sector which attempted to make a greater profit on investment by bundling together all kinds of debt. When any of the debt became problematic all of it did. The political class for years keep saying the financial markets were not part of the real economy? Why isn’t $700 billion enough to save the financial sector? What’s the real story” what’s the truth? Let’s follow the money, starting with that now defaulted home loan.

Let’s agree that those people how took out a loan they couldn’t afford were stupid. Let’s agree that 99% of them had no idea what they really signing when that broker sweet-talked them into the deal. Let’s agree that other than seeing a big fat commission for selling that deal the broker had no idea and really didn’t care what happened after that. Let’s agree that the bank or loan office which employed the broker didn’t really understand when they sold that loan (for a commission fee) to another bank the next bank would sell that loan to another or to a consortium of banks and investments houses and hedge funds who bundled a bunch of loans and mortgages together and sold them in bits and pieces (the dreaded derivative) to other banks and private and public investors. Let’s agree that the derivative, each time it passed from one hand to another, made money for one of the actors in the exchange. Let’s agree that other actors (primarily characterized as hedge fund managers and short sellers) concocted financial instruments to compete with other capitalists for the dollars to be made. Let’s agree (you may not) that the financial sector’s control of the economy made it impossible for any commodity producer to compete for capital. Let’s agree that the exchange of money for a commodity became detached from the capitalist cycle of capital accumulation which has existed since capitalism’s inception. Let’s agree that only the financial sector had the ability to profit from computerizing its accumulation process (note no commodity is involved). Let’s agree that for close to two decades the US economy and its people consumed 40% more than it produced. Let’s agree that economy is unsustainable. Then why is everyone surprised at the result?

The same common wisdom, conventional thinking, which ignored everything stated above now tell us the problem is a credit squeeze, a lack of confidence in the financial sector, that if only consumers would start consuming again, that the government can pour money into a broken system and jump start it. The problem is one of production not credit, not consumption, not confidence; production!

Now let’s agree that everything we’ve been told so far is wrong, let’s try. Let’s go back to the Reagan years when everything was just hunky-dory except for those millions of workers and towns and cities which went from America’s industrial heartland to the Rust Belt. They, the men and women, the villages, the towns, the cities never fully recovered from the automation of production. This, automating production, made it possible for both outsourcing jobs, increasing the national/public debt, move what was public capital into private hands
(famously, supply side economics and tax cuts) and allowed the terms/spin “restructuring/re-engineering/reinventing to replace in our vocabulary massive lay-offs.

The many pundits who proclaim Reagan, the Great Communicator, the man who defeated Communism, forget his primary political strategy was racism, as in welfare queens driving Cadillac’s, and the Reagan democrats were no other than the racist white working class he was destroying. Am I digressing? Not if, as we now must, we believe government is the solution and not the problem. I hope dear reader I have cleared some of the mystery concerning our p-resent economic circumstance and you’re willing to pull back your finger from the touch screen filled with phony reasons, the wrong questions, the wrong answers.

The reason that none of the prescriptions have increased the health of the economy is simply the conditions existing today have NEVER occurred in the history of capitalism. The financial sector has never determined the average rate of profit or colloquially the return on investment for all of capital accumulation nor has the mode of production ever allowed profits to rise while producing fewer products. So, new problem, new answers

The 20th century response to economic crashes in the mature capitalist nations was WW I and WW II. This is not an option today as globalization has stretched capital accumulation across too many nations and a fight between the strongest will not result in an advantage, i.e. destroying all productive capacity so investment can start again. I believe that as Marx said in 1850 or so the alternatives are socialism or barbarism. In my book barbarism is the present state of world affairs.

So, what’s the answer? Who is ready to step up and save capitalism? That isn’t my job but I have some friendly advice to those unemployed, homeless, having lost their life savings etc; organize into a political force and demand the Congress and the Administration do the necessary: throw as much money as it takes to protect the vast majority of people. Institute single payer health care, provide education to all, feed the starving, house the homeless then and only then begin the process of rebuilding the productive capacity of this and other nations. Raise taxes, maintain the infrastructure, fund all the work to create a green economy, lower greenhouse gases, so future generations will have a planet for their survival.

Rescuing the banks is the last thing to be done. Rescuing the banks only promotes the fiction that capitalism as we knew it can be revived. It can’t. It can’t because it produced this mess and doesn’t have the tools to get us out and by us I mean every last person on earth.

A green economy is necessarily one not built to sustain itself on growth but one that uses the least human and natural resources. We will still have to accumulate capital in order to maintain production levels and maintenance of that production capacity.

There is a lot of fear and finger pointing going on in attempt to point to the way out of the current economic crisis. The conventional wisdom has it the crisis began in the housing sector with loans and mortgages sold to people who couldn’t afford them. This is true. The wisdom goes on to blame the securitization of these mortgages sold as “exotic” financial instruments called derivatives and credit default swaps and billions of dollars of the public’s money has been thrown at the financial sector of the economy without any positive results; to the contrary the “downturn” is renamed “recession” and quietly the term “depression” is creeping into the financial pages and out mouths of the political class.

The State, in common language, the government, has come to the rescue of the financial sector in order to head off a decline in the “real economy”. In every developed nation a debate over how, much, where, what kind of “stimulus” is needed to rescue the financial sector and revive production. Here to the common wisdom is there is a credit crunch which is holding back demand and thus the “real economy” is suffering with larger and larger “restructuring” of companies to stave off bankruptcy because of lower profits or outright losses as well as an inability to invest and a resulting growing amount of idle productive capacity.

Why does no one know the extent of the financial carnage left in the wake of over a decade of “exotic” financial instruments making it impossible to know how much government money needs to be pumped in where and why no one knows if what current fiscal and monetary policies are sufficient to meet the crisis?

As yet I have posed questions and detailed the parameters of the crisis as it is portrayed. I don’t for a minute that the reasons for this crisis of capitalism is due to any of the reasons described above. It is clear that his crisis is not one of a credit squeeze or credit crunch due to bad loans and paper losses. The rapid fall in the stock market is not due to “financials” failing but to the prospect that the average rate of profit, set by the financial sector, is unsustainable; which it is.

The current crisis is one of production not credit. While there are enormous paper losses and the retirement funds of a great number of people have been decimated it is well to remember Lenin’s missive about a society built on clipping coupons and producing which set the stage for the Bolshevik revolution of 1917. The current crisis’ roots are in the 1980’s. It was in this decade when companies first defaulted on their pensions and opened the way for the creation of IRA’S AND 401K’s as a way to siphon out of worker’s paychecks money into the financial sector with the promise that investing in stocks and bonds was safer and better than the pensions their employers stopped providing.

This decade also saw the industry move from mechanized to automated production. This led to the unemployment of millions of workers and instead of the nation’s industrial heartland this geographic area came to be known as the rust belt. What has been little analyzed are the results of switching from one mode of production to another. Joyce Kohlko in her seminal book, “Restructuring the World Economy” put it succinctly; automating production allowed the capitalist to use fewer workers to produce a greater number products and a fewer number of products needed to be consumed to produce the same or greater rate of profit.

Extrapolating her conclusion it no longer is a mystery why much of the world’s people are in dire circumstances as they are no longer needed as producers or consumers in order to accumulate capital at the rate needed when production was mechanized; but enough of this technical jabber.

As I stated earlier the transformation taking place is a struggle, a competition between nation-states, capitalists, and sectors of capitalism to attempt to reinstate the old average rate of profit set by the financial sector which because of its inherent unsustainability has collapsed. The only way out of this current economic crisis is resetting the average rate of profit to a lower level’; a level in accordance with the increased capacity of production. I need to state here, unequivocally, the solution is political not economic.
The first step in solving the current crisis is recognizing what it is. Already, not a year into the crisis the peoples in industrial nations are beginning to protest the drop in living standards and no solution being provided for the.
In Latin America this political struggle has already been taken up by the political turn to Left by many states. Unfortunately it is not recognized that the political power grabbed by the “indigenous” is no different than the socialist revolutions of the 20th century where it was the peasant class which was truly the mass force overthrowing feudal regimes.

Africa shows what a lack of organized political resistance to capitalism of automated based production does. Neither the labor nor consumption of a whole continent are necessary to capital accumulation; in fact the people are an impediment. Asia’s picture is a muddle. China, the Asian tigers attempting to become modern capitalist states are caught in the middle of the struggle between the old guard capitalists and the new terrain they have created. I believe it is impossible for these nation-states to thrive or develop more fully in the current environment.

To end, it is the responsibility of those of us in the so-called advanced industrial nations to build a resistance that is capable of confronting the crisis and confronting the capitalist paradigm. This struggle is not going to be led by the trade unions neither is it going to be led by the fragmented Left. The hope, in my view, lies in Obama’s election will mobilize black youth to once again lead this nation from one political stage to the next; to again understand that political consciousness is more powerful than the forces creating the insane environment we find ourselves.