Perils of a Financialized Economy

Capitalism appears to be the only economic system left standing at the moment. You can see it as a savior for its capacity to increase GDP and prosperity around the world, or you can see it as a system of exploitation of the environment and of people. Both views have truth in them but it is unquestionable that a type of rampant Capitalism in which the only aim is profit is not the answer. A system that doesn’t consider the well-being of the community and the environment that sustains it, is not viable. A sensible managed Capitalism in which productivity and profit coexist with a strong awareness of the constraints of our environment and of the importance of quality of life for the global community, is a system that few people would refuse.

The history of Capitalism in the US is dominated by the unregulated and laissez faire type, in which profit was often seen as the only aim. It was thought that if profit was the priority, the benefits to the community would trickle down. In the 19th century and until the crash of 1929, this type of system was filled with economic bubbles and crashes, which corresponded to bouts of excessive financial speculation and their aftermaths. Inequality was rampant, but since the economy was booming fueled by a rapid industrialization, there was a sense of economic elation that masked the inequality. The cycle continued without any regulatory controls by any government. The 1929 crash, which caused a world-wide depression, was the first to cause a strong governmental action to curb the excessive speculative behavior. History shows us that the supremacy of financial deregulation correlates strongly with increased inequality, and with a reduction in democracy.

Roosevelt’s Response to the 1929 crash

When Franklyn D. Roosevelt was elected in 1932, the US was in deep depression. The mortgage of one house in 5 was under water, the unemployment rate was soaring, and just like the 2007 crisis, it was caused by excessive and unregulated financial speculation. The Glass Steagall Act of 1933 was the first bold action by Roosevelt. This act separated commercial banks from investment banks, so that the newly created FDIC could help commercial banks and their clients. In order to get FDIC insurance, you had to be a commercial bank that didn’t use the customer’s money for speculation. This simple Act regulated the financial sector, but it wasn’t just a rule on a piece of paper, its effectiveness was based on Roosevelt’s determination to prosecute and punish its transgression. The Securities Exchange Act of 1934 and the Investment Company Act also regulated the speculative ‘creativity’ that had always caused economic crashes.

Roosevelt also created the Federal Home Loan Bank, the Home Owners Home Program and the FNMA, a forerunner of Fannie Mae. All three used public money to help people who had their mortgages under water after the 1929 crash. All these new agencies helped homeowners directly, so that almost no one who had their mortgage underwater lost their house during the big Depression. In 1969, Fannie Mae was privatized and it is easy to see the difference in outcomes this caused. Contrary to the 1929 crash, in the 2007 crisis, most people with mortgages underwater lost their houses. Fannie Mae was not able to give the correct help, since it had been privatized. The deregulation of the financial sector that happened since the 1980s allocated the Federal aid to the banks, instead of the people in financial trouble. The banks in return, were supposed to help the economy and the people in trouble, but without any regulatory demands, the banks found it more profitable to speculate than to help the people. As a result, the speculative mania continued as though nothing had happened and inequality grew.

Roosevelt also empowered the bargaining power of labor. In 1933 The National Recovery Act made it legal to unionize and the Wagner Act passed in 1935 legalized collective bargaining. It is evident that at that time there was a truly democratic party led by Roosevelt, and his political allies in the party were true democrats who wanted to bring stability and equality to the economy. By limiting the power of finance and corporations, the conjunction of financial regulation and empowerment of workers, did wonders to lift wages and benefits, and equality.

Invisible Hand’s Undoing of Roosevelt’s Legacy

Corporate Profits share of US GDP (in blue), versus Wages share of GDP (in red) After Clinton’s deregulation marathon the two lines parted ways in a dramatic ways.

The tight regulation of finance reduced profits but still allowed for decent gains. It is strange how we are now so used to accepting the ideas of Economist Milton Friedman as the given in our culture. Friedman thought that the only aim of businesses was pure profit. Between the Depression and the late 70s, the prevalent culture accepted that a good company was aware of their surrounding community and their aims went beyond profits to include equality and decent benefits. The Milton Friedman preponderance in Washington and in the culture at large started slowly under Carter, gave a big jump with Reagan and George H. Bush, and soared with Bill Clinton. Clinton finished the undoing of most of the regulation that FDR had instituted and this brought the US back to the pre-1930s era of extreme financial speculation and instability. The Glass Steagall Act was repealed, the regulations on futures and risky derivatives dismantled and tax laws were written to make it easier to avoid taxes in the United States. This regulatory massacre gave back the complete power to the financial sector and corporations. Inequality started to grow in the late seventies and the more deregulation of the financial sector was done, the more inequality increased.

The financial deregulation caused a decoupling of the stock market and the Main St economy. The bargaining power of unions was eroded and job security was destroyed. Companies, looking for increased profits found it better to move their industries to lower wage paying countries to reduce labor costs. Under Obama and Trump, there was a reduction in unemployment that is touted as proof of the revitalization of the economy, but the numbers don’t tell the real story. Most new jobs pay less than previously, they have fewer benefits and many are temporary

Financial deregulation has gradually spread globally, forcing most countries to join in the trend or be isolated. Countries with non-competitive economies have become more vulnerable to the manipulation of their currencies and economies by big global capital. The European Union has been instrumental in the ongoing financial deregulation of Europe. Since its inception, it has created directives that have forced countries with traditions of strong financial controls like Germany and the Scandinavian countries, to deregulate. Germany was a good example of a country that could prosper, while having strong financial controls. In Germany, there was the idea of patient capitalism. Banks gave loans to industries but weren’t expecting a quick return on their money. Instead, they had a long-term view of the economy and understood that companies required sufficient money for research and development, employee training, decent wages and benefits that would keep a motivated labor force. CEOs accepted a management to worker ratio that wasn’t too high. But when the CEOs in Germany compared their salaries to the ones of the most deregulated countries like the United States and the United Kingdom, the move towards undoing patient Capitalism started. The financial directives of the European Union did the rest.

For the rest of the world, deregulation came in the form of trade treaties and pacts, lauded as panaceas for trade and growth. In reality their aim was to increase deregulation of finance by forcing the countries to open up their markets to speculation, which resulted in more economic vulnerability. These treaties also opened the door for multinationals to enter their markets creating imbalances in their economies. NAFTA was one of the first of those treaties, it caused a loss of jobs in America and economic woes for Mexico, which in turn resulted in an increase of immigrants to the US. Canada also suffered under NAFTA, since one of the clauses in the agreement allows for US corporations to bypass the laws of the other countries. For example, if a Canadian drug company turns a drug generic according to Canadian laws, an American company like Pfizer can sue them for lowering their profits. The International Courts usually rule for the benefit of corporate profits, not for affordable drugs for people. The United States and the European Union have hundreds of bilateral and multilateral treaties with most countries in the world. The TPP was supposed to involve the US and the Pacific, while the TTIP would have involved the EU and the US. Both treaties were strongly endorsed by Obama and Hillary as saviors of free trade, but in reality, they would have caused more deregulation of finance, labor and environmental laws.

The result of all this deregulation is an increasing loss of sovereignty in most countries. Poor countries have trouble having a sound economic strategy because financial deregulation allows for foreign capital to meddle with their strategy and cause imbalances. Rich countries see their stock markets soar, while inequality grows. Wall Street wins, because a financialized economy cares about profits only and it is in their interest to use their available capital to do buybacks of their own stock, while leaving the workers with stagnant wages, low paying new jobs, and reduction of benefits. Private equity firms that promise huge profits for very rich investors, buy companies with low-interest loans, pay themselves big fees and bonuses and then take what they can from the company to pay their loan back, leaving the workers without jobs and no money for retirement. This recently happened with Toys R US, a deal in which 30,000 people lost their jobs and were left with no pensions or compensation.

We Need True Change

Profit as the only aim of business and unrestrained greed have become the modus operandi of a globally financialized world and the culture extols this meme as an unquestioned good. It is possible to have decent profits while having social and environmental responsibility that spreads the wealth and takes care of what matters in the real world. The idea that extreme profits for a few are a constitutional right in a freedom loving country has become the subtext of most media from advertising to TV programming. We are told extreme consumerism is good, the American dream is presented as a consumerist right to have the same over-sized houses and cars as the super-rich. Our idea of this dream must evolve to consider the plight of an increasing inequality and the environmental variables that constrain us. A different world is possible if we change our way of thinking to accept that a patient capitalism that is embedded in the welfare of the whole society is a strategy that will work better than greed masked as success. We can have a culture in which the definition of success can include adherence to environmental sustainability and equality.




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Helena Dearnell

Helena Dearnell

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