Archive for the ‘Banking’ Category
There is general agreement that the economy is not growing fast enough to boost employment. The question: What to do about it?
The response, at all levels of government, seems to be: increase corporate subsidies and lower corporate taxes in hopes that corporations will boost investment and, by extension, employment. Those who promote this response no doubt reason that corporations must be struggling along with workers and need additional incentives and support to become successful “job-creators.”
The chart below, taken from a Paul Krugman blog post, certainly raises questions about this rationale and response. It shows trends in corporate profits (in red) and business investment (in blue), both measured as shares of GDP.
As you can see, profits have clearly been trending upwards over time, especially during our current recovery. At the same time, business investment, although improving, remains historically quite low. It is hard to see a poor profit performance as the root cause of our slow growth and job creation.
Moreover, banks are sitting on record amounts of money. The chart below, from the St. Louis Federal Reserve, shows that banks are holding approximately $1.5 trillion in excess reserves. In the past, excess reserves averaged roughly $20 billion. In other words, our banks just aren’t motivated to make loans. And, instead of taxing these excess reserves to encourage loan activity, the Federal Reserve is actually paying the banks interest on their holdings.
Now, as noted above, it would not be fair to say that governments are not actively trying to create jobs. It is just that they are going about it in the wrong way, the wrong way that is, if their aim is to actually create jobs.
Governments continue to shovel huge subsidies and tax breaks at our major corporations. This, despite the fact that most studies find little evidence that they help promote investment or employment. What they do, of course, is enhance corporate profits. They also force cutbacks in public spending, which does have negative effects on the economy and social welfare. Ironically, these negative effects then cause corporations to shy away from investing.
The New York Times recently ran a good series on state and local tax deals and subsidies written by Louise Story. She wrote:
A Times investigation has examined and tallied thousands of local incentives granted nationwide and has found that states, counties and cities are giving up more than $80 billion each year to companies. The beneficiaries come from virtually every corner of the corporate world, encompassing oil and coal conglomerates, technology and entertainment companies, banks and big-box retail chains.
The cost of the awards is certainly far higher. A full accounting, The Times discovered, is not possible because the incentives are granted by thousands of government agencies and officials, and many do not know the value of all their awards. Nor do they know if the money was worth it because they rarely track how many jobs are created. Even where officials do track incentives, they acknowledge that it is impossible to know whether the jobs would have been created without the aid. . . .
A portrait arises of mayors and governors who are desperate to create jobs, outmatched by multinational corporations and short on tools to fact-check what companies tell them. Many of the officials said they feared that companies would move jobs overseas if they did not get subsidies in the United States.
Over the years, corporations have increasingly exploited that fear, creating a high-stakes bazaar where they pit local officials against one another to get the most lucrative packages. States compete with other states, cities compete with surrounding suburbs, and even small towns have entered the race with the goal of defeating their neighbors.
These subsidies can dominate state budgets. The Times reports that they were equal to approximately one-third the budgets of Oklahoma and West Virginia and almost one-fifth of the budget of Maine.
Here in Oregon, we continue to struggle with budget shortfalls. And, fearful of losing corporate investment, the state legislature is doing what it can to keep corporate costs down. In December 2012, Governor John Kitzhaber called the state legislature into special session to pass a bill specially designed to help Nike.
Nike had privately told the Governor that it planned to spend at least $150 million in an expansion which it claimed would create at least 500 jobs over a five year span. If the state wanted that expansion and those jobs to be in Oregon, it had to reassure the company that its current favorable tax treatment would remain unchanged far into the future.
Although state legislators were not pleased to be presented with a major tax bill with little if any time to study its terms, they passed it. The new bill guarantees Nike that the state of Oregon will not change how it calculates the company’s state taxes for the next 30 years, regardless of any future changes in the state’s tax policy. More specifically, it gives the Governor power to offer such a deal to any major company that plans to invest at least $150 million and create at least 500 jobs over a five year span. It just so happened that Nike is the only company, at least for the moment, receiving this benefit.
To appreciate what is at stake in this deal a little background on how Oregon taxes multi-state corporations like Nike is helpful. Prior to 1991, Oregon taxed Nike using a formula that considered the state’s share of Nike’s total property, payroll, and sales, with each weighted equally. In 1991, Oregon double weighted the sales component. This greatly reduced Nike’s state tax bill, since while its property and payroll are concentrated in Oregon, only a small share of its sales are made in the state.
Then in 2001, Oregon began introducing a “single-sales factor” formula. As Michael Leachman of the Oregon Center for Public Policy explains:
Under this formula, only in-state sales relative to all US sales matter in determining how much of a company’s profits are apportioned to and thus taxable by Oregon; it doesn’t matter how much of their property or payroll is based in Oregon. The Legislative Assembly in 2005 cut short the phase-in process and fully phased-in the “single-sales” formula for tax years starting on or after July 1, 2005.
The Oregon Department of Revenue estimates that using the single-sales factor formula instead of the double-weighted sales formula is costing Oregon $77.6 million in the current 2005-07 budget cycle, and will cost another $65.6 million in the upcoming 2007-09 budget cycle. The projected decline in the cost of “single-sales” in the upcoming budget cycle is temporary. It is due primarily to a corporate kicker that will slash corporate tax payments by two-thirds this year. In subsequent budget cycles, the revenue hit from “single-sales” will return to a higher level. . . .
Take Nike, for example. Nike lobbied for the switch to single-sales factor apportionment and it’s easy to see why. At the Oregon Center for Public Policy, we conservatively estimate that Nike’s 2006 tax cut from “single-sales” was over $16 million. Other prominent, profitable firms such as Intel also received a massive tax break from “single-sales.”
As Michael Munk points out:
The governor’s deal is also particularly cynical when at a time of declining public services desperate politicians are dragging out a regressive sales tax out of mothballs and The Oregonian’s “fact checker finds “mostly true” a finding that Oregon’s existing tax breaks (including almost $900B a year in corporate welfare) exceed tax collections.
Of course, this stance towards the needs of Oregonians is nothing new for Nike. In 2010, Oregonians voted in favor of two measures (66 and 67) which temporarily raised taxes on the very wealthy and corporations. Phil Knight, the Nike CEO, not only gave $100,000 to the anti-Measures campaign, he also wrote an article published in the Oregonian newspaper in which he said:
Measures 66 and 67 should be labeled Oregon’s Assisted Suicide Law II.
They will allow us to watch a state slowly killing itself.
They are anti-business, anti-success, anti-inspirational, anti-humanitarian, and most ironically, in the long run, they will deprive the state of tax revenue, not increase it.
The current state tax codes are all of those things as well. Measures 66 and 67 just take it up and over the top.
Knight even threatened to leave the state. He didn’t, but I guess the last laugh is his, now that his company’s tax situation is secure for the next 30 years.
So—what lies ahead—more counterproductive state policies and head scratching about why things are going poorly for working people, or a change in strategy?
Market advocates have had their way for years now—one of the consequences has been the growing dominance of industry after industry by a select few powerful corporations. In short, unchecked competition can and does produce its opposite.
As John Bellamy Foster, Robert W. McChesney, and R. Jamil Jonna explain:
This [development] is anything but an academic concern. The economic defense of capitalism is premised on the ubiquity of competitive markets, providing for the rational allocation of scarce resources and justifying the existing distribution of incomes. The political defense of capitalism is that economic power is diffuse and cannot be aggregated in such a manner as to have undue influence over the democratic state. Both of these core claims for capitalism are demolished if monopoly, rather than competition, is the rule.
The chart below highlights the rise, especially since the 1980s, in both the number and percentage of U.S. manufacturing industries in which four firms account for more than 50% of sales.
Number and Percentage of U.S. Manufacturing Industries in which Largest Four Companies Accounted for at Least 50 Percent of Shipment Value in Their Industries, 1947-2007
As the table below shows, the concentration of market power is not confined to manufacturing.
Percentage of Sales for Four Largest Firms in Selected U.S. Retail Industries
|Industry (NAICS code)||1992||1997||2002||2007|
|Food & beverage stores (445)||15.4||18.3||28.2||27.7|
|Health & personal care stores (446)||24.7||39.1||45.7||54.4|
|General merchandise stores (452)||47.3||55.9||65.6||73.2|
|Book stores (451211)||41.3||54.1||65.6||71.0|
|Computer & software stores (443120)||26.2||34.9||52.5||73.1|
As impressive as these concentration trends may be, they actually understate the market power exercised by leading U.S. firms. The reason is that many of these firms are conglomerates and active in more than one industry. The next chart provides some flavor for overall concentration trends by showing the growing share of total business revenue captured by the top two hundred U.S. corporations. Notice the sharp rise since the 1990s.
These are general trends. Here, thanks to Zocalo (which draws on the work of Barry Lynn), we get a picture of the market dominance of just one corporation–Procter and Gamble. This corporation controls:
• More than 75 percent of men’s razors
• About 60 percent of laundry detergent
• Nearly 60 percent of dishwasher detergent
• More than 50 percent of feminine pads
• About 50 percent of toothbrushes
• Nearly 50 percent of batteries
• Nearly 45 percent of paper towels, just through the Bounty brand
• Nearly 40 percent of toothpaste
• Nearly 40 percent of over-the-counter heartburn medicines
• Nearly 40 percent of diapers.
• About 33 percent of shampoo, coffee, and toilet paper
A recent Huffington Post blog post, which includes the following infographic from the Frence blog Convergence Alimentaire, makes clear that Procter and Gamble, as big as it is, is just one member of a small but powerful group of multinationals that dominate many consumer markets. The blog post states: “A ginormous number of brands are controlled by just 10 multinationals . . . Now we can see just how many products are owned by Kraft, Coca-Cola, General Mills, Kellogg’s, Mars, Unilever, Johnson & Johnson, P&G and Nestlé. ” See here for a bigger version of the infographic.
And, it is not just the consumer goods industry that’s highly concentrated. As the Huffington Post also noted: “Ninety percent of the media is now controlled by just six companies, down from 50 in 1983 . . . Likewise, 37 banks merged to become JPMorgan Chase, Bank of America, Wells Fargo and CitiGroup in a little over two decades, as seen in this 2010 graphic from Mother Jones.”
Not surprisingly, there are complex interactions and struggles between these dominant companies. Unfortunately, most end up strengthening monopoly power at the public expense. For example, as Zocalo reports, Wal-Mart, Target, and other major retailers have adopted a new control strategy in which:
these retailers name a single supplier to serve as a category captain. This supplier is expected to manage all the shelving and marketing decisions for an entire family of products, such as dental care.
The retailer then requires all the other producers of this class of products — these days, usually no more than one or two other firms — to cooperate with the captain. The consciously intended result of this tight cartelization is a growing specialization of production and pricing among the few big suppliers who are still in business. . . .
It’s not that Wal-Mart and category copycats like Target cede all control over shelving and hence production decisions to these captains. The trading firms use the process mainly to gain more insight into the operations of the manufacturers and hence more leverage over them, their suppliers, and even their other clients. . . . Wal-Mart, for instance, has told Coca-Cola what artificial sweetener to use in a diet soda, it has told Disney what scenes to cut from a DVD, it has told Levi’s what grade of cotton to use in its jeans, and it has told lawn mower makers what grade of steel to buy.
And don’t think that such consolidation within the Wal-Mart system makes it easier for new small manufacturers and retailers to rise up and compete. The exact opposite tends to be true. . . . This [system] boils down to presenting the owners of midsized and smaller companies, like Oakley or Tom’s of Maine, with the “option” of selling their business to the monopolist in exchange for a “reasonable” sum determined by the monopolist.
This was the message delivered to many of the companies that in recent decades managed to develop big businesses seemingly outside the reach of the Procter & Gambles, Krafts, and Gillettes of the world. Consider the following:
• Ben & Jerry’s, the Vermont ice cream company that reshaped the industry, was swallowed by Unilever in 2000.
• Cascadian Farm, one of the most successful organic food companies, sold out to General Mills and was promptly transformed into what its founder calls a “PR farm.”
• Stonyfield Farm and Brown Cow, organic dairy companies from New Hampshire and California, respectively, separately sold con-trol to the French food giant Groupe Danone in February 2003 and were blended into a single operation.
• Glaceau, the company behind the brightly colored Vitamin Water and one of the last independent success stories, sold out to Coca-Cola in 2007.
The practical result is a hierarchy of power in which a few immense trading companies — in control of and to some degree in cahoots with a few dominant supply conglomerates — govern almost all the industrial activities on which we depend, and they back their efforts with what amounts to police power. This tiny confederation of private corporate governments determines who wins and who loses in this country, at least within our consumer economy.
Of course the growing concentration nationally is matched by a growing concentration of power globally, with large transnational corporations from different nations battling each other and, in many cases, uniting through mergers and acquisitions. We cannot hope to understand and overcome our current problems and the structural pressures limiting our responses to them without first acknowledging the extent of corporate dominance over our economic lives.
I was recently interviewed by David Delk on his Populist Dialogue cable TV program. I shared my criticism of free trade as a corporate project, looking in particular at the Transpacific Partnership Free Trade Agreement (which the president is aggressively promoting) and the U.S.-Korea Free Trade Agreement (which was recently passed).
The 30 minute program can be watched here or below.
The Supreme Court has ruled favorably on the legality of the Affordable Care Act. Actually, despite its name, the Act has more to do with extending and attempting to improve private health insurance coverage than it does with improving care or reducing its cost.
Unfortunately for us, the effort to improve our health care system has remained within bounds set by the needs of private health care providers and insurers. As President Obama made clear from the start of his push for health care reform, there would be no consideration of a universal system.
Critics of such a universal system are always quick to argue that only market forces driven by the private pursuit of profit can ensure an efficient health care system. Of course, in determining whether this is true, we need to recognize that efficiency is a complex term and that our health care system, like all systems, produces multiple outcomes. The most obvious ones are private profit as well as the quality and cost of the relevant health care.
In terms of private profit there can be no doubt that our health care system functions well. However, the story is quite different if we evaluate it in terms of quality and cost. The fact that we continue to embrace a private health care system makes clear which measures of efficiency are considered most important and by whom.
The following map shows the countries, colored green, that have adopted a universal health care system.
As Max Fisher explains:
What’s astonishing is how cleanly the green and grey separate the developed nations from the developing, almost categorically. Nearly the entire developed world is colored, from Europe to the Asian powerhouses to South America’s southern cone to the Anglophone states of Australia, New Zealand, and Canada. The only developed outliers are a few still-troubled Balkan states, the Soviet-style autocracy of Belarus, and the U.S. of A., the richest nation in the world.
The handful of developing countries that provide universal access to health care include oil-rich Saudi Arabia and Oman, Latin success story Costa Rica, Kyrgyzstan, and, famously, Cuba, among a few others. A number of countries have attempted universal health care but failed, such as South Africa, which maintains a notoriously inefficient and troubled public plan to complement the private plans popular among middle- and upper-class citizens. . . .
That brings us to another way that America is a big outlier on health care. The grey countries on this map tend to spend significantly less per capita on health care than do the green countries — except for the U.S., where the government spends way more on health care per person than do most countries with free, universal health care. This is also true of health care costs as a share of national GDP — in other words, how much of a country’s money goes into health care.
Health spending accounted for 17.6% of GDP in the United States in 2010, down slightly from 2009 (17.7%) and by far the highest share in the OECD, and a full eight percentage points higher than the OECD average of 9.5%. Following the United States were the Netherlands (at 12.0% of GDP), and France and Germany (both at 11.6% of GDP).
The United States spent 8233 USD on health per capita in 2010, two-and-a-half times more than the OECD average of 3268 USD (adjusted for purchasing power parity). Following the United States were Norway and Switzerland which spent over 5250 USD per capita. Americans spent more than twice as much as relatively rich European countries such as France, Sweden and the United Kingdom.
What does all of this mean in terms of health outcomes? According to the OECD report:
Most OECD countries have enjoyed large gains in life expectancy over the past decades. In the United States, life expectancy at birth increased by almost 9 years between 1960 and 2010, but this is less than the increase of over 15 years in Japan and over 11 years on average in OECD countries. As a result, while life expectancy in the United States used to be 1½ year above the OECD average in 1960, it is now, at 78.7 years in 2010, more than one year below the average of 79.8 years. Japan, Switzerland, Italy and Spain are the OECD countries with the highest life expectancy, exceeding 82 years.
One possible explanation for this lagging performance, highlighted in an earlier OECD report, is that the U.S. ranked 26th in terms of the number of practicing physicians relative to its population, 29th in terms of the number of doctor consultations per capita, 29th in terms of the number of hospital beds per capita, and 29th in terms of the average length of hospital stay. At the same time, the “U.S. health system does do a lot of interventions . . . it has a lot of expensive diagnostic equipment, which it uses a lot. And it does a lot of elective surgery – the sort of activities where it is not always clear cut about whether a particular intervention is necessary or not.”
Private health care providers and insurers are clear about how they measure health care efficiency. And as long as we rely on them to set the terms of the debate we will continue to suffer the consequences.
The big banks are still committing crimes at our expense. And they will continue to do so as along as they face no real punishment.
It turns out that a number of major banks successfully conspired to lower the London Interbank Lending Rate (Libor). Libor is the interest rate banks charge each other for short-term interbank loans. It is important because many interest rates are pegged to it.
How do we know that banks engaged in such criminal activity? Well, as Matt Taibbi reports in Rolling Stone,
On Wednesday, Barclays won the race to reach a deal with U.S. and British regulators, beating UBS, which was reportedly the first bank to begin cooperating with international antitrust authorities. Barclays agreed to pay at least $450 million to resolve government investigations of manipulation of Libor and the Euro interbank offered rate (or Euribor): $200 million to the U.S. Commodity Futures Trading Commission, $160 million to the criminal division of the U.S. Department of Justice and $92.8 million to Britain’s Financial Services Authority.
Alison Frankel describes the case against Barclays as follows:
The CFTC’s Order Instituting Proceedings and the Justice Department’s Statement of Factscite truly eye-popping emails, instant messages and other evidence indicating that between 2005 and 2008 Barclays employees agreed to manipulate the rates they submitted to the banking authority that oversees the daily Libor report for seemingly anyone who asked them to monkey with it: senior Barclays officials concerned that the bank would look weak if it reported too high a borrowing rate; interest rate swap traders trying to improve Barclays’ derivatives trading position; even former Barclays traders begging for favors. We’re talking naked, blatant manipulation.
Others banks are clearly involved—The Royal Bank of Scotland soon followed Barclays in admitting guilt and will be fined $233 million.
Jonathan Freedland explains why it is unlikely that the crime involves only one or two banks:
make no mistake, it is the banks plural we are discussing, not just Barclays. Submissions from some 15 banks are used to calculate the benchmark Libor rate, making it all but a technical impossibility that a few rogue traders at Barclays alone could have bent it. On the contrary, the most incriminating email to surface on Wednesday– traders promising to celebrate their fiddling of the figures with a bottle of Bollinger – was from an outside bank to Barclays. The latter is surely only in the frame first because it co-operated early in return for a more lenient penalty, but HSBC, RBS and others are all mentioned in court papers. As the chancellor and others have signalled, this scandal is going to spread much wider.
How did the banks get away with rigging the Libor and all the other interest rates tied to it? It was easy because the daily Libor rate is set not by the government or the Financial Services Authority (FSA) but by the banks themselves operating through their own trade group, the British Bankers Association.
This was far from a victimless crime. As Taibbi says:
This is unbelievable, shocking stuff. A sizable chunk of the world’s adjustable-rate investment vehicles are pegged to Libor, and here we have evidence that banks were tweaking the rate downward to massage their own derivatives positions. The consequences for this boggle the mind. For instance, almost every city and town in America has investment holdings tied to Libor. If banks were artificially lowering the rates to beef up their trading profiles, that means communities all over the world were cheated out of ungodly amounts of money.
So, will there be jail time, will we stop letting top corporations monitor their own activities, or will we impose relatively small fines on the companies involved, allow top management to set their own penalties and go on singing the virtues of unregulated financial markets? Given the way our existing political system operates, to ask these questions is to answer them.
Bob Diamond, the head of Barclays, conceded that his traders’ action had been “wholly inappropriate.” Not a crime, mind you, just inappropriate. But to demonstrate his responsibility, he proposed that he and three other top managers “forgo any consideration for bonuses in 2012, recognizing our responsibility as leaders of the organization in which these events occurred.” Could anyone outside of the top echelons of the business world get away with this kind of response?
Freedland offers a good illustration of why what we are dealing with in this case is actually an out-of-control system rather than a simple crime of individual greed:
You’d think criminal prosecutions would be the obvious next step, but it’s not so simple: Libor falls outside the FSA’s remit. Yes, there’s that £290m fine – though it’s worth noting only £60m of that was imposed by the UK, the rest demanded by American authorities. What’s more, that £290m is destined not for the public coffers but for the FSA, which will therefore need to levy less from the banks that fund it – including Barclays. So Barclays lose with one hand but are set to gain with the other. Above all, remember that that £290m is about a tenth of the £2.7bn bonus pool top dogs paid themselves in 2011. It’s more than a slap in the wrist, but not much more.
It’s quite a contrast with the severity of punishment meted out to those guilty of more visible crimes, starting with the 1,292 people jailed for their part in last summer’s riots, including the man imprisoned for six months for stealing bottles of water worth £3.50. There was no question of the authorities lacking a proper remit then, nor did any rioter have the chance to tell a parliamentary committee it was time we all moved on.
So it goes . . . .
Economic recoveries often depend on the state of the housing market. While an April increase in housing prices has led many analysts to talk of a housing recovery, U.S. home values still remain depressed (see the chart below). According to a Zillow real estate research report, they are still some 25% below their 2007 peak.
Perhaps the most telling indicator of the state of the housing market is that, as of the first quarter 2012, 31.4% of all owner-occupied homeowners with a mortgage were ”underwater,” which means they had a mortgage greater than the market value of their home. As the table below shows, these homeowners owed, on average, $75,644 more than what their home was worth.
To this point, the high percentage of underwater homeowners represents, in the words of Zillow, only “a potential danger.” That is because “the majority of underwater homeowners continue to make regular payments on their mortgage, with only 10.1% percent of the 31.4% nationwide being delinquent.” The following figure highlights the percent of delinquent/underwater homeowners in the largest metropolitan areas.
At the same time, as Zillow notes:
With nearly a third of the nation’s mortgaged homeowners in negative equity and the average underwater homeowner having a home value that is 31 percent lower than their mortgage balance, negative equity will prove both to be difficult to fully eradicate near-term and to have pernicious effects longer term as some households continue to encounter short-term financial trouble even with a slowly improving broader economy. Should economic growth slow, more homeowners will not be able to make timely mortgage payments, thereby increasing delinquency rates and eventually foreclosures.
In other words, if the economy slows, or interest rates rise, two very likely possibilities, the housing market could deteriorate quickly, intensifying economic problems. In short, we are a long way from recovery.
Paul Krugman, a leading proponent of the deficit spending side, puts it like this:
For the past two years most policy makers in Europe and many politicians and pundits in America have been in thrall to a destructive economic doctrine. According to this doctrine, governments should respond to a severely depressed economy not the way the textbooks say they should — by spending more to offset falling private demand — but with fiscal austerity, slashing spending in an effort to balance their budgets.
Critics warned from the beginning that austerity in the face of depression would only make that depression worse. But the “austerians” insisted that the reverse would happen. Why? Confidence! “Confidence-inspiring policies will foster and not hamper economic recovery,” declared Jean-Claude Trichet, the former president of the European Central Bank — a claim echoed by Republicans in Congress here. . . .
The good news is that many influential people are finally admitting that the confidence fairy was a myth. The bad news is that despite this admission there seems to be little prospect of a near-term course change either in Europe or here in America, where we never fully embraced the doctrine, but have, nonetheless, had de facto austerity in the form of huge spending and employment cuts at the state and local level.
There is no doubt that the European experience has put those supporting austerity on the defensive. As the New York Times explains:
Britain has fallen into its first double-dip recession since the 1970s, according to official figures released Wednesday, a development that raised more questions about whether government belt-tightening in Europe has gone too far. Britain is now in its second recession in three years. . . .
In a packed British Parliament, Prime Minister David Cameron had to defend his austerity drive against critics like Ed Miliband, head of the opposition Labour Party, who called the economic numbers “catastrophic.”
The raucous scene was the latest manifestation of growing popular frustration with the strict fiscal diet that has been prescribed by the European Central Bank and German leaders in response to the euro zone’s sovereign debt crisis. While Britain is not a member of the euro zone, its economic fortunes are closely linked with those of the currency union.
The discontent was on view in French elections last weekend and played a role in the collapse of the Dutch government on Monday. Greece, Spain and Italy have been the scene of mass demonstrations for months, but the turmoil now seems to be spreading to countries that were not seen as being at the heart of the crisis. Britain joined Belgium, the Czech Republic, Greece, Italy, the Netherlands and Spain in recession.
Of course, as Krugman notes, that doesn’t mean that the austerity defenders have given up. Here is the solution to the crisis put forward by Mr. Draghi, head of the European Central Bank, as reported by the New York Times:
He urged national leaders to take steps to promote long-term growth even when it is politically difficult. Some leaders have raised taxes or cut infrastructure projects, when instead they should be reducing government operating expenses, Mr. Draghi said.
Tragically, those in Mr. Draghi’s camp continue to blame Europe’s crisis on too much government spending when its roots lie far more in the collapse of speculative bubbles driven by private financial interests and German austerity policies. Of course, this understanding would require taking a critical stance against dominant capitalist interests; far easier to make the working class pay.
However, we should also be careful about assuming that the bankruptcy of the austerity strategy proves the wisdom of relying on deficit spending to solve our economic problems. The fact of the matter is that spending to stimulate growth will not solve our problems. The reason is that existing economic structures operate to generate what the United Nations Development Program has called “savage growth.” Savage growth refers to a growth process that enriches the few at the expense of the many. In other words, a process that is neither desirable nor sustainable. Therefore, unless we change the nature of our economy, deficit spending will just temporarily postpone the start of a new crisis.
Here are two charts from an Economic Policy Institute report that highlight the workings of savage growth in the United States. The first shows a sharp divergence, beginning in the mid-1970s, between productivity and hourly compensation for private-sector production/nonsupervisory workers (a group comprising over 80 percent of payroll employment). In other words, the owners of the means of production have basically stopped sharing gains in output with their workers. This wedge between productivity and compensation helps explain both the growth in inequality and the need for debt to sustain consumption.
The second provides a closer look at post-1973 trends. A key point: median hourly compensation basically stopped growing starting early in the 2000s, even though the economy continued to expand for several more years, and it continues to fall despite the end of the recession.
In sum, if we are serious about improving economic conditions we need to move past the austerity-deficit financing debate and begin pressing for adoption of trade, finance, production, and labor policies that strengthen the position of workers relative to those who own the means of production. Anything short of that just won’t do.
Too big to fail—that was the common explanation voiced at the start of the Great Recession for why the Federal Reserve had no choice but to channel trillions of dollars into the coffers of our leading banks. But, the government also pledged that once the crisis was over it would take steps to make sure we would never face such a situation again.
The chart below shows the growing concentration of bank assets in the hands of the top 3 U.S. banks. The process really took off starting in the late 1990s and never slowed down right up to the crisis. It was the reality of the top three banks controlling over 40 percent of total bank assets that gave meaning to the “too big to fail” fears.
But what has happened since the crisis? According to Bloomberg Businessweek, the largest banks have only gotten bigger:
Five banks—JPMorgan Chase, Bank of America, Citigroup, Wells Fargo, and Goldman Sachs—held more than $8.5 trillion in assets at the end of 2011, equal to 56 percent of the U.S. economy, according to the Federal Reserve. That’s up from 43 percent five years earlier.
The Big Five today are about twice as large as they were a decade ago relative to the economy, meaning trouble at a major bank would leave the government with the same Hobson’s choice it faced in 2008: let a big bank collapse and perhaps wreck the entire economy or inflame public ire with a costly bailout. “Market participants believe that nothing has changed, that too-big-to-fail is fully intact,” says Gary Stern, former president of the Federal Reserve Bank of Minneapolis.
Not surprisingly, this kind of economic dominance translates into political power. For example, the U.S. financial sector is leading the charge for new free trade agreements that promote the deregulation and liberalization of financial sectors throughout the world. Such agreements will increase their profits but at the cost of economic stability; a trade-off that they apparently find acceptable.
The recently concluded U.S.-Korea Free Trade Agreement is a case in point. Leading financial firms helped shape the negotiating process. As a consequence, Citigroup’s Laura Lane, corporate co-chair of the U.S.-Korea FTA Business Coalition, was able to declare that the agreement had “the best financial services chapter negotiated in a free trade agreement to date.” Among other things, the chapter restricts the ability of governments to limit the size of foreign financial service firms or covered financial activities. This means that governments would be unable to ensure that financial institutions do not grow “too big to fail” or place limits on speculative activities such as derivative trading. The chapter also outlaws the use of capital controls.
These same firms are now hard at work shaping the Transpacific Partnership FTA, a new agreement with a similar financial service chapter that includes eight other countries. Significantly, although the U.S. Trade Representative has refused to share any details on the various chapters being negotiated with either the public or members of Congress, over 600 representatives from U.S. multinational corporations do have access to the texts, allowing them to steer the negotiations in their favor.
The economy may be failing to create jobs but leading financial firms certainly don’t seem to have any reason to complain.
The Federal Reserve Bank recently released 1,197 pages of transcripts of its 2006 closed door meetings. As the Wall Street Journal comments: “The transcripts paint the most detailed picture yet of how top officials at the central bank didn’t anticipate the storm about to hit the U.S. economy and the global financial system.”
Federal Reserve officials suspected that housing prices were peaking (see chart below). But since they didn’t believe that prices had been driven up by a well entrenched bubble, they were not very concerned that they were coming down.
The Financial Times described the general Federal Reserve stance as follows:
Almost every Fed policymaker concluded that weaker housing would cause a slowdown in consumption and investment but expected that to offset strength elsewhere in the economy, leading to continued growth overall.
“Housing is the crucial issue. To get a soft landing, we need some cooling in housing,” said Ben Bernanke, Fed chairman, in his summing up of the economic situation in March 2006. “I think we are unlikely to see growth being derailed by the housing market.” . . . .
Indeed, a number of Fed officials saw the housing slowdown as welcome news that would help resolve a potential threat to the economy. “As to housing, we are in fact, as all have noted, squeezing out of that sector the speculative excesses that developed with the low interest rates of recent years — and doing so is unavoidable if we want to correct the sector,” said Thomas Hoenig, then president of the Kansas City Fed, at the September 2006 meeting of the FOMC.
The transcripts show that the Federal Reserve was so confident that the economy was on solid footing that many officials were, according to the Wall Street Journal:
offering praise for outgoing Fed Chairman Alan Greenspan, who attended his final Fed meeting in January 2006. Timothy Geithner, then president of the Federal Reserve Bank of New York and now Treasury Secretary, playfully offered this forecast about Mr. Greenspan’s legacy: “I think the risk that we decide in the future that you’re even better than we think is higher than the alternative.” . . . .
The transcripts also suggest that Fed officials misgauged the potential for housing problems to spill over into the broader economy.
“Our recent financial-market data don’t, in my view, provide a convincing case for a substantial increase in the probability of a much weaker path for growth going forward,” Mr. Geithner said at a meeting in December 2006.
So how did the best and the brightest get it so wrong. Perhaps the major reason is because it served their interests to pretend there was no housing bubble. The recovery from our 2001 recession was driven by consumption and that consumption was supported directly and indirectly by the housing bubble. In other words stopping the bubble would have revealed the weakness in our economy and the need for serious structural change. It was far easier and more lucrative for those at the top to just let the bubble go on expanding and pretend that it didn’t exist.
The following chart from the New York Times puts the movement in housing prices highlighted above into a longer term perspective, revealing just how strong speculative pressures were in the housing market.
As Dean Baker, one of the very few economists to warn about the dangers of the bubble, explains:
First, what happened is very straightforward: we had a huge run-up in house prices that had no basis in the fundamentals of the housing market. After 100 years in which nationwide house prices just kept even with the overall rate of inflation, house prices began to sharply outpace inflation, beginning in the late 1990s.
By 2002, when some of us first noticed the bubble, house prices had already risen by more than 30 per cent in excess of inflation. By the peak of the bubble in 2006, the increase in house prices was more than 70 per cent above the rate of inflation.
This was a huge problem – because this bubble was driving the economy. It drove the economy directly by creating a boom in residential housing construction. We were building housing at near record pace in the years 2002-2006. This was in spite of the fact that we had an ageing population and record levels of vacancies at the start of that period.
The other way in which the bubble was driving the economy was through its effect on consumption. The bubble created more than US $8tn in ephemeral wealth in housing. Homeowners thought this wealth was real and spent accordingly. The result was a massive consumption boom that sent the saving rate down to zero in the years from 2004-2006.
In reality, a lot of the consumer spending driving growth was financed by home refinancing, which helped many housholds compensate for stagnant wages and weak job creation at the cost of a sharp rise in debt. As a Wall Street Journal blog post pointed out, “From 2000 to 2007, household debt doubled from $7 trillion to $14 trillion, with debt related to housing responsible for 80% of the increase. By 2007, the household debt to GDP ratio reached its highest level since 1929.”
As we now know only too well, the collapse of the housing bubble reverberated through the economy, including the financial sector, triggering the Great Recession. Tragically, many of the “best and brightest” remain in leadership positions today, still arguing for the soundness of economic fundamentals.
Growing numbers of European countries are running large national budget deficits which their governments are finding increasingly difficult to cover through borrowing. According to the New York Times, “Euro zone governments have to repay more than 1.1 trillion euros, nearly $1.5 trillion, of long- and short-term debt in 2012, with about 519 billion euros, or $695 billion, of Italian, French and German debt maturing in the first half alone.” The Wall Street Journal provides the following national breakdown:
The danger is that some European governments will be unable to secure the funds required to pay their debts. Such defaults would threaten the financial stability of a number of large European banks, which are major holders of government bonds, and eventually the U.S. financial system because of the close ties between many large European and U.S. financial institutions.
At the Brussels meeting, government leaders agreed to raise some $270 billion and give it to the IMF which is supposed to use it provide loans to those governments in need, with its usual austerity conditions attached, of course. The leaders also agreed to speed up the introduction of a new European rescue fund that would do much the same. This determination to impose austerity on European workers stands in sharp contrast to another agreement. According to the New York Times, “The leaders sent an important signal to the bond markets by scrapping a pledge to make private investors absorb losses in any future bailout for a euro nation.”
The leaders rejected what would have been the most useful action—empowering the European Central Bank to directly buy government bonds, much like the Federal Reserve does for the U.S. government.
The leaders did approve two major long term policy initiatives. As the Wall Street Journal explains:
After a marathon session of negotiating that started Thursday and ran until early Friday morning, the leaders emerged with two principal achievements: Euro-zone members who run outsize government deficits will face automatic penalties, and all governments will put balanced-budget procedures of some form in their national laws.
Germany had wanted this limit on government borrowing made part of the EU constitution, thereby giving EU institutions the authority to enforce it. It was unsuccessful in achieving its goal only because of UK opposition; such major changes require unanimous approval on the part of all 27 member countries. As a result, the other 26 leaders have agreed to implement this “fiscal stability compact” by winning approval for it in each of their respective national parliaments.
This fiscal stability compact reflects the continuing belief of European political leaders that the current crisis was caused by runaway government debts and can only be contained through adoption of a balanced budget amendment. This is precisely the argument being made by conservatives in the United States. And it is just as wrong headed in Europe as it is in the United States.
Paul Mason, the economic editor of Newsday put it well, saying:
I can only add at this stage that, by enshrining in national and international law the need for balanced budgets and near-zero structural deficits, the eurozone has outlawed expansionary fiscal policy. . . .
It has done what the US Republicans would like to do – and if you think about it, it has made what Gordon Brown did, and what Barack Obama (and indeed Wen Jia-bao) is doing illegal.
The result, if it works will be stability. It is hard to see how it promotes long-term growth.
Mason is probably overoptimistic that such a policy will even prove able to ensure stability. As for the claim that the current crisis is the result of out-of-control deficits, take a look at the chart below:
As you can see, Spain and Ireland, two of the countries with the biggest debt problems, were actually running strong surpluses before the crisis. On the other hand, Germany was in violation of the Euro zone agreement to keep yearly budget deficits below 3% of GDP from 2001 to 2005. Not surprisingly, once the crisis hit, almost every country was forced into running large deficits. Said differently, in almost all cases, large budget deficits are the result of the crisis not the cause.
In short, pushing austerity will produce a deeper economic downturn, resulting in bigger government deficits and a worsening debt problem. As the economist Kevin O’Rourke explains:
One lesson that the world has learned since the financial crisis of 2008 is that a contractionary fiscal policy means what it says: contraction. Since 2010, a Europe-wide experiment has conclusively falsified the idea that fiscal contractions are expansionary. August 2011 saw the largest monthly decrease in eurozone industrial production since September 2009, German exports fell sharply in October, and now-casting.comis predicting declines in eurozone GDP for late 2011 and early 2012. . . .
What is needed to save the eurozone in the medium term is a central bank mandated to target more than just inflation – for example, unemployment, financial stability, and the survival of the single currency. . . . This will require a minimal fiscal union; a full-scale fiscal union would be better still. Yet none of this was on the summit’s agenda.
Europe’s current approach to its crisis is crazy, and one can only hope that few if any national parliaments will endorse it. I suppose there is some reason to be optimistic. As the Wall Street Journal reports:
One particular complication is the bid to make sanctions automatic. It recycles an idea that the euro zone rejected in October 2010. At that time, the European Commission, the bloc’s executive arm, proposed that penalties for violating the fiscal rules be automatically imposed; unless the countries voted affirmatively to block them, they’d stand.
The longstanding rules work the other way around. Penalties are imposed only if countries vote for them. That led to the ignominious spectacle, in 2003, of France and Germany each breaking the deficit ceiling and each voting against condemning the other, killing enforcement efforts.
In the meantime, governments in Europe, much like in the United States, continue to defend the very economic structures and patterns of economic activity that led to the current economic mess while demanding that working people pay the costs. What a nightmare.