The recent chaos on world stock markets is a manifestation
of the general turbulence that is the most prominent feature of the present
epoch. In the last week we witnessed the near-collapse of the fifth largest
bank in Britain. Thousands of angry
people queued all day to withdraw their money from the Northern Rock bank, when
it emerged that the bank had had to arrange an emergency loan from the Bank of
England to prevent it from collapsing.
This was the biggest banking crisis in Britain since the
1930s. In fact, one would have to go back 150 years to find a run on a British
bank. The last time there was a financial crisis of this scale was in 1866. It was a panic – as they used to call
a slump in the 19th century. The dramatic scenes were
completely unprecedented in the recent history of Britain.
Northern Rock was
the fifth biggest bank in Britain. It had adopted the model developed by many
of the major banks in the U.S. Instead of the traditional method of maintaining
sufficient capital to back up the loans on their books, they depended on
wholesale financing of their mortgages from investors in the market. In this
way, the bank could avoid the inconvenience of maintaining enough reserves to
repay their depositors. As a result they did very well indeed. Business boomed.
They had mortgages on their books to the value of about £100 billion. All was
for the best in the best of all capitalist worlds.
That was all right
as long as people did not demand their money. As long as the economy was
booming, this situation could continue. But if the depositors were ever to ask
for hard cash, the bank could not pay them because it simply doesn’t have their
money. It has been lent to people to buy houses, and these people pay a certain
amount every month in mortgage repayments. But they could never return the full
amount borrowed in one go.
As a result, despite
a book value of £100 billion, the bank was not able to pay out a few billions
to their customers without a government bailout. They did not have the reserves. Their assets are illiquid
and have no discernible market value. In the moment of truth, the fifth
biggest bank in Britain had only a paper value and imaginary billions, whereas
what the depositors were demanding was hard cash. The £100 billions in
property assets turned out to be a heavy millstone round their neck, dragging
Alistair Darling, the Chancellor of the Exchequer, had been
trying to reassure savers that Northern Rock was solvent and had the backing of
the Bank of England. In the past, such statements from the Chancellor and the
governor of the Bank of England would have had the effect of calming the nerves
of depositors and shareholders. But now the reassuring noises had no effect.
There was no let-up in the crisis and withdrawals from Northern Rock continued.
The crisis was beginning to gather momentum by the moment,
like a huge snowball running downhill. Northern Rock shares fell by 35.4 per
cent, and mass withdrawals of funds were taking place on an average of £1bn a
day. The bank lost an eighth of its
deposits in three days. On that basis, the bank would have been left
without funds by the weekend.
This was not supposed to happen. The news of the crisis at
Northern Rock immediately had an affect on other banks. On the stock exchange
there were heavy falls in the shares of other banks. The cost of borrowing
between banks reached extremely high levels. The whole of Britain’s banking
system was in danger.
The most serious problem was the risk of contagion, leading
to a general banking collapse. They came very close to this. Another big bank,
the Alliance & Leicester was forced to make a statement after its shares
plunged by nearly a third. The slump in Alliance & Leicester’s shares
raised fears of its customers making mass withdrawals of their savings in a
second run on a British bank. The bank tried to answer rumours that it would be
the next bank to seek emergency funding.
Bradford & Bingley was another with a question mark over
its future. Its shares also fell heavily. Both banks have relatively few
depositors, and use the money markets to fund their lending. The share plunge
slashed Alliance & Leicester’s market value by £1.2bn.
Bank of England would have quietly lent money to the bank in order to avoid a
panic. Nobody would have even known about it. But new regulations made this
impossible. The old cosy world of the bankers has vanished forever. They also
are compelled to enter into the frenzied maelstrom of 21st century
Only two days before the crisis broke, Mervyn King, assured
a parliamentary committee that there was no way that the Bank would bail out
banks and investors who got into trouble because they had invested
speculatively and unwisely in sub-prime loans and other risky ventures. But in
a few days the governor of the Bank of England had to do a 180-degree turn.
In a desperate attempt to calm the panic, Alistair Darling,
the Chancellor of the Exchequer, said: "Should it be necessary, we, with
the Bank of England, would put in place arrangements to guarantee all the
existing deposits in Northern Rock during the current instability. This means
people can continue to take their money out of Northern Rock but if they choose
to leave their money in Northern Rock it will be guaranteed safe and
The government was terrified by the danger of contagion.
Alistair Darling, the Chancellor of the Exchequer, and Gordon Brown panicked.
Despite the so-called autonomy of the Bank of England the government clearly
twisted the governor of the Bank of England’s arm, compelling him to provide
funds to Northern Rock immediately. Darling said that if forced to, the
Government would use Northern Rock’s assets to fund the deposits.
City analysts said that would be the equivalent of
nationalising the bank. The Treasury also said the Government could provide
backing for other lenders if necessary, depending on their financial situation.
What does this mean? Faced with the threat of a collapse, the Chancellor was
forced to offer a full "money back" guarantee. In effect, the New Labour
government was presenting not only Northern Rock but the entire banking system
with a blank cheque.
What is left of "market economics"?
Let us spell it out
clearly: a few days ago the entire British banking system was threatened
with collapse. The action taken by the government was a desperate move to
stave off a potential catastrophe and persuade savers that their money was
safe. The government is now trying to find a buyer for Northern Rock. It is not
sure that it will succeed. The whole situation is extremely fragile and new
panics are possible at any time. Rather than a victory, as the government is claiming,
this is an uneasy truce. Now they are looking for a scapegoat and think they
have found it in the alleged fiscal conservatism of the Bank of England.
Bankers and economists have criticised the Bank of England’s
initial refusal to provide support for financial institutions. But from a
capitalist point of view, it acted correctly. According to the laws of the
market, if a company has no funds, it goes bankrupt. The state is not supposed
to spend taxpayers’ money bailing out companies that get into difficulty. If a
company is not profitable, it must be allowed to close and in this way the
whole economy will become "leaner and fitter". It is merely a concrete
expression of the Darwinian struggle for survival. And as we know, the fittest
will always survive!
This principle was applied with extreme ruthlessness to
cases like the British car industry (a once thriving branch of manufacturing of
which nothing now remains) or coal mining. The bankers are always particularly
strict on this question. But once the City of London is affected the "iron"
principles of market economics melt like a snowball in the sun. Just compare
this behaviour with the conduct of both Labour and Tory governments towards
manufacturing industries threatened with bankruptcy and closure! The bankers
immediately go running to the government for state subsidies and the government
– which is so hard on miners, car workers, single parents, disabled people and
underpaid nurses – immediately comes running to their aid with an open cheque
What is now left of the
claim that the bankers and capitalists deserve their profits and interest
because they are brave pioneers of private enterprise who are being rewarded
for "risk taking"? Where is the risk if, when there is a crisis, the government
immediately steps in to underwrite all the losses? This is the real face of
"market economics". When the market is going up and the banks are making huge
profits out of all kinds of swindling and speculative deals, the market rules.
But when the economic climate changes and the cold winds begin to blow, they
soon forget all about market principles and demand subsidies from the state.
The root causes
Of the recent events in Britain Mike Whitney wrote: "This is what a good old fashioned bank run
looks like. And, as in 1929, the bank owners and the government are frantically
trying to calm down their customers by reassuring them that their money is
safe. But human nature being what it is, people are not so easily pacified when
they think their savings are at risk. The bottom line is this: The people want
their money, not excuses." That is well said.
In the arcane world
of banking, trust is an essential ingredient. The motto of the Bank of England
since the 18th century has been: "my word is my bond." But if people
do not believe that the banks can be trusted to look after their money and
return it to them on demand, what will happen is a run on the banks, where
depositors rush to withdraw their savings. This is what we witnessed recently
in Northern Rock.
Trust is like
virginity: once you have lost it you cannot get it back again. There is now a
deep distrust not only towards the banks but towards the government and the
whole establishment. This is something entirely new in British society. It can
have important consequences in the future, not just in the field of economics
but in politics also.
The real cause of the present crisis was not the crazy world
of speculation. The sub-prime crisis, as Greenspan correctly says, was only the
accident through which necessity revealed itself. In the Daily Telegraph
(September 17) Roger Bootle writes:
"Moreover, with banks’ own funding costs now much
higher, and with a belated recognition that lending can be a risky business,
they have gradually been moving to alter lending behaviour with customers, as
well as each other.
"Meanwhile, there have been signs the global economy is
slowing. In the US, the level of employment, widely regarded as a key barometer
of economic health, fell outright in August for the first time in four years.
"In fact, recent financial market turmoil is not at the root
of these economic developments. They reflect a general weakening in the
global economy that had begun before the markets went doolally." (my emphasis, AW)
On this question at least Mr. Bootle is correct. Financial
crises and credit squeezes are not the cause of economic crisis but its effect.
The capitalist cycle of boom and slump has more profound causes. As long as the
capitalists are making profits from the extraction of surplus value, there is
"trust" and "confidence" and credit is lax and easy to get. But when the cycle
is reaching its limits and there are indications that the good times will not
continue, this "confidence" evaporates.
The levels of speculation and fictitious capital injected
into the economy in the last period are like a poison that must be squeezed
out. But in attempting to do this, they can easily puncture the bubble and
drive the whole thing down. At this point creditors begin to demand repayment
of debt and are no longer so keen to lend money. They demand a higher rate of
interest. This cuts into the rate of profit and reduces demand. What was effect
now becomes cause, driving the whole cycle down in an uncontrollable spiral.
This is what both the British and American bourgeois are
afraid of. That is why both the Fed and now (reluctantly) the Bank of England
are injecting more inflation into the economy. By so doing they may postpone
the evil day a little longer, but only at the cost of causing an even sharper
and deeper collapse later on.
The casino world of modern
There was a time when bankers were thought of as respectable
citizens who could be relied upon to look after other people’s money. They wore
dark suits and received people attempting to borrow money in marble halls,
subjecting them to an inquisitorial interrogation concerning every aspect of
their lives. Not any more!
Thanks to the Thatcherite reforms of the 1980s and the
deregulation of the City, all this has changed. The bankers are now fully
absorbed into the casino world of modern capitalism and addicted to gambling on
the stock markets. The problem is that they are gambling not with their own
money but with the life-savings and pension funds of millions of ordinary
people, overwhelmingly working class or middle class.
At the peak of the boom there can be a crisis of the stock
markets that serves to squeeze out the large quantities of fictitious capital
that have been injected into the system during the upswing. This is now referred
to as a "correction" and is supposed to have the same beneficial effects that
bleeding (removing excess blood from a patient) was thought to have in the
Middle Ages. But as we know, the loss of too much blood all at once can have
The credit crunch is already having an effect. Banks are
already being forced to write off billions of pounds of debt. The Bank of
England has raised interest rates five times in the past year to their current
5.75 per cent. Now there are howls of pain.
The increase in the cost of credit does not only affect
consumers and house-owners, it also eats into the rate of profit of the
capitalists. This can affect investment at a certain stage, especially if it is
combined with rising prices of raw materials like oil.
"In Britain the housing [market] hasn’t turned yet, and
the consumer households are more subject to interest rate changes than in the
United States," says Greenspan. The instability in money markets has meant
that the real rate paid by millions of families – the so-called standard
variable rate – has actually risen to heights it last hit when the Bank rate
was a full percentage point higher at 6.75 per cent. This warning comes with
the UK banking system in a state of crisis.
There are also growing signs that after a decade of almost
uninterrupted growth the housing market is slowing dramatically. Rightmove and
the Royal Institution of Chartered Surveyors have reported a sudden drop in
Role of the Fed
In his 1966 pamphlet Gold and Economic Freedom Greenspan
blamed the Fed for the Great Depression. This is not correct. Banks do not
cause depressions, which are the consequence of the anarchy of capitalist
production. But they can certainly exacerbate crises by injecting huge
quantities of fictitious capital into the system during the upswing. This
happened in the period before the Great Crash of 1929 and it is happening on an
even bigger scale now. Let us quote Greenspan’s words:
"The excess credit which the Fed pumped into the
economy spilled over into the stock market, triggering a fantastic speculative
boom. Belatedly, Federal Reserve officials attempted to sop up the excess
reserves and finally succeeded in breaking the boom. But it was too late: by
1929 the speculative imbalances had become overwhelming".
These opinions are ironical coming from Alan Greenspan.
Under his directorship, the Fed contributed mightily to America’s bubbles and
its debt addiction. By holding rates too low for too long, it encouraged the
credit boom, preparing the way for the present crisis. For much of the period
from 2002 to early 2006, "real" rates were actually negative (i.e.
below inflation). People were punished for not taking on debt. Greenspan now
says: "The human race has never found a way to confront bubbles". He
admits he was caught off guard by the sub-prime madness that ensued:
"While I was aware a lot of these practices were going on, I really didn’t
get it until very late in 2005 and 2006," he told the Telegraph.
The result of repeated interest rate cuts is a country
living far beyond its means (the bankers call this moral hazard). From
the biggest world creditor America has been transformed into the world’s
biggest debtor, with net external liabilities of $3,000bn. The savings rate has
fallen below zero for the first time since the Depression. The US has been
running a current account deficit of 6.5% of GDP for year after year, and yet
the Fed looked complacently on as on America’s shoppers merrily went on
spending and accumulating ever-greater debts. As a result Asia, and
particularly China, have accumulated huge reserves at America’s expense.
The recent crisis has revealed to what extent big US banks
are involved in speculation. Particularly distasteful was the practice of the
buying and selling of debt. During the recent boom, banks and finance houses
were willing to offer credit and mortgages to many people who could not afford
it. As long as interest rates were low (for a time even negative) this seemed
like a good deal. Many poor working class people were tempted to buy houses on
this basis. Moreover, the banks actually sold packages of this debt to other
banks, which were eager to buy.
finance" is the term they use for a system allegedly designed to
distribute capital more efficiently by allowing other market participants to
fulfil a role that used to be considered the exclusive preserve of the banks. In
practice, it is a gigantic swindle. Insecure mortgage loans and other liabilities
were magically transformed into assets (securities) by so-called
securitisation. It was the financial equivalent of the alchemists who claimed
to transform lead into gold. This system relies on investors to provide the
funding for mortgage loans that are pooled and sold as collateralised debt
obligations or CDOs.
This madness was
exposed by the collapse of Bear Stearns in the USA. Suddenly nobody wanted
these CDOs any more. A whole series of well-known banks were in trouble. Lehman
Brothers, for example, was badly damaged by its heavy exposure to the $2,000bn
sub-prime market, "slicing and dicing" housing loans into packages for resale,
usually in the form of collateralised debt obligations. Last year it had a
large share of the total $500bn issuance of CDOs. On this basis it paid a very
generous $40.5m to chief executive Richard Fuld.
It was all very nice while it lasted. But all good things
must come to an end. The panic in US credit markets was sparked off in May when
Bear Stearns revealed huge losses in two of its hedge funds. One of the two
funds was allowed to collapse, while the bank bailed the other out. In August
new CDO sales plunged by 73&. Now the bond yields on Lehman debt have
fallen below that of Colombia, rated BBB. The amount of money Goldman Sachs and
Morgan Stanley have had to raise has doubled since February to about 165 basis
points, badly denting profit margins.
Citigroup estimates the four banks, plus Merrill Lynch, have
been left with $75bn of loans for leveraged buy-outs, contracted before the
credit squeeze, that they have been unable to place in the markets without
taking a hefty loss. There has been a
sudden increase in borrowing by banks from the Fed’s emergency bailout program.
Billions of dollars have been handed out through what is known as the
"Discount Window". Just as in Britain, the US banks have been
borrowing money from the Fed because they cannot meet their minimum reserve
The entire banking
system is now up to its neck in fraud and swindles of all sorts. This was
always the case. In a boom, when production is in full swing and there is
plenty of money to be made there is a frantic scramble for credit. An excess of
money and credit at this stage in the economic cycle plays a positive role in
oiling the system and providing much-needed liquidity.
is always an element of speculation in this, as Marx explains. When everybody
is making money, nobody is concerned about looking too closely at where the
money is coming from – or even if it is real money at all.
The English economist Gilbart as early as 1834 wrote:
"whatever gives facilities to trade gives facilities to speculation. Trade
and speculation are in some cases so nearly allied, that it is impossible to
say at what precise point trade ends and speculation begins." In Marx’s
day it was estimated that possibly "nine-tenths of all the deposits in the
United Kingdom may have no existence beyond their record in the books of the
bankers who are respectively accountable for them."(The Currency
Theory Reviewed, etc., pp. 62-63)
In this merry carnival of
moneymaking everybody is too intoxicated with the spectre of enrichment to
worry about the fine print. "Eat, drink and be merry, for tomorrow we die!"
That is the motto of the bourgeoisie in a period of boom. However, as the boom
runs out of steam, these fraudulent schemes and swindles are being exposed.
Bank failures are inevitable in the future.
The only difference between
the present period and the past is the scale of the orgy of swindling and
speculation. In the past period vast quantities of fictitious capital have been
injected into the system through the stock exchange boom, the housing bubble
and the endless extension of credit and debt to unheard-of levels. This is
merely one reflection of the senile decay of capitalism.
In its youth the
bourgeoisie, driven by greed for profit and insatiable thirst for surplus value
(the unpaid labour of he working class), developed the productive forces. But
in the period of its senile decay it plays no progressive role whatsoever. Marx
explained that the real ideal of the bourgeois is to make money from money,
without having any need to resort to the painful process of production. The
bourgeoisie has now been infected with a disease that has no known cure. In the
words of conservative British economist Roger Bootle:
"The plain truth is that financial markets and financial
institutions have indulged in a mad wave of greed-driven, purblind, herd
behaviour. In the process they banked their millions. Now that the consequences
are being laid bare it ill becomes them, from their plush temples to mammon, to
be calling for a disguised form of state aid. You can imagine what they would
have said in reaction to the idea of bailouts for car manufacturers,
shipbuilders or miners. Now that the pain is close to home they whinge with a
tone of righteous indignation."
Marx himself could not have put it better! In the past
capitalism played a relatively progressive role in developing the productive
forces and thus creating the material base for a new society – socialism. But
today this is no longer the case. With the exception of China (and some other
Asian economies) the bourgeoisie has not been developing the productive forces.
Marx pointed out that the ideal of the bourgeois is to "make
money from money", dispensing altogether with the painful necessity of
productive activity. Now they are close to realising this dream. In Britain,
the USA and many other countries there has been a steep decline of
manufacturing and huge rise of the parasitic finance and services sector.
Michael Roberts wrote recently:
"Never in the history of capitalism has the financial sector
been so important to the health of capitalism. In its maturity, capitalism is
increasingly no longer a system that raises the productive forces. It is more
and more a financial parasite unproductively resting on top of the productive
sectors of the global economy (mainly in China, India etc).
"That is especially so in Britain, the financial parasite
extraordinaire – a giant Switzerland, that sucks in the earnings of other
countries (oil-producers in the Middle East and the manufacturers of Asia) and
recycles it. British capitalism now makes little itself. Instead it is just
giant banker of the world. As such, the British capitalist economy is the most
vulnerable to a global financial crisis and any ensuing economic slump. And
British workers and their families will suffer more than most." (Britain: The
rocky road to ruin By Michael Roberts).
London, September 24, 2007