The recent World Economic Forum drew attention to the widening of the financial crisis but at this year’s meeting, bankers and members of Barack Obama’s new administration were conspicuously absent. Both the keynote speaker, Mr. Putin, the prime minister of Russia and Wen Jiabao, the Chinese premier, pointed to America’s pivotal role in the current global financial crisis. In his latest work, “Bad Money,” Kevin Phillips, acknowledges America’s failures and looks into the Reckless Finance, Failed Politics, and the Global Crisis of American Capitalism. These burning issues leave no one indifferent at a time when the world is so interconnected financially and economically.
In the United States, financial services are presently equivalent to a fifth of the country’s gross domestic product. Mortgages alone represent 60 percent of bank loans. Under Richard Nixon, the manufacturing share of US GDP was equal to twice that of financial services. Nowadays, this sector is bigger than any other, including manufacturing, health, and wholesale/retail.
A snowballing debt and a growing credit industry, inflated the financial sector too carelessly and too fast. If the sixties witnessed the first hedge funds and the beginning of the credit card mania, the financial sector’s stellar growth took off in the eighties. Nixon’s decision to “close the gold window” (that is end the Federal Reserve Authority to let foreign central banks buy gold with dollars) and “float” the currency, led to the booming business in currency trading and foreign exchange markets. At the same time, more efficient computers became an essential tool which laid the foundations for a “new hedging and speculative universe.” Furthermore, federal budget deficits, due in part from the loss of tax revenues, helped establish a new dependence on debt finance.
As a result, the corporate business sector borrowed, to buy liquidity or pay down equity through mergers, acquisitions, and stock repurchases, instead of building new facilities. The author believes that if more attention had been paid to private debt in the early nineties, the critical mass reached in 2007 might have been kept smaller and possibly manageable, but bad money practices continued, and private indebtedness soared to new heights.
Unrelenting economic deregulation, the economic utility of speculation as well as debt-dependent mergers, takeovers and the creation of markets provided by derivatives played an essential role in the rise of the financial sector. As speculators joined the ranks of the new rich, Warren Buffett criticized derivatives and bubbles harshly: “You can’t turn a financial toad into a prince by securitizing it. Wall Street started believing its own PR on this, they started holding this stuff themselves, maybe because they couldn’t sell it. It worked wonderfully until it didn’t work at all. Wall Street is reaping what they’ve sown,” he said.
Reckless financial practices and a ruinous war in Iraq have resulted in a weak dollar and a declining US influence in the world. In its December 2007 edition, the Economist wrote that the dollar’s decline already amounted to the biggest default in history, having already wiped far more off the value of foreigners’ assets than any emerging market had ever done.
In the midst of this gloomy situation, everyone agrees that something must be done fast. Bankers or ‘banksters’ in the words of US president Franklin Delano Roosevelt, are finally taking the blame. Wall Street is not used to being accountable to anyone and habits die hard. Citigroup’s senior executives came to Washington a few months ago asking for help but they arrived in their private jets. And despite the bank’s need of a bail-out, the chairman decided to go ahead with the purchase of a new $50m luxury private jet. He eventually cancelled the order under the pressure of the government. Furthermore, the large bonuses that are still being paid infuriated President Obama who said: “That is the height of irresponsibility. It is shameful.”
Kevin Phillips, a former White House strategist and a political and economic commentator for more that three decades gives us a scathing account on how “bad money” practices have failed the American people and brought flawed US capitalism toward a global crisis. In a devastating conclusion he reckons that: “American financial capitalism, at a pivotal period in the nation’s history, cavalierly ventured a multiple gamble: First, financializing a hitherto more diversified US economy; second, using massive quantities of debt and leverage to do so; third, following up a stock market bubble with an even larger housing and mortgage credit bubble; fourth, roughly quadrupling US credit-market debt between 1987 and 2007, a scale of excess that historically unwinds; and fifth, consummating these events with a mixed performance of dishonesty, incompetence, and quantitative negligence”.
Not too long ago, when the US considered itself a role model for the rest of the world, such an assessment would have seemed a hoax. Saudi Arabia is doing well because it was smart and wise enough to reduce its participation in global markets. Back in 2005, the Saudi Arabian Monetary Agency (SAMA) warned the banks not to finance excessive speculation.
As politicians and investors are learning to come to terms with an economic downturn unlike anything they have experienced in their careers, it seems evident that international economics and the need for a multi-polar world will be the dominant foreign policy issue in the coming years. The feeling that the US is no longer the only decision maker was echoed by Saleh Kamel, chairman of the General Council of Islamic Banks. At a panel on financial globalization held at a recent conference in Riyadh, he acknowledged that Saudis “didn’t make mistakes the Americans did.”
