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I love watching capitalists panic

October 15, 2007

Market chaos, doom and gloom – who can deny feeling a bit of schadenfreude as the smug free marketeers run around like headless chickens. But our entire economy is based on debt, and this slump is a sobering reminder that it’s not sustainable.

The debt crisis facing the world’s financial system is something that can’t be avoided: it’s like climate change, and it has similar causes: the belief that we can continue to expand, indefinitely, without consequence.

But before we get serious, let’s laugh at this guy:

Here’s Comrade Larry in the Guardian:

So what happens now? It’s tempting to say those who have sowed the wind through greed and arrogance should reap the whirlwind. There is some irony in listening to the calls for welfare for hedge funds from the people who normally argue governments should get out of the way and allow market forces to decide which companies survive or fall. The very people in the City who have been holding a gun to the head of ministers by threatening to up sticks and move offshore unless they can be guaranteed a light-touch regulatory regime now expect the taxpayer to help them out.

The reality, of course, is that the world financial system is a big casino, and the players have been gambling the world’s wealth, not just their own. Those are our pensions that are getting wiped out there: this is bad news for all of us, and presages a long term financial crisis.

Financial crises make for interesting times. We all know that the Great Depression lead to the rise of fascism and World War Two: this is essentially because capital in Germany was so desperate to maintain control over a workforce in revolt that it pitched its lot in with the Nazis, believing it could ultimately control them.

The rest, of course, is history, though a lot of companies did well out of it: supplying the Holocaust, supplying the post-war reconstruction, and supplying concrete for the building of Holocaust memorials.

Isn’t capitalism wonderful?

But what’s this all about? Are we facing a crash, and if so, why?

In the short term, I don’t know if we’re facing a crash. At some stage in the future, almost definitely.

Here’s some background:

As you’ll have picked up from the news by now, the crisis has been caused by sub-prime loans – money lent to Americans to buy houses that they can’t afford to pay back, meaning the people the money is owed to – quite far up the food chain – are faced with a sudden crisis. They don’t have the money they expected to have, so the value of their funds drops, and markets crash.

But what we are seeing is just the tip of the iceberg.

The entire world economy is predicated on a sub-prime loan: the Treasury Bills issued by the US Federal Reserve. The Fed is technically a private company, but in practice is the State bank of the USA, like the Bank of England in the UK or the Reserve Bank in South Africa.

To understand how this all works, it’s important to understand something about fractional reserve banking, whereby banks lend out money they don’t have, at interest, and make a profit.

This is how new wealth is created in our society: a bank will lend you £10,000 that it doesn’t have to open a business. You open the business, work hard, and pay back the money with interest. The bank covers its £10,000 exposure – the money it owes, essentially, to the world financial system, through the national central bank, to which it also pays a bit of interest: in the UK, this is the Bank of England base rate of 5.75%

The balance of the interest the bank gets to keep as profit, and boom! ten thousand squid of wealth has been pulled out of thin air.

A lot of people have trouble getting their heads around this: most assume banks lend out money that other people have deposited, and the banks are not keen to disabuse them of this notion: most people would be horrified.

If you really want to turn you head inside out, you can try reading this Wikipedia article about fractional reserve banking. The article explains how fractional reserve banking works, and uses examples of banks having to have 20% of what they lend out – a reserve requirement of 20%.

The reality is somewhat different: the ratio of reserve currency that a bank needs to hold has in many cases steadily decreased over the past few decades, as this table shows:

Country 1968 1978 1988 1998
United Kingdom 20.5 15.9 5.0 3.1
Turkey 58.3 62.7 30.8 18.0
Germany 19.0 19.3 17.2 11.9
United States 12.3 10.1 8.5 10.3

That means that in the UK, banks need to have only 3.1% of the money they lend. The rest is created the instant it is credited to you bank account, and appears, not as hard cash, but as pixels on a screen.

Is it any wonder banks are keen to lend out more money?

Once upon a time, money had a relation to the real world – it was a symbol for something, such as gold. Here’s a succinct if simplistic description of the rise of banking from Wikipedia:

At one time, people deposited gold coins and silver coins at goldsmiths for safe keeping, receiving in turn a note for their deposit. Once these notes became a trusted medium of exchange an early form of paper money was born, in the form of gold certificates and silver certificates.

As the notes were used directly in trade, the goldsmiths noted that people would never redeem all their notes at the same time, and saw the opportunity to issue new bank notes in the form of interest paying loans. These generated income – a process that altered their role from passive guardians of bullion charging fees for safe storage, to interest-paying and earning banks. Fractional-reserve banking was born. When creditors (the owners of the notes) lost faith in the ability of the bank to exchange their notes back into coins, many would try to redeem their notes at the same time. This was called a bank run and many early banks either went into insolvency or refused to pay up.

The world financial markets long ago lost all relation to anything real, and have moved into abstraction. This was a long process, but the defining point was probably when the US went off the gold standard in 1971 – up till then world money was linked to something real, gold – and started printing US Treasury Bonds – IOUs from the American government – as the new reserve currency.

Central banks around the world bought them – they didn’t have much choice – and now the economy of the whole world is based on IOUs from the US. The Americans hoped that they could keep writing IOUs indefinitely, but the shaky state of their economy, peak oil and the rise of new super powers like China means they are not on firm ground.

The rest of the world now realises that those American IOUs aren’t worth much, because America won’t be able to pay them back, and we’re facing a classic ‘bank run‘ on a global scale.

It’s a Mexican stand off: everyone’s looking around to see who will blink first, and trying to unload their dollars on the sly.

So far, the system has survived on bullshit and violence: violence in cases like the war in Iraq being used to gain access to a precious raw material, and pushing into the private ownership of water supplies and such like in developing countries.

Bullshit in the creation of new markets, such as futures and derivatives, where billions – in fact, trillions – of dollars are traded around the world every day without actually do anything concrete: when you invest in futures, for instance, you buy the right to bid for a product that will be produced in the future – say, the wheat that will be grown in ten years. But you don’t actually intend to buy that wheat – you just hope that, over time, the right to buy it will become more valuable and you will make a return on your investment.

The system works because everyone believes the bullshit – they believe that futures are worth owning. As soon as this belief crumples, our financial system collapses with it – which is why pro-business propaganda is so important to maintaining the status quo.

Another aspect of the debt-driven economy is the rise in productivity over the past few decades. Most people – in unions as well as business – accept that raised productivity is a Good Thing, and it would be if the results were fairly distributed. But it results in what Marxists call a crisis of over-production – the world economy produces more than people can afford to buy at current salaries.

In order to keep economies going, consumer debt is being pushed so that people will have money to buy up all these extra products that no one really needs. That’s why even dogs, cats, toddlers and Palestinian bombers are getting credit cards now.

At some point, of course, sleepy chickens come home for the night, people can’t pay back the money they’ve borrowed, banks face a crisis and tax payers have to bail them out. This is what happened to ABSA bank in South Africa in 1990, which was rescued by a government donation of R 6 billion (£750 million) of our money.

Debt has allowed us to push the collapse of our financial system into the future. Many of the economists that favour the status quo – such as the neo-liberals – believe we can keep doing this indefinitely.

I think they’re fooling themselves, and the rest of the world – in the same way that people think we can expand indefinitely without impacting on the environment. The current crisis is, if you like, the climate change of the economic system. Most people are still at the denial stage, at least publicly, but it’s becoming increasingly clear that it can’t go on like this.

So what does this mean? Will economists be able to patch over the cracks once again, and keep the system limping along, and the capitalists in riches? Probably, but it will require a massive injection of our cash, in the form of tax money and pensions, to save the system.

Which will just crash again in future.

At this point I would usually call for the overthrow of the current system and the establishment of a network of anarchist communes. I will desist, though, on the grounds that most of my readers probably think this is a little unrealistic.

So let’s put it this way: global financial upsets are unavoidable, and collapse is highly likely at some stage. Let’s prepare for the collapse now so it doesn’t take us by surprise and wipe us out with it.

The solution, I think, is to invest as strongly as possible in alternatives, and to build economically and environmentally sustainable communities – eco-villages that grow their own food and generate their own power are a model example. That way, when the system does crash, not only are you not exposed, you’re in a position of privilege compared to all the former rich who can’t eat because their credit cards don’t work any more.

Eco-villages are, of course, not the only option: trusts, co-operatives and so on are all excellent models. Invest your money in people, planet and community, and you’ll get good returns in the long run.

Of relevance to all of this is this story in the Guardian that worker-owned businesses like John Lewis beat the FTSE all-share index for profitability, so it’s certainly a sound business model.

There are also ethical banks and alternative banking systems, such as Zopa, and alternative currency exchanges like South Africa’s Talent Exchange.

If you have something to invest – money, time or energy – invest in something that builds the planet and community. Whether you buy shares in renewable energy, or get yourself an allotment, become part of the change instead of the resistance to change.

Fuel the feeding frenzy with hot money, and you’re likely to get burned.

So let’s look for half full glasses and trust that a financial crisis will shock us all out of our complacency and make us do something concrete about changing the world: another world is not only possible, it’s necessary, and an immanent possibility within each moment. It’s there any time we want. The are alternatives available right now. Aren’t you sick of capitalism, violence and war?

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