I was asked to contribute an article to X-Bow, the publication by the centre-right thinktank Bow Group. Here it is.
The Death of Capitalism
If capitalism isnâ€™t dead then someone should certainly strangle it and put it out of its misery. And once that is done, it would be nice to have a sane economy back. The precipitous decline of financial companies and the knock-on effect on other industries has been described by many as a â€œonce in a centuryâ€ event. But it is clear that in many ways, capitalism and Milton Friedmanâ€™s free market model, which had become prominent since the late 70s, is now beating a hasty retreat.
Laissez-faire, as John Maynard Keynes famously said, could be at an end. Again. Here are some reasons why. For one, government intervention as a lender of last resort has become fashionable again to the point where even analysts on the American network CNBC, a haven for free-marketeers, have opined that the government may have to nationalise large parts of the financial sector to ensure it doesnâ€™t go under.
With government intervention and rescue of banks comes added regulation. Many blame the hands-off approach in the US and UK that led to companies developing lax lending standards, but the problem here is two-fold. Not only has it become painfully obvious that governments have to maintain tight regulation in sectors including finance, but that those companies failed overwhelmingly to adequately assess their own risks and financial models. As Alan Greenspan, former Chairman of the US Federal Reserve, said recently, â€œthose of us who have looked to the selfinterest of lending institutions to protect shareholderâ€™s equity (myself especially) are in a state of shocked disbelief.â€
That isnâ€™t just a crisis amongst a few banks, but a crisis of confidence in a system that assumed the brightest and best-paid examples of free market capitalism would uphold its basic principles. The last few months have also seen an outpouring of anger towards the rich bankers that are now desperately seeking bailouts. That also makes it much harder for politicians to hold up â€˜wealth-creatorsâ€™ with the reverence they did until recently. Not only do tax-loopholes look increasingly unjustifiable, but the awe that greeted the multi-million bonuses look like a thing of the past.
To take one example, Merrill Lynch had record earnings in 2006 of $7.5 billion, with about 5-6 billion handed out that year in bonuses. Mr Dow Kim, who managed the companyâ€™s mortgage business, was awarded $35 million in bonuses that year in addition to his nominal $350,000 salary. The compensation system, as New York Times pointed out, â€œturned out to be a mirage.â€
With the myth of wealth creation over the past decade now exposed as an asset bubble with a heavy price, the era of huge bonuses may be over forever. But thereâ€™s always the danger in predicting the end of capitalism that any short-terms trends vanish in a few years and our economy reverts back to as it was. Whatâ€™s important now is which arguments win the ideological battle. One prominent line of argument ventures that the crisis has demonstrated the importance of government intervention and the Federal Reserve in bringing stability to financial markets.
The Fed was most famously attacked by Milton Friedman as an unnecessary intervention when banks were perfectly capable of taking care of their own interests and that of the economy. When it came to the crunch, the most ideologically right-wing government for decades was forced to interfere in the economy and bring reassurance.
Concurrently, it is also arguable that just as Keynesian went out of fashion because of stagflation, the credit crunch has brought about circumstances that have rendered monetarism useless. Banks across the world have lowered interested rates to near zero, and yet despite the cheap supply of money hasnâ€™t yet persuaded banks to lend and for the economy to recover. Related to this is the second argument; that over the past decade America has imported cheap capital and cheap goods, but has little to show for it other than a consumption fuelled boom that has come to an abrupt end.
President Barack Obamaâ€™s recently outlined plan to invest hundreds of billions to upgrade Americaâ€™s technology, environmental and transport infrastructure, while creating jobs, kills two birds with one stone. If the New New Deal plan works well, then not only will the traditional American aversion to government investment become severely dampened, but it would also strengthen the argument than the government can be a force for good in the economy.
Editorials from Newsweek and the Washington Post have said the crisis heralds an end of â€˜American style capitalismâ€™ or â€˜The End of Libertarianismâ€™, but classical libertarian economists say the opposite is true. As a Reason magazine editorial said in September 2008, â€œThe free market has nothing to do with the current crisis.â€
The final ideological argument is that the capitalism of preceding decades was more corporatism than free market laissezfaire. It was an economy biased towards big corporations that encouraged oligopolies, abnormal profits, excessive risk-taking and unfair competitive practices. In this context, the fall of major corporations such as General Motors and Citigroup, both of which may be broken up, is a blessing in disguise for true free marketers, who would like to see less government support for corporatism and oligopolies.
Much of how these arguments now develop depends not only on events but, as I said earlier, on how successful government efforts deal with the crisis are. It is also likely that financial markets are unlikely to give receive such support and incentives in the past, or be seen so readily as engines of growth. Capitalism then, in the form it has developed over the last generation, is now dead. A new era will rise from the ashes but its too early to say what that will look like. In a generation, as the Indian and Chinese economies become dominant, the models will have to change again. Call it the creative destruction of capitalism itself.
The article was published here.
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Filed in: Current affairs,Economics,Economy