The unlikely triumph of capitalism

Published in The Independent (April 4th, 2009)

Presidents, politicians, pundits and protesters are united: Capitalism is in crisis; free markets are fatally wounded; the state is in the ascendancy. ‘The 40-year-old prevalent orthodoxy known as the Washington consensus in favor of free markets has come to an end,’ declared Prime Minister Gordon Brown. And this week, while student anarchists in black hoodies held banners proclaiming the death of capitalism, the French president who once sought an ‘Atlantic model’ for his nation was in a London hotel demanding that a conscience be imposed on capitalism.

Talk to any Labour politician and they are convulsed by the agony of impending electoral wipeout at a time when they feel history is on their side, when social democracy has a license to tame the monster that is rampant capitalism. The Tories, meanwhile, are terrified they might be linked with all those loathed free-marketers and financial wizards who bought the global economic edifice crashing down with such traumatic effect.

But if history has taught us anything, it is to be wary of conventional wisdom. It invariably turns out to be wrong. The Princeton economist Roland Benabou has exposed what he calls ‘Mutually Assured Delusion’ that leads to groupthink, and shown how it erodes the rationality of individuals. This is what led us all to create a house of cards built out of debt. And now it is leading people to miss the most obvious point about this crisis.

We are not witnessing the death of capitalism. It is not even severely wounded. Far from it. What we are watching unfold is the unlikely triumph of capitalism. And we should start preparing for the shock waves.

We are growing familiar with the story of the Great Crash of 2008. Its roots go back to the decision of the Clinton government to loosen controls on banks while encouraging the spread of house ownership. This was allied to Alan Greenspan’s pursuit of low interest rates at all costs, together with the weakening of international rules governing banks’ capital retention and, here in Britain, the botched regulatory regime established by Brown when he gave the Bank of England independence.

The effect was to give capitalism its head. And the forces of global capitalism did what the forces of global capitalism do when the fetters are loosened: They rampaged round the world finding ever-cleverer ways to maximize profits. Financial behemoths hired the cleverest people they could find to devise smart new ways to make money. The result was the sale of mortgages to people who could not afford them, the creation of a toxic time bomb that destroyed the global banking system and the handing out of obscene bonuses to the alchemists behind economic meltdown.

The bankers get the blame, but it was the state — the politicians, the regulators, the governing bodies — that really failed by setting them free.

So what happened next? The state, this time in the shape of its poor bloody infantry of taxpayers, stepped in. We bailed out the banks, handing over such mind-boggling sums of our hard-earned money that they are meaningless to most of us, in order to keep our savings safe and the wheels of trade oiled.

For all the synthetic outrage over bonuses, those bankers and traders who got us into the mess have kept their sports cars and second homes, leaving the rest of us to stare into the abyss. This week we heard lots of pontification about the dawn of a new age of responsible capitalism. Sure, there will be the reimposition of some controls on capital and finance, but the idea that the temporary nationalization of banks is the start of a reinvigorated state is totally delusional.

It is worth remembering that the last British and American politicians who stepped in to bail out financial institutions were Margaret Thatcher and Ronald Reagan, when they salvaged Johnson Matthey and Continental Illinois during the recession of the early 1980s. They were hardly renowned statists.

In the current cold climate, policy will be driven by economic reality rather than political rhetoric. Look at Japan, where a decade of stagnation means that the government has one-fifth less to spend than it did a decade ago. Then look at the UK, where whoever wins the election will face a hole in the region of £80 billion in the public finances – to be filled at a time when revenues are plummeting.

Many public services remain woefully inefficient, but it is going to take more than a few efficiency savings and the sale of our canal network to repair the damage when there is a national debt of £1 trillion to service. The head of the audit commission has already warned that the dark years of the mid-1970s ‘may look like days of wine and roses quite soon’.

To put that £80 billion figure into perspective, the government’s credit crunch could be solved with an 18p rise in income tax — although this would be accompanied by increased tax avoidance, so better make it 20p to be safe. Or it could remove perhaps half the employees from the state’s £153 billion wage bill — although there would be immense redundancy costs and, in all probability, rioting in the streets.

If the green shoots take longer than expected to appear, there will be unprecedented public-sector turmoil. Even if green shoots blossom with unexpected speed, taxes are going to rise substantially and the public sector will be savaged whoever wins the next election. We can abandon ID cards, scrap the Olympics and ditch Trident — and still the only debate will be over which taxes to put up and which services suffer the most. The state has run out of money for a generation.

The Labour MP Frank Field warned that the looming cataclysm will change the very nature of government. But as social democrat dreams are dashed and the state cuts spending, who will fill the gaps created in health provision, pensions, social care and transport?

The private sector, of course, with ambitious entrepreneurs devising new ways to make fortunes as the state is eroded, moving into areas that would have made Thatcher blanch. And they will be aided and abetted by the next wave of bankers and financiers devising clever new ways to maximize the return on capital regrown at our expense.

The pursuit of capital is always prone to excess, which is why there are bubbles and downturns and why even the most laissez-faire economist believes in regulation. This correction is especially painful. But the real story of this global crisis is that the state unleashed the bankers, then crippled itself ensuring that they could carry on with their business. The end of free-market capitalism? Don’t you believe it.

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