The Nation 98/10/19
THE GLOBAL CRISIS DEEPENS: NOW WHAT?
BY WILLIAM GREIDER
As the crisis deepens, the crumbling self-confidence of the US establishment is reflected in the poignant headline over a Washington Post editorial: "Don't Quit on Capitalism Yet." The newspaper is pleading with nations like Malaysia and Russia not to abandon the free-market principles that brought them to ruin.
Business Week, meanwhile, offers a brisk action plan for halting the economic destruction. Half of its proposals--economic stimulus from cutting interest rates and taxes--seemed farfetched to conventional wisdom when they were first elaborated ten months ago. The financial press was then celebrating the triumph of the American way over those defunct "tigers" in Asia.
And the Wall Street Journal runs a front-page article on the merits of capital controls that reads like a lengthy correction. For many months, the Journal reassured its readers that the US economy had entered a "new paradigm" of recession-free prosperity. It led cheers for the mantra of US policy-makers: The collapsed economies could save themselves only by adopting the Washington model of freewheeling, unfettered markets. Now the idea of controlling cross-border capital flows no longer seems so heretical, since the Journal has found that controls are protecting some developing nations from the "hot money" panic that has torn up so many other economies.
Even the disabled President makes a timid start at acknowledging the new reality. Bill Clinton, in a speech in September to the Council on Foreign Relations, calls for an international conference of finance ministers to discuss the crisis and asks major central banks to consider reducing interest rates jointly. In these terrible times, one longs to have a Democratic President (the old kind, not the new variety).
This creeping self-doubt among the government elites is progress, of course, but it mainly mirrors the bearish confusion in financial markets. Respectable opinion did not admit the ominous nature of global events until that icon of US hegemony--the Dow Jones average--started unraveling too. Leaders of US government, business and finance are still behind the curve--dangerously so--because they still assume that, with a few deft policy adjustments, the global economy can be restored to "normal."
There will be no return to normal, not in the terms that financiers and economists envision. The global system will either be reformed in fundamental ways or we will watch passively as the destabilizing dynamics of unregulated markets continue to deliver random destruction around the world, compounding the loss and misery for innocent bystanders. As the political turmoil accumulates, so will the conflict among trading nations. For better or worse, the global system is going to be profoundly altered by these events (if not utterly smashed).
What the world needs now is a "bank holiday"--a global equivalent of the shocking intervention that Franklin Roosevelt delivered during the first days of his presidency in early 1933. Close everything for one day--banks, brokerages, financial markets worldwide--while, overnight, major governments announce new operating terms for the global financial system and simultaneously launch a vigorous reflation of currencies, prices and economies. A contemporary version would require stimulative economic measures on many fronts and emergency suspension of the usual standards for orderly finance and commerce.
The urgent objective is to pull the global economy out of this muck--before everything gets stuck. A deflationary spiral is far more difficult to reverse, once under way, than it is to avoid with timely ameliorative action.
The symbolism matters. Governments must declare a holiday from the bankers--a political escape from the smug conservative orthodoxy that has ruled public life for twenty years, the hard-money ethic that trampled competing values like equity or social stability and effectively shifted governing power from elected politicians to the unelected technocrats at central banks and in private corporations and finance. The current crisis is the logical consequence of blind faith in the marketplace as the most efficient governor of society. Recovery requires heretics in high places.
Here's a short list of what major governments can do quickly to reverse the unraveling if they can find the courage to assert their power over the markets:
§ Cut interest rates right now. Mobilize emergency tax cuts, skewed in a very progressive manner so that the money is put swiftly in the hands of wage earners who will spend it. Accelerate public works and other spending projects. Accept the unorthodox reality that running significant budget deficits, at least for a few years, is now the therapy, not the disease.
§ Dismiss the failed leadership at the International Monetary Fund and install a group of pro-growth business executives to run the place, empowered to reverse course. No one has been more wrong than the IMF about the nature of this crisis or how to stop it--except perhaps those leaders at the US Treasury who tell the IMF what to do. A new IMF team would scrap the austerity plans and instead lend to struggling nations only if they devote the capital to stimulating recovery in their real economies of production and consumption (some Koreans or Brazilians should be included on the team to win credibility among the scared and skeptical developing nations).
§ Central banks and bank regulatory agencies (the Fed is both) should temporarily relax balance-sheet rules for commercial banks--that is, reduce the global capital standards for banks or even reserve requirements--so bankers will have plenty of breathing space to restart international lending. If nervous bankers still hesitate, regulators should muscle them into line.
§ The G-7 industrialized nations must accept the necessity of developing countries' adopting emergency controls on capital flows--a temporary insulation that will allow nations to recover from the storm without being overwhelmed by the panicky flights of manic capital. The same regulatory authorities leaning on the bankers should broadly warn the capital markets that speculators may get whacked with increased margin requirements (drying up the borrowing leverage that fuels their "hot money") if they do not exercise more self-restraint in these dicey times. They should also hint that the offshore banking havens where global financiers park their capital are suspect institutions and perhaps ought to be shut down.
§ A global "reconstruction finance corporation," roughly like the one in FDR's New Deal, should be established to supervise friendly work-outs between creditors and failing corporations, with substantial capital posted by major industrial nations to help in the process of repackaging the mountain of bad debts and reliquefying credit-starved enterprises, until the time when private financial systems are able and willing to resume that role. With new leadership, the IMF might fulfill this function.
§ There should be a general debt forgiveness by the IMF and World Bank for the forty poorest nations. This will have only a mild stimulative impact, but it sends an important statement of good intentions to the entire world. When the global system gets out of this mess, it will not simply return to the old rapacious forms of creditor conquest.
§ In the case of these transactions and some other measures, the United States and other industrial leaders should demand a crucial codicil: If the wealthier, healthier economies are going to lead and finance global recovery, then every borrowing nation and corporation must sign on for fundamental reforms in the aftermath. If the global system's leaders try to restore the status quo ante without moderating the unstable dynamics, then the systemic contradictions will lead us yet again to crisis and breakdown.
The debate among peoples and nations begins now. A new Bretton Woods understanding, one that serves both rich and poor nations, must wait until we get out of this ditch.
My melodramatic proposition sounds extreme, of course, or at least absurdly premature. After all, when FDR launched the blizzard of eclectic initiatives that began the New Deal, the United States--and the world economy--was already in depression. During the four years of inaction following the stock market crash of 1929, recurring waves of contraction and bankruptcy swept through the US economy, pushing unemployment toward 25 percent and wiping out nearly half of America's commercial banks. Why should anyone regard the present moment of full employment in such desperate terms?
Because Roosevelt's New Deal recovery plan was already too late--four years too late--to avoid the massive dislocations and suffering of the Great Depression, to avert the utter breakdown of the international trading system. That is the core point of our current dilemma--the fateful question of timing. Governments and politicians (as well as central bankers) are naturally hesitant to take extreme measures in the absence of desperate conditions. Yet if they wait to act until the malignant consequences are fully visible for all to see, then it may be too late again. The challenge for leaders is to have the guts to mobilize convincing economic cures before everyone can recognize the nature of the sickness.
To grasp the potential dimensions of the crisis, it helps to understand that three negative currents are loose in the world, each delivering damaging shocks and surprises in one region after another, with interacting feedback on one another. The first strand is a collapsing financial bubble--the failed investments and bad bank loans, inflated expectations and stock prices. This began in Asian financial markets, but its origins were always global--financial delusions fostered in New York City as much as Jakarta or Tokyo. Thanks to rising income inequalities (the wealthy accumulating larger shares of the economic returns), the world actually has a surplus of capital--and that encouraged giddy investors to take more wishful risks and plunges, investments increasingly detached from real-world prospects.
When illusions were shattered, it created the second negative current--the contractionary forces spreading now through the real economies. A huge, vital source of global demand was suddenly lost when Asian economies stalled out. The damage spread unseen to other nations in the form of glutted supply and falling prices--too much oil being produced for the shrinking market, too many computers or cars being manufactured for the available demand. So the shock wave suddenly turns up in Russia or Mexico, even Silicon Valley, because producers must cut prices to sell their output or shut down production and send the workers home (or often do both). Those defensive measures add to the downdraft--including a relentless decline in profits.
The abrupt loss in global demand compounds the fundamental problem of overcapacity that already exists worldwide--too many factories chasing scarce buyers. In nearly every major sector, the era of over-investment produced far more productive capacity than the global base of consumption can possibly absorb (a reality directly aggravated when companies shift high-wage production to cheap labor markets). The meaning is harsh and inescapable for the global system: Somebody somewhere must close lots of factories. As nations struggle to protect their own production base, the competitive devaluation of currencies can become a defensive weapon--artificially cheapening their exported goods so they can grab market share from others. That contest--desperately pushing the deflationary pressures off on some other nation--can become a deadly spiral, once it gets started.
The third negative current--the psychology of fear--is potentially the most explosive, but also the most impossible to track. When people are subjected to repeated shocks--economic setbacks the authorities did not foresee--at some point they may decide to hunker down in a defensive crouch, that is, stop buying and borrowing, stop investing and lending, stop building and producing. Whether they are consumers, corporate managers or bankers, the pessimism of not knowing from where to expect the next bad news can become a powerful depressant itself--the one that is most difficult for a struggling economy to shake off.
That gloomy condition roughly describes Japan's current predicament. Prices are falling, but nobody wants to buy; interest rates are near zero, yet nobody borrows. It is not that Japan hasn't tried major pump-priming and other measures, but whatever it tried was too late or too little to reverse the paralysis. A prosperous people, profoundly anxious, are sitting on their savings and waiting for the storm to pass--their economy caught in the "liquidity trap" that John Maynard Keynes warned about sixty years ago. In a broad sense, that is the ultimate threat facing everyone, even the United States. When governments do get around to reversing the downdraft, will it be too little, too late? When they promise recovery, will people believe them?
Right now, US policy seems dangerously at odds with itself. Obsessed with yesterday's demon (inflation), the Federal Reserve deliberately set out to slow down the robust American economy and it succeeded. The Treasury Secretary, on the other hand, urged Japan to revive its own economy with more Keynesian stimulus so it would pull the rest of Asia out of depression. The strategy smacked of US opportunism, since the Clinton Administration put the onus for reform and recovery on everyone but Washington.
Amid all these negative currents, was it really a good idea to slow down the largest, most vibrant economy in the world? The Federal Reserve actually added to the recessionary pressures. It has now finally started to cut short-term rates, when only a few weeks ago it was still claiming that inflation and a dangerously robust economy was the problem. The Fed's sudden change of heart is suspect: What might have caused it was the collapse of a high-flying hedge fund, Long-Term Capital Management, and the dangers that posed for the Federal Reserve's core constituencies--the major US banks and brokerages.
Is the central bank already too late? Those who think Fed chairman Alan Greenspan is an infallible economic manager should recall that the 1990 recession was inadvertently induced by him when he kept short-term rates too high for too long. Greenspan didn't see a contraction coming until it had been under way for three or four months.
Monetary policy aside, falling corporate profits may produce the same outcome. David A. Levy, an unorthodox economic forecaster who tracks profit rates as the key leading indicator, has been warning that the US economy faces a 75 percent probability of recession in the next two or three quarters.
If that does occur, the global economy may soon arrive at the fateful juncture where we find out whether this deflationary storm is turning into something far worse. A US recession would seriously quicken the negative currents because much of the world, led by Japan, is counting on the American market for their own recovery. They expect the United States to be the "buyer of last resort" that absorbs their cheapened exports and provides the demand stimulus that will reinvigorate their economies. If the United States is unable to play that role because its economy is contracting too, then all the desperate options are intensified for struggling nations--both protective measures to shut out foreign goods and more currency devaluations to keep their export prices cheaper than competing producers.
At that point, the deadly spiral beckons: Each player may do what seems necessary to save itself--nations, banks and companies--but such self-protective measures simply amplify negative currents for the whole. Governments will act, one assumes, but not necessarily in convergence. Some countries are already opting out of the unregulated global financial market, and more are sure to follow if the leaders of the global system do not offer them something more than old sermons on the virtues of the Washington model. The major central banks will reduce interest rates sooner or later--and substantially--but, as with Japan, their timing matters. If gloom has already swallowed up optimism, the stimulative impact may be disappointing. Central bankers will find themselves staring at the fact that they cannot cut interest rates below zero. Paralysis in crisis is what disgraced the Federal Reserve seventy years ago and persuaded many politicians and economists to belittle the power of monetary policy as "pushing on a string."
The basic policy question is: Which economic risks are you willing to accept in order to avoid another risk that seems more harmful? If the most dire consequences do not unfold, we may experience a painful global recession but nothing worse. In that case, if governments act too soon and aggressively to stimulate growth, it could complicate recovery or even produce an episode of price inflation, the old nemesis of the reigning orthodoxy. But the other risk is that, by blindly sticking to their orthodoxy, the governors of the global system may be ratifying a slide into the big swamp--historic losses that would be very difficult to overcome and that could even wreck the global trading system in the process. Put in those terms, the choice does not seem so difficult: Take the risks on the upside.
While the first challenge is avoiding catastrophe, that task cannot be separated from the long-term need to reform the global system so that its dynamic expansion will be more stable and equitable. In other words, if Washington expects to keep leading this system, it has to acknowledge what other nations are beginning to figure out for themselves: The present regime that Washington has long sponsored generates recurring crises and bloody surprises, especially for the poorer aspirants struggling to industrialize. Treasury Secretary Robert Rubin offers a vague assurance that "new architecture" is needed in the future, but a process of redesign is already under way, country by country, for better or for worse.
The cold war ended, but US elites have not yet grasped that this change loosens the bindings on its alliances and undercuts the supervisory power that the United States exercised for two generations. Renewing its position as global premier will not be accomplished by bombing a factory in the Sudan or terrorist camps in Afghanistan. It might be enhanced, however, if the United States opened the way for a new Bretton Woods compact that set more realistic rules for governing the global economy.
The priorities for reform are all bound to be extremely difficult, but the first test is whether US elites really do believe in a progressive global system or merely in their own opportunism. One stunning revelation in this crisis is how quickly US leaders in politics, finance and multinational corporations abandoned their own longstanding sermons on the inevitability of globalization, pretending instead that this crisis does not involve us. They seem to have gotten over that illusion.
But the hubris with which US business and banking leaders prescribe hard reforms for others and bargain-basement scavenging for themselves is sowing deep suspicions of US purposes elsewhere in the world. If the United States expects to lead, it must first restate, convincingly, its own commitment to fashioning a global system that is not based on neocolonial capitalism but truly is intended to be in everyone's long-term interest.
The fundamental problems a new Bretton Woods agreement must tackle involve finance, commerce and social relations--a much broader global understanding than the one fashioned from the rubble of World War II. Everyone, not just bankers and economists, should be at the table contributing to the "new architecture," everyone from labor and environmentalists to poor nations to social activists and religious leaders.
Finance. Given the instabilities and random destructions caused by unregulated global finance, what's needed is a new system of acceptable capital controls that will moderate--that is, slow down and perhaps channel--the manic qualities of investors without blocking the creative energies of international lending. Tony Blair has been brave enough to endorse the idea.
There are lots of ways to do this, including taxes on foreign exchange that would recapture some of the billions lost to societies through global tax avoidance. At a minimum, developing countries are entitled to some sovereign self-protection as they seek a maturing share in the industrialized prosperity.
Moreover, Milton Friedman's grand experiment--the harrowing roller coaster of floating exchange rates among national currencies--has to be abandoned as too costly, though this is a much more difficult problem. If the euro succeeds rapidly (surviving its own predictable crises), the basis will soon exist for establishing some sort of stable concordant among the three major values--dollar, yen and euro. That would give the world a framework for re-establishing more reliable relationships among all currencies. Such a system would exert its own discipline on nations and their economic policies, but that would be more rational and just than the folly-flight of manic capital.
Commerce and Trade. The core problem is the dynamics for expansion that yield persistent overcapacity in productive output, thus always forcing a race to the bottom for cheaper labor and political deals in which multinationals trade away jobs at home for market access abroad. Mature economies (not just that of the United States) will continue to experience recurring waves of deindustrialization, and political pressures to protect domestic industries are sure to intensify.
The terms of trade must be reformed to confront this continuing imbalance between supply and demand that depresses wages at both ends of the system. Acknowledging that labor rights are not different in law from property rights will begin the process of bringing up the bottom, rebalancing wage incomes with capital incomes everywhere and thus helping the demand side of consumers to catch up with the supply side of available output. Income inequality is an economic issue, after all, as well as the right thing to do.
At the same time, the trading system must confront the export-led model for growth that worked so well for Japan and some other Asian nations but that also guarantees the persistent overcapacity. The issue is not whether aspiring countries will have a national industrial policy guiding their development--of course they will, and why not? That is how the United States first built its industrial system in the nineteenth century.
The real issue is whether those fast-developing economies are permitted to prosper by riding free at the expense of others--exporting robustly while refusing to accept a reasonable share of imports. There is a legitimate remedy for this, but it involves the taboo issue of tariffs. The United States, as buyer of last resort, absorbs the heaviest costs of this unbalanced trading system through its persistent trade deficits (so do displaced US workers). But even wealthy America cannot pile up indebtedness forever.
Once the smoke from this present crisis has cleared, the United States should announce that either the trading system will work out some new rules requiring more balanced trade and compelling developing nations to focus more capital on domestic industrial development, not just exports, or the United States will act in its self-interest, invoking legal trade sanctions (including an emergency tariff) to correct its own financial imbalances. I believe it would take only a serious announcement of potential tariffs by Washington to convince everyone, including Japan, that trading relations have to change.
Social Relations. Banishing random inhumanities, from sweatshops to child labor to abusive and unsafe working conditions in the "dark satanic mills," is fast gaining political momentum as people grasp how this global system treats the weak and voiceless. No one expects utopian changes, but political leaders have to get serious about accepting the universality of basic human rights--free speech, for starters--and devising new rules that are enforceable elements in trade agreements. Otherwise, the political conflicts in the streets on these matters of human decency will swell until they become a market force of their own. Consider how, after years of arrogant corporate denial, a concerted campaign of progressives--plus falling sales--persuaded Nike to promise new respect for its own workers.
These and other propositions are not beyond the range of human invention, though they are now blocked by political inertia and stalemate, especially in the United States. If authentic reforms are ignored by stubborn orthodoxy, the global system may well evolve anyway in directions that undermine the status quo. One can imagine a balkanized collection of blocs emerging from the present turmoil--regional groupings that work out their own understandings of production and capital, no longer deferring to the direction of Washington or Wall Street. If the present turmoil deepens, one can also imagine much worse.
William Greider, the author of One World, Ready or Not: The Manic Logic of Global Capitalism, now available in paperback from Touchstone, writes regularly for Rolling Stone.
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