Capitalism After the Crisis

This is the title of an essay in a new publication called National Affairs.

It is a new quarterly publication that perhaps is the successor to The Public Interest, which was started in 1965, but is no longer published.

In the essay, author Luigi Zingales examines the state of capitalism in the United States and the way that public attitudes may change with regard to it.

He wonders if the concentration of so much power in a few huge institutions which caused the crisis, and the bailouts of some of them, and of others, might move the US in the direction of European style corporatism and crony capitalism one sees elsewhere.

"Capitalism has long enjoyed exceptionally strong public support in the United States because America's form of capitalism has long been distinct from those found elsewhere in the world — particularly because of its uniquely open and free market system. Capitalism calls not only for freedom of enterprise, but for rules and policies that allow for freedom of entry, that facilitate access to financial resources for newcomers, and that maintain a level playing field among competitors. The United States has generally come closest to this ideal combination — which is no small feat, since economic pressures and incentives do not naturally point to such a balance of policies. While everyone benefits from a free and competitive market, no one in particular makes huge profits from keeping the system competitive and the playing field level."[My bold]

Of course, the true competitive market has no lobby. All the lobbyists are looking for a competitive edge granted to them by the government.[This is what keeps Congressional coffers full of money.]

American capitalism is special, and mainly because support for capitalism by the public is based upon the tenets that hard work, not luck, determines one's success, and is not contingent upon corruption. Many of our current billionaires made their money through hard work in competitive business with no government intervention.

Elsewhere, that is not true. Many billionaires come from countries where their government connections and concessions guaranteed their success, not initiative and enterprise.

"A healthy financial system is crucial to any working market economy. Widespread access to finance is essential to harnessing the best talents and allowing them to prosper and grow. It is crucial for drawing new entrants into the system, and for fostering competition. The system that allocates finance allocates power and rents; if that system is not fair, there is little hope that the rest of the economy can be. And the potential for unfairness or abuse in the financial system is always great."

This is why our Founding Fathers distrusted banks, and Andrew Jackson even created a severe financial crisis when he vetoed the Second National Bank Bill in 1837 because he saw the bank as an instrument of political corruption. This was because it was found to have tried to influence the election of public officials with its money and power.[Try going to http://www.opensecrets.org/ and check out the money given to political campaigns by the big banks. Jackson would be horrified.]

"The finance sector's increasing concentration and growing political muscle have undermined the traditional American understanding of the difference between free markets and big business. This means not only that the interests of finance now dominate the economic understanding of policymakers, but also — and perhaps more important — that the public's perception of the economic system's legitimacy is at risk."

And that is the problem. All the huge banks have so much influence, no matter who holds political power, that is creates a very serious problem. When we see the perpetrators of the financial calamity being placed in charge of curing it, and then granting their former companies huge benefits out of the Federal Treasury, it calls into serious question the integrity of both the Treasury and the large banks.

"We thus stand at a crossroads for American capitalism. One path would channel popular rage into political support for some genuinely pro-market reforms, even if they do not serve the interests of large financial firms. By appealing to the best of the populist tradition, we can introduce limits to the power of the financial industry — or any business, for that matter — and restore those fundamental principles that give an ethical dimension to capitalism: freedom, meritocracy, a direct link between reward and effort, and a sense of responsibility that ensures that those who reap the gains also bear the losses. This would mean abandoning the notion that any firm is too big to fail, and putting rules in place that keep large financial firms from manipulating government connections to the detriment of markets. It would mean adopting a pro-market, rather than pro-business, approach to the economy."

This is the right way to go. The concept of "too big to fail" must be abandoned, and continued bailouts of the worst perpetrators must be stopped.

Does our current government have the guts that Jackson had?

No. And neither does the opposition, the Republicans.

Go read the whole essay here.

Debt is capitalism’s dirty little secret

Ben Funnell has a commentary over on the Financial Times that makes some very interest and thought provoking points.

We have seen a huge concentration of wealth over the years into the hands of the elite, and this has been made possible by debt, which enabled the bulk of the population to maintains its living standards while it was occurring. This is capitalism's "dirty little secret."

He points out that incomes have increased for the highest 20% of earners by 60% since 1970, but have decreased by 10% for the rest. He points out that the Walton Family, of Wal Mart fame is wealthier than the bottom 100 million people in the US put together. If that is true, we have a problem, that is certain.

He goes on to say:

"Put simply, the benefits of economic growth have gone into the pockets of plutocrats rather than the bulk of the population. So why has there been no revolution? Because there was a solution: debt. If you couldn’t earn it, you could borrow it. Cheap financing was made widely available. Financial innovations such as the asset-backed securities market aided this process, as did government-sponsored agencies such as Fannie Mae and Freddie Mac. Regulators welcomed it all while perhaps taking insufficient account of the moral hazard problem it posed: that ever-increasing leverage meant the authorities had to keep interest rates low, otherwise the debt burden would cripple consumption. This prompted more leverage, which exacerbated the problem."

Now here comes the crash, so what do we do? The debt is no longer available to help cover the problem.

"What can be done? First, although it is not ideal, we should not be too hasty about abandoning the capitalist model. It is less bad than any other system yet invented. But we should redouble our efforts to increase productivity through innovation and creating new markets; simply squeezing lower-income workers is a bad option, which helped get us into this mess in the first place. This requires investment in education and research. Second, we have to learn to live within our means. This means spending less than we earn, perhaps doing without the BMWs, flat-screen television sets and leather sofas. Third, we should be careful in distributing the higher tax burden that we will inevitably have to bear over the coming decade. Very high marginal tax rates did not work in the 1970s and will not work now. That said, income disparity at current levels is a political time-bomb that needs to be dealt with. Finally, we should all come to terms with the fact that these are structural issues needing structural solutions; they need to be enforced over a longer time period than any one government’s term. So we need a new political consensus, one aimed at reducing overall debt levels while reducing inequality by encouraging education, entrepreneurship and investment in innovation."

So, do we need a political revolution? Both of our political parties are tied to the old paradigm. If this is the problem, neither one of them is really positioned to do the right thing. They are both bought and paid for by the special interests that have gotten us where we are.

The changes he proposes, if his premise is correct, will be difficult to implement. Every politician in DC and every bureaucrat working for the government has a vested interest in the staus quo.

This seems to be something we should research. If he is right, our democracy can't last long without changes.

The last of his recommendations, which I have boldened, should be done whether or not his entire premise is correct.

If so, who will lead the revolution?