Feb 19, 2008
The following article is translated from an article appearing in February in Issue No. 111, Lutte de Classe (Class Struggle), the political journal of Lutte Ouvrière (Workers Struggle), the French Trotskyist organization. It is followed by an article that updates the situation and focuses on the impact on workers in the United States.
Five months after the outbreak of the socalled “subprime” crisis (named after U.S. mortgage loans that will never be paid back), the international financial system has just received a new jolt. On January 21, 2008, financial hubs all over the world were hit by a new crash that sent stock prices tumbling down.
This financial storm hit stock exchanges one after the other, starting its course in Asia. The minute it opened, Tokyo’s stock exchange, the second biggest financial hub in the world, lost 5.7%. Then came Hong Kong, Bombay and Seoul with losses of 7%, 8.4% and 4.4% respectively. In Europe, London, Frankfurt, Madrid and Paris also took a tumble, their indices losing between 5.5 and 7.5% on January 21, and 2_to 5% the following day. In the U.S., it was a national holiday and the stock markets were closed. The next day, the U.S. Federal Reserve was able to stop the crash from continuing by slashing short-term interest rates by three-quarters of a percent.
A wave of irrational fear spread throughout the financial system. Everyone tried to sell their current stocks and bonds to buy only the safest investments, seeking refuge in U.S. Treasury bonds or the Swiss franc.
The hardest hit stocks were those of the banks, and their predicament caused many other losses, including among the stocks of industrial companies. This genuine “clearance sale” of bank stocks was a logical consequence of a situation where distrust of the banks is growing. Since August 2007, the banking system has failed to overcome the repercussions of the subprime crisis.
Let us recall that the present crisis began with the burst of the speculative bubble that developed in the U.S. real estate market and grew bigger and bigger for four years, encouraged as it was by the low interest rates set by the Federal Reserve (or “Fed,” the U.S. Central Bank).
Able to advance loans under what appeared to be advantageous conditions, banks and mortgage companies urged their clients to buy. The steady increase in real estate prices pushed people to buy a house or apartment and, therefore, to take out a mortgage loan secured by their property.
But the situation soon took a sharp turn for the worse. The real estate market stopped expanding. Despite the fact that it was boosted by easily available credit, the housing demand petered out. Instead of rising, prices began to plummet. Many borrowers realized that the banks’ easy credit conditions concealed a trap called interest rate “resets.” The borrowers’ increasing interest rates meant their payments became more and more expensive. In order to face up to their commitments, a growing number of home owners were forced to sell their property. Moreover, they had to sell it for less than what they had paid. The growing number of people selling their houses weighed on an already saturated market, causing prices to fall. Today, there are already more than a million families who, after experiencing the thrill of having a house of their own, have been brutally dispossessed and submerged in debts.
Let us also recall that the crisis was not limited to the U.S. real estate sector and did not simply threaten a small number of banks specializing in mortgage loans. It spread to the rest of the world, because the pieces of paper representing the worthless real estate debts had been mixed with other pieces of paper. In other words, they had been “securitized,” that is, transformed into securities. And nobody, including financiers, knew exactly what they represented. But the financiers knew that these securities were losing value because the subprime loans included in the package were worth next to nothing. The rotten apple had spoilt the whole barrel.
During the growth of the speculative bubble, these securities had fostered the irrational hope that they could forever be sold at a higher price, bringing a much bigger return. But when it became obvious that debtors would not meet their obligations, any securities that contained a share of the U.S. global mortgage debt became valueless pieces of paper.
Most of the world’s wealthier banks owned a share of these securities. They all knew it was a risky thing to do, but when the market was bullish, speculating on these securities was so profitable that the demand went skyhigh.
But when the market brutally turned down, the losses caused by these securities made big holes or even bottomless pits in the banks’ accounts. To give but a few examples: the losses of Merrill Lynch and CitiGroup amounted respectively to 24 and 22 billion dollars; Switzerland’s UBS bank lost 14 billion; Britain’s HSBC 10; France’s Crédit Agricole 4.9 and Germany’s Deutsche Bank 2.3.
Now securities in general play a role in the dealings between banks, which use them as a support and guarantee for their daily transactions. But when each bank feared that the other bank’s securities were contaminated – and thus no longer reliable – they stopped lending each other their excess liquidity, bringing about a liquidity crisis.
According to a banker quoted by L’Expansion, a French business monthly: “Two banks belonging to the same group even refused to lend each other money. The interbank market which accounts for practically all the money exchanged between banks has been paralyzed since last summer.” He concluded by saying that “this is unprecedented, at least over such a long period.”
For the time being, the lack of trust has not spread to those who have deposited their money in the banks. With the exception of Britain’s Northern Rock bank, we have not seen masses of depositors running to their bank to withdraw their money. Not yet. Such a massive reaction would inevitably bring about a financial debacle because there is no way the banks could reimburse all their clients.
Now, the current distrust – even if it remains limited to the banks themselves – and the ensuing costlier credit alter the functioning of the economy to the extent that the central banks – or, in other words, each country’s state – have had to come to the rescue, offering credit facilities to compensate for the banks’ reluctance to lend each other money at a reasonable rate.
The Federal Reserve, the European Central Bank (ECB), the British and Japanese central banks quickly intervened. Within a week, they offered a first wave of credits to relieve the banking system of a total of 300 billion dollars – or more.
But that was not enough. What was first presented as a temporary injection of oil in the system’s machinery, to facilitate interbank transactions and restore the daily exchanges of loans and payments at a reasonable rate, became a fullblown treatment. With the approach of the end of the year, when banks publish their yearly balance sheets, the central banks had to intervene again to prevent a series of bankruptcies.
In just one night, between November 17 and 18, 2007, the European Central Bank announced it was offering credits at a low rate and immediately put 349 billion euros at the banks’ disposal. Within a few hours, 390_banks asked and obtained the credits they wanted.
For six months now, the central banks’ interventions have become the banking system’s lifeline.
The more optimistic economic commentators explain banking’s crisis of confidence by the fact that bankers have failed to address all the consequences of the subprime crisis. Some of them have weeded the bad elements out of their accounts and have written off their contaminated securities as a loss, but others have not. This is why, on February 9 and 10, the G7 finance ministers asked all of them to publish the exact amount of their losses. To no avail.
It is a bit strange to see the G7, which is supposed to be the political elite of the imperialist world, begging the banking system to be a bit more transparent! The system’s opaqueness, in other words, the secrecy surrounding banking and business, is in the end a threat to the capitalist system itself.
But the financial system is facing a bigger challenge: the present distrust is not only due to U.S. mortgage loans but to other securities as well, including those given high grades by rating agencies – whose shortcomings were revealed by the subprime crisis.
The messy failure of rating agencies also played a role in the financial crisis. Following their fiasco, they started being more severe, not only with a number of banks, but also with bond insurance companies, lowering their ratings. Companies that insure bonds offer the bonds’ owners a guarantee against the drop in the value of the securities or bonds they insure (for example, those containing a tranche of junk real estate bonds). However, when a bond insurance company loses its AAA rating, the credits it has insured also lose part of their value, which affects the financial situation of the banks or companies that own them. This explains why, according to the February 18 issue of the economic daily Les Échos, the investors who put money in these bonds “fear a second shock wave.”
Addressing the consequences of the subprime crisis would be very costly – 100 billion dollars, some said at first. But, as time passed, the figure was revised upward. Following the G7 summit, the business press talked about needing at least 400 billion dollars. And that is not the end of the story.
According to the chief editor of Le Figaro’s economic pages: “Even if the subprime crisis turned out to cost 400 billion dollars to the U.S. and international financial system , as is now generally admitted, we’d be facing a painful but manageable situation.”
Let us quickly note the cynicism of Le Figaro’s chief economist. For this gentleman, the loss of 400 billion dollars is purely an intellectual problem. The price that has already been paid by the working class, inside and outside the United States, as speculators throw fortunes down the drain of the financial system doesn’t concern him. While he and his ilk are examining the ways and means of “managing” the crisis, General Motors, one of the biggest companies in the world, is doing its best to get rid of its high seniority workers, who still enjoy wages and benefits that are now deemed outdated. GM wants to replace them with a new generation of workers at half the wages and much lower benefits. In other words, the total income, counting benefits, of a GM worker will be only one-third as high as what it had been previously! That’s three workers for the price of one! There are also the nationwide job cuts and the suppression of social benefits for millions of workers.
So even if it were limited to the subprime crisis, the present financial crisis is already an immense mess for which the capitalist class is forcing the workers to pay the price.
However, the present crisis could also be the forerunner of a much more severe crisis.
The securities based on U.S. mortgage loans turned out to be a load of junk when the housing bubble finally burst. But other speculative products invented by the financial system might also be the same. Other kinds of bonds might be rotten to the core as well.
Already, a lot of financial products, in addition to those infected by the subprime loans, have become unmarketable and cannot be sold except at a heavy loss, even though they were easily sold as recently as last summer.
For the past two decades, the capitalist system has been able to compensate – at the expense of the working class – for the falling rate of profit that characterized the first phase of the crisis in the 1970s. However, the profits that were thus restored were not reinvested in production. The owners of capital, permanently on the lookout for profitable niches, swelled the financial markets. The financial system invented new and ever more sophisticated “products” aimed at allowing those who bought them to get a bigger slice of global profit. It developed new functional organs to operate on the speculative markets, the socalled “investment funds.” As the total profit available swelled up and financial products became more and more numerous and risky, the overall productive output, in other words, the system’s genuine source of wealth, developed little or not at all.
After January 21, commentators stressed the “market’s anxiety,” replacing what former Fed Chairman Alan Greenspan once called the “irrational exuberance” of the market. In other words, they admitted that in today’s situation, the people who have a lot of money to place are at their wits’ end.
Those who now shun the securities based on U.S. subprime mortgages are feverishly looking for other investment opportunities. But where are these to be found? Raw materials (metals and foodstuffs alike) appeared to be the best bet. As a consequence, the prices of raw materials went skyhigh, and the shares of the companies that were active in the sector or controlled the trade of raw materials attracted new attention. However, these sectors are not big enough to absorb all the available capital, which is erratically moving from these securities or shares according to the latest information on the good health of one company, on the profits expected by another conglomerate or on the hardened stance of this or that oil- or coffeeproducing country. It would not be surprising to learn that some speculators rely on horoscope study or numerology or tea leaf reading to decide where to invest the huge sums of money at their disposal! As was revealed by the affair of the trader working for France’s Société Générale, wealthy banks tend to hire mathematicians who have PhD’s in probability theory. But they are as incapable as any Tom, Dick or Harry of guessing where this crazy economy is going to end up tomorrow.
As a consequence, since last August, the indices have yoyo’d up and down until the brutal drop of January 21. Such unforeseen developments are bound to happen more and more frequently, given the astounding amounts of capital looking for investment opportunities and the extremely tenuous confidence that capital owners show for the existing securities.
The real threat for the global economy is that the bursting of the U.S. subprime bubble might bring about the bursting of the gigantic credit bubble, inflated by low interest rates and all kinds of derivative products invented by financiers. It totals 26 trillion dollars – according to the estimates of some economists (but nobody knows for sure). This figure is a world away from the 400 billion dollars involved in the subprime crisis.
When the mortgage loans crisis burst open, the leading thinkers of the capitalist world raised the following question: to what extent can the financial crisis affect the real productionbased economy?
Wrong question. The capitalist economy is a complex, interconnected entity, in which production and finance are intimately linked, even though, for two decades, the economy’s main characteristic has been the excessive growth of the financial sphere to the detriment of production.
On the one hand, the current financial crisis is the umpteenth manifestation of the chronic crisis of the capitalist economy that began 30-some years ago and is characterized by stagnation and the low rate of growth of production.
On the other hand, each of the financial crises, stock market or monetary, over the last 20_years has been accompanied by a more or less large decline in production. Such was the outcome of the 1987 stock market crash, the 1990 crash in the junk bond market and the savings- and-loan crisis, the 1994 crash of the U.S. bond market, the 1997 Asian crisis, the 1998 Russian and Brazilian crises and the crash of the Long Term Capital Management hedge fund and the 2001 bursting of the Internet bubble.
Without stock markets, banks, financial institutions, insurance companies, etc., the capitalist economy could not function. Speculation itself is part and parcel of the capitalist system.
The importance taken on by finance capital in relation to industrial capital is as old as imperialism itself. Lenin already saw it as one of the main features of the imperialist stage of capitalism. But the hypertrophy of finance in relationship to production has reached unprecedented levels during the last three decades. And speculation involves equally unprecedented sums of money.
Moreover, deregulation has suppressed the specialization of the various economic sectors. The gigantic capitalist conglomerates that dominate the economy worldwide are involved in production as well as in finance – but they definitely have a preference for the more profitable of these activities. Not only have the differences between commercial banks and investment banks disappeared; but insurance companies are more and more involved in the same activities as banks. Banks sell insurance policies and insurance companies offer bank services.
The big industrial companies themselves have at their disposal enormous amounts of cash that they do not invest in production, but in financial operations – either through specialized affiliates or through their own financial divisions. The amount of cash that industrial companies have on hand is so large, it is often bigger than their capital stock. If these big companies actually kept this cash in bank accounts, they would have to permanently watch the exchange rates between various currencies, trying to anticipate their fluctuations – in other words, to speculate. So they transform this cash into securities that they own and sell, which could include risky ones, as long as the operation is profitable. The infamous “hedge funds,” often accused of being responsible for many financial routs (notably the subprime crisis) and whose main activity consists in speculation (including on risky products), are generally offshoots of the big banks. And the money with which they speculate comes not only from the bank accounts of wealthy individuals but also from the big companies’ cash flow.
In fact, all big companies, whether they are in such sectors as production, trade or banking, have been drawn into this speculative madness.
The present interbank credit crisis has automatically affected industrial companies, which regularly lend or borrow money. The fact that money has become more difficult to get at a reasonable rate has inevitably slowed down production, and even more so investments in production.
Production has been affected by the financial crisis. That is no longer a mere hypothesis. Indeed, the entire economic press, commenting on the official statistics published on February_1, underlined the fact that there was a net loss of jobs in the United States for the first time in five years. And the development of the real estate crisis was not only marked by the bursting of the speculative bubble, but also by a 20% fall in construction. As a consequence, construction workers find themselves unemployed, so their overall consumption is reduced, aggravating the recession – and not only in the United States.
In a February_11 interview published by the French business daily, Les Échos, Felix Rohatyn, former U.S. ambassador in France and presently an investment banker at the Lehman Brothers investment bank, was asked, “Is this just another financial crisis?” His response was: “This crisis is different. It is more worrying and dangerous.… Our traditional industries, like automobile, are going through hard times. Real estate and construction are in bad shape. And now, the financial sector is hit. Three key sectors of our economy are simultaneously impaired.”
The French newspaper, Le Monde, quoted a University of Paris professor of economics thus: “The United States is going to relive The Grapes of Wrath, and there is no way for Europe to remain untouched.”
This pessimistic vision is, of course, as uncertain as the overoptimistic forecasts of political leaders. The former’s guess is as good as the latter’s. In fact, nobody knows for sure what repercussions the financial crisis will have on production, and certainly not those who direct the economy.
One of the most despicable consequences of the financial crisis is the crisis in food that is affecting not just the “real economy,” but real people’s living conditions. Food price hikes have dramatic consequences for the laboring masses in the imperialist countries, and are even more catastrophic for the population in the poorer countries. The prices of corn and milk have gone up by 20 to 30% in one year. Wheat prices are double what they were in 2007 and soybeans are 75% more expensive.
Bourgeois economists often explain this by socalled objective factors, such as the growth of the world population, global warming, arable land turning into deserts, an abnormal drought in Australia, the development in immense poor countries like China and India of a petty-bourgeois layer of people who have enough money to buy more consumer goods. But these factors are “objective” only in a capitalist economy, that is, in an economy geared at satisfying the solvent demand, that is people’s ability to pay for something, and not people’s real needs.
The notion of solvency itself takes on special meaning with speculation. Wheat, corn, rice or palm oil are all the more attractive for owners of capital who fled real estate because demand in these fields is naturally increasing. The demand of speculators is added to the demand of those who simply want to eat, and upsets the balance between supply and demand.
The stark increase in the price of oil has made maritime transport costlier and contributed to the increase in the price of cereals on the international market. It also makes biofuel much more attractive for speculators.
The senior director of the United Nations Development Program was quoted by Le Monde as saying that “in certain African countries, palm oil is indexed to the price of oil.... Africans can no longer afford palm oil.” Commented the French newspaper: “Sugar, corn, manioc and oilproducing plants are no longer viewed as foodstuffs.”
While millions of people were driven into famine, the cover title of a recent issue of Le Revenu, a French economic weekly, ran: “The Boom in Agricultural Prices: an Opportunity to Profit.” It noted with delight that “the prices of agricultural raw materials are on the increase, compensating for the stock exchange’s doldrums.... There are many new investment opportunities open to the general public and prices are expected to continue to rise in 2008.”
Big speculators do not need that kind of advice. They are the ones who push prices up by buying entire harvests in advance in order to sell the pieces of paper that correspond to these purchases, making a profit every time there is a transaction.
The manager of an international governmental organization present at Davos, the very chic rendezvous of the VIP’s of the world, told Le Monde, “governments are much more preoccupied by this phenomenon than by the increase in the price of oil.”
They have good reason to be worried. There were food riots last year in Mexico, Yemen, Morocco, Mauritania, Senegal and Uzbekistan. The Davos crowd dances on a volcano. And if nothing changes, the volcano will inevitably explode.
From the viewpoint of the financial and industrial conglomerates that dominate the world economy, however, things are fine. Except for a number of big banks, most of these corporations have already announced that their profits for 2007 are comparable to those of 2006. And for the time being, the banking system does not seem too worried. For instance, the Société Générale’s CEO, in an attempt to reassure his bank’s stock owners (shocked by the ghastly loss of five billion euros by a single trader), declared: “As you can see, our bank is sound since, despite the loss, it yielded a huge profit in 2007.” As for the most threatened financial “firms,” that is, those directly involved in the speculation that led to the crisis, they are reassured: the central banks will not let them down. They will even help them get out of debt – all in the interests of the whole global economy!
What’s more, not all speculators lost money in the subprime crisis and the stock market crisis that followed. Some considerably enriched themselves, by speculating on a stock price decrease!
But, as danger looms larger, more and more capitalist masterminds talk about adopting protectionist measures and, above all, of establishing regulations and state control.
Economists who claim some sort of agreement with anti-globalization activists are, of course, the first to do so. In a special issue of Alternatives Economiques, published in February_2008, the editorial writer stated: “There is no inevitability here. These crises are not necessarily bound to repeat themselves for ever.” He then explains that the model to be followed is what was put in place after the 1929 crisis: by the Bretton Woods Agreement, the Marshall Plan and the establishment of state regulatory authorities. He notes that state control was widespread after World War_II: “In order to prevent the return of crises, the developed countries put financial activities under close political control.” He even claims that the 30yearlong boom that followed the war was due to the existence of regulatory mechanisms. But he fails to explain why such a marvelous system has been replaced by today’s global deregulation!
Other economists, who are Communist Party (CP) or Socialist Party (SP) supporters, have published a special report in the CP’s newspaper, L’Humanité. Each one has his own recipe like “discouraging loans to speculators,” “creating watertight compartments between financial sectors,” “calling into question the total freedom to create new financial instruments” or rebuilding “a public banking service that would stimulate a moralization of the system.”
Felix Rohatyn’s position in the Les Échos interview cited above has the advantage of being unequivocal. Obviously, Rohatyn, a wellknown member of the United States establishment, does not claim the slightest agreement with socialism, communism or anti-globalization. He sympathizes with the Democratic Party, but he also proudly states his preference for the capitalist system, in the cynically brutal style of those who do not bother to hide the fact that their reasoning is related to the interests of big capital: “We sometimes tend to forget that Roosevelt and his New Deal probably saved capitalism. Without his intervention during the Great Depression years of the 1930s, America could have shifted towards socialism. Today, we are generally hostile to the intervention of the state, which is considered per se as bureaucratic. But the present series of deregulations show that we cannot rely entirely on the market! In a country where bridges collapse, roads are rundown and a hurricane called Katrina can destroy a city like New Orleans and become a symbol of the government’s powerlessness, can we pretend that the state no longer has a positive role to play? The New Deal showed that the government can intervene without fundamentally altering the system. What we need today is another New Deal.…
“What America did in the past can be done again. The basis of our economy will always be the private sector, but we must not forget that this country was also built thanks to the state’s investments.… It has been calculated that we need 1.6 trillion dollars over 5_years to bring our basic infrastructures up to level.”
This declaration is nothing less than the homage vice pays to virtue.
Even in ordinary times, the capitalist economy is incapable of guaranteeing the minimum resources needed for its functioning. Without a state representing the general interests of the bourgeois class, the whole economy would go under.
However, it will not be easy to return to a more regulated system. Having regulations implies a state to enforce them. And each imperialist state has done so in the past in its own fashion: there was the New Deal, France’s nationalizations under the Popular Front, Germany’s economy under Naziism.
But regulating the economy on a worldwide scale poses much bigger problems. The present endless talks about the regulations that should be imposed on the banks show that the interests of the United States differ from those of the European Union and that inside the EU itself, the main imperialist powers have diverging interests. It means that any new set of rules would inevitably obey the law of the strongest. It means to the profit of the strongest ones and to the detriment of the weaker capitalist countries, but also and above all to the detriment of the working class everywhere.
There is a debate today over a possible return to more regulations and a greater measure of state control, presented by some policy makers as the best way to save capitalism. Whatever the outcome of the debate, or rather, whatever is finally imposed on imperialist states by economic and social circumstances, the working class will be asked to bear the brunt of the economic downturn.
Society as whole will also have a lot to lose. Each new crisis, even when it is not as dramatic as in 1929, entails a considerable waste of wealth. How many millions of people could have satisfied their basic needs with the hundreds of billions of dollars that recently went up in smoke? How many underdeveloped regions of the world could have built adequate infrastructures? How many decent houses could have been built? How many schools, hospitals and clinics? How many women, men and children could have escaped chronic malnutrition or famine?
The only perspective for protecting the productive classes from poverty and society as a whole from a new period of severe crises is not to aim at remodeling the capitalist system, but at replacing it with a more rational, more equitable social and economic system. The working class alone has the potential to go up to the end of this road, expropriating big capital and laying the foundations of a new economic organization, based on collective ownership and planning of the major means of production – not on private property, the market and the race for profit.
It is still necessary to keep this perspective and this program alive so the working class, when the moment comes, can grab hold of them.