Tuesday, September 16, 2008

On a knife edge

The Financial Times puts it like this: “The world has not ended. The international economy has not yet collapsed. But one thing is now quite clear: the banking system as we know it has failed.” Note the “yet” because the financial earthquake that produced the collapse of Lehman Brothers and Merill Lynch will claim more victims and translate into economic slump.

The American International Group, a global insurance company that sits at the centre of the world’s financial system, is on a knife edge. Others in the sickbay include Goldman Sachs, Morgan Stanley and the HBOS bank in Britain. “The locusts may be running out of big names to attack, but there are still some big names in the market’s sites,” said Alan Ruskin at the RBS Greenwich Capital.

After a series of spectacular rescues, starting a year ago with Northern Rock, the world’s central banks have reached the already-stretched limits of possibility in their attempts to avert disaster. They can only stand and watch as the laws of the market take their toll on debt-laden financial institutions that are unable to keep their operations going.

On Friday, Lehman Brothers was an investment bank with $42 billion of liquid assets. By Monday it was bankrupt. Why? Lehman Brothers had invested 35 times the value of its capital in a variety of exotic instruments that few people understand. The bank depended, however, on constant refinancing. But with great holes appearing in the balance sheet, the loans dried up and Lehman Brothers was suddenly a financial king with no clothes.

Joseph Stiglitz, Nobel prize winner in economics, and former senior chief economist of the World Bank says: “The present financial crisis springs from a catastrophic collapse in confidence.” According to Stiglitz it is “the fruit of a pattern of dishonesty on the part of financial institutions, and incompetence on the part of policymakers”. He should know. It was the objective, law-governed pressure for the expansion of capital that transformed the role of the World Bank and created new institutions like the World Trade Organisation which obliged governments to reduce and eliminate regulation.

As we explained last year, in A House of Cards, the disintegration began in 2005 when the frantic period of credit-fuelled growth that had produced globalised corporations reached the limits of the markets. Consumers, who had been equipped with new ways to accumulate debt so as to buy the torrent of cheap commodities needed to fill their newly-acquired mortgage-funded properties found themselves at the limits of their ability to repay even the interest on their mountainous loans.

So came the collapse of the pyramid of exotic, toxic, derivative financial products which had been invented to provide a mirage of wealth. But, just like the highly-profile “extenders” used to cheapen and debase the food we eat, they too had no real value. Instead, just as we have been poisoned and weakened by “food” consisting of fats and sugars, these worthless financial products poisoned and weakened the real, productive economy.

What to do? The Financial Times says things have begun so bad “as to render a coherent regulatory riposte impossible”. We agree. The financial and economic and social system based around production for profit is broken. It is beyond repair and must be replaced. It means moving rapidly to a system based around social ownership, and the identification and satisfaction of need. Only then will we be able to begin to repair the damage done to the planet’s eco-systems by decades of wilful destruction by credit-crazed capitalist corporations.

Gerry Gold
Economics editor

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