Confidence Games and Ponzi Schemes
The United States economy continues its plunge into the greatest financial crisis since the Great Depression of the 1930s, dragging in its wake the entire world’s financial system. What is the cause of this now world-wide economic catastrophe? Without a clear understanding of its root causes we will not be able to find a way out. Rather the crisis itself will be used to inflict even greater damage on its chief victims, working people here and around the world.
The explanation initially floated by the economists, the Wall Street financial experts, Democratic and Republican politicians and the entire news media was—excesses of the deregulation movement. The lack of government regulation and oversight allowed for greedy and irresponsible actions in the major financial institutions of the country. This led to the proliferation of new risky, exotic financial instruments especially in the home mortgage sector of the economy.
These new instruments lacking “transparency” were too complicated for the market to accurately evaluate. The usually efficient, unerring, invisible hand of the free market, they explained, was unable to perform its normal functions and the economy fell into the financial crisis.
This explanation of the financial melt down had certain attractive features. It admitted to no intrinsic or systemic flaws within free market capitalism itself. Corrective action could be taken by punishing and holding to account those who had engaged in greedy, irresponsible actions and future crises would be avoided by the introduction of new government regulation and oversight. This, they also explained, would of course have to be “responsible” regulation, so as not to curb the creative, dynamic, entrepreneurial genius of free market capitalism.
But lately this explanation has been quietly set aside. For one, the idea that greed-driven, irresponsible capitalists had even an indirect role in the financial collapse cut a little too close to the bone.
But an even more important consideration required abandoning this initial explanation. It politically conflicted with the chosen bipartisan solution to the crisis—massive government bailouts of banks, brokerage firms, insurance companies and all other financial institutions “too big to fail.” Rather than being “held to account” they were to be rewarded with the largest government subsidies in history. And the more deeply and directly they were involved in greed-driven, reckless economic behavior, the larger their bailout.
And who are the principle designers and administrators of these bailout packages? Treasury Secretary Henry M. Paulson Jr. under the Bush administration and Treasury Secretary Timothy Geithner, now under the Obama administration, both major architects of deregulation. Both were prominent promoters of the “new risky, exotic financial instruments” said to be at the heart of the financial collapse.
The reaction was a firestorm of anger and opposition from the U.S. population. They understand quite clearly that these bailouts and the ones to come are not for free, but will channel wealth out of the pockets of the vast majority into the coffers of the financial elite. A new explanation of the crisis more compatible with selling the bailout scam to the American middle class/working class had to be fashioned.
The source of the crisis was not predatory, reckless economic actions. The new root cause was a “crisis of confidence”—especially loss of confidence in our financial institutions, which creates fear, panic and uncertainty, paralyzing normal economic activity. And confidence in these institutions can only be restored by the application of massive government bailouts.
This is the line now being repeated at every level in the government and mass media. David Brooks, a regular Op-Ed columnist for the New York Times writes in his February 13th column: “The crisis was labeled an economic crisis, but it was really a psychological crisis. It was caused by a mood of fear and uncertainty, which led consumers to not spend, bankers to not lend and entrepreneurs to not risk.”
Thomas L. Friedman, another regular New York Times Op-Ed columnist, wrote as far back as November 16: “If you are going to fight a global financial panic like this, you have to go at it with overwhelming force—an overwhelming stimulus that gets people shopping again and an overwhelming recapitalization of the banking system that gets it lending again…. Yes, that may mean rescuing some bankers who don’t deserve rescuing…. No it’s not fair. But fairness is not on the menu anymore.”
The “crisis of confidence” line is not new or original. It was used by Franklin Delano Roosevelt in his first inaugural address in 1933 during the Great Depression: “Let me assert my firm belief that the only thing we have to fear is fear itself—nameless, unreasoning, unjustified terror which paralyzes needed efforts to convert retreat into advance.” A catchy speech line, but purposely devoid of any insight into the causes of the Great Depression or our present economic crisis.
The “crisis of confidence” scenario magically shifts the source of the problem away from economic and political actions to the realm of psychological aberration. It is certainly true that there is a growing mood of fear, uncertainty, panic and loss of confidence. But these are not the causes of the economic collapse; they are responses to it—and not irrational responses.
If you are a laid off worker in manufacturing with little prospect of re-employment, in a society that is shedding manufacturing jobs at an ever accelerating rate, it is not unreasonable for you to be afraid.
If you are a student about to graduate with little or no hope of finding a job, feelings of uncertainty are certainly justified.
If you are a white collar worker with a mortgage now larger than any possible amount you could sell your home for and fellow employees all around you are being laid off at an accelerating rate, a growing sense of panic is understandable.
And there is certainly a growing lack of confidence, especially among the ruling political and financial elite. The financial collapse caught them completely flat-footed. They have little idea as to what caused it or how to stop it. The crisis has shaken them to the core, creating a growing sense of panic and demoralization.
The real source of the economic crisis is insufficient consumer purchasing power to keep the U.S. economy on track. Economists calculate that approximately 80 percent of the economy is driven by consumer spending.
For some 50 years now the American working class, or the media’s preferred euphemism, the American middle class, has been the target of an intense class war in which real wages and income have been relentlessly reduced. According to the most recent U.S. Bureau of Labor Statistics, real wages adjusted for inflation, from 1970 to the present have fallen more than 12 percent.
This has been a one-sided class war with little effective resistance, especially from a hopelessly bureaucratized and conservatized trade union movement, which, in addition, has slavishly tied itself to one of the principle instruments of this class war, the Democratic Party.
But there is an obvious contradiction here. If real wages have been falling over the last 40 years, how has the economy, at least until recently, continued to expand and profits continue to grow?
This was accomplished by a number of strategies designed to offset the effect of falling real wages on consumer spending. The first of these was the simple expedient of drastically increasing the total number of hours worked. Overtime was increased, leisure time was decreased. The single wage earner family was largely eliminated. No longer did one partner work while the other, usually the female, took on the demanding job of running the home and caring for the children.
More family members were put to work, working longer hours at more full and part time jobs. This is why political and economic apologists for this policy no longer wish to measure individual wage rates over time but rather “household income.” But lately even this deceptive measure has succumbed to the pressures of this one-sided class war. Fed officials recently estimated that the median family was 3.2 percent poorer as of October 2008 than it was at the end of 2004.
The number of extra hours an individual can work is limited, as is the number of additional family members that can be put to work. New additional steps had to be taken to offset the effect falling wages had on consumer spending and the economy.
The next move was a massive expansion of consumer debt. The credit card industry was born. It was not so long ago that credit cards were mostly limited to business executives who did a lot of traveling. New federal legislation repealed all state usury laws and the nation was flooded with credit cards carrying 20 percent-plus interest rates, a return previously only available to Mafia loan operations. The average American family now holds seven of these cards. The banks issuing these cards made record profits and consumer debt soared to record levels. But it did mask the effects of falling real wages and produced a significant if temporary boost in consumer spending.
Paralleling the encouragement of ever more consumer debt was an even more risky policy, the massive and continuous expansion of government debt. These record deficit budgets of necessity fueled inflation and one way these inflationary pressures expressed themselves was an artificial rise in the dollar value of houses.
As credit cards maxed out and the size of consumer credit card debt became unsupportable, a final and particularly dangerous financial gimmick was floated. Consumers were encouraged, and driven by necessity, to take cash equity out of their inflated house value. Second mortgages, third mortgages, home equity loans, became the last desperate hope for keeping their heads above water—for meeting expenses and paying down credit card debt that was killing them with 20 percent-plus interest rates.
New homebuyers were lured into predatory sub-prime and adjustable rate mortgages with the assurance that housing prices would continue to rise indefinitely, allowing them to refinance and even cash out increased equity in the foreseeable future. And again this artificially propped up consumer spending.
When the housing bubble burst, it triggered not just a crisis in the mortgage market but the collapse of a financial house of cards that had been building for decades. A house of cards built on the idea that you could on one hand relentlessly drive wages down and on the other hand maintain consumer spending by driving people into ever deeper debt.
Household debt hit a record 133 percent of disposable personable income by the end of 2007. This represented an enormous leap from average debt loads of 90 percent just a decade earlier. Debt levels that even then were considered dangerously high.
Lately we’ve heard much about “Ponzi” schemes—Bernie Madoff, Robert Allen Stanford and many others, and no doubt many more to come. These types of operations are always a part of the so-called capitalist free market. During an acute financial crisis they become more exposed and publicly visible, especially if some of their victims are among the very wealthy. There is an old Wall Street saying, “When the tide goes out, you see who has been swimming without a bathing suit.”
But people like Bernie Madoff even with his 50-billion dollar “Ponzi” scheme are small potatoes compared to what has been going on in the broader economy. In reality the entire U.S. economy over the last 40 years has operated as little more than a gigantic “Ponzi” scheme. Increase profits by relentlessly driving real wages down—maintain consumer spending by a continuous expansion of debt. Like all “Ponzi” schemes it was destined to eventually collapse.
How does the ruling elite intend to face this crisis? Their public strategy has two parts. One, save the principle financial institution of U.S. capitalism with a series of ever-more massive bailouts. Two, reverse the shrinking economy and stem soaring unemployment with a stimulus plan. This strategy has no chance of success.
For the capitalists, this crisis is now a crisis of excessive debt, which reached 355 percent of American gross domestic product. It cannot be solved with more debt.
President Obama claims his stimulus plan will save or create four million jobs in two years. In the last four months of 2008 alone, employment fell by 1.9 million and continues to escalate. Do the math.
But there is another non-public strategy. Use the crisis itself to dramatically intensify the class war against America’s middle class/working class. Use it to “reform” so-called entitlements. Cut Social Security, Medicare and other hard won social gains. Use the crisis to drive real wages even lower.
The Obama administration like Bush before it, demands that the UAW, in order to save the American auto industry, must reduce wage levels to those of nonunion workers. Obama has already made “entitlement reform” a key goal of his administration. Obama will end up as Field Marshal of this intensified class war no matter what his present intentions may be. As head of the Democratic Party he can do no other.
Winston Churchill, then Prime Minister of Britain during WWII famously said in a speech in 1942, “I have not become the King’s First Minister in order to preside over the liquidation of the British Empire.” Despite his considerable political and oratorical skills, Churchill ended up presiding over the liquidation of the British Empire. Events drove him, he did not drive events. Obama finds himself in a similar historical situation today.
This class war can no longer remain a one-sided class war. The American middle class/working class will have to resist; they will have no choice. This will not be easy. They will have to abandon many dangerous illusions, not the least of which, the Obama cult and the progressive nature of the Democratic Party. They will have to forge new political and organizational institutions capable of fighting back.