ECONOMIC AFFAIRS: by Colin TeeseNews Weekly
How long before Australia succumbs to world debt crisis?
, April 14, 2012
What has been labelled the global financial crisis (GFC) really is global — and Australia really is part of it.
Yet, conventional wisdom here in Australia wants to believe otherwise. Indeed, our Treasurer tells us that our economy is the envy of the world. He may well be right, but that does not necessarily mean that the GFC has by-passed us.
What neither government nor opposition seems able to understand is that our commitment to market deregulation and free trade, and to what they understand to be globalisation, means that we can’t avoid any of globalisation’s fall-out — including the GFC.
And — let it not be forgotten — we have committed ourselves more completely than most countries to a belief in the virtues of globalisation.
Dani Rodrik, a professor of political economy at Harvard University, was among the first to remind us, almost two years ago, what committing to globalisation (he prefers the term “economic integration”) really means.
He warned about the political problems associated with globalisation, and of what he called “the political trilemma of the world economy”.
He wrote: “Economic globalisation, political democracy, and the nation-state are mutually irreconcilable.
“We can have at most two at one time. Democracy is compatible with national sovereignty only if we restrict globalisation. If we push for globalisation while retaining the nation-state, we must jettison democracy.
“And if we want democracy along with globalisation, we must shove the nation-state aside and strive for greater international governance.” (Dani Rodrik, “Greek lessons for the world economy”, Project Syndicate, May 11, 2010).
Very recently, he pointed out that the problems facing the European Union perfectly illustrate his concept of “the political trilemma”. It is hard to disagree.
The EU consists of an experiment in bringing about the economic integration of a large number of sizeable economies on the European continent.
The “trilemma” consequences confronting the EU crisis are still to be worked through, but, thus far, for the indebted member-countries of the EU which have adopted the euro as their currency, the costs so far associated with keeping regional economic integration entail surrendering both democracy and sovereignty.
Certainly, that holds true for both Italy and Greece. In its bid to maintain European economic integration, the EU’s Brussels bureaucracy has imposed painful financial constraints on already struggling countries with the aid of Brussels-appointed governments which possess no democratic legitimacy.
The real purpose behind forcing these financial straitjackets onto Greece and the other indebted EU countries has been fully exposed.
Long abandoned is the pretence that these austerity measures are concerned with reconstructing the ailing economies of the indebted countries, or even with saving the euro currency.
Rather, its purpose is to rebuild the financial position of the (mainly) European banks which imprudently lent excessively to the now over-indebted countries.
“Why”, we might ask, “are the banks being rescued from the consequences of their follies?”
“Because,” the answer quickly comes back, “our economies can’t afford for them to collapse.”
Such a response, however earnestly made, totally misses the point.
Do we, or do we not, have a functioning system of private capitalism? And isn’t it true of capitalism that it guarantees neither success nor profit?
It is an ordained element of capitalism that lending money entails risk in pursuit of profit. If the borrower can’t repay the money, then that is the lender’s loss.
It’s how the system works — or should work.
The principle of risk and reward is an essential part of capitalism. Except, so it would seem, for banks.
Banks appear to believe that they operate outside the system of risk and reward. Governments — which means society — ultimately must bear the brunt of banking losses in the cause of financial stability. Not to do so threatens to trigger not merely financial but economic breakdown.
Put this proposition into the context of any other business and the absurdity of the proposition becomes immediately apparent.
Say I want to start a business and I say to the government: “I want you to guarantee all my losses, but I don’t want you to have any say in how I run my business.”
How far do you think such a proposition would go? Yet, that’s the kind of deal banks have with governments. And central banks, which are staffed by bankers, seem to go along with the idea.
By way of example, at the moment the global financial crisis began to take hold in the US four years ago, the chairman of the US’s central bank, the Federal Reserve, Ben Bernanke, advised the US Administration to the effect that unless the miscreant banks were bailed out, the US economy would collapse within a week.
At that moment, the problem seemed to be so serious that nobody was prepared to contradict him.
Earlier, when the crisis was still looming, there was some attempt to deny banks any special position in the capitalist world.
The then Secretary of the Treasury in the Bush Administration, Henry Paulson, was faced with the problem of what to do when he was told that Lehman Brothers was bankrupt.
It had to be bailed out, he was told, by no less than the dedicated “capitalists” running it. They expected their advice — it was more in the nature of a threat — to be followed.
Paulson, it appeared, was made of sterner stuff. Quite properly, he believed that capitalism was as much about failure as success. He allowed Lehman Brothers to collapse. But he was personally harmed by the process. He even came to believe that he had failed in his position as Treasury Secretary.
As things turned out, Paulson could not have known that Lehman Brothers was merely the first of a number of dominoes.
Almost all of the major US banks were similarly at risk of collapse, and, under that kind of pressure, Paulson’s commitment to the principles of true capitalism gave way to a genuine fear that the entire world’s financial and economic structure could suffer unless the US banks were rescued from their own folly.
Paulson and the US government bought the Ben Bernanke line, and, as the crisis widened and deepened, so did the rest of the world.
The US experience, and that which followed in Europe, raises the obvious question yet to be confronted: “If governments are required to pick up the financial pieces arising from misguided lending and borrowing behaviour, while being denied the possibility of putting into place constraining regulatory mechanisms, should they not be running the banks themselves — or at least that part of the system which can threaten global financial, economic and business stability?”
The fundamental reality which many of us prefer not to face is that in a properly functioning capitalist economy, finance cannot be an end in itself.
Rather, it is the means by which the productive side of the economy gets access to the funds it needs. It is a service, not unlike the other services frequently provided by governments, in order to allow wealth-creating businesses to prosper.
An effective banking system should be capable of providing funds at the lowest possible price consistent with risk — which means that interest rates should cover no more than the cost of providing the service.
Viable businesses engaged in the production process, be it in manufacturing, transport or agriculture, should be able to access their long-term capital needs at the true cost of capital.
They should not be forced to compete in a market where interest rates are heavily influenced by the demand pressures of speculative capital. High interest rates might be comfortably within what speculators can afford, but can be ruinous for business.
To underline this point, economist Mark McGovern of the Queensland University of Technology points out that, 30-odd years ago, the 30-year borrowing rate was zero per cent (after taking into account inflation). Today. it is 6.5 per cent.
Business borrowing has become prohibitively expensive because we lack the financial institutions willing to lend money for business development at rates of interest consistent with reasonable business profitability.
To stay in business in these circumstances means that businesses have to structure their operations away from long-term activities.
Lower returns mean lower profits — and lower tax collections for governments. It also means more pressure from business for the means to lower labour costs as well as the level of company tax.
An inevitable consequence of all this is excessive corporate and consumer borrowing. Over time, this builds up a structure of overall indebtedness — government, business and consumer — with which most of the world economy is currently saddled and which, realistically, is incapable of being repaid.
As has been suggested earlier, in a properly operating capitalist financial system, it would have been recorded as a loss to the lender, and the world would move on.
When our Treasurer Wayne Swan boasts about Australia’s relatively good economic performance, he is comparing us with the rest of the OECD countries.
Certainly, measured against growth outcomes in Europe and the United States our problems seem small — at least for the moment.
What he fails to acknowledge is any of the issues which have helped enmesh most of the developed world (including Australia) in debt. More important still, he does not offer any ideas of what kind of financial system might be needed to facilitate recovery and provide a satisfactory path forward.
Bearing that in mind, I am preparing a future article examining the structure of Australia’s debt and what might be the dangers confronting us in the years ahead.
Colin Teese is a former deputy secretary of the Department of Trade.