freeing the country from the credit trap
I’m sure many of you have had your fill of new perspectives on the financial crisis and the conditions that led to it; I thought I had, too. But I find the piece “Infinite Debt” by Thomas Geoghegan to be absolutely essential reading. Harpers gates it’s content for subscribers only, but this video interview with Geoghegan does a great job of explaining his point of view. Go ahead and watch it. Really. Watch it. (I know, I’m demonstrating that I’m an unreconstructed lefty by linking to Democracy Now. Bear with me.)
Geoghegan identifies the beginning of the instability and bubble/bust cycle that has come to dominate American finance as being a product of the United States essentially abandoning usury law in the 1970s. As Geoghegan points out, usury law (laws that regulate the kind of interest rates lenders can charge to their lendees) have been around in almost every civilization that has had a currency, stretching back thousands of years. And he points to this current crisis as a demonstration of the basic wisdom of usury.
Geoghegan points out that, when banks can charge whatever they want for interest– 12%, 15%, 18% on credit cards, 200% on payday loans, etc.– capital will inevitably be invested in financial vehicles rather than in businesses based on manufacturing or providing services. A really fantastically profitable and efficient manufacturing concern might get an investor 5% or 6% return on his investment. But lenders, free from any constraints on the rates of interest they can charge, can claim to double or triple that return to investors. So capital flows away from businesses that actually provide products or services that people want to pay for and towards lending credit. As Geoghegan points out, GM and General Electric, two huge and once hugely profitable manufacturing concerns, both created banks to lend money, because that’s where the greatest profitability came from. And when companies are allowed to represent as assets money they are owed rather than money they have collected, with no reasonable accounting for the odds that the money lent is going to be repaid, the lenders have an enormous advantage in profitability over manufacturing companies– even if profitability is something of an empty term in these conditions.
The problem, though, is that this profit rests on the supposed value of the agreement of the people and companies who have been lent money to pay that money back and then some. And as more and more investor want to be involved in the credit lending business, as it shows the most impressive rates of return, there is more and more pressure on the lenders to lend to those who are unlikely to pay back the principle and interest. The subprime crisis couldn’t have happened if there weren’t so many investors trying to create profit (or the appearance of such) by getting people to agree to pay back more than they borrowed. The lenders went after subprime borrowers because they were looking for borrowers, period, and they had to start looking under rocks previously unturned in order to generate more interest, and more paper profits…. And in the short term, this limitless lending and interest looks like a spectacular deal for the country, as all the financials are reporting record profits. The problem comes when people start to look for, you know, the actual money and not just the promise of being paid back.
Worse still, as more and more capital was invested in credit lending, there was less money going into the real, productive economy of manufacturing and providing valuable services. This is a big problem in an era of hyperactive credit and lending, because the workers actual wage growth has stagnated, meaning they aren’t making the kind of money they would need (as a class) to pay back this enormous credit burden. If the real economy is humming along, and the buying and selling of actual goods and services is generating growth, then the workers (due to higher wages) would have the capacity to pay off higher interest rates, at least within reason. But in our economy, the loss of real wage growth meant that there was no capacity for these workers to pay off what they owed. Unfortunately, there wasn’t the possibility of a groundswell of populist support for changing the system, because the workers and middle class could get what they wanted to buy– because of all the credit out there! Banks and financials lent money, charged absurd interest rates, people borrowed the money and bought things they couldn’t have possibly afforded, the banks represented the money owed as assets, and everyone was happy, except for the people who were financially ruined by the lack of any meaningful limit on the ability to borrow and the crushing interest rates. But once people got a little worried, and wanted to see the actual capital involved– when spooked investors wanted actual liquid capital, rather than representations of capital in stock or the “asset” of being owed money– the system collapsed.
Clearly, this system is deeply flawed. But it’s very easy to see why it’s seductive for everyone involved. The banks show record profits, thanks to the fact that they can represent the value of what they are owed as assets, often regardless of the likelihood that those debts would be repaid. The investors were seeing huge returns on their money. The average consumer, provided he didn’t fall so far behind that he lost access to the great flow of cheap and easy credit, was able to buy and consume at previously unheard of levels. True, he was likely carrying a mountain of debt, but he had stuff, and if a lot of his net worth was tied up in a house that had its value artificially inflated, he didn’t feel particularly insecure. Besides, the stigma of being deeply in debt had almost vanished. Every was getting ahead, as long as we all agreed to believe in the value of agreements to pay back money. The problem is that many of these agreements were actually valueless, because the debtors had no genuine capability to repay the debts.
There’s a lot of consequences to our understanding of this situation. The first is, I think, another nail in the coffin in the notion that you can ever have a truly free market when you have a currency. When you have a currency, you’ll have lending, and when you have lending, you’ll have interest, and human nature being what it is, lenders will wring out as much interest as they can when they can, offsetting the balance of our economy. You’d like borrowers to be rational, and say “I’m not paying 18%, no way;” but people aren’t rational, a lot of the time, and they don’t make good decisions, and when people really need money they will make terribly impractical decisions in order to get it. So we need a strong regulatory apparatus to limit the size of interest rates and the degree to which banks are leveraged, in order to prevent the kind of situation we have now, where there is vastly more money owed than the people of the country have the capacity to repay. Adjustable rate mortgages and CDOs and all the other various shenanigans that helped get us here are symptoms of a larger disease of interest rates run amok and the flight of capital into financial investment and away from the real economy.
Secondly, the pro-globalization furor that has gripped our consciousness in recent decades bears a lot of blame. We have a very diverse set of opinions and ideas here on the Web and in our media, but there are certain ideas that are enforced in an exclusionary way. Being at all skeptical about globalization for too long has meant being excluded from the ranks of the “serious”. The idea that globalization is good for the United States, the world and its people is an attitude that people insist on with incredible zeal, and this insistence comes from conservatives and liberals, Democrats and Republicans. But the consequences of globalization for the United States have meant a hollowed out economy, where we produce very little of actual value, and where a huge amount of our growth comes from the accumulation of imaginary money. Unfortunately, the policies that could spur a return to the ancient and tested method of generating growth– making products people want to buy– have been derided by many of the pro-globo set as mere protectionism, nativism or simple naivete. We have to begin to push back against the rigorously enforced idea that globalization is some wonderful tonic that spreads money and stability around the globe. Some degree of globalization is necessary and welcome, but we cannot allow our dedication to a global economy to leave us with no domestic capacity to generate growth through the buying and selling of internally produce commodities. We’ve got to resist the Tom Friedmans.
Third, I think it’s time for those of us who are sympathetic to unionism to stop our long retreat and start fighting again, armed with the fact that unions increase wages for the middle class, and that what this country needs is a middle class which actually makes more money in real dollars, rather than getting what they want from going deeper and deeper into debt. Whatever else is true, union workers tend to get paid more, and those higher wages represent actual money that can actually be spent to stimulate the economy and spur growth, without the inevitable payback that an economy based on debt requires. It’s true that unions reduce the raw profitability of the factories and businesses that have been unionized; decent wages and benefits cost money that could otherwise be diverted to profit. But perhaps the owners and CEOs and boards could be made to see that they have a financial interest in the country having a middle class that is capable of significant wage growth, and not just the replacement of wage growth through the extension of more and more debt.
This all has the fringe benefit of refocusing our vision of the point of society, so that we look not at the growth of GDP or the total amount of wealth being moved around, but at how the majority of the people have their lives materially improved. I wish that those who cheerlead economic growth as the end-all, be-all of human existence would admit that this financial crisis has proved that paper growth does not in fact ensure the best for our people. It’s time to ask, what is the point of progress if it doesn’t lead to human abundance and happiness, and sustainable human abundance and happiness?
We have to move back to being a society that buys the things it can pay for and lives according to its means. Look, banks and lending are good things when they exist in a context of real growth through production. If a guy has a great idea for a widget, he should be able to borrow money from the bank to start his factory, so that he can hire workers to make a decent wage in sound working conditions, so that they can make the widgets, earn money to spend in the real economy, earn him profit and enable him to pay back the bank. All of that is to the good. But when we incentivize the extension of credit so far beyond the degree to which we invest in the making and marketing of tangible goods and services, we ensure growth without actual value, and it leaves us in the kind of untenable position we are now. If we’re going to rebuild our real economy, we need to firmly regulate the lending of money, we need to restigmatize the accumulation of too much debt, we need to have policies and laws that benefit our manufacturing sectors, and we need to stop apologizing for privileging institutions and movements that put real money into the hands of our workers.