[Marxism] The Real Cost of the 2008 Financial Crisis

Louis Proyect lnp3 at panix.com
Wed Sep 19 15:23:30 MDT 2018


New Yorker, September 17, 2018 Issue
The Real Cost of the 2008 Financial Crisis
The aftermath produced a lost decade for European economies and helped 
lead to the rise of anti-establishment political movements here and abroad.

By John Cassidy

September 15th marks the tenth anniversary of the demise of the 
investment bank Lehman Brothers, which presaged the biggest financial 
crisis and deepest economic recession since the nineteen-thirties. After 
Lehman filed for bankruptcy, and great swaths of the markets froze, it 
looked as if many other major financial institutions would also 
collapse. On September 18, 2008, Hank Paulson, the Secretary of the 
Treasury, and Ben Bernanke, the chairman of the Federal Reserve, went to 
Capitol Hill and told congressional leaders that if they didn’t 
authorize a seven-hundred-billion-dollar bank bailout the financial 
system would implode. Some Republicans reluctantly set aside their 
reservations. The bailout bill passed. The panic on Wall Street abated. 
And then what?

The standard narrative is that the rescue operation succeeded in 
stabilizing the financial system. The U.S. economy rebounded, spurred by 
a fiscal stimulus that the Obama Administration pushed through Congress 
in February, 2009. When the stimulus started to run down, the Fed gave 
the economy another boost by buying vast quantities of bonds, a policy 
known as quantitative easing. Eventually, the big banks, prodded by the 
regulators and by Congress, reformed themselves to prevent a recurrence 
of what happened in 2008, notably by increasing the amount of capital 
they hold in reserve to deal with unexpected contingencies. This is the 
basic story that Paulson, Bernanke, and Tim Geithner, who was the 
Treasury Secretary during the Obama Administration, told in their 
respective memoirs. It was given an academic imprimatur by books like 
Daniel Drezner’s “The System Worked: How the World Stopped Another Great 
Depression,” which came out in 2014.

This history is, on its own terms, perfectly accurate. In the early 
nineteen-thirties, when the authorities allowed thousands of banks to 
collapse, the unemployment rate soared to almost twenty-five per cent, 
and soup kitchens and shantytowns sprang up across the country. The 
aftermath of the 2008 crisis saw plenty of hardship—millions of 
Americans lost their homes to mortgage foreclosures, and by the summer 
of 2010 the jobless rate had risen to almost ten per cent—but nothing of 
comparable scale. Today, the unemployment rate has fallen all the way to 
3.9 per cent.

There is much more to the story, though, than this uplifting 
Washington-based narrative. In “Crashed: How a Decade of Financial 
Crises Changed the World,” the Columbia economic historian Adam Tooze 
points out that we are still living with the consequences of 2008, 
including the political ones. Using taxpayers’ money to bail out greedy 
and incompetent bankers was intrinsically political. So was quantitative 
easing, a tactic that other central banks also adopted, following the 
Fed’s lead. It worked primarily by boosting the price of financial 
assets that were mostly owned by rich people.

As wages and incomes continued to languish, the rescue effort generated 
a populist backlash on both sides of the Atlantic. Austerity policies, 
especially in Europe, added another dark twist to the process of 
political polarization. As a result, Tooze writes, the “financial and 
economic crisis of 2007-2012 morphed between 2013 and 2017 into a 
comprehensive political and geopolitical crisis of the post–cold war 
order”—one that helped put Donald Trump in the White House and brought 
right-wing nationalist parties to positions of power in many parts of 
Europe. “Things could be worse, of course,” Tooze notes. “A ten-year 
anniversary of 1929 would have been published in 1939. We are not there, 
at least not yet. But this is undoubtedly a moment more uncomfortable 
and disconcerting than could have been imagined before the crisis began.”

In the years leading up to September, 2008, Tooze reminds us, many U.S. 
policymakers and pundits were focussed on the wrong global danger: the 
possibility that China, by reducing its huge holdings of U.S. Treasury 
bills, would crash the value of the dollar. Meanwhile, American 
authorities all but ignored the madness developing in the housing 
market, and on Wall Street, where bankers were slicing and dicing 
millions of garbage-quality housing loans and selling them on to 
investors in the form of mortgage-backed securities. By 2006, this was 
the case for seven out of every ten new mortgages.

Tooze does a competent job of guiding readers through the toxic alphabet 
soup of mortgage-based products that Wall Street cooked up: M.B.S.s, 
C.D.O.s, C.D.S.s, and so on. He looks askance at the transformation of 
commercial banks like Citigroup from long-term lenders into financial 
supermarkets—“service providers for a fee”—in the decades before 2008, 
and he rightly emphasizes the enabling role that successive 
Administrations played in this process, not least Bill Clinton’s.

But the great merit of Tooze’s tome—it runs to more than seven hundred 
pages—is its global perspective. Tooze maps the fallout as far afield as 
Russia, China, and Southeast Asia. He lays out the role played by 
European banks and cross-border flows of financial capital. And he 
provides a detailed account of the prolonged crisis in the eurozone, 
which, he maintains, “is not a separate and distinct event, but follows 
directly from the shock of 2008.”

The subprime fever originated in the United States, but soon spread to 
European behemoths like Deutsche Bank, HSBC, and Credit Suisse: by 2008, 
close to thirty per cent of all high-risk U.S. mortgage securities were 
held by foreign investors. Although the major international banks were 
domiciled and regulated in their individual countries, they were 
operating in a single, integrated capital market. So, when the crisis 
struck and many sources of short-term bank funding dried up, the 
European banks were left tottering. In some respects, they were in even 
worse shape than the American banks, because they needed to roll over 
their dollar-denominated mortgage assets, and Europe’s central banks and 
lenders of last resort—the European Central Bank, the Bank of England, 
and the Swiss National Bank—didn’t have enough dollars to tide them over.

Paulson and Bernanke didn’t predict any of this when they made the 
fateful decision, on September 14, 2008, to let Lehman fail. Paulson, in 
particular, was keen to escape the label of “Bailout King,” which he had 
been saddled with earlier in the year after orchestrating a rescue of 
Bear Stearns. An international banking disaster was avoided only because 
the Fed agreed to provide its European counterparts with virtually 
unlimited dollars through currency-swap arrangements, and to give 
troubled European banks access to various emergency lending and 
loan-guarantee facilities that it established in the United States. “The 
U.S. Federal Reserve engaged in a truly spectacular innovation,” Tooze 
writes. “It established itself as liquidity provider of last resort to 
the global banking system.”

But the Fed hid much of what it was doing from the American public, 
which was already choking on the U.S. bank bailout. It wasn’t until 
years later, as a result of the Dodd-Frank financial-reform act and a 
freedom-of-information lawsuit filed by Bloomberg News, that the details 
emerged. The sums involved were huge. According to Tooze’s tally, the 
Fed provided close to five trillion dollars in liquidity and loan 
guarantees to large non-American banks. It also provided roughly ten 
trillion dollars to foreign central banks through currency swaps. As 
with the seven-hundred-billion-dollar bailout for domestic banks, 
practically all this money was eventually repaid, with interest. But, 
had the full scope of what the Fed was doing emerged at the time, there 
would have been an uproar. Fortunately for the policymakers, there was 
no leak. An official at the New York Federal Reserve, which helped enact 
many of the covert lending programs, told Tooze that it was as if “a 
guardian angel was watching over us.”

Many of the politicians who came to be associated with the financial 
crisis and the bank bailouts weren’t so lucky. In 2009 and 2010, the 
center-left parties that occupied positions of power in the United 
States, Britain, and Germany all suffered electoral setbacks. In Berlin 
and London, new center-right governments committed themselves to 
slashing budgets and reducing deficits, which rose sharply as jobless 
rates went up and tax revenues went down. Keynesian economists warned 
that the recovery was too fragile to withstand austerity measures, but 
many conservative economists strongly supported them. Germany itself 
recovered even after it passed a balanced-budget amendment to its 
constitution and enacted the deepest spending cuts in the history of the 
Federal Republic. Yet the refusal of Europe’s largest and most powerful 
economy to act as a locomotive, and to help offset deflationary forces 
elsewhere, was to have some very negative consequences for the eurozone 
as a whole.

Tooze dwells at length on the European transition from stabilization to 
austerity, which coincided with the emergence of a sovereign-debt crisis 
in three peripheral members of the eurozone: Greece, Ireland, and 
Portugal. The “euro crisis” is often framed as a story of spendthrift 
governments run amok, but the real sources of the trouble were 
underlying faults in the euro system and the creation of too much credit 
by private-sector banks—the same phenomenon that led to the 
subprime-debt crisis in the United States.

In 1998, eleven Continental countries adopted the euro as their common 
currency, including the big three: France, Germany, and Italy. Greece 
followed suit the next year. (Seven more countries have since joined.) 
Under the euro system, individual countries gave up the freedom to set 
their own interest rates and adjust their own currencies. Instead, there 
would be a single interest rate, set by the European Central Bank, in 
Frankfurt, and a single exchange rate, set by the market. Member 
countries were also obliged to meet strict targets for their budget 
deficits.

Over time, many of the weaker European economies came to chafe at these 
restrictions. At first, though, the system seemed to be a miracle drug. 
Investors had traditionally treated countries like Greece, Ireland, and 
Portugal as risky bets, and demanded generous yields on the bonds those 
countries issued. After these countries adopted the euro, however, 
international investors loaded up on these bonds as if they were on a 
par with French and German bonds, even as yields fell. Tooze points out 
that, of the nearly three hundred billion euros’ worth of bonds that the 
Greek state had issued by the end of 2009, more than two hundred billion 
were foreign-owned.



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