Review of ‘The End of Alchemy: money, banking and the future of the global economy’ by Mervyn King
The financial crash of 2007-08 rocked the world economy yet the banksters were bailed out with taxpayers’ money, and we continue to pay through savage austerity. A scathing new book makes the case for more regulation. However, writes Peter Taaffe, the only way to end capitalism’s chaos and devastation is through systemic change.
The End of Alchemy: money, banking and the future of the global economy
By Mervyn King
Published by WW Norton (2017), £14.76
“What about the next crisis? Without reform of the financial system… another crisis is certain, and the failure to tackle the disequilibrium of the world economy makes it likely that it will come sooner rather than later”. This stark warning to the capitalists from Mervyn King – one of their own – is an enduring theme of this book. He predicts a dire future for the system he stubbornly defends unless his advice for ‘reforms’ to the banks and financial system is accepted.
However, the alchemy (pseudoscience) of the financial sector, which he clearly disparages, is both necessary for capitalism and prepares the ground for its destruction. The banks, credit, and the sector as a whole, even the central bankers King criticises, play an important even necessary role in the mechanism of modern capitalism. At the same time, this prepares the conditions for its replacement by a more rational, humane system: democratic socialism in Britain and worldwide.
Mervyn King, governor of the Bank of England 2003 to 2013, shows how the machinations of central bankers are deliberately shrouded in mystery. When asked by King about his most important attribute, former chairman of the US Federal Reserve Paul Volcker replied: “Mystique!” Another, Alan Greenspan, told a US Senate committee: “If I seem unduly clear to you, you must have misunderstood what I said”. (William Davies, London Review of Books) Greenspan effectively blackmailed US president Bill Clinton in 1993 warning him that, if he pursued the domestic programme on which he had been elected, Greenspan would raise interest rates and a recession would ensue.
King’s proposed reforms amount to further regulation, with the banks becoming like giant ‘pawnbrokers for all seasons’, with increased compulsory deposit insurance to guard against crises and runs on the banks, which inflict damage on millions of people. These measures do not go beyond the existing framework of capitalism. King is on a desperate search for a magical solution to the periodic eruptions of the system in the form of economic crises. In vain!
His detailing of previous crises shows that these are endemic to capitalism and are becoming more frequent. The heartbeat and therefore health of the system are strained. During the upswing of capitalism the breathing was regular, and the upswings were stronger and longer than the recessions. In the ageing of capitalism – a period we are passing through – the heartbeat and breathing are laboured and crises happen more often.
Money and class
King argues that capitalism is a monetary system. Actually, as Karl Marx explained in his monumental work Capital, money existed before the advent of capitalism. It was necessary to have a ‘universal equivalent’ where commodities were exchanged, in different forms at different stages in history. However, this was not the general economic mode. It only became generalised and predominant through the widespread triumph of capitalism. A universal equivalent in premodern economic conditions could be another commodity which could act as ‘money’, such as cattle. Through the development of capitalism this led to precious metals such as gold and silver becoming generally accepted as the universal equivalent.
Some ‘modern’ bourgeois economists imagine that ‘bits of paper’ can forever take the place of a value-based currency. John Maynard Keynes denounced gold as a “barbaric relic”. Yet it was necessary for capitalism both in its genesis and even today as an ultimate measure of value: congealed human labour power. The development of paper money, fully explained by Marx, is examined in some detail by King, along with the financial sector. Shares led to duplicates with a dilution of share values; worldwide debt has also risen to astronomical levels. The new ‘subprime mortgage’ bubble is in the creation of debt for new cars. Gold’s role as the ultimate measure of value can be lost until it reasserts itself during crises, when there is a rush to ‘quality’, to gold and other stores of value.
Money will exist so long as capitalist class society continues to exist. It will even be necessary in the planning required in the transition from a democratic workers’ state to the beginning of socialism on a world scale. King seeks to indict planned economies because they “did not have a financial industry”, something he finds incredible. In reality, it is an excrescence which would not be necessary in a socialist planned economy where the allocation of resources would be through conscious intervention by the masses in the planning of the economy.
Money’s demise can only come gradually with the development of a socialist society, and in its highest stage. Lenin quipped that under a society of superabundance – a socialist/communist society – gold would be used in public toilets, having lost its role because exchange value will have disappeared, along with all the relics of capitalism. There has to be some measure of value so long as class society continues to exist. This cannot be grasped by the bourgeois mind which sees its system as eternal – ‘the end of history’ in the now discredited words of Francis Fukuyama.
Capitalism is based on the ‘vampire-like lust’ for surplus value, extracted from the labour of the working class, which is then divided into rent, interest and profit. Ever greater profits, and the power and prestige that goes with them – not social need – is the alpha and omega of capitalism. The financial aristocracy, the heads of the banks etc, express this today in the worldwide ‘search for yield’, growing returns on their investments. When the opportunities for this do not exist they hoard their loot. There is actually a worldwide savings glut today because, with low interest rates, there is no profitable outlet for the capitalists.
Cheating and stealing
It is the insatiable drive for profits which resulted in the mad speculation of the pre-2007 subprime mortgage crash. As is well known, the housing sector in the US became the trigger mechanism for the crash, with the uncontrolled issuing of cheap mortgages without collateral. The debt for these was sliced and diced, and distributed widely among banks and finance houses. This ensured widespread repercussions first for US capitalism and then for the whole of the world. The banks had supplied the wherewithal for this and other equally ruinous financial instruments, which led to the banking crash in the US, and in Britain with the meltdown of Northern Rock, RBS and other banks. The bill for the cheating and outright stealing is ultimately being paid for by ordinary working people through increased state taxes.
The extent of the exposure of the banks is indicated by King: “The size of the banking sector relative to GDP was [previously] broadly stable. But, over the past 50 years, bank balance sheets have grown so fast that the size and concentration of banks, and the risks they undertake, would be unrecognisable to [Walter Bagehot, a 19th century political economist]”. King writes: “JP Morgan today accounts for almost the same proportion of US banking as all of the top ten banks put together in 1960… The US banking industry, measured in terms of total assets, has grown from around 20% of annual GDP a hundred years ago to around 100% today. In the UK, a medium-sized economy with a large international banking centre, the expansion is even more marked, from around 50% of GDP to over 500%”.
The concentration and centralisation of capital which Marx spoke about have been taken to unheard-of lengths: “Today, the assets of the top ten banks in the US amount to over 60% of GDP, six times larger than the top ten 50 years ago. In the UK, the asset holdings of the top ten banks amount to over 450% of GDP, with Barclays and HSBC both having assets in excess of UK GDP”.
Moreover, these commanding heights of capitalism received a massive “implicit subsidy” from the major economies “of the order of $200-300 billion”, according to the International Monetary Fund. King comments that this incentivised them “to take on yet more risk. In good times, banks took the benefits for their employees and shareholders, while in bad times the taxpayer bore the costs. For the banks, it was a case of heads I win, tails you – the taxpayer – lose. Greater risk begets greater size, greater importance to the functioning of the economy, higher implicit public subsidies, and yet larger incentives to take a risk – described by Martin Wolf of the Financial Times as the ‘financial doomsday machine’.”
The banks were therefore “too big to fail, too big to sail, and too big to jail”. In fact, only Iceland condemned the bank chiefs as criminals and sent them to prison! The great majority of the population of the US, Britain and elsewhere considered that their home-grown ‘banksters’ deserved the same fate. Even King admits: “Sadly, the growth of trading, through the banks, the stock exchanges, etc, led also to an erosion of ethical standards”. This led to the “arrogance of traders” who “rigged and fix prices”, shades of Jeremy Corbyn’s recent denunciation of the rigging of the energy and other industries.
King further points out: “Almost all the major banks have been dragged into one or more misconduct scandals. Whether selling oversized mortgages to poor people in the US, selling inappropriate pension and other financial products to millions of people in the UK, rigging foreign exchange and other markets in which banks’ own traders were operating around the world, failing to stop overseas subsidiaries in places as far apart as Mexico and Switzerland from engaging in money laundering and tax evasion”.
There seems to be no end to the revelations about what banks had been doing. A measure of how deep is the rot is shown by the fines imposed on banks worldwide. By 2015, King writes, they amounted to “around $300 billion – a staggering figure”. In the light of these reports, widely aired in one form or another in the media, why would anybody other than those organically tied to capitalism want to save this system? Indeed, some unlikely voices like the Economist magazine have joined the critics.
At this time of searing capitalist crisis, the spectre of Marx haunts the ruling class even during Britain’s current general election. So does the figure of Leon Trotsky. In relation to the praise of Labour shadow chancellor John McDonnell for Capital, the Economist comments that Marx was right! “Much of what Marx said seems to become more relevant by the day. The essence of his argument is that the capitalist class consists not of wealth creators but of rent seekers – people who are skilled at expropriating other people’s work and presenting it as their own… As Trotsky once put it, ‘You may not be interested in the dialectic, but the dialectic is interested in you’. The financial crisis suggested that the economic system is worryingly fragile. The vote for Brexit suggested that millions of people are profoundly unhappy with the status quo”. (13 May 2017)
King has also given a condemnation of capitalism: aspects of its sheer gangsterism, the wholesale swindling of millions of people throughout the world, mass suffering, the millions made unemployed and the resulting poverty. His ‘reforms’, however, merely trim the fingernails of the financial overlords who remain in business free to wreak havoc again. They would still be in control even if some of his measures were implemented.
Compounding the problems, banks made risky investments, including placing huge bets with each other on whether loans that had already been made would be repaid. King points out: “Some of these loans went bad, the bets generated large losses. To cap it all banks held only small quantities of liquid assets on their balance sheets, so they were utterly exposed if some of the short-term funding dried up. In less than 50 years, the share of highly liquid assets held by UK banks declined from around a third of their assets to less than 2%. In the US the share had fallen to below 1% just before the crisis”.
Out of control
The “mixed character of swindlers and prophets” was how Marx described the banking fraternity, speculators and financiers in the 19th century. The radical playwright Berthold Brecht wrote: “What is robbing a bank compared with founding a bank?” The comedian Bob Hope said that a bank “is a place that will lend you money if you can prove you don’t need it”. World capitalism from the 1980s up to the crash of 2007 gave full rein to the speculators and spivs described by Marx, such as the fraudster Bernie Madoff and many others.
This led to the raking-off of huge amounts (ill-gotten gains) by the top CEOs in the banks and finance houses. King describes disapprovingly the “many examples of high personal remuneration, especially in the form of bonuses, in the financial sector [which] reflect not high productivity but what economists call rent-seeking behaviour”. The fat cats are able to skim off the cream: “Financial markets are places where delusion and greed find common cause”. Hardly a ringing endorsement of his own ‘industry’!
The 1980s saw these dubious practices carried to new depths with the development of derivatives, so-called because they allowed for complex transactions to be reported as current income (present value) even though they had not yet been received. This was, writes King in a masterly understatement, misleading the market. It led in December 2001 to the collapse of Enron, a US energy company, with many others following suit in 2007-08 and subsequently. The development of derivatives, together with complicated mathematical logarithms, amounted to smoke and mirrors hiding the real underlying situation. Consequently, when the crisis hit it became almost impossible to manage because of what King comments were “the growing revelations of misconduct by most large banks”.
Moreover, the size of the banking sector and its problems came to the point where it was “beyond the ability of the state to provide bailouts without damaging its own financial reputation – for example in Iceland and Ireland – and it proved a near thing in Switzerland and the UK”. In Britain between 2000 and 2008, the exposure of HBOS to commercial property rose by 600%, resulting in a potentially large loss. If asset prices fell, the Royal Bank of Scotland would also be exposed. Both had to be rescued by the taxpayer through interventions by the Bank of England and government in 2008. This points to the conclusion that capitalism, and banks in particular, have been out of control. That laid the basis for the greatest crash since 1929-33 and ‘the hungry 30s’ decade, as it became known.
It is the working class together with the middle classes who have been called on to pay the price for this current crisis of capitalism. It took a huge injection of electronically generated cash, so-called quantitative easing. That amounted to a massive 20% of GDP – £350 billion by 2015 (and rising) for Britain alone – for which we will ultimately pay the price. In the US it was $4.3 trillion, about 23% of US GDP! The only conclusion arising from all of this is that we, the majority – working people as a whole – have to take control out of the hands of an irresponsible minority, the banksters. The banking and financial system has to be put under state control (nationalisation) with democratic management residing in the hands of working people and their organisations.
Mervyn King’s book has been published on the 20th anniversary of New Labour prime minister Tony Blair and his chancellor Gordon Brown ceding direct control of the Bank of England to the likes of King. We wrote: “Incredibly, within days of the election victory, the Bank of England was effectively denationalised. [It was] hailed by capitalist commentators as a ‘stroke of genius’ and a ‘breath-taking radical measure’… A well-known economist, James Meade, said: ‘We nationalised the Bank of England in 1946 to prevent another 1931’. A ‘private’ Bank of England in 1925 returned Britain to the gold standard and an overvalued exchange rate. This resulted in deflation which was a factor, together with the 1929-31 world slump, in economically undermining the Labour government of those years and its replacement by the ‘national government’.” (Prudence with Balls? Socialism Today No.81, March 2004)
An irrational system
King, of course, cannot see any other alternative but one that involves patching up the system. His solution is further regulation of the banks, which has already been undertaken in the aftermath of the 2007-08 crisis. Many banks, particularly in Europe, have been recapitalised as a defence against further runs. There have been steps towards separating them into ‘traditional’, ‘narrow’ banks restricted to day-to-day banking with households and firms, and commercial banks which will inevitably be involved in speculation once more. US president Donald Trump has already indicated that he will give more concessions to the big financiers who backed him by lifting the limited restrictions imposed by the Dodd-Frank Act.
King concedes: “For centuries, alchemy has been the basis of our system of money and banking. Governments pretended that paper money could be turned into gold… Banks pretended that short-term riskless deposits could be used to finance long-term risky investments… For much of the time the alchemy seemed to work. From time to time, however, people realised that the emperor had fewer clothes than the masters of the universe wanted us to believe. Once confidence in the value of money or the soundness of banks was lost, there was a monetary banking crisis”.
He goes on to quote from Bagehot’s book Lombard Street: “The peculiar essence of our financial system is an unprecedented trust between man and man; and when that trust is much weakened by hidden causes, a small accident may greatly hurt it, and a great action may for a moment also destroy it”. King adds: “For a society to base its financial system on alchemy is a poor advertisement for its rationality”. As he demonstrates in devastating detail, however, capitalism is an irrational system where the blind play of the productive forces – the markets – hold sway, and dictates to the government and society as a whole. King’s attempt to introduce rationality is doomed to failure.
The system is based on the exploitation of the working class whereby the capitalists pocket the surplus value in the form of rent, interest and profit. Workers only receive a portion of the value they create in the form of wages. The rest, unpaid labour, goes to the capitalists. The gross inequality that exists in Britain and throughout the world flows from this relationship between capital and labour. The struggle over the surplus value is the basis of the fight between the classes, as Trotsky pointed out. It is also the key to understanding the development of society, culture, art, etc. Those who control the surplus value have the key to society and history.
There is also a subordinate struggle within the ranks of the exploiting classes over sharing out the swag garnered from the labour of the working class. Faced with unexpected, violent eruptions (recessions and slumps) often triggered by financial crises like the one of 2007-08, the ruling class and their governments can take fright at the social and political consequences for them and their system. Therefore, they can seek to curb some of the more venal practices of the overly greedy sections of the capitalists, particularly of the aristocrats of finance.
The clamour against these ‘malpractices’ and for the introduction of increased banking regulation, which always develops in the aftermath of economic crises, is a major theme of King’s book. Following the crisis of the 1930s, the Glass-Steagall Act sought to curb speculative behaviour by separating commercial and investing banking. That was abolished by Bill Clinton who acted in every respect like a Republican president in bending the knee to big business. The Republican and Democratic parties are the head and tail of the same capitalist coin. Margaret Thatcher gave free rein to the animal spirits of capitalism through the neoliberal deregulation of the banks in Britain after the big bang of the 1980s.
So celebrated were these kings of finance that James Carville, Clinton’s aide, admitted: “I used to think, if there was reincarnation, I wanted to come back as the president or the Pope… But now I want to come back as the bond market. You can intimidate everybody”. The bourgeois and their governments danced to the tune of the bond traders and the market, as Carville admitted. This led to the ensuing orgy of speculation and crash. King writes: “The crisis was a failure of a system and the ideas that underpinned it, not of individual policy-makers or bankers, incompetent and greedy though some of them undoubtedly were”.
Warning to the working class
King supplies much detail to indicate the scale of the devastation wreaked in 2007-08 and afterwards: “The great panic lasted less than a month from the failure of Lehman Brothers to the announcement of the recapitalisation of the banks – 28 days that shook the world”. He concedes that world trade initially fell more rapidly than during the great depression of the 1930s. Around ten million jobs were lost in the US and Europe, almost as many as were employed in US manufacturing prior to the crisis. This has gone down in history as the great recession but it could so easily have spilled over into a new devastating depression.
The extent of the damage is indicated by what King calls the sharp ‘deviation’ of output which is now 15% below the level it could have reached without the crisis. That gap amounts to around $8,500 per person in the US and £4,000 in the UK. King calls this a “huge and continuing loss of output”. Indeed, the loss was initially greater than the first year of the 1930s crisis!
He concludes that the crisis was “not so much a financial earthquake, releasing pressure that had been building up, as a sudden shift to a lower path for demand and output than had seemed normal only a short time earlier, and one that threatens to persist indefinitely”. This is a severe warning to the working class. This representative of the bourgeoisie warns in unvarnished language that the working class faces – on the basis of the continuation of capitalism – permanent reductions in living standards.
This is in marked contrast to the period from the second world war to 2008 when “the path of GDP per person in the US and UK fluctuated around a trend growth rate of about 2% a year, with frequent but temporary deviations from that path”. Now “stagnation – in the sense of output remaining persistently below its previously anticipated path – had once again become synonymous with the word capitalism. Lost output and employment of such magnitude has revealed the true cost of the crisis and shaken confidence in our understanding of how economies behave”.
This continues to be so despite the spokespeople of world capitalism claiming that a recovery of a kind is taking place in the US and Europe. Unemployment appears to be on the wane. However, it does not feel like a recovery to the working class, with McJobs, food banks and insecurity prevalent. Whole swaths of Europe – like Greece, Portugal and Spain – are trapped not in a recession but a devastating depression. King is excoriating in his criticism of the European Union and the euro as a depressionary vehicle dominated by German capitalism: “Policies dictated by Brussels and Frankfurt… have imposed enormous costs on citizens throughout Europe… Rapid steps to a political union is pie in the sky”.
King and many capitalist commentators can be very severe in their criticism of aspects of capitalism. Indeed, some have gone further than King. The German economist Wolfgang Streeck wrote in a recent book that, if the capitalists understood the real problems of their system, they would be “scared shitless”. They have an incomplete understanding of what is happening, however. Even the most critical capitalist economists cannot see beyond the limits of capitalism.
King refers to Marxism, asserting that Karl Marx and Friedrich Engels’s prognoses for capitalism have not been borne out. On the contrary, a passing acquaintance with their real ideas shows that throughout the 19th century they well understood the possibility for the further expansion of capitalism – if the working class did not seize hold of power, as it tried to do in the Paris Commune in 1871, and introduce a socialist regime. It was still a ‘relatively progressive system’ able to develop science, technique and the organisation of labour. It is no longer able to do this, by King’s own admission. It has become an absolute fetter on the further development of society.
Indeed, huge developments in technology, which could enable a tremendous increase in wealth, freeing humankind from the drudgery of humdrum tasks, are a further threat to jobs and living standards. This is because society still labours under a system which is controlled by a handful. Eight men control as much wealth as half the world! This means that the available technology cannot be utilised to benefit everybody. Under capitalist ownership it will be responsible for throwing more and more workers out of jobs, lowering wages, and leading to a further cut in demand, thereby reinforcing and increasing poverty and inequality.
There is no final crisis of capitalism. Only if the working class takes hold of the levers of power nationally and internationally – in particular, bringing the giant corporations under democratic public ownership – will it be possible to introduce a plan of production to benefit the many and not the few. This is the real message that must be hammered home in Britain’s general election and which, in reality, flows from the annihilating condemnation of capitalism which Mervyn King supplies in his book.
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