2008 did Change Some Things
While monetary policy has continued replenishing the punch bowl, the party has been distinctly less merry, particularly after 2008. In its wake, two major changes occurred. On the one hand, the international overextension of banks in the run up to the 2008 crisis led to a re-examination of investment strategies of financial sectors, particularly in Europe. After all, it was not the ‘Asian Savings glut’ channelled into the purchase of US treasuries, but the massive investment of the newly deregulated European financial sector that had played the critical role in inflating the US housing and credit bubbles. On the other hand, since the excesses of the financial sector could no longer be denied, regulation became necessary. Though the financial sector avoided many of its dangers, including greater scrutiny, transparency and accountability, regulation was not without effect. In particular, it imposed higher reserve requirements, restraining, if not eliminating, the ability of banks to speculate. Given just how much monetary throw-weight is needed to make money in financial markets today—the sheer scale of money seeking returns cannot but thin margins—even this relatively weak imposition has affected financial sector profits.
No wonder then that international capital flows, which fell steeply in 2008 and then recovered, still remain 65 percent below their pre-2008 peak despite central bank generosity. Even so, the past decade has witnessed a considerable stock market bubble and it has now burst. With its massive monetary policy response, the Federal Reserve has pretty well used up all the ammunition it had carefully gathered since 2015, when it started raising interest rates so that it could lower them in the next inevitable crisis. Interest rates are now at or near zero. Negative interest rates are not really an option. Even the more adventurous Europeans have not ventured beyond -o.5 percent and the Federal Reserve has hitherto been unwilling to go into negative territory at all. The markets have since recovered somewhat but it is unlikely they can sustain that recovery.
The Problem this Time
No matter how high asset valuations go in any speculative frenzy, no matter how much the Federal Reserve encourages them, ultimately they are governed by the gravity exerted by the productive economy, its needs and wants. The dot-com bubble had to burst given the valuelessness of so many of its ‘asset lite’ stocks. The housing and credit bubbles burst in 2008 when interest rates had to be raised to preserve the US dollar’s value amid rising commodity prices, leading to slowing house price rises and more and more ‘underwater mortgages’ worth more than the prices of the houses they were hypothecated to. Today the problem for the stock market may have been triggered by the pandemic, but touches on deeper underlying problems. They have just got considerably worse and are unlikely to go away anytime soon.
As asset markets, which finance speculation in the value of already produced assets, grew in size over the decades, they far outstripped any reasonable proportion with productive activity—investment in the production of new goods and services (what some call the ‘real’ economy)—even as they relied on it. In the present crisis, the pertinent form of reliance is this: Banks and financial institutions accept deposits of productive corporations as their highest quality funding. Under the impact of supply and demand shocks, however, the productive corporations have been drawing down these deposits and even borrowing. Moreover, all big corporations are doing it all together at once.
While this has not triggered an immediate banking crisis, trouble may not be far off: as a Financial Times columnist recently noted, the very Dodd-Frank and other post-2008 regulatory tightening that has made banks more resilient requires them to have a minimal level of such quality deposits. “Losing these deposits so quickly threatens the liquidity profile and regulatory compliance of banks themselves. And that is before we start to see the spike in corporate downgrades and defaults that will create even more funding pressure.”
The Fed’s offer of liquidity no longer works because what the economy now needs is some way to create demand, both consumer and investment demand, to restore and expand production, and to re-orient it towards more equal, sustainable and meaningful directions than the consumerism on stilts that came with neoliberalism. This can only be the work of governments.
This poses a problem for capitalism. On the one hand, without it, a generalised financial and economic crisis far deeper than the temporary dip on production and consumption that the pandemic alone would cause is not far away. On the other hand, if the government steps in and actually does what is needed, it will require the state to replace private capital in determining the pace and pattern of growth to such an extent as to put a question mark over the future of capitalism.