The Asian financial crisis and the vicissitudes of globalisation

The 1997 Asian financial crisis and, more critically, the Great Financial Crisis a decade later, have undermined the hegemony of neoliberalism as the defining ideology of the current global economic order. This ‘shattering of the faith’ has manifested itself in a popular backlash against globalisation. Chakravarthi Raghavan explains this development and the unease it is creating among the global creditor class.

THE global creditor class (banks and other financial firms) seems to be in a sort of subterranean panic that two decades after the Asian financial crisis, and a decade after the Great Financial Crisis (GFC), and despite all their claims and those of international organisations (promoting their interests) of financial regulation and repair, the creditors have failed to regain the confidence of the public.

The schizophrenia behind this panic is over the fact that the creditor community had opposed and tried to weaken (with some success) the regulatory reforms instituted at national and international levels; and since then they have been busy trying to dismantle them or ensure they are not adequately enforced.

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Globalisation – a rarely properly defined term that has become ubiquitous since the mid-1980s and appears to mean all things to all and sundry – has now become more or less anathema in much of the industrialised world, while it is sought to be promoted and preserved by the developing world, with China emerging as some kind of a champion, replacing the United States, the architect and hegemon of the postwar economic order. The frequent use and misuse of the term ‘globalisation’ has probably contributed to some extent to the backlash.

Responding to these varying trends, the Basel-based Bank for International Settlements (BIS) – the so-called central bank for the central banks of the world – has warned, in its 87th Annual Report released in June, against throwing the baby out with the bathwater.

Without precisely identifying the liberal (laissez faire) era of industrial capitalism of the late 19th and early 20th centuries, the BIS talks of the ‘evolution of globalisation’ and its first wave, which died out with World War I (1914-18). It describes how after World War II ‘trade openness’ surged far beyond that in the first wave of globalisation, doubling (relative to GDP growth) the prewar peaks since 1960. Globalisation, the BIS underscores, has enabled the raising of living standards and the lifting of large proportions of the population out of poverty. (There is little doubt that ‘globalisation’ and economic growth and the space it provided enabled some of the governments in countries with large pockets of poverty to intervene and directly provide work and minimum incomes to the very poor.) As such, while the adjustment costs need to be carefully managed, globalisation does not deserve the backlash it is now receiving in the advanced industrial world, contends the BIS. And trade openness, the BIS notes, is symbiotic with financial openness. The BIS nonetheless has issued cautions over rising debt levels and the risks during the downswings of financial cycles.

The unwary, on a cursory reading of the narration in the BIS report of the first and second waves of globalisation, might be left with the impression that in both (somewhat vaguely defined) eras, more or less similar policies of economic liberalism prevailed. This is far from the actual facts.

The era of modern capitalism (distinguished from earlier periods of feudalism and mercantilism) is generally identified as beginning with Adam Smith and continuing through Marx, John Stuart Mill, Heckscher and Ohlin, and Keynes. (It would be simplistic though, as currently in vogue among conservatives in the Anglosphere, to associate Adam Smith unreservedly with free-market theories. While he was intent on delivering the coup de grâce to dying mercantilism, he nevertheless vigorously provided support for the British Navigation Acts in the then raging controversies between Britain and its American colonies.)

Depending on the school of economics to which one belongs, some parts of this era are referred to as the ‘golden age of capitalism’. For the liberal, laissez-faire economists, the period of unregulated, unrestrained ‘free markets’ up to the great Wall Street crash of 1929 and the Great Depression that ensued was the ‘golden era’. Since 1980, the Bretton Woods twins (the IMF and the World Bank), the BIS, the GATT and its successor the World Trade Organisation (WTO) have all been promoting policies of that era under what has come to be known as neoliberal economics.

On the other side, to the Keynesians, by and large, it is the postwar economic order that prevailed from about 1945-48 to the early 1970s which is the golden era: the era of industrialisation, trade expansion, full employment, rising workers’ incomes and living standards, an era marked by organised labour providing employment security, and the state and employers providing social security and retirement benefits, with the consumer spending that ensued leading in turn to corporate profits and investment growth.

There are some myths and mythologies surrounding both, but none more so than in the rosy view of the laissez-faire capitalist era – alleged worldwide free markets, free trade and free capital flows that prevailed from about 1870 to 1913. These have been exposed as ‘myths’ and comprehensively analysed by Paul Bairoch and Richard Kozul-Wright in a 1991 discussion paper published by the UN Conference on Trade and Development (UNCTAD) (subsequently revised and published as a chapter under the title ‘Globalization Myths’ in R Kozul-Wright and R Rowthorn, eds., Transnational Corporations and the Global Economy, 1998, Macmillan Press/St. Martin’s Press).

Bairoch and Kozul-Wright debunked some of the myths around the thesis that in the first globalisation era there was free trade and free flows of capital. They brought out that a regime of free trade – beginning with the Anglo-French trade treaty of 1860 and a series of French treaties with countries in continental Europe, all with the ‘most favoured nation’ clause – lasted for only about two decades. Around the time, the United States, emerging from the civil war, erected tariff walls and industrialised itself through import substitution strategies. In continental Europe itself, Germany and then France too, finding their agriculture hit by cheap grain imports from the US and Russia, and their industry also unfavourably affected by manufactured imports (with List in Germany more or less writing the counter-thesis to British free trade concepts), soon erected protective walls. Only Britain – and its colonies – persisted with policies based on openness to trade, though not to unrestricted cross-border flows of capital. As a result, the devastating effects of the Great Depression affected Britain most, while France and Germany escaped with much less damage.

As for financial openness and free movement of capital, this was generally accepted until 1914, payments imbalances being none-theless restricted by the need to pay for international transactions in gold.

In light of all this, there is a need to modify one’s assessment of trade and financial openness in the first era of globalisation and the conclusion that this openness drove globalisation.

In the postwar period, until about the mid-1970s, economic growth and trade expansion were underpinned by active state involvement and regulation of the economy, institution of old age pensions and social security, and employment security and rising incomes and wages through collective bargaining; this in turn resulted in consumer spending, and expansion of demand creating investment.

The efforts in that era, in particular in the US, of both pursuing domestic welfare and waging war abroad (the Vietnam War) but without raising taxes, inevitably led to inflation, followed by the stagflation of the mid-1970s. This period saw several US and European actions that may or may not be instances of cause-and-effect. Several European nations which were not involved in the Vietnam War nevertheless ‘profited’ by supplying goods and services to the US war machine; in terms of the then prevalent gold-dollar parity monetary regime of the Bretton Woods era, they accumulated dollar surpluses which they sought to convert into gold. As a response to these and the ensuing imbalances and erosion of US gold reserves, President Nixon, with just a half-hour’s notice to the International Monetary Fund (IMF), took the unilateral decision to end that parity and close the gold window.

After some temporary arrangements/accords between the US and Europe, including raising the price of gold vis-a-vis the dollar, the entire postwar Bretton Woods system was allowed to collapse, with IMF members adopting the Jamaica amendments to the IMF Articles of Agreement, and a system of floating exchange rates determined by financial markets. (In fact, however, countries and central banks did intervene in currency markets to provide support to their currencies within prescribed margins.) The currency chaos that followed was exacerbated by the growth in the interim of the Eurocurrency market and euromoney market of offshore currencies. There were also the two oil price increases of 1973 and 1979 agreed upon and instituted by the Organisation of Petroleum Exporting Countries (OPEC). It is still a matter of much argument and controversy among economists whether the oil price increases contributed to inflation or were merely responses to the inflation on the part of producers.

Whatever the cause and effect, the inflation and stagflation in the major economies challenged the credibility of Keynesian policies and made Friedman’s monetary economics and what became known as the Chicago school’s neoliberal economics feasible. Though very soon economists revised and adapted Keynes’s theories, giving rise to what is known as neo-Keynesian economics, they were unable to recover ground lost in the government policy sphere to the neoliberals. (Only the Great Financial Crisis which erupted in 2008 has brought about a revival of Keynesian efforts to stimulate the economy via unorthodox monetary policies as by the US Federal Reserve. Whether it will result in a reversal of neoliberal economics remains to be seen.)

The 1980 election of Ronald Reagan as US President, and his strident espousal of the neoliberal economic policies adopted a few months earlier in the UK by Prime Minister Margaret Thatcher, resulted in what is known as the Thatcher-Reagan counter-revolution. The mandate for change in the US was taken by the IMF and World Bank as a mandate for change in economic policies in the developing world, and the Fund and Bank enforced this change through their conditional lending and structural adjustment policies. Deindustrialisation followed in the developing countries that adopted the policies of this so-called Washington Consensus, which forced them to open up to trade and finance even while in the major advanced economies, agriculture remained highly subsidised and protected.

After a period of rapid growth, trade slowed down while finance took on a life of its own with little relationship to the real economy, with periodic financial cycles of upswings and downswings both triggered by and contributing to the rise in household indebtedness together with stagnation in the incomes of the majority in major advanced economies. All this culminated in the Great Financial Crisis, and the subsequent lukewarm efforts at financial regulatory reform (for example, the Dodd-Frank Act in the US).

At the international level, efforts began at the BIS and the associated Basel Committee on Banking Supervision (BCBS) on Basel III, a comprehensive set of reform measures to strengthen the regulation, supervision and risk management of the banking sector. The framework is still a work in progress, with the June meeting of the BCBS failing to achieve a consensus on both the framework and its starting date. It mainly takes into account the situation in advanced economies, with doubts as to whether and how developing countries would be able to comply. In fact, some sceptics, like David Shirreff in his book Break Up the Banks!, have questioned the utility of Basel III and are advocating a completely different approach to reform of the banking sector. (See the review of Shirreff’s book by Andrew Cornford in Third World Economics, No. 639, 16-30 April 2017.)

Those in the creditor community and international organisations espousing and promoting the interests of the creditor class might do well to look at the extensive literature available on the US policies under President Franklin Delano Roosevelt (FDR), in particular in his first term (1933-37). Henry Kaufman, a former Wall Street banker but now a fierce critic, recently authored a book contrasting how the bankers and their shenanigans were dealt with under FDR and (in the wake of the Great Financial Crisis) under President Obama. Kaufman, according to a review in the Financial Times, is scathing in his criticism of Obama and the failure of his administration to bring any major banker to trial.

After the Wall Street crash of 1929, the Republicans who then controlled the US Congress (Republican Herbert Hoover was the President) began an inquiry into the financial sector in 1930 in the Senate Committee on Banking and Finance. But the inquiry went nowhere, with the Democrats accusing the majority party of trying to cover up and whitewash the affair. Three successive chief counsel of the Committee quit, having been denied subpoena powers by the Committee and hence being unable to get at documents or examine witnesses on oath. 

The 1932 US election saw patrician FDR sweeping the polls in a landslide, winning the White House and with comfortable majorities in both houses of Congress. The now Democratic-controlled Senate got a new counsel for its Banking and Finance Committee, Ferdinand Pecora. (In popular narration, including Wikipedia, this inquiry has come to be known more as the Pecora Commission rather than by the names of the Senate Committee leaders.) Armed with subpoena powers, Pecora forced Wall Street tycoons to produce their internal documents and give evidence on oath in public before the Committee. Figures like Richard Whitney, president of the New York Stock Exchange; investment bankers Otto H Kahn, Charles E Mitchell, Thomas W Lamont, Albert H Wiggin and JP Morgan Jr; and celebrated commodity market speculators such as Arthur W Cutten were forced to testify in person before the open Senate inquiry. Wide media coverage of the inquiry helped mobilise public opinion in support of such reforms as bank deposit insurance, restoring public confidence and avoiding or ending runs on banks; the establishment of the US Securities and Exchange Commission and its regulatory and investigatory powers, used to end shady practices and insider trading; and other New Deal reforms.

Pecora achieved disclosure of the abusive practices of the financial industry and got a top personality like JP Morgan Jr to admit that he and his partners had not paid any income taxes in 1931 and 1932. (The contrast with the current situation in the US, where President Trump has not disclosed his tax returns, is rather striking.) Others admitted to insider trading and other questionable practices. The public outcry led Congress and FDR to enact several regulatory reforms such as those mentioned above, and bankers shown to have committed fraud were prosecuted and jailed.

In contrast, after the GFC, some minor traders have been jailed, but not one banker or other senior executive of a major financial firm. The Dodd-Frank financial reforms are yet to be fully enforced, and the bankers and shadow-banking institutions have been busy trying to weaken or dismantle even these limited reforms.

Is it then surprising that the public have become cautious, amid constant threats of cutbacks in social security and other welfare measures which would weaken consumer demand and thus investment and, with it, economic growth? And with stagnant incomes, and so-called flexible employment contracts more and more prevalent, much of the middle and working classes are getting into debt just to keep afloat.

In the immediate aftermath of the Asian financial crisis, it was fashionable for financial media (including such figures as Martin Wolf of the Financial Times) to blame the Asians for crony capitalism and to cheer the policy prescriptions of the IMF and other international financial institutions with their one-size-fits-all programmes of structural adjustment and trade and financial liberalisation. In the late 1990s the IMF was promoting capital convertibility to the point where it was trying to get the abrogation of provisions in its Articles of Agreement that enabled capital controls.

Only recently, after the GFC of 2008, have the same international financial institutions and the financial media begun promoting neo-Keynesian policies of public spending and stimulus to counter the deflationary forces of the GFC. The IMF also changed its stance, not only supporting the non-orthodox monetary policies that the US Federal Reserve and other leading central banks used to stimulate the economy, but even conceding use of capital controls in certain scenarios.

The BIS though by 2010 began worrying about the very low or near-zero interest rates, and the resulting disincentive to savers, that however still failed to produce consumer spending. It began advocating monetary and fiscal tightening, and gradual increases in central bank policy rates. The advice was largely ignored, thus enabling anaemic global growth. Noting this, Martin Wolf has recently called the BIS ‘the stopped clock of international economic institutions’.

It is this malaise of stagnant incomes and falling living standards of the middle and working classes that has created the current disillusionment with globalisation and the backlash against it.

In this context, Chapter III of this year’s BIS Annual Report has a useful and pointed discussion of financial-cycle risks and consumption risks (and renewed rise in debt levels, including in emerging economies), and it includes a useful table which brings out the early warning indicators of stress in domestic banking systems.

However, as Andrew Cornford, a former senior economist at UNCTAD now with Observatoire de la Finance who follows financial market regulations, notes, it is not at all clear how appropriate it is to discuss risks to investment in abstraction from consumption. The level of investment depends on prospects for consumption, and sustainable levels of consumption in at least the medium term depend on buoyant consumers’ income and not – as in major countries prior to the GFC – on rapid accumulation of consumer debt (though this last brings revenues and profits to banks). This implies that growth of productivity resulting from buoyant investment also depends on buoyant consumption that is not dependent on excessive indebtedness but on buoyant incomes for the majority of economic agents. Acknowledgement of such links would require a somewhat different approach to policy.

As in other mainstream and financial discourse, the discussion in the BIS report of world trade focusses exclusively on dangers from protectionism. There is little awareness of the possibility that part of the slowdown in world trade growth may be due to slower innovation in transport and communications. The effects of such innovation figured more prominently in discussion of trade earlier in the 20th century. Indeed, in much literature greater importance was attributed to developments on this front than to protectionism. Cornford, for example, thinks that ‘a balanced discussion of the subject has to integrate the effects of economic growth, financing for trade, protectionist measures, and transport costs – with appropriate disaggregation – and would not serve simply as a peg for observations about the neoliberal bugbear of protectionism’.

Discussions in mainstream economics of today (whether at the WTO, international financial institutions including the IMF, BIS, or elsewhere) often also advocate labour market flexibility (not necessarily well defined) – flexibility that neither the international civil servant economists nor tenured economists in academia like to be applied to themselves. That apart, there seems little awareness that measures advocated under the heading of ‘flexible labour markets’ have too often been such as likely to increase economic insecurity for much of the population – a condition that does not encourage consumption.

It was in fact the economic security that the postwar order ensured that unleashed consumer spending. Neither the BIS nor any of the international financial organisations has flagged or advocated measures which would safeguard incomes and enhance economic security, acting as a bulwark against the breakdown of communities and the increasingly pervasive sense of hopelessness amongst much of the population in major developed countries. None of them has advocated ending precarious work contracts, which are capable of generating lower but misleading statistics for unemployment. Security of employment and labour rights is not exactly a Marxist or communist concept. Support for it has an honourable non-Marxist tradition in economics, with a range of non-Marxist economists like Amartya Sen, JK Galbraith, JM Clarke and others voicing support for labour rights, all seeing it as a counterbalancing force vis-a-vis corporate power.  Yet this support does not find reflection in the current era in the output of the main multilateral organisations. Even the International Labour Organisation (ILO) deals with this issue rather carefully (lest it attract the wrath of leading governments, which might cut funding!).

At the same time, the financial community and its lobbyists are busy trying to weaken, if not dismantle, the limited regulatory reforms put in place after the GFC.

All this implies continued political uncertainty in the Anglosphere and in the EU, making it difficult to predict short-to-medium-term outlooks or for countries to build up economic resilience as the BIS advocates.      

Chakravarthi Raghavan is Editor Emeritus of the South-North Development Monitor (SUNS) published by the Third World Network. He is the author of, among other books, Recolonization: GATT, the Uruguay Round and the Third World, The Third World in the Third Millennium CE: The Journey from Colonialism Towards Sovereign Equality and Justice and The Third World in the Third Millennium CE: The WTO – Towards Multilateral Trade or Global Corporatism?             

*Third World Resurgence No. 321, May 2017, pp 19-22