Socially regressive cuts to pay for market failure are coming. Only regulation by and for the people can prevent more of the same
Talk of the end of the Great Recession and a return to normality is premature. Surging profits in the City and Wall Street should remind us that in matters of political economy, the worst is not over. Mired in spiralling unemployment, state debt and public frustration with parties, politicians and governments, much of the world economy continues to suffer the shocks and jitters of a massive market failure that threatens to knock the life out of democracy itself.
Let us remember the true cause of the deepest slump since the Great Depression: democracy failure bred market failure. Unelected regulatory bodies and elected politicians, parties and governments let citizens down. The self-regulation model palpably failed; empowering bodies like Moody's and Standard & Poor's and the UK's Financial Services Authority to look after the credit and banking systems resembled putting alcoholics in charge of a wine bar.
There were few monitory bodies to blow whistles or sound alarms. Brave individuals who did so were ignored, silenced or sacked. The consequence: banks, investment firms and hedge funds, shrouded in corporate secrecy, were allowed to pursue "front running", Ponzi schemes and other adventures that brought the world's banking and credit institutions to the edge of a cliff.
Exploding bubbles have plagued market economies since the 17th century Dutch tulip craze; they are intrinsic to unregulated markets, contagious and destructive of human lives. More will happen – unless early warning systems are put in place. Monitory democracy is the best check against hubris, and that is why toothier ways are needed for doing what central banks, bankers, regulators and accounting standards boards manifestly failed to do.
Gordon Brown may believe in granting more power to the Treasury and the Financial Services Authority (and less to the Bank of England) so that they can work financial miracles. But blind trust in either markets or government regulators is folly. The urgent political priority is to find more open and equitable ways of preventing future breakdowns of credit markets, which are bound to remain the drivers – and potential depressors – of markets in general. The question is not just if governments are too big or too small, or if they work (the words used by Barack Obama in his inaugural address). The question is also whether governments and market institutions are held publicly accountable by citizens, and by their various elected and unelected representatives.
There is of course a feelgood factor when speaking about greater public accountability of markets. Who (aside from animal-spirited bankers and hedge fund operators) could be against it? The trick is to find robust methods of clamping down on market failure. Platitudes about "oversight" and the need for "real reform of our regulatory architecture" (phrases used in recent months by Henry Paulson, Lord Turner and other failed regulators desperate to save their skins) are not good enough. Tough talk needs to be translated into the construction of new monitory bodies.
The recent decision of EU leaders to establish a systemic risk council, supervisory colleges and a single European rule book applicable to all financial institutions certainly count as examples. Embattled proposals by the US treasury secretary to regulate hedge funds and traders of credit-default swaps and other exotic financial instruments run in the same direction. So would first-ever global regulatory structures in the fields of banking, insurance and securities – credible forums that would crack down on fraud, discourage excessive risk-taking, foster best practice through open-minded counsel, and provide a means by which the millions of people hurt by this crisis may seek redress.
At its London summit, the G20 acknowledged the pressing need for global regulatory structures. "The era of banking secrecy is over," it declared. It agreed to rename and upgrade an obscure close-knit body of central bankers, finance ministries and regulators known as the Financial Stability Forum, whose replacement – the Financial Stability Board – will include representatives from all G20 countries, so making it the prototype of the world's first financial monitor. Based in Basle and working alongside the IMF, the FSB will have an elevated mandate to "provide early warning of macroeconomic and financial risks and the actions needed to address them".
For the moment, its officials deny they plan to act like guardians of the global credit system. Their diffidence reflects the fact that there is no formal provision for citizens and independent experts to convey their views to the FSB, which will operate entirely at the behest of states – some of which (the US, China, India) are profoundly sceptical about the need for global-level intrusions into markets. The secretariat of the FSB is to remain tiny; it has no formal powers to impose anything on anybody; and, for the time being, it will function as a clearing-house advisory and information-sharing body that hosts meetings and sets up "supervisory colleges". These will issue reports on "potential risks", "best practice principles" and revamped "regulatory systems". How the FSB would avert or resolve cross-border disputes triggered by the future insolvency of troubled companies such as Citigroup, AIG and the Royal Bank of Scotland is unknown.
The new FSB will be better than nothing. The European Systemic Risk Council and the commitment of G20 governments to clean up domestic banking and credit practices are also promising initiatives. But whether potent and durable monitory institutions within financial markets will result from these beginnings, or whether these monitors will be built quickly enough, is unclear. Tough and testing is the road ahead. The age of rebalancing public finances through harsh spending cuts and increased taxes that have deeply regressive social effects is coming. Democracy – as the developing crisis in California shows – is stumbling through hard times.
Whether such trends will be resisted and reversed depends heavily on citizens and their representatives. Just one thing is certain: given that the root cause of our economic and social crisis is political, the prevention of future crises has to be political – this time by finding the best remedy for democracy failure in the strengthening of democracy itself.
Copyright Speakers Corner 2017