Egemonia

By Alan Woods


– Part One -

The recent chaos on world stock markets is a manifestation of the general turbulence that is the most prominent feature of the present epoch. In the last week we witnessed the near-collapse of the fifth largest bank in Britain. Thousands of angry people queued all day to withdraw their money from the Northern Rock bank, when it emerged that the bank had had to arrange an emergency loan from the Bank of England to prevent it from collapsing.

This was the biggest banking crisis in Britain since the 1930s. In fact, one would have to go back 150 years to find a run on a British bank. The last time there was a financial crisis of this scale was in 1866. It was a panic - as they used to call a slump in the 19th century. The dramatic scenes were completely unprecedented in the recent history of Britain.

Northern Rock was the fifth biggest bank in Britain. It had adopted the model developed by many of the major banks in the U.S. Instead of the traditional method of maintaining sufficient capital to back up the loans on their books, they depended on wholesale financing of their mortgages from investors in the market. In this way, the bank could avoid the inconvenience of maintaining enough reserves to repay their depositors. As a result they did very well indeed. Business boomed. They had mortgages on their books to the value of about £100 billion. All was for the best in the best of all capitalist worlds.

That was all right as long as people did not demand their money. As long as the economy was booming, this situation could continue. But if the depositors were ever to ask for hard cash, the bank could not pay them because it simply doesn't have their money. It has been lent to people to buy houses, and these people pay a certain amount every month in mortgage repayments. But they could never return the full amount borrowed in one go.

As a result, despite a book value of £100 billion, the bank was not able to pay out a few billions to their customers without a government bailout. They did not have the reserves. Their assets are illiquid and have no discernible market value. In the moment of truth, the fifth biggest bank in Britain had only a paper value and imaginary billions, whereas what the depositors were demanding was hard cash. The £100 billions in property assets turned out to be a heavy millstone round their neck, dragging them under.

U-turn

Alistair Darling, the Chancellor of the Exchequer, had been trying to reassure savers that Northern Rock was solvent and had the backing of the Bank of England. In the past, such statements from the Chancellor and the governor of the Bank of England would have had the effect of calming the nerves of depositors and shareholders. But now the reassuring noises had no effect. There was no let-up in the crisis and withdrawals from Northern Rock continued.

The crisis was beginning to gather momentum by the moment, like a huge snowball running downhill. Northern Rock shares fell by 35.4 per cent, and mass withdrawals of funds were taking place on an average of £1bn a day. The bank lost an eighth of its deposits in three days. On that basis, the bank would have been left without funds by the weekend.

This was not supposed to happen. The news of the crisis at Northern Rock immediately had an effect on other banks. On the stock exchange there were heavy falls in the shares of other banks. The cost of borrowing between banks reached extremely high levels. The whole of Britain's banking system was in danger.

The most serious problem was the risk of contagion, leading to a general banking collapse. They came very close to this. Another big bank, the Alliance & Leicester was forced to make a statement after its shares plunged by nearly a third. The slump in Alliance & Leicester's shares raised fears of its customers making mass withdrawals of their savings in a second run on a British bank. The bank tried to answer rumours that it would be the next bank to seek emergency funding.

Bradford & Bingley was another with a question mark over its future. Its shares also fell heavily. Both banks have relatively few depositors, and use the money markets to fund their lending. The share plunge slashed Alliance & Leicester's market value by £1.2bn.

Traditionally, the Bank of England would have quietly lent money to the bank in order to avoid a panic. Nobody would have even known about it. But new regulations made this impossible. The old cosy world of the bankers has vanished forever. They also are compelled to enter into the frenzied maelstrom of 21st century global capitalism.

Only two days before the crisis broke, Mervyn King, assured a parliamentary committee that there was no way that the Bank would bail out banks and investors who got into trouble because they had invested speculatively and unwisely in sub-prime loans and other risky ventures. But in a few days the governor of the Bank of England had to do a 180-degree turn.

In a desperate attempt to calm the panic, Alistair Darling, the Chancellor of the Exchequer, said: "Should it be necessary, we, with the Bank of England, would put in place arrangements to guarantee all the existing deposits in Northern Rock during the current instability. This means people can continue to take their money out of Northern Rock but if they choose to leave their money in Northern Rock it will be guaranteed safe and secure."

The government was terrified by the danger of contagion. Alistair Darling, the Chancellor of the Exchequer, and Gordon Brown panicked. Despite the so-called autonomy of the Bank of England the government clearly twisted the governor of the Bank of England's arm, compelling him to provide funds to Northern Rock immediately. Darling said that if forced to, the Government would use Northern Rock's assets to fund the deposits.

City analysts said that would be the equivalent of nationalising the bank. The Treasury also said the Government could provide backing for other lenders if necessary, depending on their financial situation. What does this mean? Faced with the threat of a collapse, the Chancellor was forced to offer a full "money back" guarantee. In effect, the New Labour government was presenting not only Northern Rock but the entire banking system with a blank cheque.

What is left of "market economics"?

Let us spell it out clearly: a few days ago the entire British banking system was threatened with collapse. The action taken by the government was a desperate move to stave off a potential catastrophe and persuade savers that their money was safe. The government is now trying to find a buyer for Northern Rock. It is not sure that it will succeed. The whole situation is extremely fragile and new panics are possible at any time. Rather than a victory, as the government is claiming, this is an uneasy truce. Now they are looking for a scapegoat and think they have found it in the alleged fiscal conservatism of the Bank of England.

Bankers and economists have criticised the Bank of England's initial refusal to provide support for financial institutions. But from a capitalist point of view, it acted correctly. According to the laws of the market, if a company has no funds, it goes bankrupt. The state is not supposed to spend taxpayers' money bailing out companies that get into difficulty. If a company is not profitable, it must be allowed to close and in this way the whole economy will become "leaner and fitter". It is merely a concrete expression of the Darwinian struggle for survival. And as we know, the fittest will always survive!

This principle was applied with extreme ruthlessness to cases like the British car industry (a once thriving branch of manufacturing of which nothing now remains) or coal mining. The bankers are always particularly strict on this question. But once the City of London is affected the "iron" principles of market economics melt like a snowball in the sun. Just compare this behaviour with the conduct of both Labour and Tory governments towards manufacturing industries threatened with bankruptcy and closure! The bankers immediately go running to the government for state subsidies and the government - which is so hard on miners, car workers, single parents, disabled people and underpaid nurses - immediately comes running to their aid with an open cheque book.

What is now left of the claim that the bankers and capitalists deserve their profits and interest because they are brave pioneers of private enterprise who are being rewarded for "risk taking"? Where is the risk if, when there is a crisis, the government immediately steps in to underwrite all the losses? This is the real face of "market economics". When the market is going up and the banks are making huge profits out of all kinds of swindling and speculative deals, the market rules. But when the economic climate changes and the cold winds begin to blow, they soon forget all about market principles and demand subsidies from the state.

The root causes

Of the recent events in Britain Mike Whitney wrote: "This is what a good old fashioned bank run looks like. And, as in 1929, the bank owners and the government are frantically trying to calm down their customers by reassuring them that their money is safe. But human nature being what it is, people are not so easily pacified when they think their savings are at risk. The bottom line is this: The people want their money, not excuses." That is well said.

In the arcane world of banking, trust is an essential ingredient. The motto of the Bank of England since the 18th century has been: "my word is my bond." But if people do not believe that the banks can be trusted to look after their money and return it to them on demand, what will happen is a run on the banks, where depositors rush to withdraw their savings. This is what we witnessed recently in Northern Rock.

Trust is like virginity: once you have lost it you cannot get it back again. There is now a deep distrust not only towards the banks but towards the government and the whole establishment. This is something entirely new in British society. It can have important consequences in the future, not just in the field of economics but in politics also.

The real cause of the present crisis was not the crazy world of speculation. The sub-prime crisis, as Greenspan correctly says, was only the accident through which necessity revealed itself. In the Daily Telegraph (September 17) Roger Bootle writes:

"Moreover, with banks' own funding costs now much higher, and with a belated recognition that lending can be a risky business, they have gradually been moving to alter lending behaviour with customers, as well as each other.

"Meanwhile, there have been signs the global economy is slowing. In the US, the level of employment, widely regarded as a key barometer of economic health, fell outright in August for the first time in four years.

"In fact, recent financial market turmoil is not at the root of these economic developments. They reflect a general weakening in the global economy that had begun before the markets went doolally." (my emphasis, AW)

On this question at least Mr. Bootle is correct. Financial crises and credit squeezes are not the cause of economic crisis but its effect. The capitalist cycle of boom and slump has more profound causes. As long as the capitalists are making profits from the extraction of surplus value, there is "trust" and "confidence" and credit is lax and easy to get. But when the cycle is reaching its limits and there are indications that the good times will not continue, this "confidence" evaporates.

The levels of speculation and fictitious capital injected into the economy in the last period are like a poison that must be squeezed out. But in attempting to do this, they can easily puncture the bubble and drive the whole thing down. At this point creditors begin to demand repayment of debt and are no longer so keen to lend money. They demand a higher rate of interest. This cuts into the rate of profit and reduces demand. What was effect now becomes cause, driving the whole cycle down in an uncontrollable spiral.

This is what both the British and American bourgeois are afraid of. That is why both the Fed and now (reluctantly) the Bank of England are injecting more inflation into the economy. By so doing they may postpone the evil day a little longer, but only at the cost of causing an even sharper and deeper collapse later on.

The casino world of modern capitalism

There was a time when bankers were thought of as respectable citizens who could be relied upon to look after other people's money. They wore dark suits and received people attempting to borrow money in marble halls, subjecting them to an inquisitorial interrogation concerning every aspect of their lives. Not any more!

Thanks to the Thatcherite reforms of the 1980s and the deregulation of the City, all this has changed. The bankers are now fully absorbed into the casino world of modern capitalism and addicted to gambling on the stock markets. The problem is that they are gambling not with their own money but with the life-savings and pension funds of millions of ordinary people, overwhelmingly working class or middle class.

At the peak of the boom there can be a crisis of the stock markets that serves to squeeze out the large quantities of fictitious capital that have been injected into the system during the upswing. This is now referred to as a "correction" and is supposed to have the same beneficial effects that bleeding (removing excess blood from a patient) was thought to have in the Middle Ages. But as we know, the loss of too much blood all at once can have disastrous consequences.

The credit crunch is already having an effect. Banks are already being forced to write off billions of pounds of debt. The Bank of England has raised interest rates five times in the past year to their current 5.75 per cent. Now there are howls of pain.

The increase in the cost of credit does not only affect consumers and house-owners, it also eats into the rate of profit of the capitalists. This can affect investment at a certain stage, especially if it is combined with rising prices of raw materials like oil.

"In Britain the housing [market] hasn't turned yet, and the consumer households are more subject to interest rate changes than in the United States," says Greenspan. The instability in money markets has meant that the real rate paid by millions of families - the so-called standard variable rate - has actually risen to heights it last hit when the Bank rate was a full percentage point higher at 6.75 per cent. This warning comes with the UK banking system in a state of crisis.

There are also growing signs that after a decade of almost uninterrupted growth the housing market is slowing dramatically. Rightmove and the Royal Institution of Chartered Surveyors have reported a sudden drop in prices.

Role of the Fed

In his 1966 pamphlet Gold and Economic Freedom Greenspan blamed the Fed for the Great Depression. This is not correct. Banks do not cause depressions, which are the consequence of the anarchy of capitalist production. But they can certainly exacerbate crises by injecting huge quantities of fictitious capital into the system during the upswing. This happened in the period before the Great Crash of 1929 and it is happening on an even bigger scale now. Let us quote Greenspan's words:

"The excess credit which the Fed pumped into the economy spilled over into the stock market, triggering a fantastic speculative boom. Belatedly, Federal Reserve officials attempted to sop up the excess reserves and finally succeeded in breaking the boom. But it was too late: by 1929 the speculative imbalances had become overwhelming".

These opinions are ironical coming from Alan Greenspan. Under his directorship, the Fed contributed mightily to America's bubbles and its debt addiction. By holding rates too low for too long, it encouraged the credit boom, preparing the way for the present crisis. For much of the period from 2002 to early 2006, "real" rates were actually negative (i.e. below inflation). People were punished for not taking on debt. Greenspan now says: "The human race has never found a way to confront bubbles". He admits he was caught off guard by the sub-prime madness that ensued: "While I was aware a lot of these practices were going on, I really didn't get it until very late in 2005 and 2006," he told the Telegraph.

The result of repeated interest rate cuts is a country living far beyond its means (the bankers call this moral hazard). From the biggest world creditor America has been transformed into the world's biggest debtor, with net external liabilities of $3,000bn. The savings rate has fallen below zero for the first time since the Depression. The US has been running a current account deficit of 6.5% of GDP for year after year, and yet the Fed looked complacently on as on America's shoppers merrily went on spending and accumulating ever-greater debts. As a result Asia, and particularly China, have accumulated huge reserves at America's expense.

The recent crisis has revealed to what extent big US banks are involved in speculation. Particularly distasteful was the practice of the buying and selling of debt. During the recent boom, banks and finance houses were willing to offer credit and mortgages to many people who could not afford it. As long as interest rates were low (for a time even negative) this seemed like a good deal. Many poor working class people were tempted to buy houses on this basis. Moreover, the banks actually sold packages of this debt to other banks, which were eager to buy.

"Structured finance" is the term they use for a system allegedly designed to distribute capital more efficiently by allowing other market participants to fulfil a role that used to be considered the exclusive preserve of the banks. In practice, it is a gigantic swindle. Insecure mortgage loans and other liabilities were magically transformed into assets (securities) by so-called securitisation. It was the financial equivalent of the alchemists who claimed to transform lead into gold. This system relies on investors to provide the funding for mortgage loans that are pooled and sold as collateralised debt obligations or CDOs.

This madness was exposed by the collapse of Bear Stearns in the USA. Suddenly nobody wanted these CDOs any more. A whole series of well-known banks were in trouble. Lehman Brothers, for example, was badly damaged by its heavy exposure to the $2,000bn sub-prime market, "slicing and dicing" housing loans into packages for resale, usually in the form of collateralised debt obligations. Last year it had a large share of the total $500bn issuance of CDOs. On this basis it paid a very generous $40.5m to chief executive Richard Fuld.

It was all very nice while it lasted. But all good things must come to an end. The panic in US credit markets was sparked off in May when Bear Stearns revealed huge losses in two of its hedge funds. One of the two funds was allowed to collapse, while the bank bailed the other out. In August new CDO sales plunged by 73%. Now the bond yields on Lehman debt have fallen below that of Colombia, rated BBB. The amount of money Goldman Sachs and Morgan Stanley have had to raise has doubled since February to about 165 basis points, badly denting profit margins.

Citigroup estimates the four banks, plus Merrill Lynch, have been left with $75bn of loans for leveraged buy-outs, contracted before the credit squeeze, that they have been unable to place in the markets without taking a hefty loss. There has been a sudden increase in borrowing by banks from the Fed's emergency bailout program. Billions of dollars have been handed out through what is known as the "Discount Window". Just as in Britain, the US banks have been borrowing money from the Fed because they cannot meet their minimum reserve requirements.

Parasitism

The entire banking system is now up to its neck in fraud and swindles of all sorts. This was always the case. In a boom, when production is in full swing and there is plenty of money to be made there is a frantic scramble for credit. An excess of money and credit at this stage in the economic cycle plays a positive role in oiling the system and providing much-needed liquidity.

There is always an element of speculation in this, as Marx explains. When everybody is making money, nobody is concerned about looking too closely at where the money is coming from - or even if it is real money at all.

The English economist Gilbart as early as 1834 wrote: "whatever gives facilities to trade gives facilities to speculation. Trade and speculation are in some cases so nearly allied, that it is impossible to say at what precise point trade ends and speculation begins." In Marx's day it was estimated that possibly "nine-tenths of all the deposits in the United Kingdom may have no existence beyond their record in the books of the bankers who are respectively accountable for them."(The Currency Theory Reviewed, etc., pp. 62-63)

In this merry carnival of moneymaking everybody is too intoxicated with the spectre of enrichment to worry about the fine print. "Eat, drink and be merry, for tomorrow we die!" That is the motto of the bourgeoisie in a period of boom. However, as the boom runs out of steam, these fraudulent schemes and swindles are being exposed. Bank failures are inevitable in the future.

The only difference between the present period and the past is the scale of the orgy of swindling and speculation. In the past period vast quantities of fictitious capital have been injected into the system through the stock exchange boom, the housing bubble and the endless extension of credit and debt to unheard-of levels. This is merely one reflection of the senile decay of capitalism.

In its youth the bourgeoisie, driven by greed for profit and insatiable thirst for surplus value (the unpaid labour of he working class), developed the productive forces. But in the period of its senile decay it plays no progressive role whatsoever. Marx explained that the real ideal of the bourgeois is to make money from money, without having any need to resort to the painful process of production. The bourgeoisie has now been infected with a disease that has no known cure. In the words of conservative British economist Roger Bootle:

"The plain truth is that financial markets and financial institutions have indulged in a mad wave of greed-driven, purblind, herd behaviour. In the process they banked their millions. Now that the consequences are being laid bare it ill becomes them, from their plush temples to mammon, to be calling for a disguised form of state aid. You can imagine what they would have said in reaction to the idea of bailouts for car manufacturers, shipbuilders or miners. Now that the pain is close to home they whinge with a tone of righteous indignation."

Marx himself could not have put it better! In the past capitalism played a relatively progressive role in developing the productive forces and thus creating the material base for a new society - socialism. But today this is no longer the case. With the exception of China (and some other Asian economies) the bourgeoisie has not been developing the productive forces.

Marx pointed out that the ideal of the bourgeois is to "make money from money", dispensing altogether with the painful necessity of productive activity. Now they are close to realising this dream. In Britain, the USA and many other countries there has been a steep decline of manufacturing and huge rise of the parasitic finance and services sector. Michael Roberts wrote recently:

"Never in the history of capitalism has the financial sector been so important to the health of capitalism. In its maturity, capitalism is increasingly no longer a system that raises the productive forces. It is more and more a financial parasite unproductively resting on top of the productive sectors of the global economy (mainly in China, India etc).

"That is especially so in Britain, the financial parasite extraordinaire - a giant Switzerland, that sucks in the earnings of other countries (oil-producers in the Middle East and the manufacturers of Asia) and recycles it. British capitalism now makes little itself. Instead it is just giant banker of the world. As such, the British capitalist economy is the most vulnerable to a global financial crisis and any ensuing economic slump. And British workers and their families will suffer more than most." (Britain: The rocky road to ruin By Michael Roberts).


– Part Two -

Greenspan "explains"

The bourgeois economists are incapable of understanding crises, which are an inescapable result of capitalism. It is quite amusing to read the comments of Alan Greenspan, the guru of modern bourgeois economics.

However, Greenspan is right about one thing at least. He says that the sub-prime lending crisis in the USA was "an accident waiting to happen" and that is correct. Hegel explains that necessity expresses itself through accident: "if it wasn't the sub-prime, it would have been something else. Sub-prime in the US was the weak link in our system. If we had gotten past that and we hadn't broken the overall fever it would have been something different, but it would have happened one way or the other".

So what caused the crisis according to Greenspan?

"At the core of it, he says, is the fact that in recent years banks have been selling on packages of debt to investors all over the world. ‘[Sub-prime] wouldn't have been an economic problem at all if we didn't securitise this stuff and sneak it out of the country,' he says. Meanwhile, the pricing of the complex and opaque collateralised debt obligations which contain so much of this debt has ‘turned out not to be all that successful'."

For the bourgeois crises (and economics in general) are always explained in subjective terms. In the same way as all consumers are assumed to possess a universal knowledge of commodities, so all crises are caused either by the mistaken decisions of governments or central banks, or, as in this latest version of Greenspan, human nature:

"Human nature moves from euphoria to fear," he informs us. "It is this sense of fear that modern economists are failing to take account of when they make forecasts, he adds. The old habit of boom-and-bust has not died in recent years - it has merely been dormant.

"We've been having bubbles since the South Sea Bubble in 1720, and then before that the Tulip bubble. It's one of the innate aspects of how human beings behave. You cannot end them unless you undermine, very fundamentally, the economy; and you can't defuse them because you have to wait for the fever to break.

"I don't think we forecasters have been factoring in innate human nature at the level we should and can. Innate human nature is forecastable: we repeat the same thing time and time again, [yet] we cannot learn. You can go through a period of fear and things come out alright in the end, and you do it 10 times and you'd think on the 11th time you wouldn't worry. But you worry. There's no way of altering the pattern." (Daily Telegraph, September 17, my emphasis, AW)

There are many obvious advantages in this interpretation. Human nature is permanent, and therefore capitalism and all its consequences (unemployment, crises, inequality, exploitation, etc.) must also be permanent. According to this view, like the poor in the Bible, they are "always with us". Human nature is also imponderable, mystical and something that cannot be easily understood. Therefore, by appealing to human nature, all discussion and questioning must cease. We do not have to explain crises; they just are. Consequently, it is useless to look for solutions or alternatives: "There's no way of altering the pattern."

As a matter of fact, Greenspan is half correct. Under capitalism crises are inevitable and there is no way of altering the pattern. If you accept capitalism then you must accept the laws of capitalism: that is to say, you must accept booms and slumps (now referred to in polite circles as "corrections"). The reformists and Keynesians like Will Hutton who advocate tinkering with the system to "smooth out the cycle" by state intervention, deficit financing, pump-priming and the like, may succeed in postponing a slump for a time, but only at the cost of preparing an even more serious crisis in the future. That is precisely what Darling and Brown have just done. As Roger Bootle says:

"At the very least, these developments imply the next MPC meeting will be a humdinger. Those members who thought that interest rates were already high enough should logically now be voting for a cut. But the Governor and his allies will surely want to resist that for all the reasons he outlined last week in a letter to the Treasury Committee. King warned that action to shore up the financial system could ‘encourage excessive risk-taking' and ‘sow the seeds of a future financial crisis'." (The Daily Telegraph, September 17)

Critical point?

Every economic cycle begins with a boom and ends in a slump. It is impossible, however, to be precise about the timing of the cycle.

The present financial crisis is a turning point. In the opinion of Roger Bootle "this is the financial markets' 9/11." It may or may not signify that the critical point has been reached when the world economy begins a slide into recession. That is a possibility. But the laws governing the conduct of the money markets are not the same as those that govern the capitalist cycle. A stock market crisis may be the spark that ignites a general crisis, as happened in 1929. But if the underlying process is still on an upwards curve such a crisis can serve to squeeze out fictitious capital from the system, preparing the way for a further period (longer or shorter) of economic growth, as in 1987.

The general opinion of the bourgeois economists is that central bankers and governments can manipulate the economy so that slumps can be avoided. Most of them agree that a repetition of the crash of 1929 and the Great Depression is impossible. They assume that because for the last twenty or so years there have only been two recessions and both of them were relatively mild, that they have finally managed to find a magic recipe for avoiding slumps as in the past. This is an entirely erroneous assumption.

The recent crisis in Britain showed precisely that all the instruments for solving a crisis and avoiding panic are useless. In the moment of truth people were gripped by a herd instinct. They moved en masse like a herd of wildebeest frightened into a stampeded by the mere scent of a lion. Many commentators have spoken scornfully about this "irrational" conduct. If it was irrational, then it is the same irrationality that is the heart and soul of the capitalist market economy.

The government and the Bank of England were powerless either to prevent a major banking crisis or to calm the nerves of depositors and investors. In the end they only succeeded in preventing a total collapse by giving a promise of unlimited funds to the bankers, paid for out of the taxpayers' pockets. This has temporarily halted the downward slide, but only at the cost of preparing the way for even steeper falls in the future.

Is the crisis over?

Is the crisis in Britain over? Not at all. Only the unprecedented intervention by the Government temporarily "solved" the Northern Rock crisis by publicly guaranteeing all the bank's deposits. The intervention by the Chancellor, Alistair Darling was forced by the spectacle of mass queuing outside Northern Rock branches and billions wiped off banks' shares.

The government could not afford to allow Northern Rock to go under and possibly set off a chain reaction that would cause the collapse of one bank after another. It therefore announced it would after all fund Northern Rock. This temporarily calmed the situation, but none of the underlying problems have gone away. On the contrary, by injecting even more (public) money into a diseased system, they will ultimately make the problems far worse than they were before the crisis over Northern Rock broke.

In an interview with Edmund Conway, Economics Editor of the Daily Telegraph (17/9/07), Alan Greenspan warns of a UK house prices drop. He predicts that Britain's housing market is heading for a "painful correction" and warns of "difficulties" ahead for UK home owners, as rising interest rates bring house price growth to a shuddering halt. The 81-year-old economist, an adviser to Gordon Brown, said that recent increases in house prices - particularly those in London and the South East - were unsustainable:

"Can [the boom] last? No. You're already beginning to see the mortgage rates are moving; a lot of the two-year fixes are beginning to unwind, and the teaser rates are going," he adds, referring to mortgages where rates jump after an introductory period in which low rates are used as bait to attract people. "It's going to turn, it's got to turn," he says.

Mr Greenspan also warns that Britain is more vulnerable to the effects of the credit crunch than the US: "Britain is more exposed than we are - in the sense that you have a good deal more adjustable-rate mortgages," he says, referring to the standard variable rate loans that many households have chosen over fixed-rate deals.

In the same interview he also warned that:

"Inflation will pick up dramatically over the coming years, as much as doubling from its recent lows and that interest rates may have to hit double figures in the coming years to avoid inflation."

The crisis has not been avoided. It is only just beginning. From now on, after years of low inflation and low interests and easy credit, we will see a tightening of credit and rising interest rates. This will have a number of effects. On the one hand, dearer and scarcer credit will reduce demand by cutting into the purchasing power of the consumers, both in Europe and the USA. On the other hand, together with the inevitable rise in inflation (oil prices recently hit a new high), it will negatively affect the profits of the capitalists, which will lead to a slowing of production, or even a recession.

To begin with, a fall in the profits of the banks must lead to job cuts in the financial sector, which must affect property prices. This will lead to a further contraction of demand, unemployment and bankruptcies in the construction industry. This in turn will affect demand for steel, cement, bricks and other commodities, leading to a further downturn in industry.

The collapse of house prices must provoke a slump in the construction industry. Already in the USA two million homes have been repossessed. So millions of poor Americans find themselves homeless, while millions of others are struggling to pay the mortgages on homes that are no longer worth as much as they paid for them. One writer recently predicted the emergence of a sub-class of mortgage slaves in the USA.

Let us leave aside the social effects of all this. From a strictly economic point of view it is extremely serious because the construction boom was the main motor-force of the US economy in recent years. Therefore, in this case, it is not hard to see that a slump in the housing sector must have an effect on the real economy in the not too distant future.

US - the key to world economy

All the ingredients are present for a downward slide, particularly in the all-important US economy. The bursting of the technology bubble in 2000 led to a recession, but it was a relatively mild affair. But there is no guarantee that the next one will be the same. In economics the past is no guide to the future. The present crisis in the money markets has raised the prospect of a recession in the wider economy. The dollar, despite everything, remains the world's "reserve currency". A steep fall in its value could destabilize the global economy.

The US economy remains the decisive factor in the world economy. But the strategists of capital are increasingly concerned about the state of its health. On August 14 an article appeared in the Financial Times with the title Learn from the fall of Rome, US warned. This title tells us a lot about the current psychology of the strategists of Capital. Jeremy Grant in Washington wrote:

"The US government is on a 'burning platform' of unsustainable policies and practices with fiscal deficits, chronic healthcare under funding, immigration and overseas military commitments threatening a crisis if action is not taken soon, the country's top government inspector has warned.

"David Walker, comptroller general of the US, issued the unusually downbeat assessment of his country's future in a report that lays out what he called ‘chilling long-term simulations'.

"These include ‘dramatic' tax rises, slashed government services and the large-scale dumping by foreign governments of holdings of US debt.

"Drawing parallels with the end of the Roman empire, Mr Walker warned there were ‘striking similarities' between America's current situation and the factors that brought down Rome, including ‘declining moral values and political civility at home, an over-confident and over-extended military in foreign lands and fiscal irresponsibility by the central government'.

" ‘Sound familiar?' Mr Walker said. ‘In my view, it's time to learn from history and take steps to ensure the American Republic is the first to stand the test of time.' The fiscal imbalance, he wrote, meant the US was ‘on a path toward an explosion of debt'."

There was great uncertainty on Wall Street as the big four US investment banks released their third-quarter results, which gave the clearest insight to date of the full damage from the sub-prime rout and the summer credit crunch. US banks have seen their combined share prices fall 22% during the quarter amid concerns about their exposure to the sub-prime market. Lehman Brothers, Bear Stearns, Morgan Stanley and Goldman Sachs all wrote off hundreds of millions of dollars. Merrill Lynch warned in a regulatory filing that it had made "fair value adjustments" in the face of potential losses and admitted to "significant risk" from further exposure.

The US Federal Reserve's board met for the first time since the summer crisis to consider a cut in interest rates. A quarter-point trim to 5% was seen as the most likely outcome, but in the end there was a half percentage point cut. The reason for this move was pressure from US business on the bank to ease monetary policy dramatically in order to prevent "contagion" - that is to say, to prevent the crisis in the sub-prime sector from spreading to the rest of the financing world and tipping the USA into a full-blown recession.

Paul McCully, of bond fund Pimco, told the Daily Telegraph (17/9/07) that the Federal Reserve might have to cut rates even further during the next three months. "It needs to ease and will ease substantially, not to bail out Wall Street but to make certain that weaker economic growth does not morph into a recession." It is these fears that lie behind the present nervousness in money markets.

Inflation is increasing, a fact not adequately reflected in government statistics. In 2000, when Bush took office, gold was $273 per ounce, oil was $22 per barrel and the euro was worth $0.87 per dollar. Currently, gold is over $700 per ounce, oil is over $80 per barrel, and the euro is nearly $1.40 per dollar. Some economists are talking about oil at $125 per barrel by next spring. The recent cut in interest rates will pour fuel on the flames.

The boom in the USA has been a consumer boom, fed by credit. As Marx explains, credit is a way of expanding the market beyond its natural confines. But this has its limits and these have now been reached. If the capitalists cannot find markets for their commodities, no surplus value will be realised and a crisis of overproduction will ensue.

The American worker is now producing on average thirty percent more now than ten years ago, yet wages have stagnated for the last six years. Rising prices signify a cut in real wages. The same is true for pensioners and others on a fixed income. Even without a recession the American people will see an erosion of their standard of living. Many poor Americans are already struggling just to make ends meet. Now millions will be threatened with the loss of their jobs and homes. This will provoke an upsurge in strikes and class conflict such as the USA has not seen since the 1930s.

The rate cut is at best a temporary palliative. It will not revive the housing market. That carnival is over. The banks, having burnt their fingers, are tightening lending standards and the housing inventory is larger than any time since records began. The resulting fall in house prices will affect consumer spending, bringing about a contraction of demand. The real effect of the interest cut will be an increase in inflation.

The inflation in the stock market was already staggering before this. The market capitalization of all US stocks grew from $5.3 trillion at the end of 1994 to $17.7 trillion at the end of 1999 to $35 trillion at the end of 2006, generating a geometric increase in price earnings ratios and so on. This was not the result of an expansion of productive activity but because of a massive increase in fictitious capital: more dollars chasing the same number of securities.

"What goes up must come down". This applies not only to the law of gravity but also to the stock market. The dizzying rise of share prices and house prices is preparing the way for an equally steep fall in the future. There will be repossessions, losses, bankruptcies and defaults, despite the actions of the Fed.

Global impact

The investment banks are hoping that a cut in the Fed's fund rate will send the stock market soaring again. But a cut in the interest rate does not solve the fundamental problems. It does not eliminate insolvency among homeowners, mortgage lenders, hedge funds and banks. Far from solving the problem, it will ultimately make it worse.

The US market is already awash with liquidity as the result of the antics of Alan Greenspan, which produced the present housing bubble - the biggest speculative boom in history. By reducing the cost of borrowing, the Fed is only creating a further extension of credit and indebtedness at all levels. It will prolong and exacerbate the housing and the credit bubbles. As one market-analyst said: "A cut in the Fed Fund rate is simply heroin for credit junkies."

From a capitalist point of view this is the height of irresponsibility. It is

better to let bankrupt companies (including banks) close than to cut interest rates and encourage "irrational exuberance" that will eventually undermine the dollar and the entire financial system in the USA. Sooner or later this bubble will burst and the consequences will be even more painful. If the US authorities are not willing to take action, the markets will take it for them.

As we have seen, the bourgeois always seeks to explain economic phenomena in terms of "confidence", as if this were entirely subjective. It is not. The "confidence" of investors is based on very real material considerations. As long as the US economy was going forward, even though the fundamentals were unsound, the bourgeois of other countries were prepared to invest in it. They paid no attention to the colossal levels of debt and the huge deficits, including a current account deficit of around $800 billion a year. The US needs to raise at least $70 billion every month just to cover this deficit.

America has changed from being the biggest world creditor to the biggest debtor, with net external liabilities of $3,000bn. The savings rate has fallen below zero for the first time since the Great Depression of the 1930s. At present China and other Asian countries hold huge stocks of dollars and US bonds. It is not in their interest to provoke an economic collapse in the USA, and the Americans are banking on this. But there are limits to all things. Sooner or later the unsound nature of the US economy will provoke an international run on the dollar. Lower interest rates will not bring money back into the markets, but they will further undermine the dollar.

By lowering interest rates the Federal Reserve is entering onto very dangerous ground. The US economy is defying the laws of gravity. It is so unsound that it is unthinkable that the present situation should last for long. Eventually foreigners will worry that the dollars and bonds they are holding will not be worth the paper they are written on. And why should they want to lend money at low rates in a currency that is declining in value when they can take these same funds and lend them at high rates in a currency that is gaining in value?

The rest of the world will not be willing forever to finance the United States' tendency to consume far more than it produces. There are already signs of this. Paradoxically, it seems that the first ones to panic are the Saudis, the main allies of Washington in the Arab World, who have huge investments in the USA. Saudi Arabia has refused to cut interest rates in step with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg. This move risks setting off a stampede out of the dollar across the Middle East.

For its part, the Chinese government has begun a concerted campaign of economic threats against the United States, hinting that it may liquidate its vast holding of US treasuries if Washington imposes trade sanctions to force a yuan revaluation. Henry Paulson, the US Treasury Secretary, said any such sanctions would undermine American authority and "could trigger a global cycle of protectionist legislation". This indicates the real dangers that now face the USA and the whole world economy. What really turned the slump of 1929 into the Great Depression that lasted ten years till the outbreak of the Second World War was the protectionism, trade wars and competitive devaluations that undermined world trade.

Greenspan predicts that the dollar is likely to fall in the coming years as the massive US deficit unwinds. "There will have to be a correction, and ultimately one of the things that will create it is the currency," he says. And by "correction" he means a slump.

Jim Rogers, the commodity king and former partner of George Soros, said the Federal Reserve was playing with fire by cutting rates so aggressively at a time when the dollar was already under pressure. The risk is that a flight from US bonds could push up the long-term yields that form the base price of credit for most mortgages, driving the property market into even deeper crisis.

"If Ben Bernanke starts running those printing presses even faster than he's already doing, we are going to have a serious recession. The dollar's going to collapse, the bond market's going to collapse. There's going to be a lot of problems," he said.

At a certain stage a large number of foreign investors will lose confidence in the US economy. Then we will see the same kind of scenes we saw recently in Britain replicated on a global stage. There will be a run on the dollar just as there was a run on Northern Rock, and for the same reasons. If foreign investors fear they will not get their money back from "USA inc.", they will be queuing up to withdraw their funds. When that happened in Britain, the Bank of England intervened to support the bank by underwriting its deposits. But who will do this for the USA economy? The Bank of England is the "lender of last resort" in Britain. But the USA is the "lender of last resort" for the entire world.

In the recent period it has become fashionable to claim that a crisis in the USA will not affect the rest of the world. I have already dealt with this in my speech on world perspectives, The International Situation and Perspectives, published on Marxist.com. It contradicts all the arguments of the bourgeois economists on globalisation, which precisely means that the world economy is more integrated than at any other time in history. Major events in any large economy must affect other economies. This applies above all to the USA.

This global interdependence was clearly revealed by the latest crisis, which began in the USA and rapidly spread to Europe and Britain. Now the banking crisis in Britain is affecting the rest of the world, as depositors, investors and savers absorb the lessons of the run on the fifth largest bank in Britain that almost provoked a general collapse. Mike Whitney put this very well when he wrote:

"The same Force Five economic-hurricane that just touched ground in Great Britain is headed for America and gaining strength on the way.

"A more powerful tsunami is about to descend on the United States where many of the banks have been engaged in the same practices and are using the same business model as Northern Rock. Investors are no longer buying CDOs, MBSs, or anything else related to real estate. No one wants them, whether they're sub-prime or not. That means that US banks will soon undergo the same type of economic gale that is battering the UK right now. The only difference is that the US economy is already listing from the downturn in housing and an increasingly jittery stock market.

"That's why Treasury Secretary Henry Paulson rushed off to England yesterday to see if he could figure out a way to keep the contagion from spreading."

The crisis of 1997-8 began in Asia, and then spread to Turkey, Poland, Russia, Brazil and Argentina, where it produced the collapse of December 2001. This provoked a virtual uprising on the streets of Buenos Aires and the collapse of the De la Rua government. Similar dramatic events are being prepared. Sudden changes can occur in any country in the world. This is an expression of the underlying instability of capitalism on a world scale. Not accidentally does Greenspan entitle his recent autobiography The Age of Turbulence.

London, September 24, 2007
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