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International contagion under national leadership

Grahame Thompson
5 November 2008

Crises always expose the underlying character of situations and events. They are intriguing - even attractive - occasions since they provide a glimpse into the very structure of the system. Indeed, there is probably a subliminal desire for crises: they enable decisive actionto be taken, leadership to be exercised, hands to be rung, mistakes to be exposed, blame to be apportioned. They break the normal pattern of the mundane. Thus the media loves them; it chases them, constructs them, and revels in them: ‘breaking news’, ‘global tremors’, ‘the worst day on Wall Street since….’, etc. Crises are enthusiastically embraced when they erupt.

Crises are periodic‘events’. But what exactly is an event? Things are always happening but events seem something more, something beyond the ordinary – an eruption. In the social world events display two related aspects: first they break on-going processes by establishing ‘differences’ between before and after; second they draw together ‘dispersions’, seemingly creating a momentary unity amongst arange of different instances and contexts -- but at the same time precisely preserving that dispersion by exposing its distribution. Summing up, events might be described as an occasion for the‘dispersed unity of differences’.

How is any of this pertinent from the point of view of the present financial crisis? Iti s an event in this sense, and its understanding as such will shapeour responses to it.

The Nature of Money

First it exposed thereal nature of the monetary system. The extreme measures adopted by the authorities -- the ‘nationalization’ of large sections of the financial system -- indicates a basic structural truth of capitalism. The only way to gain control of the money supply is for there to be a socialized financial system. In a capitalist system where credit is the basic form of money, controlling the money supply is always both crucial but also problematical.

The money supply (credit) is crucial because that economic agent who has money has command over resources. As a result there is always an intense political struggle over controlling the money supply; between ‘the authorities’ on the one hand and private economic actors in the financial system on the other.

This was exposed very acutely during the debate about ‘monetarism’in the 1970s and 80s. The “political monetarists” (to borrow BradDeLong's characterisation) argued you could ‘manage’ the economy simply by controlling the money supply. The central bankers knew differently, however. Though they never quite couched it in these terms, the central bankers knew they could not control the money supply. That was in the hands of private economic agents – who, of course, jealously guard this capacity at all costs. To control the money supply would have meant socializing the financial system, the complete opposite of the political monetarist’s policy prescription of liberalization and de-regulation.

But therein lies theparadox. Instead, the central bankers tried to manage the financial system, and influence private economic actors – and the economy beyond – via an interest rate policy. But interest rates affect the demand for money and the profitability of banking in the first instance, not its supply. Thus the authorities never implemented ‘monetarism’ proper because they knew they could not. As we have seen subsequently, however, private economic agents relished their renewed capacity to ‘control the money supply’ by indulging in an orgy of credit creation.

This orgy of credit creation was brought to a sudden halt by the ‘credit crunch’.Indeed, credit creation (the supply of money) almost stopped. This provided the opportunity - and indeed the very necessity - for the authorities to confirm the basic truth of the above remarks by nationalizing large sections to the financial system so as to kick start the money supply process again.

The call today for banks to pass on interest rate cuts to customers is precisely this tussle between the new shareholder's interests and the private shareholders of banks. Banks are making losses, and interest rate policy needs to reduce the input cost of banking in order to restore profitability which will eventually restore lending and money creation. Monetary policy needs profitable banks.

(Hat tip David Beckworth)

In extremis deep structural characteristics are revealed. And as a consequence of this nationalization administrative means of distributing credit are emerging. Indeed, these administrative mechanisms were written into the very terms of the nationalization moves. The commercial banks and other financial institutions involved were instructed to allocate credit in various ways: to existing mortgagees (delay or abandon foreclosures) or to small businesses. And many more claims along these lines – for administrative allocation in a very general sense -- are to be anticipated.

Thus we can expect other vulnerable financial institutions to seek help, and large industrial companies radically undermined by the recession to claim their share of support. All this is a consequence of nationalizing the financial system; administrative methods for the creation and allocation of credit take over from the market. So expect, through the financial crisis, policy makers and lobbyists to brush off the last Keynesian era  writing on industrial policy.

The Nature of National Leadership

The economic crisis is a genuine event in that it has galvanized all parties into action. And in a ‘period of the exception’ the location of sovereign power was once again posed. Gordon Brown almost became a ‘Schmittian sovereign’ for a while (“He who decides in the exception” –in his New York Times column on 12 October Paul Krugman described Brown’s decisive action in the UK as the potential saviour of the world financial system!). This is somewhat of an exaggeration, of course, since the very existence of the UK state was not in question (though it might have been in the case of Iceland’s Geir Haarde).

But it was nation-states that came to the rescue of their financial systems, not some mythical global response. And this also exposed the basic dispersion of the so called ‘global’ financial system. In its core the international financial system remains just that – still an inter-national one organized between national economies. This does not prevent contagion of course: lots of contagion. But such contagion has been going on since the tulip crisis of 1637.

Globalisation by media

The third point to make is that the ‘global’ character of the crisis was largely a media constructed event, though it was aided by politicians who have bought into the globalization story for basically domestic political reasons: it provides an excuse when necessary for them to off-load blame and to discipline their citizens in the name of ‘international competitiveness’.

Almost every ‘City’commentator has a vested interest in claiming global aspect to the crisis since this bolsters the scope of their activities. But also –and perhaps most disappointingly -- many academic commentators fell for this story since they are themselves mesmerised by the prospects and spectacle of a new epochal rupture, one that allows them to indulge their skills as critical analysts of profoundly changing events. Never ones to miss an opportunity for hyperbole and exaggeration, for all of these parties a ‘global crisis’ sounds so much better than an ordinary and boring multi-domestic or inter-national one.

Managing hope

The real concern should be over the kind of response that many of these reactions are likely to provoke. We should not hold out too great a hope for the prospects of the Washington meeting in mid-November. This will provide a preliminary occasion for the important powers to declare their initial positions. But already there is profound disagreement between Nikolas Sarkozy and Gordon Brown and George Bush (let alone Obama's administration-in-waiting). And this is before China and India have even declared their positions, which will be enormously important for the future of the international financial system.

There will be no quick reformof voting rights in the IMF because the USA is still strong enough to prevent this. Larger and important issues like global warming and sustainability are probably off the immediate agenda until the dust settles on the current turmoil, which could be several years.

And if the system still remains far from ‘global’ (despite contagion -- as argued here)-- and the events of recent weeks a temporary ‘dispersed unity of differences’ – then recognition of this needs to be appreciated before serious regulatory lessons are proposed and rolled out. Whist it will be difficult for those states that have socialized large sections of their financial systems to return these to private ownership quickly, this is a priority. But not before a newly formulated regulatory regime is installed that can effectively deal with the continued dispersed character of the international financial system are prepare for the resilience necessary to deal with new unexpected eruptions as they happen. They will happen whatever is done.

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