No sign of abatement in the crisis
6 months after the outbreak of the credit crunch brought about by the sub-prime crisis, there is no end in sight for the misery of this latest shudder of the capitalist system in its death throes. At no time in its history is capitalism free from hideous and uncontrollable crises. Living under capitalism is equivalent to living in an earthquake zone. Everybody can predict that there will be disasters which adversely affect millions of people, but nobody can tell when exactly they will be nor how much damage they will cause, or exactly how long they will last.
Capitalist crises are caused by the fact social production takes place within the confines of private appropriation and therefore only takes place for the purpose of producing maximum profits. However, maximum profit demands minimisation of payment to the mass of would-be consumers of the products of capitalist production. The consumers as a whole are too poor to purchase the ever increasing output of capitalist industry. Inevitably there is overproduction leading to insolvencies, collapsing businesses, unemployment, etc., etc. After a mass of productive forces is destroyed, the production process begins to build up all over again until it surpasses capacity yet again and once more plunges into crisis.
These crises take various forms, but at the end of the day, they always originate in overproduction. The current crisis has arisen because although credit was extended to millions of people so that they would be able to continue to buy, too many borrowers have proved to be unable to pay, resulting in the severe breakdown of the credit system.
Paralysis of banking system
The first capitalist enterprises to be seriously affected have been the lending institutions, i.e., the banks. Through systems of syndicating the loans by issuing various sophisticated financial packages to investors of various kinds they had hoped to protect themselves against default, but in the event the defaults have been so massive that all that has been achieved is to spread the damage across the financial institutions of the whole world. What has happened is that all over the world banks are holding rights to huge debts that will never been paid, yet have ongoing obligations to their depositors and people to whom they have promised to lend, which obligations they have either found themselves unable to meet or fear being in that position in the future. As is well known, a major British bank, Northern Rock, was an early victim because its whole business was based on borrowing cheap short term and lending at a profit long-term. As soon as the credit crunch made cheap borrowing impossible it collapsed straight away and has now been nationalised – i.e., the British government has taken over responsibility for financing it to the tune of some £100 bn – in the hope that this measure will be sufficient to prevent a domino style collapse of much of the rest of the British banking system. Nevertheless, Alliance & Leicester and Bradford & Bingley are also in grave danger unless by June of this year, when they too need to refinance their short-term loans, relatively cheap borrowing is once more available – and the prospects of that from the way things look at the moment are far from bright. Another British Bank in trouble is Royal Bank of Scotland which somewhat overextended itself with its acquisition last year of ABN Amro against competition from Barclays. It now has an estimated £12.5 shortfall in its finances, i.e., just below a third of its current capitalisation. In order to plug the gap, it will either have to sell assets, e.g., its rolling stock company Angel Trains or its stake in the Bank of China, or its insurance divisions, or it will have to cut its dividend, or it will have to raise money from its existing shareholders. It is thought that the last of these will be its preferred course.
However, the very fact that banks have lost so much of their underlying wealth, in spite of continuing to secure record operating profits, is drastically reducing the price of their shares on the stock exchange. Bank shares have on average plunged 33% in the past 12 months. This of course represents a blow to pension funds and other savings vehicles, and to all people who have to rely on their savings/pensions to fund their daily needs.
In the United States several banks damaged by subprime lending have survived thanks only to bailouts from overseas sovereign funds – at high rates of interest. Citigroup had to raise $22bn, UBS $12 bn, Merrill Lynch $6.6 bn and Morgan Stanley $5bn. Merrill Lynch lost nearly $10 bn in the second half of last year alone, suffering its worst quarter in the whole of its financial history since it was founded almost 100 years ago. Whereas the saviours of Merrill Lynch were a consortium including Japanese, Kuwaiti and Korean sovereign funds, it was the China Investment Corporation which rescued Morgan Stanley – in return for what will ultimately be a 9.9% holding in the company. Abu Dhabi Investment Authority invested $7.5 bn in Citigroup in November 2007 in return for a 4.9% holding. Although the terms negotiated by these various banks with the sovereign funds theoretically prohibit the latter from interfering in the way the banks are run, realistically everybody recognises that he who pays the piper calls the tune, and certainly they have been able to demand very high returns (9% – a huge amount for banks to pay) on their investment.
German, French and Japanese banks have also been badly hit by the subprime crisis.
From banks to insurance companies
Because lenders often insure themselves against default by borrowers, it is not just banks but also insurance companies that have been damaged as a result of the subprime crisis, especially those US insurance companies which have specialised purely in insuring debt, the so-called monoline insurers. The monoline insurers MBIA, Ambac Financial and Financial Guaranty are in danger of forfeiting their AAA credit ratings because they are, because of losses, now undercapitalised in relation to the risks of default that they are facing. This could have disastrous effects for public spending projects such as hospitals, roads, bridges, etc. which are normally funded by cheap loans which are cheap only because they are guaranteed by an AAA rated monoline guarantor. The minute there is no AAA guarantor, or maybe no guarantor at all, the interest rates demanded by any lender escalate, and it is thought that this would make many British PFI projects simply non-viable. In turn, if the monoline insurers lose their AAA status, the debts that they are currently guaranteeing themselves get demoted straight way, reducing their value and forcing yet more losses on the beleaguered banks. It is, incidentally, not only US insurance companies that are suffering but also UK insurance companies which have seen falls of around 5% in the market price of their shares.
Measures to kick start the economy
In the US, the Federal Reserve has been cutting interest rates like crazy in the hope that this will ease the situation. It risks inflation, but the danger of recession is perceived as the greater evil. However, there is no sign at present that the rate cuts have helped in any way as yet. In addition George Bush is planning to increase his budget deficits so that US government borrowing this year and next will approach the previous all-time record deficit of $413bn. Military expenditure alone will top $515 bn, with an extra $70bn dedicated to the wars in Iraq and Afghanistan. Bush will cut taxes by $1,600 for every tax paying family at a cost of $150bn. All these measures are designed to put demand back into the economy and reverse the slide into recession. The inflationary effect of these measures, however, is likely to negative any positive effect they will have. But still, at least the US has had sovereign funds riding to the rescue, albeit at the cost of selling the family silver. In the UK measures such as George Bush has taken are impossible because the British government has already gone beyond its maximum spending limits and probably cannot afford to lower taxes or increase public expenditure, even military expenditure.
Power shift to the east
While all the old imperialist powers are suffocating under the weight of their internal contradictions, new forces are arising in the Middle East, Asia and Latin America. Central to the fortunes of all the emerging powers is the growing power of China which is growing at breakneck speed. The Asian Development Bank estimates that China will grow 10.5% in 2008 after achieving 11.4% in 2007. Besides rapidly expanding industrialisation, China is engaged in what has been called the greatest project of mass urbanisation in human history, with the government committed to building public housing for millions of people over the next decade. This means that demand for raw materials and business for construction firms is practically infinite. Central planners have designated three new special economic zones, including the gigantic metropolis of Chongqing in southwest China, growing by 2m people a year until it reaches a population of 22m in its central districts by 2020. Bourgeois economists believe that China’s economy will be hurt by the impoverishment of the US consumer resulting from the credit crunch, on the basis that the US is a $9.5 tr consumption economy, while China is merely on $1tr and India $0.65tr. This misses the point, however, that China is infinitely more competitive and infinitely more solvent than the US or Europe. It also misses the point that development in China is not solely dependent on profit, but that the government is happy to mobilise billions for social projects that will enable Chinese standards of living to continue to rise. Although recession in America would undoubtedly cause problems for some Chinese enterprises, overall it seems likely that America’s weakness will be China’s opportunity, which will at the same time create new opportunities and possibilities for millions of people in the countries producing the food and commodities that China needs, be it the Middle East, Russia, Africa, Latin America, or wherever.
As David Smith and Holly Watt put it in the Sunday Times of 6 January 2008:
“Niall Ferguson sees the present record oil prices and the global credit crunch as analogous to the Seventies – not the 1970s, but the 1870’s, when the once mighty Ottoman empire lost economic, financial and, finally, political power.
“‘Then the shift was from the ancient oriental empires to western Europe’, he said.
“‘Today the shift is from the US – and other financial centres – to the … Middle East and east Asia’”.