The Current Crisis of Capitalism

Critical Elements of Crisis

Cyclical ups and downs are common economic phenomena—boom is expected to be followed by recession and vice versa. Why is it that the current recession that began with the banking turmoil in the US in 2007 is not being considered as a normal feature and is being seen by many as the collapse of capitalism?  One may search for an answer in the events of past two decades.

The beginning of nineties ushered in an era of economic growth and prosperity which is being attributed to the policies of liberalization and globalization. This era was interrupted by the East Asian financial crisis of 1997 and the consequential slow down of output and trade in the next few years. The world economy recovered around 2003, and after a boom period of four years, again went into recession that began with the financial turmoil in the US in mid-2007. Despite forecasts of recovery, the situation not only remains grim but highly complex. Some critical elements, which have added to the complexity of the situation, are:

1.    Growth-Employment Dilemma: The growth-employment relationship, which, in theory, is inversely proportional, remained weak since early nineties, as despite robust economic growth, the unemployment rate remained high. Since then, the situation has worsened—in 2010 the unemployment rate in the US reached 9 percent, Euro Zone 10 percent, Greece 16 percent and Spain 21 percent. An area of concern is the high rate of youth unemployment which is twice as high as the general unemployment rate.  Some of the reasons are:
 
•    Firstly, the rapid technological advancement is shifting the job openings from traditional sectors, like industry and services, to information and knowledge-based areas. For instance, between 1990 and 1998, the demand for routine jobs in the United States declined by 8 percent and for knowledge-based increased by 14 percent. The job seekers are slow in acquiring the new skills and knowledge.
•    Secondly, the restructuring of the economy is not keeping pace with the fast technological advancement. It also failed to cope with the challenges of globalization and liberalization.
•    Thirdly, industry is reluctant to graduate; labor prefers status quo; and the government policies are focusing on unemployment benefits rather than on launching programs of retraining and new skills development.
•    And fourthly, education system is not geared to imparting to the youth knowledge and skills needed in the 21st Century.
 
Jeffrey Sachs, in his recently published book “Price of Civilization: Reawakening of American Virtue and Prosperity” laments on the ‘poorly educated American children’ and ‘America ceding technology leadership to China’. He is not alone in pleading for educational reforms and additional budget expenditure on workers training and early childhood development.

2.    Rising Inequality: Another area of concern is the rising inequality and disparity in income and wealth. A weak aspect of free economy is that the gains of growth are disproportionately shared by the rich and powerful. This was more apparent in the ‘Roaring Nineties’ for various reasons.

•    Firstly, the growth was more a reflection of financial ‘Bubble’ than rise in real output.
•    Secondly, the unemployment rate remained stagnant despite growth depicting less income for the working class.
•    Thirdly, capital has prospered more than labor during this era.
•    And fourthly, the state failed to adopt measures (such as raising the tax on rich and regulating the perks of corporate executives and improving safety nets) to address the issue of inequality.

The current recession has aggravated the situation. Unemployment has gone up; real wages of workers have fallen, while pension rights of middle-aged diminished. The collapse of the financial market has severely hit the small investors and pension fund of workers. The government policies not only failed to mitigate the rising disparity, many of their measures (like tax rebates, bailout package for banks, etc) were, in fact, tilted in favor of the rich. An indication of the rising income disparity is reflected by the fact that the highest paid chief executive of a company (Discovery Communications) in Washington DC area earned twice as much as the US President, his cabinet, Vice President, Supreme Court Judges, leaders of the House and entire Senate. In 2010 he made $42.6 million as against President’s pay cheque of $400,000.

3.    Misplaced Faith in Private Sector: Advocates of the free economy paint the behavior of individuals and private institutions as more rationale, logical and just than that of the state. This myth has been dispelled by the inappropriate behavior of some leading corporate executives, banks and private institutions that contributed significantly in the collapse of the financial market in 2007-2008, fueling to the current crisis.
The liberalization and globalization of the financial market; introduction of innovative financial instruments, like derivatives, without proper regulatory framework; transfer of corporate control from shareholders to professional executives; lax banking practices; and faulty accounting procedures provided ample opportunities to people in position and power to amass wealth during the boom. The boom covered up these malpractices which were then exposed in recession. Through such practices, companies like ENERCON (an energy company based in California) inflated the value of their assets and earnings, heavily borrowed from the banks and minted money by exercising share options and selling their shares at manipulated high price.

The credit rating agencies also erred by giving very high rating to these companies. When the real position came to light, their share value tumbled, the small share holders suffered severe losses and finally the companies went into bankruptcy. ENERCON is a classic case of corporate greed, accounting scandals, public influence, banking malpractice and misuse of deregulation.
 
4.    Poor Governance: The prolonged period of growth in the nineties led many to believe that less regulations and marginal role of government in economic management is the best policy. Subsequent events proved that it was not so, as it created socio-economic distortions. The contention that the benefits will trickle down to the lower strata of the society also proved wrong. The policy of financial liberalization provided a unique opportunity to people in power and position to amass wealth at the cost of the society. The government remained a silent spectator only to intervene to salvage big banks and corporations.

The government policies lack the long term vision and strategy to address the changing technological, demographic, and social realities. The fiscal policy has failed to contain deficit mainly due to inability and unwillingness of the governments to raise revenues. In the US and many European countries the fiscal deficit exceeds 9 percent of GDP with public debts reaching unprecedented levels. It is for the first time in recent history that the rating of the US Treasury Bond, (which is used as benchmark for other sovereign borrowings) was down graded.
 Countries are contemplating fiscal austerity measures to contain budget deficits. These measures should focus on taxing the rich and well-to-do and economizing on non-essential expenditure rather than curtailing the benefits of the workers and poor. These should also be fair and temporary because severe measures could re-bounce as recent research studies show a close relationship between fiscal austerity measures and protests. (Economist, October 22d, 2011)