The current Eurozone crisis is only the spearhead of a wider crisis of globalisation. The neo-liberal economic model which has swept the world over the past thirty years has reached, or is reaching, its limits. Senior capitalist spokespeople are talking of the possibility of ‘deglobalisation’, and the need for a ‘rebalancing’ of the global economy. We are in the early stages of a transition to a post-neo-liberal era. What that era will look like is unknown, but there is no guarantee that it will be progressive.
Just before Christmas, the European Central Bank took the unprecedented step of making almost €500bn available to 523 Eurozone banks in cheap three year loans, the intention being, according to the Financial Times, ‘to provide a “wall of money” to shield the banking system and prevent a European version of the 2008 collapse of Lehman Brothers‘. This was repeated in late February, when a further €530bn was taken up by 800 European banks, taking the total amount of cheap loans issued to over €1trn. The level of fear that was stalking the European banking system is illustrated by the fact that over the Christmas/New Year period, Eurozone banks repeatedly deposited record amounts of cash overnight with the ECB – cresting at €528bn – rather than risk lending to each other at higher interest rates on the commercial interbank market (link). Mario Draghi, President of the ECB, has said that because of these actions ‘we have avoided a major, major credit crunch, a major funding crisis‘.
These actions illustrate the gravity of the situation facing the European financial system. While this massive bridging loan has postponed what was becoming an increasingly imminent moment of reckoning, by itself it cannot resolve the structural causes of the Eurozone crisis, a crisis which threatens the integrity of the world economy as we know it.
When the economic crisis first hit in 2008, we saw major global financial institutions having to be bailed out by states. Now, we are seeing states themselves heading towards bankruptcy, which in turns threatens to take the banks exposed to their debt down with them.
The long-standing fear of a sovereign debt default within the Eurozone has passed the peripheral states of Ireland, Portugal and Greece and has spread to the major economies at the core of the system, toppling Silvio Berlusconi from power in Italy in the process. Simply put, no-one – not even the wisest, greyest heads – knows for certain how this matter will resolve itself. Since the crisis began, what had previously been regarded as unthinkable has happened all too readily. At the start of September 2008 it seemed unthinkable that a major Wall Street investment bank would collapse and that others would survive only through unprecedented levels of state support and giving up investment bank status, but within weeks this is precisely what happened.
Now a break-up of the Euro, and everything that would go with it, is being openly discussed as a possibility. Olli Rehn, the EU’s commissioner for economic and financial affairs, has said that ‘a collapse of Italy would inevitably be the end of the euro, stalling the process of European integration with unpredictable consequences’, while JP Morgan are advising their clients to ”at a minimum hedge the bulk of their exposure to the euro”, and that a break-up of the Eurozone, should it come to pass, would likely be followed by ‘a European depression, a global recession and possibly a global depression’ (link).
No less a figure than General Martin Dempsey, chairman of the Joint Chiefs of Staff and the highest ranking officer in the US military, has said ‘We are extraordinarily concerned by the health and viability of the euro because in some ways we’re exposed literally to contracts but also because of the potential of civil unrest and break-up of the union’, while the Nobel-winning economist Paul Krugman has stated ‘a few months ago I regarded a complete Euro crackup as highly implausible. Now I’m having trouble finding a plausible story about how the thing survives.’ Mohamed El-Erian of PIMCO, the world’s largest bond investor, has said that he expects Portugal to follow Greece in needing a further bail-out (link).
Why is this happening? What has brought us to this pass? How likely is a break-up of the Euro, and what exactly would it entail?
In the first instance, as one of the architects of the Euro, Jacques Delors, has recently stated, the project had fundamental design flaws from the beginning. In an interview with the Telegraph, Delors stated that at the outset of monetary union ‘the Anglo-Saxons’ argued that a single currency and central bank which wasn’t backed by a single state was bound to eventually fail, and Delors now thinks that ‘they had a point’ (link).
The Financial Times’ Martin Wolf – who was one of those ‘Anglo-Saxon’ critics twenty years ago – writes more forensically that “As designed, the Eurozone lacked essential institutions, the most important being a central bank to act as a lender of last resort in all important markets, a rescue fund large enough to ensure liquidity in sovereign bond markets and effective ways of managing a web of sovereign insolvencies and banking crises” (link; see also link).
This is crucial to understanding what is happening. The Eurozone crisis stems from a fear among investors that states will default on their debt obligations. However, this fear does not necessarily stem from the scale of debt held.
Since 2002 Spanish government debt as a percentage of GDP has been lower than that of Germany, and Spain “actually ran a modest budget surplus in the years before the crisis hit… if public debt is your yardstick, then the Spaniards were paragons of virtue. They borrowed lightly despite the fact that their euro-zone membership gave them an all-you-can-eat buffet of financing at bargain-basement rates” (link). Likewise, Irish national debt was relatively low and falling until 2008, when its deregulated ‘Anglo-Saxon’ financial system began to implode; and Italian public debt, while high, was also falling up until 2007.
The US and UK have sovereign debt levels that are comparable to or higher than all of the distressed Eurozone countries other than Italy and Greece (diagram), yet the markets display no fear of default on their part. Quite the opposite, in fact: the interest on government debt for the US and UK is currently at historically low levels, they are regarded as safe havens in the current storm (on the 18th of January UK 10-year yields reached 1.96%, the lowest since records began in 1703). This is in large part because these countries do have the ‘essential institutions’ backstopping their currency in place – in this light their debt looks quite manageable, and in the final analysis they can print money if need be.
The Eurozone does not have this facility: while the European Central Bank has recently been acting as a de facto lender of last resort to Europe’s troubled commercial banking sector, it has no mandate to do the same for Eurozone member states (although much of the €1tr injection of liquidity has in reality been funnelled by the banks into Spanish and Italian government debt, effectively functioning as quantitative easing through the back door).
This is why investors fear a default among one or more of the vulnerable Eurozone nations, which in turn is creating fears for the solvency of the banks holding their debt, which in turn risks creating a self-fulfilling run on those banks. As Paul De Grauwe of the London School of Economics summarises it:
‘National governments in a monetary union issue debt in a ‘foreign’ currency, i.e. one over which they have no control. As a result, they cannot guarantee to the bondholders that they will always have the necessary liquidity to pay out the bond at maturity. This contrasts with ‘stand alone’ countries that issue sovereign bonds in their own currencies. This feature allows these countries to guarantee that the cash will always be available to pay out the bondholders… The nice thing about this solution is that when deposit holders are confident that it will be used, it rarely has to be invoked… Contagion between sovereign bond markets can only be stopped if there is a central bank willing to act as a lender of last resort, i.e. willing to guarantee that the cash will always be available to pay out the bondholders… The reluctance of the ECB to take up its responsibility as a lender of last resort is the single most important factor explaining why the forces of contagion in the eurozone’s sovereign bond markets has not been stopped.’ (link)
So while Con-Dem politicians – and deficit hawks in the US – like to invoke Greece and Italy as reasons why public spending must be cut, the fact is that the US and UK are qualitatively different cases, because they have the necessary institutions guaranteeing their debt which the Eurozone countries do not. If Gordon Brown deserves credit for nothing else, it is for having the foresight to keep Britain out of this doomed institution, otherwise the UK would be in a similar predicament to Greece, Italy and Spain.
‘The endgame for the Eurozone’
These design faults with the Euro are now being exposed by other factors economic and, ultimately, political. The Euro has seen the locking together of countries with very different levels of competitiveness, productivity and other economic fundamentals into a single currency, with a single exchange rate and a single interest rate which may or may not be appropriate for each countries needs. As Thomas Mayer of Deutsche Bank has put it: ‘below the surface of the euro area’s public debt and banking crisis lies a balance-of-payments crisis caused by a misalignment of internal real exchange rates’.
These ‘misalignments’ have driven the wider imbalances inside the Eurozone which are the ultimate economic root of its crisis, imbalances described by Nouriel Roubini of New York University thus: ’For the last decade, the PIIGS (Portugal, Ireland, Italy, Greece, and Spain) were the eurozone’s consumers of first and last resort, spending more than their income and running ever-larger current-account deficits. Meanwhile, the eurozone core (Germany, the Netherlands, Austria, and France) comprised the producers of first and last resort, spending below their incomes and running ever-larger current-account surpluses’ (link).
These imbalances were largely driven by the differences in competitiveness and productivity between the Eurozone nations, meaning countries such as Germany were able to export more than they imported, while the reverse was true of the PIIGS nations.
In Ireland and Spain, like the US and UK, which are also major current-account deficit nations, much of this trade deficit was made up for by a massive expansion of consumer credit largely backed by a housing bubble (i.e.: private debt); whereas in Greece, Portugal and, up to a point, Italy, government spending played a greater role in filling the gap (i.e.: public debt). While the Eurozone has a unified monetary policy – interest rates, exchange rate and money supply – it does not have a unified fiscal policy – tax and spend. For this reason the governments of Greece, Portugal and Italy were able to borrow without any oversight, enabled by the credibility they had as members of the Euro. But it was largely because they were members of the Euro that they had to borrow in the first place: the Euro, while perhaps under-valued for Germany and the surplus Northern nations, is over-valued for the Mediterranean countries, which don’t share Germany’s levels of productivity or competitiveness (On how this has effected Italy, see link).
It is this factor which is giving countries reasons to consider leaving the Euro. The current interest rate on 10-year Italian bonds is 4.91%. 7% is the rate which is considered unsustainable: Ireland, Greece and Portugal were forced to seek IMF/EU bail-outs when they breached this level, and it was when Italy did likewise that the democratic process was cast aside, Berlusconi was removed from office and Mario Monti – a career economist, former EU commissioner and adviser to Goldman Sachs – was installed. The markets seem to have been temporarily calmed by this and/or the European Central Bank’s Christmas largesse – Italian 10-year yields were 7.159% as recently as the 10th of January – but Italy’s problems are structural and systemic, and cannot be permanently resolved by emergency hits of cheap money alone.
Roubini’s view is that the best policy option for addressing the Eurozone crisis is ‘significant easing of monetary policy by the European Central Bank; provision of unlimited lender-of-last-resort support to illiquid but potentially solvent economies; a sharp depreciation of the euro, which would turn current-account deficits into surpluses; and fiscal stimulus in the core if the periphery is forced into austerity’, while still undertaking ‘austerity measures and structural reforms’ where necessary. While the PIIGS nations are certainly being forced into austerity, of the constructive policy options only ‘easing of monetary policy by the European Central Bank’ is taking place, and this only on an emergency basis.
This is because, Roubini believes, of ‘the prospect of a temporary dose of modestly higher inflation in the core relative to the periphery’ or, in other words, Germany is acting its own sectional interests rather than the general interest. Germany and the other surplus Eurozone nations are unwilling to give up their competitive advantage, but if the Euro is to survive in its present form this is precisely what must happen.
However, instead of the Euro adjusting, even in part, to the needs of Italy and Greece, Italy and Greece are having to adjust wholly to the needs of the surplus bloc within the Euro, laying waste to much of their economies – and their social fabric – in the process. Greece is a hopeless case – but is also rather a small one: the Euro and the world economy can survive a Greek default. Italy is another matter: David Riley, head of the ratings agency Fitch, has said that ‘The future of the euro will be decided at the gates of Rome’. However, as long as Italy remains within the Euro it is damned if it does or if it doesn’t: it cannot take on any more debt without again triggering the wrath of the bond markets, while cutting spending in the teeth of a recession leads, in the words of Jim O’Neill of Goldman Sachs, ‘to weaker growth which then leads to bigger deficits’.
But if Italy leaves the Euro, they can once again issue their own currency, and it can find (or be manipulated towards) an exchange rate appropriate to the needs of the Italian economy, allowing the Italy opportunity to work its way back to some kind of economic health and eventually regain access to the international capital markets, this time with the correct institutions backing their currency in place.
But as we have seen, should this happen it would likely trigger ‘a European depression, a global recession and possibly a global depression’. Willem Buiter, chief economist of Citigroup and a former member of the Bank of England’s monetary policy committee, has said: ‘A disorderly sovereign default and eurozone exit by Greece alone would be manageable. Greece accounts for only 2.2 per cent of eurozone area GDP and 4 per cent of public debt. However, a disorderly sovereign default and eurozone exit by Italy would bring down much of the European banking sector… If Spain and Italy were to exit, there would be a collapse of systematically important financial institutions throughout the European Union and North America and years of global depression’ (link).
Not an appetising prospect, but for Italy and Greece the alternative as it stands is slow economic death and probable political revolt inside the Euro. The core Eurozone members are not presently concerned with the general interest, so why should Italy or Greece be? Why should they ‘take one for the team’ if Germany and the other surplus nations are unwilling to do likewise?
This brings us to the obvious question to round off this section: why does the Euro not have the ‘essential institutions’ in place to prevent the kind of financial crises we are currently seeing? This takes us back to Delors and the lack of a single state supporting the Euro: only a Europe-wide political authority can provide the essential institutions identified above, but there hasn’t been – and isn’t likely to be – any democratic mandate for such a level of political and economic union.
But with the Euro’s institutional failings now exposed – the Harvard economist Kenneth Rogoff has called it ‘a halfway house which doesn’t work’ – it now must move either forward or back: either it progresses towards full fiscal and economic union – a common Eurozone-wide treasury, with a pooling of taxes and debts, or in essence a United States of Europe – for which there is no popular support; or it falls apart.
This highlights one of the binds the European project finds itself in: at bottom, the drive towards European unification was driven by the need to put an end to the centuries of increasingly bloody slaughter that had characterised European history up until 1945 and to safeguard liberal capitalist values, yet the only way to complete the project now would be through the over-riding of political democracy. Without the political will to move towards the necessary degree of fiscal union, Roubini’s view is that ‘With Italy too big to fail, too big to save, and now at the point of no return, the endgame for the eurozone has begun. Sequential, coercive restructurings of debt will come first, and then exits from the monetary union that will eventually lead to the eurozone’s disintegration.’
‘Ideas, knowledge, science, hospitality, travel – these are the things which should of their nature be international. But let goods be homespun whenever it is reasonably and conveniently possible and, above all, let finance be primarily national.’ John Maynard Keynes
What would a sovereign debt default by Italy be likely to mean outside the realms of high finance? For one, it would threaten the solvency of any financial institution holding significant amounts of Italian debt. The size of the Italian economy means any bail-out would have to be of a scale that would threaten the fiscal position of any coalition of Eurozone nations who may attempt to mount it.
An exit from the Euro and a reversion to their own currency by any nation risks rendering contracts denominated in the Euro void; while the inevitable devaluation which would follow any Euro exit puts at risk the value of holdings in that country, which is prompting capital flight from the European banking system (link and link).
In response to this, the Treasury is apparently working on “contingency plans for the disintegration of the single currency that include capital controls” (link) while Christine Lagarde, managing director of the IMF, is currently concerned enough to publicly warn of the risk of ‘retraction, rising protectionism and isolation. This is exactly the description of what happened in the 1930s and what followed is not something we are looking forward to’ (link). This echoes the view of Bill Gross, managing director of PIMCO, expressed in 2009 that ‘[t]he future of the global economy will likely be dominated by delevering, deglobalization, and reregulating’ (link), while PIMCO’s investor forecast for 2012 talks of the ‘slowly creeping but surely rising risks of financial and economic de-globalization, and the constant drum beat of re-regulation, particularly in developed country banking systems’ (link).
It is of tremendous importance that such significant figures are talking in this way. It has been assumed that ‘globalisation’ is something both inevitable and beneficial. To an extent, its inevitability is true: technological advancement has made the world a smaller, more connected place. But ‘globalisation’, when used in the economic sense, refers to one thing: the globalisation of the movement of capital.
The financial crisis has brought with it a realisation, even among some of its cheerleaders, that the globalisation of capital may in fact be neither beneficial or inevitable. A recent Bank of England report on the future of international capital flows began by stating that ‘The experience of the past decade has demonstrated the challenges that international capital flows can pose for financial stability’, before warning that ‘faced with further increases in the magnitude and/or volatility of capital flows, it is likely that some countries will choose to introduce capital controls’ (link). In reviewing this report, Gillian Tett of the Financial Times commented:
‘Back in the halcyon pre-crisis days of the late 20th and early 21st centuries, it was taken as self evident that financial globalisation was a good thing. After all, free capital should enable money to flow to where it is most needed, at the best price; or so the theory goes. But the subprime crisis and eurozone dramas are shaking that belief. Never mind the fact that imbalances amid globalisation can stoke up bubbles; what is the bigger risk now – particularly in the eurozone – is that financial globalisation has created a system that is interconnected in some dangerous ways. This makes it highly vulnerable to contagion, and booms and busts, of the sort that occurred in 2008 when global capital flows collapsed to a mere 1 per cent of GDP. And if globalisation increases, these swings could potentially get worse’ (link).
Why does this matter? Because the defining characteristic of neo-liberalism, above everything else, is the globalisation of capital. This has defined the history of the past thirty or so years: it is the globalisation of capital that has created the conditions for the current crisis, enabled the flight of manufacturing jobs from the West to those countries where wages are lowest, and has helped produce unprecedented inequality and the emasculation of the labour movement across the globe. It is what separates the previous, Keynesian, era of economic history from ours, and now senior capitalist spokespeople are saying that the era may have reached its natural end.
Financial globalisation is a man-made process made up of man-made institutions: it has gone into reverse before, there is no reason why it cannot do so again. As Peter Mandelson has recently said, ‘the shipping container and the internet are genies that can’t go back in the bottle – nor would we want them to. But much of what we call globalisation results from policy choices.’
The American economist Barry Eichengreen divides the development of international finance in the capitalist epoch so far into four stages:
Firstly, prior to World War I, controls on international financial transactions were absent, the value of national currencies were fixed (to the price of gold) and capital flowed freely around the world across international borders to wherever it found most attractive (the gold standard era).
Secondly, the political and economic crises of the inter-war period saw the collapse of this system and the widespread imposition of controls on the movement of capital across international borders, with a corresponding contraction of international capital movements.
Thirdly, the thirty years following World War II were defined by the Bretton Woods system, an internationally-agreed system of highly controlled capital movements and fixed exchange rates tied to the dollar, the value of which was in turn tied to gold.
Fourthly, the neo-liberal period following the collapse of the Bretton Woods system in the seventies, which has seen a restoration of the globalisation of capital seen before World War I, but with a regime of floating exchange rates as opposed to the fixed exchange rates of the pre-WWI period.
The period during which the Bretton Woods system operated has become known as the ‘golden age of capitalism’. The economic historian Angus Maddison has commented that “Within the capitalist epoch [1820 onwards], one can distinguish five distinct phases of development. The ‘golden age’, 1959-1973, was by far the best in terms of growth performance. Our age, from 1973 onwards (henceforth characterized as the “neoliberal order”) has been second best” .
The Bretton Woods system, which underpinned the ‘golden age’, was constructed by the US and the UK – with Keynes himself as the UK rapporteur – as WWII was drawing to a close. It was introduced to provide a stable macroeconomic environment in which the international economy could be nursed back to health, after the disasters of the Great Depression and two world wars had brought the capitalist system to the brink of extinction.
It is the concern of Christine Lagarde, PIMCO and others that Eichengreen’s fourth stage – a stage which has been an unprecedented bonanza for the capitalist class, if no-one else – may be coming to an end, and their concern is fully justified. The political scientist Colin Crouch has written of ‘the strange non-death of neo-liberalism’ (link), but history moves slowly. Neo-liberalism did not vanquish Keynesianism overnight, and neither will it slip from view in the blink of an eye. But the underlying historic and economic trends are clear: the model of neo-liberal globalisation as we have known it is broken and cannot be repaired; and even if it could be repaired, it could not be sustained.
The beginning of the neo-liberal era can be traced back to 1971, when Richard Nixon took the dollar off gold, allowing it to devalue. This led to the complete break-up of the Bretton Woods system in 1973 and helped produce our era of freely floating currencies, something the godfather of neo-liberal economics, Milton Friedman, had been advocating since 1953 (George Shultz, who oversaw much of this process as US Treasury Secretary between 1972 and 1974, was a colleague of Friedman’s at the University of Chicago’s economics department).
This ushered in, and was a pre-condition for, our era of globalised finance. As the Cambridge economist John Eatwell states:
‘Once Bretton Woods collapsed and significant fluctuations in exchange rates became commonplace, then opportunities for profit proliferated, regulatory structures which inhibit flows of capital were challenged as ‘inefficient’ and ‘against the national interest’, and the modern infrastructure of speculation was constructed.
‘Combined with other domestic pressures for the removal of financial controls, the collapse of Bretton Woods was a significant factor driving the world-wide deregulation of financial systems. Exchange controls were abolished. Domestic restrictions on cross-market access for financial institutions were scrapped. Quantitative controls on the growth of credit were eliminated, and monetary policy was now conducted predominantly through the management of short-term interest rates. A global market in monetary instruments was created’.
But the world did not move from the Keynesian era of fettered finance to the neo-liberal era of unfettered finance in one fell swoop: it was a gradual process which wasn’t sealed until the last major industrial economies, Norway, abolished its capital controls in 1995 (link). In between there was the Pinochet coup and the ‘Chicago Boys’ in Chile, the US abolition of capital controls in 1974, the Thatcher revolution in the UK (the first major act of the Thatcher administration was to remove exchange controls in June 1979), the fall of the Berlin Wall, the New Democrats and NAFTA in the US and the birth of New Labour here: all steps along the neo-liberal road. Just as the ‘Nixon Shock’ of 1971 was the beginning of the end for the Keynesian era, so the Lehman’s collapse of 15 September 2008 marks the beginning of the end of the neo-liberal era.
We are in the early stages of the transition to the post-neo-liberal era. What will this look like? That is unknown. When Keynesianism fell, the architects of neo-liberalism had been planning for and working towards their takeover for decades.
Presently, there is no-one so equipped to step into the vacuum. If anything explains the ‘strange non-death of neo-liberalism’, it is that no other contender is currently strong enough to kill the wounded beast. The left, which was unable to seize the opportunity in the 1970s, is even weaker now. In academia, Keynesian economic solutions are beginning to be looked at again with interest. But is there the political will behind neo-Keynesianism as there was behind neo-liberalism? After all, the capitalist objections to Keynesianism were largely political, not economic.
Keynesianism delivered the greatest period of economic growth in the capitalist era; it also delivered the most equitable growth, which is why it was so despised. The restrictions it put on the movements of capital across national boundaries left capital unacceptably vulnerable to attack from the domestic working class, wherever it was. The removal of these restrictions gave capital the whip hand over labour, which largely accounts for the emasculation of the labour movement worldwide in the neo-liberal era.
But the removal of these controls on finance invariably leads to the kind of economic crisis we are currently going through. This is the bind capital finds itself in: liberalised capital is politically secure (because it weakens the position of the working class) but economically unstable; ‘repressed’ capital is economically stable but politically vulnerable.
While the problems with Keynesianism were political, the problems with neo-liberalism are economic. If anything drives the world toward financial deglobalisation, it won’t be political action by the mass of the population, but the actions of capitalist agents protecting themselves and working in their own interests.
Lose-lose for the capitalist class
It is not just the Bank of England now acknowledging the potentially destabilising effect of the free movement of capital: the IMF, in a complete reversal of what it has been preaching and demanding for thirty years, is also publishing research papers stating that ‘capital controls are a legitimate part of the toolkit to manage capital inflows in certain circumstances… following the crisis, policymakers are again reconsidering the view that unfettered capital flows are a fundamentally benign phenomenon and that all financial flows are the result of rational investing/borrowing/lending decisions’.
More significantly, this is happening in practice: a number of emerging economies ‘ranging from Brazil to South Korea to Turkey are limiting capital flows in an effort to control inflation, limit the rise in their own currencies or prevent bubbles in their stock and real-estate markets’ (link). And as we have seen, should a significant default event happen in the Eurozone, capital controls would almost certainly be utilised in order to prevent bank runs and to preserve the integrity of the financial system.
But the recognition that unregulated flows of capital can be destabilising is not the only factor that may force deglobalisation. If the crisis inside the Eurozone is at bottom driven by imbalances between debtor and creditor nations, something similar is also at work in the wider world.
Just as economic growth in the Eurozone has been sustained by one part spending beyond their means and accruing debt (those nations now in crisis) and the other accruing surplus (Germany and a handful of smaller, northern European countries), so the global economy in recent years has been sustained by a similar dynamic: China, Germany, the major oil producers and a few others run large trade surpluses, while the US, the UK, Italy, Spain, France, Australia and a handful of the other major nations run large trade deficits. As seen within the Eurozone, such a situation can only be sustained so long as the debtors are seen as creditworthy, and there inevitably comes a point when the supply of willing lenders dries up and such debt-fuelled growth can no longer be sustained.
For much of the deficit world – whether governments in the Eurozone, or homeowners from California to the Costa Blanca – such a ‘Minsky moment’ has now come. As the governor of the Bank of England, Mervyn King, puts it:
‘Global imbalances helped to fuel the financial crisis. And today they threaten the sustainability of the recovery in global demand… At the time, all the economies seemed to gain: just as the high-saving countries created employment, the low-saving economies enjoyed faster real consumption growth as the price of imported manufactured goods fell. Within their own terms, all these actions were rational. All the main players –countries, regulators, central banks, and commercial banks– were rationally pursuing their own self interest. But what made sense for each player individually did not make sense in aggregate. These actions had collective consequences… The pattern of growth, with the associated imbalances and mis-pricing of risk, was not sustainable: as we know only too well, the ensuing financial crisis threatened the entire stability of the financial system.’ (link)
Astute observers have noted that a global ‘re-balancing’ is an essential prerequisite to the world working its way out of the current crisis. Olivier Blanchard, chief economist of the IMF, writes that ‘there is an urgent need to implement policy changes to address the remaining domestic and international distortions that are a key cause of imbalances. Failure to do so could result in the world economy being stuck “in midstream”, threatening the sustainability of the world recovery’ (link), while Ben Bernanke, head of the US Federal Reserve, has said that ‘the countries of the world must recognize their collective responsibility for bringing about the rebalancing required to preserve global economic stability and prosperity’ (link). Mervyn King notes that ‘the global economy will remain vulnerable to the risks associated with imbalances if they are not tackled at source… All countries accept that global rebalancing is necessary.’
But while all countries may ‘accept that global rebalancing is necessary’, not all countries agree on how this should be achieved, or share the same interests in this process. As King noted, the world reached this point through ‘all the main players rationally pursuing their own self interest’. For rebalancing to occur would require some major players not to rationally pursue their own self-interest, and why should they do that? Why should the Germans or Chinese allow their currency to appreciate and lose their competitive trade advantage? This is, however, what ultimately needs to happen if the imbalances that have so destabilised the world economy are to be removed.
It is for this reason that since the crisis began, there has been talk of the potential for ‘currency wars’. To again quote Nouriel Roubini:
‘A world where over-spending countries need to reduce domestic demand and boost net exports, while over-saving countries are unwilling to reduce their reliance on export-led growth, is a world where currency tensions must inevitably come to a boil. Aside from the eurozone, the US, Japan, and the United Kingdom all need a weaker currency. Even Switzerland is intervening to weaken the franc.
‘The trouble, of course, is that not all currencies can be weak at the same time: if one is weaker, another must, by definition, be stronger. Likewise, not all economies can improve net exports at the same time: the global total is, by definition, equal to zero. So the competitive devaluation war in which we find ourselves is a zero-sum game: one country’s gain is some other country’s loss.’ (link).
Likewise, Mervyn King has called for a “grand bargain” among the ‘major players in the world economy’, but states clearly the difficulties in achieving this, and the likely consequences if such a bargain can’t be struck:
‘The major surplus and deficit countries are pursuing economic strategies that are in direct conflict… Current exchange rate tensions illustrate the resistance to the relative price changes that are necessary for a successful rebalancing… The need to act in the collective interest has yet to be recognised, and, unless it is, it will be only a matter of time before one or more countries resort to protectionism as the only domestic instrument to support a necessary rebalancing. That could, as it did in the 1930s, lead to a disastrous collapse in activity around the world. Every country would suffer ruinous consequences.’
And as the BBC’s Paul Mason has observed:
‘If we get a double dip, then there is no more fiscal stimulus type ammo in the clip: countries will – and Britain as I say effectively already has – devalue in order to boost competitiveness.
‘As all students of the Great Depression know, those who devalued first – by coming off the Gold Standard – escaped recession first. Since everybody has now read the history books on the Depression, and understood the importance of currency (Labour famously “did not know you could” come off Gold pre 1931) we can expect a self-cancelling war of competitive devaluations. And for this reason competitive devaluation is only going to take you so far.
‘So the real endgame comes when countries realise devaluation is a dead end and go for the only escape route left, which is actual physical trade protectionism accompanied by the creation of currency blocks. The world, which thought it had escaped catastrophe in a flurry of state-fuelled remedies after the Lehman crisis, is inching back towards one, and it will be about more than just the value of sterling.’ (link)
The world has already taken some tentative steps down this road. Eighteen months ago the Brazilian finance minister Guido Mantega stated that ‘We’re in the midst of an international currency war, a general weakening of currency. This threatens us because it takes away our competitiveness’ (link), while in September 2011 the Swiss central bank intervened in the currency markets to drive down the value of their franc (link).
Most significantly, the US and China have long been locked in the early stages of a diplomatic battle over what the US sees as China’s undervalued currency and anti-competitive trade practices. In January, the US Treasury secretary Tim Geithner stated that the Chinese yuan was ‘still below almost all measures of fundamentals’ and that ‘it’s very important that we get China to move comprehensively not just on the exchange rate but on dialling back its subsidies and distortions’ (link).
For now, the major players have stepped back from the brink. The yuan has appreciated a little against the dollar (although not enough for Washington’s liking), the US have stopped short of publicly branding the Chinese as currency manipulators (link) and the priorities of the Brazilians have for now shifted to control of domestic inflation. The healthy US economic recovery has helped, but the underlying tensions remain: Brazil appear to be returning to this particular fray, with their president Dimla Rousseff describing quantitative easing in the developed world as ‘a currency war that is based on an expansionary monetary policy that creates unequal conditions for competition. We will continue to develop (our) country by defending its industry and ensuring that the strategy used by the developed countries to exit the crisis does not cannibalize emerging markets’ (link). Roubini remarks that ‘currency wars eventually lead to trade wars’. More frightening is the rubric that trade wars often lead to real wars.
The current crisis is a lose-lose situation for the capitalist class. Either the global economic system continues on its current track and implodes; or the current crisis is resolved through global co-operation on rebalancing and tighter regulation of the flow of capital, with major countries such as the UK and the US turning away from debt-fuelled growth and embracing more production-led economic strategies. The former would be grim for everyone; the latter runs the risk of allowing the working class to return to the political stage in many of the most advanced economies, and in the world as a whole. Some degree of ‘deglobalisation’ seems inevitable: how progressive it will be is up for grabs, and it is something largely out of the hands of the general populace. How the capitalist order deals with its crisis will define all our futures.
 See Barry Eichengreen (2008), Globalizing Capital: a history of the international monetary system (Princeton, NJ: Princeton University Press).
 Angus Maddison (2006), The World Economy: a millennial perspective (Paris: OECD), p125, table 3-1b, also available to view at http://blogs2.lesechos.fr/IMG/pdf/Statistiques_historiques_OCDE_par_pays_depuis_1820.pdf
 John Eatwell (1996), International Financial Liberalisation: the impact on world development (New York: UNDP), p5, 6.
 Jonathan D. Ostry, Atish R. Ghosh, Karl Habermeier, Marcos Chamon, Mahvash S. Qureshi, Dennis B.S. Reinhardt (2010), Capital Inflows: The Role of Controls, IMF Staff Position Note 10/04 (Washington: International Monetary Fund), p15. Available at http://www.imf.org/external/pubs/ft/spn/2010/spn1004.pdf.