Ten years on from the “credit crunch” that threw the world economy into a downward spiral, reports suggest we might be heading for another crash. Tomáš Tengely-Evans investigates.
A decade ago last month queues began forming outside Northern Rock. The building society had been unable to raise the money to pay its debts. Cap in hand, its bosses had been forced to march up Threadneedle Street to beg the Bank of England for a loan.
News quickly spread and triggered the first bank run in Britain in 150 years. Everyone piled in with their own explanations. The Financial Services Authority (FSA) regulator made the first insight — the problem was a lack of regulation. It fessed up to “supervisory failings in relation to Northern Rock” that it was “already addressing”.
Similarly the British Bankers Association, which had lobbied hard against regulation, thought that regulators had “dropped the ball”. For then shadow chancellor George Osborne it was all down to a profligate and irresponsible Labour government. Its “economic incompetence over Northern Rock” had left chancellor “Alistair Darling’s credibility in tatters”.
And former Shell Oil baron and Lib Dem spokesperson Vince Cable discovered his talent for anti-capitalist rhetoric. Stopping banks’ “reckless behaviour” would mean “not allowing them to behave like casinos”.
By February 2008 the government was forced to step in and brought Northern Rock into public ownership. In quick succession the titans of British finance followed — Royal Bank of Scotland (RBS), HBOS and Lloyds TSB.
The US and British governments, which had trumpeted free market dogma, undertook the biggest nationalisations in modern history. And banks that weren’t brought into public ownership were bailed out — to the tune of £500 billion in Britain and £700 billion in the US.
Government stepped in to put capitalism on life support, but it couldn’t stop recession. Politicians and bankers all promised that lessons were going to be learned to stop another crash. But a decade later global capitalism remains mired in depression — and ripe for another squeeze.
At the time of the crash all the pundits agreed that the problem came down to lending mortgages to working class people with no hope of paying them off. Just last week the Bank of England warned that British capitalism was sitting on a ticking “debt time bomb”. Consumer debt now amounts to £200 billion, and the Bank is partly to blame. Through unprecedentedly low interest rates — which determine the cost of borrowing — the Bank has helped stoke a debt boom since the credit crunch. The interest rate has never been below 2 percent for most of the bank’s history, but in 2008 it was slashed to 0.5 percent and then 0.25 percent.
This stoked a short-term boom in the housing market and all sorts of new financial instruments. At the forefront of the debt boom are car finance schemes known as personal contract plans (PCPs). Car companies advance people loans, which are paid back monthly. Some 86 percent of cars are now “bought” through them, as opposed to traditional loans or savings. And just like the mortgages in the run-up to the crisis, many PCPs are being lent to people with no hope of repaying them.
For all the talk at the time, why haven’t lessons been learned and why is there a new debt boom? That’s because it wasn’t just to do with “oversight” by regulators or “reckless” behaviour by some bankers. Northern Rock’s business model was built on sand — it was wholly in keeping with capitalist logic.
The credit crunch hit just as I started studying A-level economics in the lower sixth. In the first lesson, our tutor informed us that banking had been taken off the syllabus the previous year “because nothing ever changes in banking”.
The revolutionary Karl Marx had a much better grasp of how banking works. He described the workings of finance — before and during a credit crunch — in his masterwork Capital, Volume I.
“Whenever there is a general disturbance of the money mechanism, no matter what its cause, money suddenly and immediately changes into hard cash,” Marx wrote. “Profane commodities can no longer replace it.”
This is the shock that hit Northern Rock. Its business model was based on borrowing large amounts of money on the international money markets to fund mortgages to people who couldn’t afford them. It would then put mortgages in bundles and resell them on the international markets — a process known as “securitisation”.
Across the pond British bankers’ American cousins had already fallen into similar trouble. They had made the same mistake by selling “sub-prime mortgages” — to working class and poor people who had no chance of paying them back.
Through the same “securitisation” process these mortgages were sold on in different forms of financial instruments. They included the infamous “collateralised debt obligations” and “mortgage-backed securities”.
By creating these complex packages it was essentially creating money in the short term to invest in long-term mortgages. But these fancy financial instruments were essentially IOUs — with the promise of payment from the mortgages. As Marx continued, “The bourgeois, drunk with prosperity and arrogantly certain of himself, has just declared that money is a purely imaginary creation.”
That’s precisely what the securitised debt obligations, mortgage backed securities and other bizarre financial instruments were to banks. They were their own “imaginary creations”.
This is where the bankers’ plans came unstuck. Demand for these “securitised” mortgages dried up meaning that Northern Rock and other banks couldn’t repay their debts. Prices of houses — supposedly safe investments — began falling.
That’s because when the crunch hits, banks can’t pay up in more IOUs — so “money turns into hard cash”. This is partly what saw people queuing up outside Northern Rock trying to withdraw £2 billion in “hard cash” that the building society simply did not have. So when this happens where’s the “hard cash” going to come from?
For capitalists there is a simple solution — more imaginary creations. As Marx explained, “Now the opposite cry resounds over the markets of the world.” Instead of money being an imaginary creation for capitalists, now “money is a real commodity.”
The central banks, such as the Bank of England, fed the banks’ needs for cash by creating electronic money. “As the hart pants after fresh water, so pants the bourgeois’ soul after money, the only wealth,” Marx wrote.
The central banks had to step in partly by lowering interest rates and through a process known as Quantitative Easing (QE). QE saw central banks pump money into the economy by buying up assets from commercial banks and businesses.
That only papered over the problem. Credit enables capitalism to grow rapidly and seemingly to transcend its limits of expansion. But when the crash comes, it’s all the more profound.
The “imaginary creations” are based on productive capital in the economy. The crash had much deeper roots than the credit crunch of 2007. The underlying causes of the financial crisis lie in the crisis of the 1970s and a falling “rate of profit”. From the multi-million pound bonuses to the gold plated waste-paper bins, the bankers at the centre of this were undoubtedly greedy. But capitalists’ individual greed is not what drives capitalism forward.
Apologists for capitalism argue that profits are down to bosses’ “business acumen” or a “reward” for taking risks. But with the “labour theory of value”, Marx explained how capitalists get their profits from exploiting workers. Workers’ labour is the source of value.
For Marx exploitation is not a moral term. He called the gap between what workers are paid in wages and the value they create by working “surplus value”, that lays the basis for capitalist’s profits.
Capitalism is driven forward by competition between rival bosses. This means that capitalists have no choice in exploiting workers. If they tried to be ethical, they would be driven out of business. In Marx’s words, this leads to a system based on “production for production sake … accumulation for accumulation sake”.
So to try and get ahead of their competitors, they invest more and more into the latest, most efficient technology. This sees them investing more into machinery, buildings and the like as opposed to labour.
We’ve seen that with manufacturing in Britain. There has been a steady decline in manufacturing jobs since the First World War, but that doesn’t mean manufacturing output has collapsed.
This creates a problem because only labour — not capital — can create new surplus value. So investing into new technology can boost the individual capitalists’ profits. But this process means that the overall rate of profit across capitalism sees a downward trend. To get around this capitalists can try to squeeze more out of workers — lowering wages, lengthening the working day.
There is another option — capitalism could clear out some of the capital within the system. In 2013 the bankers’ newspaper City AM described the problem for British capitalism. “An army of zombie firms remain addicted to near-zero interest rates,” it said. This is “forcing down productivity and preventing a process of creative destruction and reallocation of capital and labour”.
The large-scale destruction of capital could create another boom, but capitalists fear that happening. As capitalism develops there is a process of “concentration and centralisation of capital”. Instead of a host of little firms there are multinational banks and corporations that are deemed “too big to fail”. Letting them go under would send shockwaves through the whole economy.
In the 1970s capital was not destroyed so capitalists looked towards financial bubbles as a way of getting round problems of profitability. And then after 2007 the banks were bailed out so they wouldn’t go to the wall and bring down the economy.
Now the short-term solutions that came out of the credit crunch, such as QE, are coming to an end. With the possibility of another crash around the corner there is a fundamental question — who pays? Capitalism will always try to find a way out of crisis at the expense of the working class. Our job is to impose a socialist solution that’s in our interests to the crisis.