[…] Artificial demand had been generated by ‘financialisation’ of the economy. Market deregulation, low interest rates (‘cheap money’), financial ‘innovation’, and rising household debt eventually created the biggest bubble in the history of the system.
The economy was flooded with electronic loan-money. So demand was stoked up, prices increased, and profiteers scrambled for a slice of the action. This turned into a gigantic bubble of fake wealth.
The economy kept growing simply because people were spending money that did not exist. Loans were secured against assets that were rising in value only because of the availability of loans: a classic, self-feeding, speculative frenzy.
Workers in many parts of the developed world became heavily indebted because of stagnant incomes, easy credit, and rising house prices. And workers buying on tick then became the basis of a vast inverted pyramid of financial ‘derivatives’, unsecured debts, and inflated asset values.
Average US household debt more than doubled between the late 1970s and 2006. Total debt grew from about 1.5 times US national output in the early 1980s to nearly 3.5 in 2007. The financial sector’s share of US profits increased from about 15% in the early 1950s to almost 50% in 2001.
At the height of the frenzy, any madcap scheme was good to go. Banks started giving mortgages to people who could not afford to repay them. The value of this ‘sub-prime’ lending rose 232% between 2000 and 2007. Subprime loans were then repackaged with better-quality loans, and these ‘financial derivatives’ were sold on.
The idea of ‘derivatives’ was to spread the risk. They were considered a clever invention of the ‘financial services industry’. What they actually did was to infect the entire banking system with bad debt.
It was in the sub-prime mortgage market that the panic began. A slowdown in consumer demand and an easing of house prices suddenly made subprime loans look like bad debts. The subprime panic quickly turned into a contagion sweeping across global financial markets on fears about the degree to which the banking system as a whole was infected by ‘toxic’ debt.
The entire world banking system was suddenly revealed as a vast edifice of speculation, inflated values, and paper assets.
The secret of neoliberal capitalism revealed - a permanent debt economy
The crash was caused by financialisation. But without bank debt, there would have been no boom. The system, in short, was deeply pathological. Afflicted since the 1970s with low profits, excess capacity, and under-consumption, its only mechanism for sustaining demand had been rising debt.
That is why financial speculation swelled into a gigantic bubble. The pathology of a ‘permanent debt economy’ was the reality behind the glossy neoliberal façade.
The problem now is not simply the fallout from the crash itself. It is that the very motor of the neoliberal boom – debt and speculation – has blown up.
Bankers refuse to lend because their banks are bust and they do not think borrowers can repay. Industrialists are not investing because markets and profits have collapsed. Consumers spend little because they are deeply in debt and fear for their jobs. Governments plan to cut and deflate lest they bankrupt the state.
The financial crisis has been caused by speculation, greed, and casino-madness. It represents the end of an era in which these forces had been given free rein by market deregulation, low interest rates, financial ‘innovation’, and rising debt.
Its effect has been to plunge humanity into the Second Great Depression. This is almost certainly the greatest and most intractable crisis in the history of the system. [++]